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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

Commission File Number 0-22248

ULTRATECH STEPPER, INC.
(Exact name of registrant as specified in its charter)

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 ý     No o

Indicate the number of shares of the issuer's class of common stock, as of the latest practical date:

ULTRATECH STEPPER, INC.

INDEX

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PART 1.    FINANCIAL INFORMATION

Item 1.    Condensed Consolidated Financial Statements

ULTRATECH STEPPER, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS

*

The Balance Sheet as of December 31, 2001 has been derived from the audited financial statements at that date.

See accompanying notes to condensed consolidated financial statements.

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ULTRATECH STEPPER, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)

See accompanying notes to condensed consolidated financial statements.

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ULTRATECH STEPPER, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)

See accompanying notes to condensed consolidated financial statements

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Ultratech Stepper, Inc.
Notes to Condensed Consolidated Financial Statements
(Unaudited)
September 30, 2002

(1)    Basis of Presentation

The accompanying unaudited condensed consolidated financial statements have been prepared by the Company in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments considered necessary for fair presentation have been included.

COMPANY AND INDUSTRY INFORMATION—The Company operates in one business segment, which is the manufacture and distribution of photolithography equipment to manufacturers of integrated circuits and nanotechnology components.

USE OF ESTIMATES—The preparation of the accompanying unaudited condensed consolidated financial statements in conformity with generally accepted accounting principles requires management to make estimates and judgments that affect the amounts reported in the financial statements and accompanying notes. Estimates are used for, but not limited to, accounting for the allowance for doubtful accounts, inventory reserves, purchase order commitments, warranty costs and income taxes. Management bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

REVENUE RECOGNITION—Sales of the Company's products are recognized when the contractual obligation for installation (if any) has been satisfied, or installation is substantially complete, and/or customer acceptance provisions have lapsed, provided collections of the related receivable are probable. The Company sells service contracts for which revenue is recognized ratably over the contract period. The Company recognizes revenue from licensing and technology support agreements ratably over the contract period, or the estimated useful life of the licensed technologies, whichever is applicable.

FISCAL PERIODS: The Company's third fiscal quarter in 2002 and 2001 ended on September 28, 2002 and September 29, 2001, respectively. For convenience of presentation, the Company's financial statements have been shown as having ended on September 30, 2002 and September 30, 2001.

Operating results for the three and nine-month periods ended September 30, 2002 are not necessarily indicative of the results that may be expected for the year ending December 31, 2002, or any future period.

(2)    Inventories

Inventories consist of the following:

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(3)    Notes Payable

In September 2002, the Company entered into a line of credit agreement with a brokerage firm. Under the terms of this agreement, the Company may borrow funds at a cost equal to the current Federal funds rate plus 100 basis points (2.75% as of September 30, 2002). Certain of the Company's cash, cash equivalents and short-term investments secure borrowings outstanding under this facility. As of September 30, 2002, $9,000,000 was outstanding under this facility. Additionally, the Company had short-term borrowings of $962,000 outstanding under other credit facilities.

(4)    Other Current Liabilities

Other current liabilities consist of the following:

(5)    Deferred Rent

In conjunction with a sale/leaseback transaction, the Company recorded a deferred rent credit equal to the excess of the sale proceeds over the adjusted basis in the equipment sold. During the three-year term of this agreement, the deferred rent credit will be amortized as an offset to rental expense. At September 30, 2002, credits of $701,000 and $1,228,000, representing the short-term and long-term portions of deferred rent, respectively, were carried as liabilities on the Company's balance sheet.

(6)    Basic and Diluted Net Income (Loss) per Share

The following sets forth the computation of basic and diluted net income (loss) per share:

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For the three and nine-month periods ended September 30, 2002, options to purchase 4,770,923 shares of Common Stock at an average exercise price of $16.47 were excluded from the computation of diluted net loss per share, as the effect would have been anti-dilutive. This compares to the exclusion of 3,444,115 options at an average exercise price of $17.72 per share for the three and nine-month periods ended September 30, 2001, respectively, as the effect would have been anti-dilutive. Options are anti-dilutive when the Company has a net loss or when the exercise price of the stock option is greater than the average market price of the Company's Common Stock.

(7)    Reporting Comprehensive Income (Loss)

The components of comprehensive income (loss) are as follows:

Accumulated other comprehensive income (loss) presented in the accompanying condensed consolidated balance sheets consists entirely of accumulated unrealized gains or losses on available-for-sale securities and the effect of exchange rate changes on foreign exchange forward contracts. The unrealized gain on available-for-sale securities is not currently adjusted for income taxes, as a result of the Company's operating loss carry forward.

(8)    Restructure of Operations

In September 2002, in response to worsening conditions in the semiconductor industry in particular, and the general economy as a whole, the Company decided to reduce its workforce and to cease or suspend activities related to certain engineering and administrative initiatives. As a result of this decision, the Company recognized a restructuring charge of $4.3 million, or $0.19 per share (diluted) in the quarter ended September 30, 2002. The cash component of this charge included employee severance costs of $1.0 million, contract termination fees of $0.2 million and facility closure costs of $0.2 million. The non-cash component of this charge included $2.6 million of impairment to equipment and leasehold improvements and $0.3 million of impairment to prepaid expenses and other current assets. There have been no adjustments to the original recorded amount of this restructuring charge.

As of September 30, 2002, the accrued but unpaid amount of these restructuring costs was $0.9 million. Cash components of accrued restructuring costs, and amounts charged against the plan as of September 30, 2002, relative to the September 2002 restructure of operations, were as follows:

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In September 2001, the Company decided to consolidate its manufacturing operations and eliminate approximately 20% of its workforce. As a result of this decision, the Company recorded a restructuring charge of $12.0 million, or $0.54 per share (diluted) in the quarter ended September 30, 2001. Additionally, the Company recognized restructuring charges of $0.3 million, or $0.01 per share (diluted) in the quarter ended December 31, 2001, primarily related to employee severance costs of $0.6 million (from additional personnel actions) and higher fixed asset disposal costs of $0.4 million, partially offset by revised facility closure and other cost estimates of $0.7 million. Of the full-year charge of $12.3 million, non-cash components included a $4.1 million impairment charge for intangible assets related to the Company's XLS reduction product platform acquired in 1998 and a $1.5 million impairment charge for fixed assets disposed of in conjunction with the consolidation of manufacturing facilities. The cash components of this charge included $4.0 million for estimated expenditures related to the closure of facilities, $2.5 million for employee severance costs and $0.1 million of other restructuring costs. There were no adjustments recorded to these restructuring costs in the three and nine-month periods ended September 30, 2002.

As of September 30, 2002 the accrued but unpaid amount of these restructuring costs was $2.4 million. Cash components of accrued restructuring costs and amounts charged against the plan, relative to the 2001 restructure of operations, as of September 30, 2002 were as follows:

(9)    Resolution of IRS Audit and Related Income Taxes Receivable

For the three-month period ended September 30, 2002, the Company recorded a benefit income tax provision of $3,648,000, which is net of income tax expense of foreign subsidiaries. The benefit provision relates primarily to resolution of the Company's IRS audit for the years 1993 through 1996. For the nine-month period ended September 30, 2002, the Company recorded a benefit income tax provision of $4,866,000. In addition to the aforementioned IRS audit resolution, the year-to-date provision includes a carry back of current year losses to recover prior years' federal alternative minimum taxes of $1,218,000. The ability to recover the prior years' alternative minimum taxes is due to a recent US federal law change, allowing for the recovery of these amounts. In conjunction with the resolution of the IRS audit and the carry back of current year losses to recover prior years' federal alternative minimum taxes, the Company has recorded income taxes receivable of $2,013,000 as of September 30, 2002.

(10)    Recent Accounting Pronouncements

In August 2001, the FASB issued SFAS 143, "Accounting for Asset Retirement Obligations." SFAS 143 addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated retirement costs. The Company does not anticipate a material effect on its financial condition or results of operations from the adoption of SFAS 143, which will take place in the Company's first fiscal quarter of 2003.

In October 2001, the FASB issued SFAS 144, "Accounting for the Impairment of Disposal of Long-lived Assets." SFAS 144 supersedes SFAS 121, "Accounting for the Impairment of Long-lived Assets and for Long-lived Assets to be Disposed Of," and addresses financial accounting and reporting for the impairment of long-lived assets and for long-lived assets to be disposed of. The Company is in the process of assessing the effect of adopting SFAS 144, which will be effective for the Company's first fiscal quarter of 2003.

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Item 2.    Management's Discussion and Analysis of Financial Condition and Results of Operations

OVERVIEW

Certain of the statements contained in this report may be considered forward-looking statements under Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, that involve risks and uncertainties, such as cyclicality in the nanotechnology and semiconductor industries, delays, deferrals and cancellations of orders by customers, customer concentration, pricing pressures, competition, lengthy sales cycles for the Company's systems, ability to volume produce systems and meet customer requirements, the mix of products sold, dependence on new product introductions and commercial success of any new products, integration and development of the Verdant operation, sole or limited sources of supply, international sales, manufacturing inefficiencies and absorption levels, risks associated with introducing new technologies, inventory obsolescence, economic and political conditions worldwide, delays in collecting accounts receivable, extended payment terms, changes in technologies, and any adverse effects of worldwide terrorist attacks on the economy in general or our business in particular.

Due to these and additional factors, certain statements, historical results and percentage relationships discussed below are not necessarily indicative of the results of operations for any future period.

In September 2001, the Company decided to discontinue its XLS product line and to close its Wilmington, Massachusetts facility. The Company also announced a workforce reduction of approximately 20%, inclusive of those employees impacted by the plant closure.

In September 2002, the Company decided to discontinue or suspend development of certain advanced reduction and 1X product lines and to reduce its workforce by approximately 15%.

The Company's third fiscal quarter in 2002 and 2001 ended on September 28, 2002 and September 29, 2001, respectively. For convenience of presentation, the Company's financial statements have been shown as having ended on September 30, 2002 and September 30, 2001.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

The Company's discussion and analysis of its financial condition and results of operations are based upon the Company's consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires the Company to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, the Company evaluates its estimates, including those related to inventories, warranty obligations, purchase order commitments, bad debts, income taxes, intangible assets, restructuring and contingencies and litigation. Management bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

The Company believes the following critical accounting policies affect its more significant judgments and estimates used in the preparation of its consolidated financial statements:

Revenue Recognition

The Company recognizes revenues when the contractual obligation for installation (if any) has been satisfied, or installation is substantially complete, and/or customer acceptance provisions have lapsed, provided collections of the related receivable are probable.

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Deferred income related to the Company's products is recognized upon satisfying the contractual obligations for installation (if any) and/or customer acceptance. Deferred income related to service revenue is recognized ratably over the life of the related service contract. Deferred income relative to the Company's licensing activities is recognized over the estimated useful life of the licensed technologies, or the contract period of any technology transfer support arrangements.

Inventories and Purchase Order Commitments

The Company reserves for purchase order commitments and estimates the effects of obsolescence and unrealizable carrying values of its inventories based upon estimates of future demand and market conditions. With the exception of certain long lead time items, principally optical components, the Company presently reserves inventories and purchase order commitments in excess of 18 months of production demand. Due to the cyclical nature of the Company's business, during periods of peak demand, the Company has shortened this production outlook to as few as 12 months of production demand. Should actual production demand differ from management's estimates, revisions to inventory write-downs and purchase order commitment reserves would be required.

Warranty Obligations

The Company provides for the estimated cost of its product warranties at the time revenue is recognized. The Company's warranty obligation is affected by product failure rates, material usage rates and the efficiency by which the product failure is corrected. Should actual product failure rates, material usage rates and labor efficiencies differ from the Company's estimates, revisions to the estimated warranty liability would be required.

Bad Debt

The Company maintains an allowance for doubtful accounts receivable for estimated losses resulting from the inability of its customers to make required payments. If the financial condition of the Company's customers were to deteriorate, or even a single customer was otherwise unable to make payments, additional allowances may be required. The average selling price of the Company's systems is in excess of $1.0 million dollars. Accordingly, a single customer default could have a material adverse effect on the Company's results of operations.

Deferred Taxes

The Company records a valuation allowance to reduce its deferred tax assets to the amount that is more likely than not to be realized. Based on the uncertainty of future pre-tax income, the Company has presently fully reserved its deferred tax assets. In the event the Company was to determine that it would be able to realize its deferred tax assets in the future, an adjustment to the deferred tax asset would increase income in the period such determination was made.

The following discussion should be read in conjunction with the Company's 2001 Annual Report on Form 10-K, which is available from the Company upon request.

RESULTS OF OPERATIONS

Factors that have caused results to fluctuate significantly in the past and most likely will continue to significantly impact results in the future, and could cause actual results to differ materially, include the following: cyclicality in the Company's served markets, including the current severe downturn in the semiconductor and nanotechnology industries; delays, deferrals and cancellations of orders by customers; customer concentration; high degree of industry competition; market acceptance of new products and enhanced versions of the Company's existing products; timing of new product announcements and releases by the Company or its competitors; expiration of technology support and

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licensing arrangements, and the resulting adverse impact on the Company's licensing revenues; product discounts; changes in pricing by the Company, its competitors or suppliers; timing and degree of success of technologies licensed to outside parties; product concentration and lack of product revenue diversification; lengthy and costly development cycles for advanced lithography and laser thermal processing technologies and applications; mix of products sold; outcome of litigation; lengthy sales and manufacturing cycles and the pattern of capital spending by customers, including the timing of system acceptances; inventory obsolescence; manufacturing inefficiencies and the ability to volume produce systems; integration and development of Verdant operations; failure to develop the Company's reduction stepper products; the ability and resulting costs to attract or retain sufficient personnel to achieve the Company's targets for a particular period; dilutive effect of employee stock option grants on net income per share, which is largely dependent upon the Company attaining profitability and the market price of the Company's stock; sole or limited sources of supply; international sales; rapid technological change and the importance of timely product introductions; future acquisitions; changes to financial accounting standards; intellectual property matters; environmental regulations; any adverse effects of worldwide terrorist attacks on the economy in general or on our business in particular; political and economic instability throughout the world; business interruptions due to natural disasters or utility failures; and regulatory changes; and the other risk factors listed in this filing and other Company filings with the SEC. The Company undertakes no obligation to update any of its disclosures to reflect such future events.

The Company derives a substantial portion of its total net sales from sales of a relatively small number of newly manufactured systems, which typically range in price from $900,000 to $3.6 million for the Company's 1X steppers. As a result of these high sale prices, the timing of recognition of revenue from a single transaction has had and most likely will continue to have a significant impact on the Company's net sales and operating results for any particular period.

The Company's backlog at the beginning of a period typically does not include all of the sales needed to achieve the Company's sales objectives for that period. In addition, orders in backlog are subject to cancellation, shipment or customer acceptance delays, and deferral or rescheduling by a customer with limited or no penalties. Consequently, the Company's net sales and operating results for a period have been and will continue to be dependent upon the Company obtaining orders for systems to be shipped and accepted in the same period in which the order is received. The Company's business and financial results for a particular period could be materially adversely affected if an anticipated order for even one system is not received in time to permit shipment and customer acceptance during that period. Furthermore, a substantial portion of the Company's shipments has historically been realized near the end of each quarter. Delays in installation and customer acceptance due, for example, to the inability of the Company to successfully demonstrate the agreed-upon specifications or criteria at the customer's facility, or to the failure of the customer to permit installation of the system in the agreed upon time, may cause net sales in a particular period to fall significantly below the Company's expectations, which may materially adversely affect the Company's operating results for that period. Additionally, the failure to receive anticipated orders or delays in shipments due, for example, to reschedulings, delays, deferrals or cancellations by customers, additional customer configuration requirements, or to unexpected manufacturing difficulties or delays in deliveries by suppliers due to their long production lead times or otherwise, have caused and may continue to cause net sales in a particular period to fall significantly below the Company's expectations, materially adversely affecting the Company's operating results for that period. In particular, the long manufacturing cycles of the Company's Saturn Spectrum family of wafer steppers, and the long lead time for lenses and other materials, could cause shipments of such products to be delayed from one quarter to the next, which could materially adversely affect the Company's financial condition and results of operations for a particular quarter.

Additionally, the need for continued expenditures for research and development, capital equipment, ongoing training and worldwide customer service and support, among other factors, will make it

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difficult for the Company to reduce its operating expenses in a particular period if the Company fails to achieve its net sales goals for the period.

Net sales

Net sales consist of revenues from system sales, spare parts sales, service and licensing of technologies. For the three months ended September 30, 2002, net sales were $7.3 million, a decrease of 70% as compared with net sales of $24.3 million for the comparable period in 2001. System sales decreased 88%, to $1.8 million, on a unit volume decline of 70%. The Company believes that comparisons of weighted-average selling prices of systems sold to the year-ago period are not relevant, due to the lack of comparable system sales between those periods. Geographically, the decline in unit volumes was attributable to weaker demand from Europe and North America. On a market segment basis, the decline in unit volumes was primarily attributable to a lack of demand from semiconductor and nanotechnology customers. Revenues from services declined 11%, to $2.6 million, primarily as a result of decreased utilization of plant capacity within the semiconductor industry and budgetary controls by the Company's customers. Revenues from licensing and licensing support arrangements declined to $0.9 million, as compared with $3.2 million in the comparable period in 2001, as a result of a large technology support agreement expiring in February 2002. The Company presently anticipates that revenues from licensing and licensing support arrangements will remain at approximately $0.9 million per quarter for the balance of 2002. Spare part sales decreased 44%, to $1.9 million, primarily as a result of decreased utilization of plant capacity within the semiconductor industry and certain system upgrades that occurred in the year-ago period.

For the nine months ended September 30, 2002, net sales were $47.8 million, a decline of 56% from the comparable period in 2001. System sales decreased 63%, to $28.9 million, on a unit volume decline of 62%. The weighted-average selling prices of systems sold were essentially unchanged from the year-ago period. Geographically, the decline in unit volumes was attributable to 50% or greater declines in all regions the Company serves. On a market segment basis, the decline in unit volumes was primarily attributable to a lack of demand from nanotechnology and semiconductor customers. Revenues from services declined 27%, to $8.3 million, primarily as a result of decreased utilization of plant capacity within the semiconductor industry. Revenues from licensing and licensing support arrangements declined to $4.3 million, as compared with $9.4 million in the comparable period in 2001, as a result of the aforementioned technology support agreement that expired in February 2002. Spare part sales decreased 40%, to $6.3 million, primarily as a result of decreased utilization of plant capacity within the semiconductor industry and certain system upgrades that occurred in the year-ago period.

At September 30, 2002, the Company had approximately $3.4 million of deferred revenue resulting from products shipped but not yet installed and accepted, as compared with $6.0 million at December 31, 2001. This resulted in a net decrease in deferred product and service income of approximately $1.0 million during the nine-month period ended September 30, 2002, as compared to the balance at December 31, 2001. During the nine-month period ended September 30, 2002, deferred license income decreased by $4.3 million, to $9.4 million, as a result of amortization of proceeds received in prior periods. Amortization of license income results in current period license revenue.

On a product market application basis, system sales to the semiconductor industry were $0.9 million for the three-month period ended September 30, 2002, a decrease of 90% as compared with system sales of $8.9 million in the comparable period in 2001. This decline was primarily attributable to the severely depressed economic environment in the semiconductor industry in particular, and the economy as a whole. System sales to the nanotechnology market were $0.9 million for the three-month period ended September 30, 2002, a decrease of 85% as compared with sales of $5.8 million in the comparable period in 2001, primarily as a result of lower demand from microsystems and optical networking customers. On a year-to-date basis, system sales to the semiconductor industry were $22.1 million for the nine-month period ended September 30, 2002, a decrease of 56% as compared with system sales of

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$50.0 million in the comparable period in 2001. This decline was primarily attributable to the severely depressed economic environment in the semiconductor industry in particular, and the economy as a whole. Additionally, the Company did not have any reduction stepper sales to the semiconductor market during the first nine months of 2002, as compared to $12.7 million in the comparable period in 2001. The Company discontinued its XLS reduction stepper platform in September 2001. System sales to the nanotechnology market were $6.8 million for the nine-month period ended September 30, 2002, a decrease of 76% as compared with sales of $28.0 million in the comparable period in 2001, primarily as a result of lower demand from microsystems and optical networking customers.

For the three-month period ended September 30, 2002, international net sales were $3.0 million, or 41% of total net sales, as compared with $10.0 million, or 41% of total net sales for the comparable period in 2001. On a year-to-date basis, international net sales were $23.9 million, or 50% of total net sales, as compared with $57.7 million, or 53% of total net sales for the comparable period in 2001. The Company's operations in foreign countries are not generally subject to significant exchange rate fluctuations, principally because sales contracts for the Company's systems are generally denominated in U.S. dollars. In Japan, however, orders are often denominated in Japanese yen. This subjects the Company to the risk of currency fluctuations. The Company attempts to mitigate this exposure through the use of foreign exchange contracts; however, this effort can be costly and there can be no assurance of the success of any such efforts. International sales expose the Company to a number of additional risks, including fluctuations in the value of local currencies relative to the U.S. dollar, which, in turn, impact the relative cost of ownership of the Company's products. (See "Additional Risk Factors: International Sales").

Our served markets have been and are presently experiencing severe downturns due, in part, to the macro-economic conditions facing the U.S. and world economies. Although the Company's level of new orders exceeded the Company's revenue in the three-month period ended September 30, 2002, the Company also experienced significant levels of order cancellations during the period. Additionally, the Company removed from backlog certain system orders that it believes may not be shipped during the next twelve months, as required by Company policy. This decision was predicated on recent customer announcements of declining financial performance and cutbacks in planned capital expenditures. As a result of these cancellations and restructurings, the Company's backlog at September 30, 2002 declined relative to levels at June 30, 2002.

The anticipated timing of shipments and customer acceptances will require the Company to fill a number of production slots in the current and subsequent quarters in order to meet its near-term sales targets. If the Company is unsuccessful in its efforts to secure those production orders, or if existing production orders are delayed or cancelled, its results of operations will be materially adversely impacted in the near-term. Accordingly, the Company can give no assurance that it will be able to achieve or maintain its current or prior level of sales.

As a result of current order trends, the severe downturn in the industries the Company serves and generally weak macro-economic conditions, the Company presently expects that net sales for the quarter ending December 31, 2002 will be lower than net sales in the comparable period in 2001. However, the Company believes that sales for the quarter ending December 31, 2002 will be higher than net sales achieved in the quarter ended September 30, 2002. Further, the Company anticipates that it will experience operating and net losses for the three-month period ending December 31, 2002.

Further declines in the Company's outlook for 2003 may require the Company to take further steps to reduce its future operating expenses. These actions, if required, might result in special charges, which could materially adversely impact the Company's financial condition and results of operations.

Because the Company's net sales are subject to a number of risks, including intense competition in the capital equipment industry, uncertainty relating to the timing and market acceptance of the Company's products and the condition of the macro-economy and the semiconductor industry, the Company may

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not exceed or maintain its current or prior level of net sales for any period in the future. Additionally, the Company believes that the market acceptance and volume production of its Saturn Spectrum 3^e, its 300mm offerings and its 1000 series family of wafer steppers, are of critical importance to its future financial results. To the extent that these products do not achieve significant sales due to difficulties involving manufacturing or engineering, the inability to reduce the current long manufacturing cycles for these products, competition, excess capacity in the semiconductor or nanotechnology device industries, customer acceptances, or any other reason, the Company's business, financial condition and results of operations would be materially adversely affected.

Gross profit

The Company's gross profit (loss) as a percentage of net sales, or gross margin, was (106.1%) for the quarter ended September 30, 2002, as compared with (10.5%) for the comparable period in 2001. Exclusive of special charges, gross margin for the quarter ended September 30, 2002 was 2.3%, as compared to 34.7% for the comparable period in 2001. Cost of sales for the three month period ended September 30, 2002 included additional vacation grants of up to two weeks per employee, at a cost to the Company of approximately $0.4 million. For the nine-month period ended September 30, 2002, gross margin was 15.8%, as compared with 33.2% for the comparable period in 2001. Exclusive of special charges, gross margin for the nine-month period ended September 30, 2002 was 32.3%, as compared with 43.3% for the comparable period in 2001. On a comparative basis, both the current quarter and year-to-date gross margins, exclusive of special charges, were adversely affected by the lack of capacity utilization. Lack of capacity utilization results in higher levels of unabsorbed overhead. This impact was partially offset by the closing of the Company's Wilmington, Massachusetts facility and other cost reduction measures taken in the second half of 2001.

Exclusive of licensing and licensing support revenues, gross margin (exclusive of special charges) was (11.9%) and 25.6% for the three- and nine-month periods ended September 30, 2002, as compared with 24.7% and 37.9% for the comparable periods in 2001.

In the three-month period ended September 30, 2002, as a direct result of worsening conditions in the semiconductor industry in particular, and the general economy as a whole, the Company discontinued or suspended development of certain advanced reduction lithography programs, including 157nm, and discontinued certain 1X products and platforms. Additionally, the Company significantly reduced its revenue outlook for 2003. As a result, the Company recognized inventory write-downs of $6.7 million and additional purchase order commitment reserves of $1.2 million.

In the three month period ended September 30, 2001, as a direct result of dramatically worsening conditions in the semiconductor industry, the Company decided to discontinue its XLS reduction stepper production and focus its efforts on developing next-generation platforms for its reduction technologies, principally 157nm. As a result of this decision, the Company recognized inventory write-downs of $8.5 million and additional purchase order commitment reserves of $2.5 million.

The Company's gross profit as a percentage of sales has been and most likely will continue to be significantly affected by a variety of factors, including the mix of products sold; inventory and open purchase commitment reserve provisions; the rate of capacity utilization; product discounts and competition in the Company's targeted markets; technology support and licensing revenues, which have little, if any, associated cost of sales; non-linearity of shipments during the quarter; the introduction of new products, which typically have higher manufacturing costs until manufacturing efficiencies are realized and which are typically discounted more than existing products until the products gain market acceptance; the percentage of international sales, which typically have lower gross margins than domestic sales principally due to higher field service and support costs; and the implementation of subcontracting arrangements.

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The Company believes that gross margin for the quarter ending December 31, 2002 will be lower than levels achieved during the comparable period a year ago, resulting primarily from lower levels of licensing revenues (which have little or no corresponding cost of sales), the anticipated mix of products sold and higher inefficiencies caused by decreased production and shipment levels, partially offset by further cost containment measures. Further erosion to the Company's business may result in a higher risk of inventory obsolescence, which would materially adversely impact results of operations. Additionally, increased price-based competition may continue to contribute to further erosion of gross margin.

New products generally have lower gross margins until there is widespread market acceptance and until production and after-sales efficiencies can be achieved. Should significant market demand fail to develop for the Company's 300mm offerings, its Saturn Spectrum 3^e or the Verdant laser thermal processing system, the Company's business, financial condition and results of operations would be materially adversely affected.

Research, development and engineering expenses

The Company's research, development and engineering expenses were $6.0 million for the three-month period ended September 30, 2002, as compared with $5.9 million for the comparable period in 2001. Research, development and engineering expenses for the three-month period ended September 30, 2002 included additional vacation grants of up to two weeks per employee, at a cost to the Company of approximately $0.2 million. On a year-to-date basis, research, development and engineering expenses were $17.7 million for the nine-month period ended September 30, 2002, as compared to $19.7 million for the comparable period in 2001. The year-to-date decline in spending was attributable to the discontinuance of the Company's XLS reduction stepper platform and to other cost reduction measures implemented in the second half of 2001.

The Company continues to invest significant resources in the development and enhancement of its laser thermal processing systems and technologies and its 1X optical products and related technologies. The Company presently expects that, as a result of the aforementioned cost reduction measures, including those taken in September 2002, and scheduled plant shutdowns, the absolute dollar amount of research, development and engineering expenses for the quarter ending December 31, 2002 will be lower than expenses incurred for the comparable period in 2001, and as compared with expenses incurred for the quarter ended September 30, 2002.

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Amortization of intangible assets

Amortization of intangible assets was $0.1 million for the three-month period ended September 30, 2002, as compared with $0.4 million for the comparable period in 2001. On a year-to-date basis, amortization of intangible assets was $0.3 million, as compared with $1.4 million for the comparable period in 2001. Both the current quarter and year-to-date reductions in amortization were a direct result of impairment charges recognized in the quarter ended September 30, 2001 relating to certain intangible assets.

Selling, general and administrative expenses

Selling, general and administrative expenses were $5.8 million for the three-month period ended September 30, 2002, as compared with $6.8 million for the comparable period in 2001. Selling, general and administrative expenses for the three-month period ended September 30, 2002 included additional vacation grants of up to two weeks per employee, at a cost to the Company of approximately $0.2 million. As a percentage of net sales, selling, general and administrative expenses increased to 80.2% in the three-month period ended September 30, 2002, as compared with 27.9% in the comparable period in 2001. On a year-to-date basis, selling, general and administrative expenses were $17.8 million for the nine-month period ended September 30, 2002, as compared with $23.5 million for the comparable period in 2001. As a percentage of net sales, selling, general and administrative expenses increased to 37.2% in the nine-month period ended September 30, 2002, as compared with 21.5% in the comparable period in 2001. Both the current quarter and year-to-date declines, in absolute dollars, were primarily attributable to cost containment measures implemented in the second half of 2001 and lower sales and support expenses, including sales commissions, typically associated with a decline in sales. The Company presently anticipates that selling, general and administrative expenses for the three-month period ending December 31, 2002 will be lower than the comparable period in 2001 and as compared with the quarter ended September 30, 2002, due primarily to the aforementioned cost reduction measures, including those taken in September 2002, and scheduled plant shutdowns.

Restructure of operations

In September 2002, in response to worsening conditions in the semiconductor industry in particular, and the general economy as a whole, the Company decided to reduce its workforce and to cease or suspend activities related to certain engineering and administrative initiatives. As a result of this decision, the Company recognized a restructuring charge of $4.3 million, or $0.19 per share (diluted) in the quarter ended September 30, 2002. The cash component of this charge included employee severance costs of $1.0 million, contract termination fees of $0.2 million and facility closure costs of $0.2 million. The non-cash component of this charge included $2.6 million of impairment to equipment and leasehold improvements and $0.3 million of impairment to prepaid expenses and other current assets. There have been no adjustments to the original recorded amount of this restructuring charge.

As of September 30, 2002, the accrued but unpaid amount of these restructuring costs was $0.9 million. Cash components of accrued restructuring costs, and amounts charged against the plan as of September 30, 2002, relative to the September 2002 restructure of operations, were as follows:

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In September 2001, the Company decided to consolidate its manufacturing operations and eliminate approximately 20% of its workforce. As a result of this decision, the Company recognized a restructuring charge of $12.0 million, or $0.54 per share (diluted) in the quarter ended September 30, 2001. Additionally, the Company recognized restructuring charges of $0.3 million, or $0.01 per share (diluted) in the quarter ended December 31, 2001, primarily related to employee severance costs of $0.6 million (from additional personnel actions) and higher fixed asset disposal costs of $0.4 million, partially offset by revised facility closure and other cost estimates of $0.7 million. Of the full-year charge of $12.3 million, non-cash components included a $4.1 million impairment charge for intangible assets related to the Company's XLS reduction product platform acquired in 1998 and a $1.5 million impairment charge for fixed assets disposed of in conjunction with the consolidation of manufacturing facilities. The cash components of this charge included $4.0 million for estimated expenditures related to the closure of facilities, $2.5 million for employee severance costs and $0.1 million of other restructuring costs. There were no adjustments recorded to these restructuring costs in the three and nine-month periods ended September 30, 2002.

As of September 30, 2002 the accrued but unpaid amount of these restructuring costs was $2.4 million. Cash components of accrued restructuring costs and amounts charged against the plan, relative to the 2001 restructure of operations, as of September 30, 2002 were as follows:

Interest and other income, net

Interest and other income, net, which consists primarily of interest income, was $1.5 million for the three-month period ended September 30, 2002, as compared with $1.9 million for the comparable period in 2001. On a year-to-date basis, interest and other income, net, which consists primarily of interest income, was $4.8 million for the nine-month period ended September 30, 2002, as compared with $6.1 million for the comparable period in 2001. Both the current quarter and year-to-date decreases in interest and other income, net, were primarily attributable to lower interest rates on the Company's investments and lower average invested balances. The Company presently maintains an investment portfolio with a weighted-average maturity of less than one year. Consequently, changes in short-term interest rates have a major impact on the Company's interest income. Future changes are expected to have a similar impact. The Company presently expects that interest and other income, net, for the three-month period ending December 31, 2002, will be significantly lower than levels achieved in the comparable period in 2001, primarily as a result of lower interest rates and lower invested balances. Additionally, the Company presently expects that interest and other income, net, for the three-month period ending December 31, 2002, will be sequentially lower than levels achieved in the three-month period ended September 30, 2002, primarily as a result of lower invested balances and maturing transactions that will be reinvested at lower interest rates.

Income tax expense

For the three-month period ended September 30, 2002, the Company recorded a benefit income tax provision of $3.6 million, which is net of income tax expense of foreign subsidiaries. The benefit provision relates primarily to resolution of the Company's IRS audit for the years 1993 through 1996. For the nine-month period ended September 30, 2002, the Company recorded a benefit income tax

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provision of $4.9 million. In addition to the aforementioned IRS audit resolution, the year-to-date provision includes a carry back of current year losses to recover prior years' federal alternative minimum taxes of approximately $1.2 million. The ability to recover the prior years' alternative minimum taxes is due to a recent US federal law change, allowing for the recovery of these amounts. For the three and nine-month periods ended September 30, 2001, the Company recorded tax provisions of $0.1 million and $0.9 million, respectively, consisting primarily of foreign tax obligations.

LIQUIDITY AND CAPITAL RESOURCES

Net cash used in operating activities was $18.7 million for the nine-month period ended September 30, 2002, as compared with $0.7 million of net cash used in operating activities during the comparable period in 2001. Cash flow used in operating activities was primarily attributable to the Company's net loss of $22.9 million and a net change in operating assets and liabilities of $12.7 million, partially offset by non-cash charges to income of $16.9 million. Non-cash charges to income included $9.6 million of non-cash restructuring and asset impairment charges recognized during the three-month period ended September 30, 2002. The $12.7 million net change in operating assets and liabilities was primarily a result of an increase in current inventories of $9.2 million (exclusive of non-cash charges to income), a decline in deferred license income of $4.3 million, a decline in income taxes payable of $3.6 million (principally due to resolution of the aforementioned IRS audit) and an increase in income taxes receivable of $2.0 million, partially offset by a decrease in accounts receivable of $6.5 million.

The Company believes that because of the relatively long manufacturing cycle of certain of its systems, particularly newer products, the Company's inventories will continue to represent a significant portion of working capital. During the three-month period ended September 30, 2002, the Company recognized inventory write-downs of $6.1 million, additional purchase order commitment reserves of $1.1 million and other asset write-downs of $0.7 million, as a result of deteriorating business conditions and a decision to discontinue certain product platforms.

The semiconductor and nanotechnology industries have been and are presently experiencing a severe downturn due, in part, to macro-economic conditions facing the U.S. and world economies. As a result, the Company has recently experienced significantly lower order rates for its systems and this trend may continue in the near-term. Prolonged weakness in the Company's business would continue to place the Company's inventories at a greater risk of obsolescence. Lower demand for the Company's systems may continue to lead to additional inventory write-offs and purchase commitment reserves, which would materially adversely impact the Company's results of operations. Additionally, worsening business conditions increase the likelihood of further restructuring of operations and impairments to the Company's assets, either of which would have a material adverse impact on results of operations.

During the nine-month period ended September 30, 2002, net cash used in investing activities was $30.2 million, attributable to net investments in available-for-sale securities of $24.5 million, capital expenditures of $4.2 million and the segregation of restricted cash of $1.5 million. The restricted cash results from requirements associated with a single customer deposit. Under the terms of the purchase agreement, the restriction will terminate in April 2003, or when the Company has fulfilled its contractual obligations relative to the system ordered, whichever occurs first. Capital expenditures during the period included the purchase of a new enterprise-wide software system. Implementation of this software has been postponed as a result of the current economic downturn.

Cash provided by financing activities was $12.4 million during the nine-month period ended September 30, 2002, attributable to borrowings under lines of credit of $10.1 million and the issuance of common stock pursuant to employee stock plans of $2.4 million.

At September 30, 2002, the Company had working capital of $151.4 million. The Company's principal sources of liquidity at September 30, 2002 consisted of $156.5 million in cash, cash equivalents and short-term investments.

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During the three-month period ended September 30, 2002, the Company terminated an $8.0 million bank line of credit secured by the Company's assets. Additionally, during the period the Company established a line of credit with a brokerage firm which enables the Company to borrow funds at a rate of interest equal to the current Federal funds rate plus 100 basis points (or 2.75% as of September 30, 2002). Certain of the Company's cash, cash equivalents and short-term investments secure this line of credit. As of September 30, 2002, the Company had $9.0 million outstanding under this facility. The Company intends to use these proceeds to meet working capital needs over the near-term.

The following summarizes the Company's contractual cash obligations at September 30, 2002, and the effect such obligations are expected to have on its liquidity and cash flows in future periods:

The development and manufacture of new lithography systems and enhancements are highly capital-intensive. In order to be competitive, the Company believes it must continue to make significant expenditures for capital equipment; sales, service, training and support capabilities; systems, procedures and controls; and expansion of operations and research and development, among many other items. The Company expects that its cash, cash equivalents and short-term investments will be sufficient to meet the Company's cash requirements for at least the next twelve months. However, in the near-term, the Company may continue to utilize existing and future lines of credit, and other sources of financing, in order to maintain its present levels of cash, cash equivalents and short-term investments. Beyond the next twelve months, the Company may require additional equity or debt financing to address its working capital or capital equipment needs. In addition, the Company may seek to raise equity or debt capital at any time that it deems market conditions to be favorable.

The Company may in the future pursue additional acquisitions of complementary product lines, technologies or businesses. Future acquisitions by the Company may result in potentially dilutive issuances of equity securities, the incurrence of debt and contingent liabilities and amortization expenses and impairment charges related to goodwill and other intangible assets, which could materially adversely affect any Company profitability. In addition, acquisitions involve numerous risks, including difficulties in the assimilation of the operations, technologies, personnel and products of the acquired companies; the diversion of management's attention from other business concerns; risks of entering markets in which the Company has limited or no direct experience; and the potential loss of key employees of the acquired company. In the event the Company acquires product lines, technologies or businesses which do not complement the Company's business, or which otherwise do not enhance the Company's sales or operating results, the Company may incur substantial write-offs and higher recurring operating costs, which could have a material adverse effect on the Company's business, financial condition and results of operations. In the event that any such acquisition does occur, there can be no assurance as to the effect thereof on the Company's business or operating results.

To the extent that the Company's financial resources are insufficient to fund the Company's activities, additional funds will be required. There can be no assurance that additional financing will be available on reasonable terms, or at all.

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Foreign Currency

The Company uses foreign exchange contracts to hedge the risk that unremitted Japanese yen denominated receipts from customers for actual or forecasted sales of equipment after receipt of customer purchase orders and the unremitted Japanese yen denominated payments to suppliers for actual or forecasted deliveries of raw material from Japan after issuance of Company purchase orders may be adversely affected by changes in foreign currency exchange rates. As part of its overall strategy to manage the level of exposure to the risk of foreign currency exchange rate fluctuations, the Company attempts to hedge most of these Japanese yen denominated foreign currency exposures anticipated over the ensuing twelve-month period. At September 30, 2002, the Company had taken action to hedge approximately all of these Japanese yen denominated exposures. To hedge this exposure, the Company uses foreign exchange forward contracts that generally have maturities of nine months or less, which generally will be rolled over to provide continuing coverage throughout the year. The Company often closes foreign exchange sale contracts by purchasing an offsetting purchase contract. At September 30, 2002, the Company had contracts for the sale of $0.9 million of foreign currencies at fixed rates. There were no foreign currency purchase obligations at September 30, 2002.

Adoption of the Euro

The introduction of a European single currency, the Euro, was initially implemented as of January 1, 1999, and the transition period continued through January 1, 2002. As of September 30, 2002, the adoption of the Euro had not had a material effect on the Company's foreign exchange and hedging activities or the Company's use of derivative instruments. While the Company will continue to evaluate the impact of the Euro introduction over time, based on currently available information, management does not believe that the introduction of the Euro currency will have a material adverse impact on the Company's financial condition or overall trends in results of operations.

Additional Risk Factors

Cyclicality of Semiconductor and Nanotechnology Industries    The Company's business depends in significant part upon capital expenditures by manufacturers of semiconductors and nanotechnology components, including thin film head magnetic recording devices, which in turn depend upon the current and anticipated market demand for such devices and products utilizing such devices. The semiconductor industry historically has been highly cyclical and has experienced recurring periods of oversupply. This has, from time to time, resulted in significantly reduced demand for capital equipment including the systems manufactured and marketed by the Company. The semiconductor industry, which includes the semiconductor-packaging sector, is presently experiencing a severe downturn. The Company also believes that markets for new generations of semiconductors and semiconductor packaging will also be subject to similar fluctuations. The Company's business and operating results would be materially adversely affected by continued downturns or slowdowns in the semiconductor packaging market or by loss of market share. Accordingly, the Company can give no assurance that it will be able to achieve or maintain its current or prior level of sales.

The Company attempts to mitigate the risk of cyclicality by participating in multiple markets including semiconductor, semiconductor packaging, thin film head and other nanotechnology sectors, as well as diversifying into new markets such as photolithography for optical networking (a nanotechnology application). Despite such efforts, when one or more of such markets experiences a downturn or a situation of excess capacity, such as is presently occurring in the semiconductor, semiconductor packaging, optical networking and thin film head markets, the Company's net sales and operating results are materially adversely affected.

During 2001 and 2000, approximately 33% and 18%, respectively, of the Company's net sales were derived from sales to nanotechnology manufacturers, including micro systems, thin film head ("TFH")

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and optical networking device manufacturers. The Company believes the TFH market is currently in a state of over-capacity and expects this situation to last for at least the next several quarters. This has and will continue to result in lower sales and delays or deferrals of customer orders from this industry, which will continue to materially adversely affect the Company's business, financial condition and results of operations in the near term. Additionally, the Company is experiencing increased competition in this market.

Highly Competitive Industry    The capital equipment industry in which the Company operates is intensely competitive. A substantial investment is required to install and integrate capital equipment into a semiconductor, semiconductor packaging or nanotechnology device production line. The Company believes that once a device manufacturer or packaging subcontractor has selected a particular vendor's capital equipment, the manufacturer generally relies upon that equipment for the specific production line application and, to the extent possible, subsequent generations of similar products. Accordingly, it is difficult to achieve significant sales to a particular customer once another vendor's capital equipment has been selected. The Company experiences intense competition worldwide from a number of leading stepper manufacturers, such as Nikon, Canon and ASML, all of which have substantially greater financial, marketing and other resources than the Company. Nikon supplies a 1X stepper for use in the manufacture of liquid crystal displays and Canon, Nikon and ASML offer reduction steppers for thin film head fabrication. With respect to the semiconductor packaging and nanotechnology markets, the Company experiences intense competition from various proximity aligner companies such as Suss Microtec AG.

ASML, Canon and Nikon have each introduced an i-line step-and-scan system as a lower cost alternative to the deep ultra-violet (DUV) step-and-scan system for use on the less critical layers. These systems compete with wide-field steppers, such as the Company's Saturn and Titan steppers, for advanced mix-and-match applications. In addition, the Company believes that the high cost of developing new lithography tools has increasingly caused its competitors to collaborate with customers and other parties in various areas such as research and development, manufacturing and marketing, or to acquire other competitors, thereby resulting in a combined competitive threat with significantly enhanced financial, technical and other resources. The Company expects its competitors to continue to improve the performance of their current products and to introduce new products with improved price and performance characteristics that will compete directly with the Company's products. This could cause a decline in sales or loss of market acceptance of the Company's steppers, and thereby materially adversely affect the Company's business, financial condition and results of operations. There can be no assurance that enhancements to, or future generations of, competing products will not be developed that offer superior cost of ownership and technical performance features. The Company believes that to be competitive, it will require significant financial resources in order to continue to invest in new product development, features and enhancements, to introduce next generation stepper systems on a timely basis, and to maintain customer service and support centers worldwide. In marketing its products, the Company may also face competition from vendors employing other technologies. In addition, increased competitive pressure has led to intensified price-based competition in certain of the Company's markets, resulting in lower prices and margins. Should these competitive trends continue, the Company's business, financial condition and operating results would continue to be materially adversely affected. There can be no assurance that the Company will be able to compete successfully in the future.

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Foreign integrated circuit manufacturers have a significant share of the worldwide market for certain types of integrated circuits for which the Company's systems are used. The Japanese stepper manufacturers are well established in the Japanese stepper market, and it is extremely difficult for non-Japanese lithography equipment companies to penetrate the Japanese stepper market. Although the Company has experienced recent success in the introduction of its Saturn Spectrum family of wafer steppers into the Japanese marketplace, to date the Company has not established itself as a major competitor in the Japanese equipment market and there can be no assurance that the Company will be able to achieve significant sales to Japanese manufacturers in the future.

Development of New Product Lines; Expansion of Operations    Currently, the Company is devoting significant resources to the development, introduction and commercialization of its Verdant laser thermal processing system and to the volume production of its Saturn Spectrum 3^e and 300mm wafer steppers. The Company currently intends to continue to develop these products and technologies during the remainder of 2002, and will continue to incur significant operating expenses in the areas of research, development and engineering, manufacturing and general and administrative costs in order to further develop, produce and support these new products. Additionally, gross profit margins and inventory levels may be further adversely impacted in the future by costs associated with the initial production of these new product lines. These costs include, but are not limited to, additional manufacturing overhead, additional inventory write-offs, costs of demonstration systems and facilities, costs associated with managing multiple sites and the establishment of additional after-sales support organizations. Additionally, there can be no assurance that operating expenses will not increase, relative to sales, as a result of adding additional marketing and administrative personnel, among other costs, to support the Company's new products. If the Company is unable to achieve significantly increased net sales or its sales fall below expectations, the Company's operating results will be materially adversely affected until, among other factors, costs and expenses can be reduced.

Lengthy Sales Cycles    Sales of the Company's systems depend, in significant part, upon the decision of a prospective customer to increase manufacturing capacity or to restructure current manufacturing facilities, either of which typically involves a significant commitment of capital. Many of the Company's customers have cancelled the development of new manufacturing facilities and have substantially reduced their capital equipment budgets. In view of the significant investment involved in a system purchase, the Company has experienced and may continue to experience delays following initial qualification of the Company's systems as a result of delays in a customer's approval process. Additionally, the Company is presently receiving orders for systems that have lengthy delivery schedules, which may be due to longer production lead times or a result of customers' capacity scheduling requirements. In order to maintain or exceed the Company's present level of net sales, the Company is dependent upon obtaining orders for systems that will ship and be accepted in the current period. There can be no assurance that the Company will be able to obtain those orders. For these and other reasons, the Company's systems typically have a lengthy sales cycle during which the Company may expend substantial funds and management effort in securing a sale. Lengthy sales cycles subject the Company to a number of significant risks, including inventory obsolescence and fluctuations in operating results, over which the Company has little or no control.

Customer Concentration    Historically, the Company has sold a substantial portion of its systems to a limited number of customers. In 2001, no single customer accounted for 10% or more of the Company's net sales. In 2000, one customer accounted for approximately 10% of total net sales. For the nine months ended September 30, 2002, one customer accounted for approximately 27% of total net sales.

At September 30, 2002, three customers accounted for 25%, 14% and 10% of the Company's backlog, respectively. Cancellation, deferrals or rescheduling of orders by these customers would have a material adverse impact on the Company's future results of operations.

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During the three months ended September 30, 2002 the Company experienced significant levels of order cancellations, delays and deferrals. In particular, the Company has removed from backlog a significant number of systems from a single customer because delivery may be deferred beyond one year. Company policy requires that orders with delivery dates beyond one year be excluded from reportable backlog.

The Company expects that sales to a relatively few customers will continue to account for a high percentage of its net sales in the foreseeable future and believes that the Company's financial results depend in significant part upon the success of these major customers and the Company's ability to meet their future capital equipment needs. Although the composition of the group comprising the Company's largest customers may vary from period to period, the loss of a significant customer or any reduction in orders by any significant customer, including reductions due to market, economic or competitive conditions in the semiconductor, semiconductor packaging or nanotechnology industries or in the industries that manufacture products utilizing integrated circuits, thin film heads or other nanotechnology components, may have a material adverse effect on the Company's business, financial condition and results of operations. The Company's ability to maintain or increase its sales in the future will depend, in part, upon its ability to obtain orders from new customers as well as the financial condition and success of its existing customers, the semiconductor and nanotechnology industries and the economy in general, of which there can be no assurance.

In addition to the business risks associated with dependence on major customers, these significant customer concentrations have in the past resulted in significant concentrations of accounts receivable. These significant and concentrated receivables expose the Company to additional risks, including the risk of default by one or more customers representing a significant portion of the Company's total receivables. If the Company were required to take additional accounts receivable reserves, its business, financial condition and results of operations would be materially adversely affected.

Rapid Technological Change; Importance of Timely Product Introduction    The semiconductor and nanotechnology manufacturing industries are subject to rapid technological change and new product introductions and enhancements. The Company's ability to be competitive in these and other markets will depend, in part, upon its ability to develop new and enhanced systems and related software tools, and to introduce these systems and related software tools at competitive prices and on a timely and cost-effective basis to enable customers to integrate them into their operations either prior to or as they begin volume product manufacturing. The Company will also be required to enhance the performance of its existing systems and related software tools. Any success of the Company in developing new and enhanced systems and related software tools depends upon a variety of factors, including product selection, timely and efficient completion of product design, timely and efficient implementation of manufacturing and assembly processes, product performance in the field and effective sales and marketing. Because new product development commitments must be made well in advance of sales, new product decisions must anticipate both future demand and the technology that will be available to supply that demand. There can be no assurance that the Company will be successful in selecting, developing, manufacturing or marketing new products and related software tools or enhancing its existing products and related software tools. Any such failure would materially adversely affect the Company's business, financial condition and results of operations.

Because of the large number of components in the Company's systems, significant delays can occur between a system's introduction and the commencement by the Company of volume production of such systems. The Company has experienced delays from time to time in the introduction of, and technical and manufacturing difficulties with, certain of its systems and enhancements and related software tools and may experience delays and technical and manufacturing difficulties in future introductions or volume production of new systems or enhancements and related software tools.

The Company may encounter additional technical, manufacturing or other difficulties that could further delay future introductions or volume production of systems or enhancements. The Company's inability

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to complete the development or meet the technical specifications of any of its systems or enhancements and related software tools, or its inability to manufacture and ship these systems or enhancements and related software tools in volume and in time to meet the requirements for manufacturing the future generation of semiconductor or nanotechnology devices would materially adversely affect the Company's business, financial condition and results of operations. In addition, the Company may incur substantial unanticipated costs to ensure the functionality and reliability of its products early in the products' life cycles. If new products have reliability or quality problems, reduced orders or higher manufacturing costs, delays in collecting accounts receivable and additional service and warranty expenses may result. Any of such events may materially adversely affect the Company's business, financial condition and results of operations.

Intellectual Property Rights    Although the Company attempts to protect its intellectual property rights through patents, copyrights, trade secrets and other measures, it believes that any success will depend more upon the innovation, technological expertise and marketing abilities of its employees. Nevertheless, the Company has a policy of seeking patents when appropriate on inventions resulting from its ongoing research and development and manufacturing activities. The Company owns various United States and foreign patents, which expire on dates ranging from December 2002 to October 2020 and has various United States and foreign patent applications pending. The Company also has various registered trademarks and copyright registrations covering mainly software programs used in the operation of its stepper systems. The Company also relies upon trade secret protection for its confidential and proprietary information. There can be no assurance that the Company will be able to protect its technology adequately or that competitors will not be able to develop similar technology independently. There can be no assurance that any of the Company's pending patent applications will be issued or that U.S. or foreign intellectual property laws will protect the Company's intellectual property rights. In addition, litigation may be necessary to enforce the Company's patents, copyrights or other intellectual property rights, to protect the Company's trade secrets, to determine the validity and scope of the proprietary rights of others or to defend against claims of infringement. Such litigation could result in substantial costs and diversion of resources and could have a material adverse effect on the Company's business, financial condition and results of operations, regardless of the outcome of the litigation. Patents issued to the Company may be challenged, invalidated or circumvented and the rights granted thereunder may not provide competitive advantages to the Company. Furthermore, others may independently develop similar products, duplicate the Company's products or, if patents are issued to the Company, design around the patents issued to the Company. Additionally, the Company presently has several agreements in force to license certain of its technologies. Challenges to, or invalidation of, patents related to those technologies would expose the Company to the risk of forfeiture of revenues and further risk of damage claims.

On February 29, 2000, in the U.S. District Court of Virginia, the Company filed patent infringement lawsuits against Nikon, Canon and ASML. In April 2000, the Company reached a settlement with Nikon and in September 2001, the Company reached a settlement with Canon. The litigation against ASML is ongoing. On October 12, 2001, the Company was sued in the District Court in Massachusetts for alleged infringement of certain patents owned by Silicon Valley Group, Inc. ("SVG"), a company recently acquired by ASML. The Company is in the process of defending against this claim and believes the claim is without merit.

With the exception of the SVG claim, there are no pending lawsuits against the Company regarding infringement claims with respect to any existing patent or any other intellectual property right. However, the Company has from time to time been notified of claims that it may be infringing intellectual property rights possessed by third parties. Some of the Company's customers have received notices of infringement from Technivision Corporation and the Lemelson Medical, Education and Research Foundation, Limited Partnership alleging that the manufacture of certain semiconductor products and/or the equipment used to manufacture those semiconductor products infringes certain issued patents. The Company has been notified by certain of these customers that the Company may be

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obligated to defend or settle claims that the Company's products infringe any of such patents and, in the event it is subsequently determined that the customer infringes any of such patents, they intend to seek reimbursement from the Company for damages and other expenses resulting from this matter.

Infringement claims by third parties or claims for indemnification resulting from infringement claims may be asserted in the future and such assertions, if proven to be true, may materially adversely affect the Company's business, financial condition and results of operations, regardless of the outcome of any litigation. With respect to any such future claims, the Company may seek to obtain a license under the third party's intellectual property rights. However, a license may not be available on reasonable terms or at all. The Company could decide, in the alternative, to resort to litigation to challenge such claims. Such challenges could be expensive and time consuming and could materially adversely affect the Company's business, financial condition and results of operations, regardless of the outcome of any litigation.

Sole or Limited Sources of Supply    The Company is relying increasingly on outside vendors and subcontractors to manufacture certain components and subassemblies. This strategy has enabled the Company to increase its manufacturing capacity. The Company orders one of the most critical components of its technology, the glass for its 1X lenses, from suppliers on purchase orders. The Company designs the 1X lenses and provides the lens specifications to other suppliers that grind the lens elements. The Company then assembles and tests the optical 1X lenses in its metrology laboratory. The Company has recorded the critical parameters of each of its optical lenses sold since 1982, and believes that such information enables it to supply lenses to its customers that match the characteristics of its customers' existing lenses. Additionally, the Company orders reduction lenses from suppliers on purchase orders. These lenses are designed to the Company's specifications and tested by the supplier.

In addition to glass, the Company procures many of its other critical systems' components, subassemblies and services from a single outside supplier or a limited group of outside suppliers in order to ensure overall quality and timeliness of delivery. Many of these components and subassemblies have significant production lead times. To date, the Company has been able to obtain adequate services and supplies of components and subassemblies for its systems in a timely manner. However, disruption or termination of certain of these sources could result in a significant adverse impact on the Company's ability to manufacture its systems. This, in turn, would have a material adverse effect on the Company's business, financial condition and results of operations. The Company's reliance on sole or a limited group of suppliers and the Company's increasing reliance on subcontractors involve several risks, including a potential inability to obtain an adequate supply of required components due to the suppliers' failure or inability to provide such components in a timely manner, or at all, and reduced control over pricing and timely delivery of components. Although the timeliness, yield and quality of deliveries to date from the Company's subcontractors have been acceptable, manufacture of certain of these components and subassemblies is an extremely complex process, and long lead-times are required. Any inability to obtain adequate deliveries or any other circumstance that would require the Company to seek alternative sources of supply or to manufacture such components internally could delay the Company's ability to ship its products, which could damage relationships with current and prospective customers and have a material adverse effect on the Company's business, financial condition and results of operations.

International Sales    International net sales accounted for approximately 51% and 54% of total net sales for the years 2001 and 2000, respectively. For the nine months ended September 30, 2002, international net sales accounted for approximately 50% of total net sales, as compared with 53% for the comparable period in 2001. The Company anticipates that international sales, which typically have lower gross margins than domestic sales, principally due to increased competition and higher field service and support costs, will continue to account for a significant portion of total net sales. As a result, a significant portion of the Company's net sales will continue to be subject to certain risks, including dependence on outside sales representative organizations; unexpected changes in regulatory requirements; difficulty in satisfying existing regulatory requirements; exchange rate fluctuations; tariffs

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and other barriers; political and economic instability; difficulties in accounts receivable collections; natural disasters; difficulties in staffing and managing foreign subsidiary and branch operations; and potentially adverse tax consequences. Although the Company generally transacts its international sales in U.S. dollars, international sales expose the Company to a number of additional risk factors, including fluctuations in the value of local currencies relative to the U.S. dollar, which, in turn, impact the relative cost of ownership of the Company's products and may further impact the purchasing ability of its international customers. In Japan, however, the Company has direct sales operations and orders are often denominated in Japanese yen. This may subject the Company to a higher degree of risk from currency fluctuations. The Company attempts to mitigate this exposure through the use of foreign exchange contracts. The Company is also subject to the risks associated with the imposition of legislation and regulations relating to the import or export of semiconductors and nanotechnology products. The Company cannot predict whether changes to quotas, duties, taxes or other charges or restrictions, will be implemented by the United States, Japan or any other country upon the importation or exportation of the Company's products in the future. These factors, or the adoption of restrictive policies, may have a material adverse effect on the Company's business, financial condition and results of operations.

Dependence on Key Personnel    The Company's future operating results depend, in significant part, upon the continued contributions of key personnel, many of whom would be difficult to replace. None of such persons has an employment or non-competition agreement with the Company. The Company does not maintain any life insurance on any of its key persons. The loss of key personnel could have a material adverse effect on the business, financial condition and results of operations of the Company. In addition, the Company's future operating results depend in significant part upon its ability to attract and retain other qualified management, manufacturing, and technical, sales and support personnel for its operations. There are only a limited number of persons with the requisite skills to serve in these positions and it may become increasingly difficult for the Company to hire such personnel over time. At times, competition for such personnel has been intense, particularly in the San Francisco Bay Area where the Company maintains its headquarters and principal operations, and there can be no assurance that the Company will be successful in attracting or retaining such personnel. The failure to attract or retain such persons would materially adversely affect the Company's business, financial condition and results of operations.

Changes to Financial Accounting Standards May Affect the Company's Reported Results of Operations    The Company prepares its financial statements to conform with generally accepted accounting principles, or GAAP. These principles are subject to interpretation by the American Institute of Certified Public Accountants, the SEC and various bodies formed to interpret and create appropriate accounting policies. A change in those policies can have a significant effect on the Company's reported results and may even affect its reporting of transactions completed before a change is announced.

Accounting policies affecting many other aspects of our business, including rules relating to intangible assets, derivatives, financial instruments, purchase and pooling-of-interests accounting for business combinations, revenue recognition, in-process research and development charges, employee stock purchase plans and stock option grants, have recently been revised or are under review. Changes to those rules or the questioning of current practices may have a material adverse effect on the Company's reported financial results or on the way it conducts business. In addition, the Company's preparation of financial statements in accordance with GAAP requires that it make estimates and assumptions that affect the recorded amounts of assets and liabilities, disclosure of those assets and liabilities at the date of the financial statements and the recorded amounts of expenses during the reporting period. A change in the facts and circumstances surrounding those estimates could result in a change to the Company's estimates and could impact its future operating results.

Effects of Certain Anti-Takeover Provisions    Certain provisions of the Company's Certificate of Incorporation, equity incentive plans, Shareholder Rights Plan, licensing agreements, Bylaws and

27

Delaware law may discourage certain transactions involving a change in control of the Company. In addition to the foregoing, the Company's classified board of directors, the shareholdings of the Company's officers, directors and persons or entities that may be deemed affiliates and the ability of the Board of Directors to issue "blank check" preferred stock without further stockholder approval could have the effect of delaying, deferring or preventing a change in control of the Company and may adversely affect the voting and other rights of holders of Common Stock.

Volatility of Stock Price and Dilutive Impact of Employee Stock Options    The Company believes that factors such as announcements of developments related to the Company's business, fluctuations in the Company's operating results, a shortfall in revenue or earnings, changes in analysts' expectations, general conditions in the semiconductor and nanotechnology industries or the worldwide or regional economies, sales of securities of the Company into the marketplace, an outbreak of hostilities, announcements of technological innovations or new products or enhancements by the Company or its competitors, developments in patents or other intellectual property rights and developments in the Company's relationships with its customers and suppliers could cause the price of the Company's Common Stock to fluctuate, perhaps substantially. The market price of the Company's Common Stock may continue to experience significant fluctuations in the future, including fluctuations that may be unrelated to the Company's performance.

As of September 30, 2002, the Company had approximately 4.8 million stock options outstanding. Among other determinants, the market price of the Company's stock has a major bearing on the number of stock options outstanding that are included in the weighted-average shares used in determining the Company's net income (loss) per share. During periods of extreme volatility, the impact of higher stock prices can have a materially dilutive effect on the Company's net income (loss) per share (diluted). Additionally, options are excluded from the calculation of net income (loss) per share when the Company has a net loss or when the exercise price of the stock option is greater than the average market price of the Company's Common Stock, as the impact of the stock options would be anti-dilutive.

Terrorist Attacks and Threats, and Government Responses Thereto, May Negatively Impact All Aspects of Our Operations, Revenues, Costs and Stock Price.    Terrorist attacks in the United States and elsewhere, and government responses thereto, may disrupt our operations or those of our customers and suppliers and may affect the availability of materials needed to manufacture our products or the means to transport those materials to manufacturing facilities and finished products to customers. In addition, any of these events could increase volatility in the United States and world financial markets which may depress the price of the Company's Common Stock and may limit the capital resources available to the Company or its customers or suppliers, which could result in decreased orders from customers, less favorable financing terms from suppliers, and scarcity or increased costs of materials and components of our products. Any of these occurrences could have a significant impact on our operating results, revenues and costs and may result in increased volatility of the market price of our Common Stock.

Environmental Regulations    The Company is subject to a variety of governmental regulations relating to the use, storage, discharge, handling, emission, generation, manufacture and disposal of toxic or other hazardous substances used to manufacture the Company's systems. The Company believes that it is currently in compliance in all material respects with such regulations and that it has obtained all necessary environmental permits to conduct its business. Nevertheless, the failure to comply with current or future regulations could result in substantial fines being imposed on the Company, suspension of production, alteration of the manufacturing process or cessation of operations. Such regulations could require the Company to acquire expensive remediation equipment or to incur substantial expenses to comply with environmental regulations. Any failure by the Company to control the use, disposal or storage of, or adequately restrict the discharge of, hazardous or toxic substances could subject the Company to significant liabilities.

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Item 3.    Quantitative and Qualitative Disclosures About Market Risk

Reference is made to Part II, Item 7A, "Quantitative and Qualitative Disclosures About Market Risk" in the Company's Annual Report on Form 10-K for the year ended December 31, 2001 and to the subheading "Derivative Instruments and Hedging" in Item 8, "Financial Statements and Supplementary Data", under the heading "Notes to Consolidated Financial Statement" of the Company's Annual Report on Form 10-K for the year ended December 31, 2001.

Foreign Currency Risk Management

Foreign exchange contracts are used primarily by the Company to hedge the risk that unremitted Japanese yen denominated receipts from customers for actual or forecasted sales of equipment after receipt of customer purchase orders and the unremitted Japanese yen denominated payments to suppliers for actual or forecasted deliveries of raw material from Japan after issuance of Company purchase orders may be adversely affected by changes in foreign currency exchange rates. As part of its overall strategy to manage the level of exposure to the risk of foreign currency exchange rate fluctuations, the Company attempts to hedge most of these Japanese yen denominated foreign currency exposures anticipated over the ensuing twelve-month period. At September 30, 2002, the Company had taken action to hedge approximately all of these Japanese yen denominated exposures. To hedge this exposure, the Company uses foreign exchange contracts that generally have maturities of nine months or less, which generally will be rolled over to provide continuing coverage throughout the year. The Company often closes foreign exchange sale contracts by purchasing an offsetting purchase contract.

The Company records these foreign exchange contracts at fair value in its consolidated balance sheet and the related gains or losses on these contracts are deferred in stockholders' equity (as a component of comprehensive income). These deferred gains and losses are recognized in income in the period in which the sales or purchases being hedged are received and recognized in income. However, to the extent that any of these contracts are not considered to be perfectly effective in offsetting the change in the value of the sales or purchases being hedged, any changes in fair value relating to the ineffective portion of these contracts are immediately recognized in income. Gains and losses on foreign exchange contracts are generally included as a component of interest and other income, net, in the Company's consolidated statement of operations.

At September 30, 2002, the Company had contracts for the sale of $0.9 million of foreign currencies at fixed rates. There were no foreign currency purchase obligations at September 30, 2002. The Company had not deferred any gains or losses on foreign exchange contracts at September 30, 2002.

Item 4.    Controls and Procedures

Based on their evaluation, as of a date within 90 days of the filing of this Form 10-Q, the Company's Chief Executive Officer and Chief Financial Officer have concluded the Company's disclosure controls and procedures (as defined in Rules 13a-14 and 15d-14 under the Securities Exchange Act of 1934) are effective. There have been no significant changes in internal controls or in other factors that could significantly affect these controls subsequent to the date of their evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

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PART 2:    OTHER INFORMATION

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

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CERTIFICATIONS

I, Arthur Zafiropoulo, certify that:

1.

I have reviewed this quarterly report on Form 10-Q of Ultratech Stepper, Inc.;

2.

Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;

3.

Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;

4.

The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

a)

Designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared;

b)

Evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and

c)

Presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

5.

The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function):

a)

All significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and

b)

Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and

6.

The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

Date: November 8, 2002

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I, Bruce Wright, certify that:

1.

I have reviewed this quarterly report on Form 10-Q of Ultratech Stepper, Inc.;

2.

Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;

3.

Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;

4.

The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

a)

Designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared;

b)

Evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and

c)

Presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

5.

The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function):

a)

All significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and

b)

Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and

6.

The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

Date: November 8, 2002

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EXHIBIT INDEX

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QuickLinks

PART 1. FINANCIAL INFORMATION
Item 1. Condensed Consolidated Financial Statements

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

Item 3. Quantitative and Qualitative Disclosures About Market Risk
PART 2: OTHER INFORMATION