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

FORM 10-K

[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

For the Fiscal Year Ended September 30, 2003

OR

[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

For the Transition Period From ___________ to ____________

Commission File Number 0-25424

SEMITOOL, INC.
(Exact Name of Registrant as Specifited in Its Charter)

Semitool, Inc.
655 West Reserve Drive, Kalispell, Montana 59901
(406) 752-2107
(Address, including zip code, and telephone number, including
area code, of registrant's principal executive offices)

Securities registered pursuant to Section 12(b) of the Act: None

Securities registered pursuant to Section 12(g) of the Act: Common Stock, no par value

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ]

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ]

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X]

The approximate aggregate market value of the voting stock held by non-affiliates of the registrant on March 31, 2003 (based on the last reported sale price on the Nasdaq National Market as of such date) was $67,329,515.

The number of shares of the registrant’s Common Stock, no par value, outstanding as of December 11, 2003 was 28,481,027.

DOCUMENTS INCORPORATED BY REFERENCE

There is incorporated by reference in Part III of this Annual Report on Form 10-K the information contained in the registrant’s definitive proxy statement for its annual meeting of shareholders to be held February 17, 2004.

PART I

Introduction – Forward-Looking Statements

        Statements contained in this Annual Report on Form 10-K which are not purely historical facts are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934. Forward-looking statements are included in the discussion of our business, properties and legal matters and include, without limitation, statements regarding:

• trends in the semiconductor industry,
• Semitool’s solutions for electrochemical deposition and wafer surface preparation,
• our strategy to increase our market share,
• the performance and acceptance of our products,
• manufacturing strategy,
• the pursuit of new and growing markets,
• competition,
• patent filings,
• environmental regulations,
• research and development,
• the ability to maintain worldwide sales, service and customer support, and
• the impact of litigation on our business.

        Other forward-looking statements made below under the heading “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and elsewhere include statements relating to:

• accounting policies and estimates,
• use of sales, service and support organizations,
• the contribution of international sales to net sales,
• backlog and deferred revenue,
• gross margins,
• results from operations,
• the ability to finance activities,
• interest expense,
• the sufficiency of funds, and
• effects of new accounting standards.

        Management cautions that forward-looking statements are subject to risks and uncertainties that could cause our actual results to differ materially from those projected in such forward-looking statements. These risks and uncertainties are detailed under the heading “Factors That Might Affect Our Future Financial Results and Stock Price” and elsewhere in this Annual Report on Form 10-K. We undertake no obligation to update forward-looking statements to reflect subsequent events, changed circumstances, or the occurrence of unanticipated events.

Item 1. Business

Overview

        We design, manufacture, install and service highly engineered equipment for use in the fabrication of semiconductor devices. Our products are focused on the wet chemical process steps in integrated circuit, or IC, manufacturing and include systems for electrochemical deposition, wafer surface preparation and wafer transport container cleaning. Our electrochemical deposition systems are used for plating copper and gold for the IC’s internal wiring, or interconnects; solder and gold bumps for wafer level packaging applications; and other metals for various semiconductor and related applications. Our surface preparation systems are designed for wet cleaning, stripping and etching processes, including photoresist and polymer removal and metal etching. Typically, there are hundreds of manufacturing steps in fabricating semiconductor devices and after many of these steps a wet cleaning, stripping or etching process is required. Our customers include many of the major semiconductor device and wafer level packaging manufacturers worldwide.

        Semitool, a Montana corporation, was founded in 1979 and is headquartered in Kalispell, Montana. Our mailing address is 655 West Reserve Drive, Kalispell, MT 59901 and our telephone number is 406-752-2107. Additional information about the Company is available on our website at http://www.semitool.com. On our Investor Relations page on our website, we post the following filings as soon as practicable after they are electronically filed with or furnished to the Securities and Exchange Commission: our annual report on Form 10-K, our quarterly reports on Form 10-Q, our current reports on Form 8-K and any amendments to those reports filed or furnished pursuant to Sections 13(a) or 15(d) of the Securities Exchange Act of 1934. All such filings on our own Investor Relations web page are available to be viewed on this page free of charge. Information contained on our website is not part of this annual report on Form 10-K or our other filings with the Securities and Exchange Commission. We assume no obligation to update or revise any forward-looking statements in this annual report on Form 10-K, whether as a result of new information, future events or otherwise, unless we are required to do so by law. Our Form 10-K and other filings also are available at the Securities and Exchange Commission’s website at http://www.sec.gov.

Industry Background

        The semiconductor industry produces microelectronic devices that are used in a broad array of consumer and industrial products such as computers, cellular phones, televisions, audio systems and automobiles. The semiconductor equipment industry, of which we are a part, serves the semiconductor industry.

        Microelectronic devices consist of millions of microscopic transistors and other components that store information and allow the execution of instructions. These components are connected together with metal wiring to form the functional IC. Fabrication of an IC involves hundreds of complex and repetitive process steps, involving an array of sophisticated manufacturing equipment and chemical media. ICs are fabricated on substrates, or wafers, made of a semiconductor material, most commonly silicon. The fabrication process involves, among others, the deposition of multiple layers of dielectric or insulating films and electrically conducting metal films and repeated cleaning, stripping and etching processes to prepare the surface for the next step. When completed, the wafer may contain several hundred ICs. Traditionally, the individual ICs are separated from the wafer by a process involving sawing, or dicing, after which the wafer is cleaved into separate ICs. The IC is then packaged by connecting it to pins via metal wires or contacts and encapsulating the IC in a polymer. Some manufacturers are using a newer process that allows for packaging the ICs before they are separated from the wafer. The packaged microelectronic devices are then placed into an electronic product, such as a computer or cellular phone.

        Cleaning, stripping, etching or otherwise conditioning the surface of the wafer are steps repeated throughout the semiconductor fabrication process. These processes are important, since the integrity of the next step may depend strongly on the effectiveness of the cleaning, stripping, or etching step. In addition, process reliability and particle contamination are increasingly critical, as shrinking device dimensions link ever-smaller contaminants and lower contamination levels to IC failure. Relatively new materials such as copper and low-K dielectrics are changing the manner in which deposition processes are performed, and these fundamental material changes influence the direction of process development.

        There are two fundamental means by which surface preparation wet process steps are performed, spray and immersion. Immersion processes, or wet benches, use a series of liquid-filled tanks in which wafers are immersed. The wafers are transported from one tank to another tank by robots or human operators. Spray delivery systems subject wafers to sequential spray applications of chemicals while the wafers are spun on their axis inside an enclosed process chamber, where the chemical is brought to the wafers instead of the wafers to the chemical. Spray technology utilizes the chemical reaction, the mechanical force of the spray and the centrifugal force from spinning to remove contaminants and dry the wafers. Spray systems can be configured to process wafers in a batch or single-wafer mode.

        The semiconductor industry is showing an increased interest in spray processing systems in both single-wafer and batch formats. Reasons for this include the more aggressive nature of a spray process when compared to an immersion process and the reduced footprint, which saves costly clean room space. Spray systems, especially in a single-wafer format, may offer a greater potential for efficiently processing wafers containing ICs with smaller feature sizes on large substrates as they offer greater control of the process.

        Newer packaging technologies have been developed and are being adopted by the industry to enable smaller personal products such as PDAs and mobile phones. These technologies are called wafer level or chip-scale packaging. This method packages the IC’s while they are still in the wafer-state, so that upon separation from the wafer the IC can be directly placed into an electronic product. Wafer level packaging is an enabling technology for the semiconductor industry, as it allows the integration of more computing and information processing power in a smaller space than conventional packaging technology. Wafer level packaging uses fabrication processes similar to IC fabrication and includes, among others, electrochemical deposition for connective solder and gold bumps, photoresist stripping and under-bump metal etching.

        Reducing the size of each IC increases the number of ICs that can be fabricated on any size wafer. This reduces the cost per device on a given wafer and, in addition, provides a potential for increased capacity on existing equipment. To further reduce costs, the industry has begun a migration to the 300mm, or 12 inch, diameter wafer from the common 200mm, or 8 inch, wafer size. Most 300mm processing cannot be performed on previous generations of equipment, necessitating the purchase of new systems. While new 200mm fabs continue to be built, most new fabs are now 300mm. As 300mm fabs cost more to build and provide greater capacity, it is possible that fewer will be built as compared to 200mm fabs.

        The semiconductor industry has experienced significant growth in semiconductor foundry capacity. A foundry is a manufacturer that fabricates devices on a contract basis for IC designers that typically do not have a fabrication capability or may not have sufficient capacity to meet their own needs. Most of the foundry growth has been in Asia, particularly Taiwan. It is anticipated that China may provide a base of further expansion of foundries, which is expected to provide a substantial market for semiconductor equipment.

        Despite broad-based markets, the semiconductor industry experiences business cycles that are punctuated by periods of either under or over supply. In general, in periods of under supply, semiconductor manufacturers increase capital equipment spending and, conversely, in periods of over supply reduce their capital equipment spending. However, the market for semiconductor equipment also is characterized by rapid technological development and product innovation. As a result, to meet new technological advancements, manufacturers may purchase new equipment despite the timing of the market cycle.

The Semitool Solutions

        We leverage our extensive experience to provide equipment and process solutions for the electrochemical deposition, wafer surface preparation, cleaning, stripping and etching segments of the semiconductor equipment market.

        Electrochemical Deposition Solutions. Our electrochemical deposition, or ECD, systems incorporate proprietary electroplating technology on a platform that processes one wafer at a time in multiple process chambers. Our leading single-wafer design is modular, with process chambers arranged in a linear orientation, providing flexibility in system configuration. Typically, these systems include a combination of ECD and surface preparation process chambers to address a customer’s specific application. ECD applications include copper interconnect and seed layer repair for logic and power ICs, gold bumps for high speed communication ICs, and solder bumps for advanced wafer level packaging. These systems are available to accommodate wafer diameters from 100mm to 300mm and can be scaled for customers’ capacity requirements. We introduced our first electroplating system in 1993 and continue to be a technological leader in electroplating applications for the semiconductor industry. Selling prices of these systems typically range from approximately $1.5 to $2.8 million.

        Single-Wafer Surface Preparation Solutions. Our single-wafer processing systems for wet cleaning, stripping and etching are available to accommodate 150mm, 200mm and 300mm wafer sizes. These systems share a common platform with our ECD equipment and are designed with a linear arrangement of the processing chambers for high volume production. In addition, our patented Capsule process chamber provides selectable processing for each side of the wafer. Selling prices for these systems range from $1.5 to $2.6 million.

        Batch Wafer Surface Preparation Solutions. Our batch systems for wet cleaning, stripping and etching applications include fully and semi-automated systems for 150mm, 200mm and 300mm wafer processing in up to 50 wafer batches. These systems use proprietary spray technology to deliver the chemicals, deionized water and gases to the wafer surface in an enclosed chamber. The wafers are spun on their axis and exposed to a sequenced spray of chemicals and dry nitrogen gas to process and dry the wafers. This technology enables precise and uniform application of process chemicals and enhances process reliability and cost effectiveness through reduced particle contamination and process cycle time. Our cost-effective ozone and water based cleaning process, called HydrOzone, is available on selected systems. This environmentally friendly process can replace traditional processes using sulfuric acid and other hazardous chemicals resulting in lower costs, reduced process cycle time and water consumption. Selling prices for these systems range from under $15,000 to $2.0 million.

Strategy

        Our objective is to increase our worldwide market share in electrochemical deposition, surface preparation, wafer level packaging and ancillary applications used by the semiconductor and related industries. Our business strategy incorporates the following key elements:

        Maintain and Expand Technology Leadership. We intend to continue investing in research and development to maintain and expand our position as a technological leader in surface preparation and electrochemical deposition. Our focus is on delivering leading-edge technical innovation and system reliability with yield enhancement and low cost of ownership. We believe these factors are the leading drivers for market acceptance of semiconductor processing equipment.

        Offer a Broad Range of Products Incorporating Innovative Wet Processing Technologies. We offer a broad range of differentiated products for use in diverse process applications to broaden our opportunity in the semiconductor related markets and with each customer.

        Integrate Design and Manufacturing Expertise. Our strategy is one of close integration of design and manufacturing, coupled with selective vertical manufacturing integration to achieve innovative solutions, cost and quality advantages and to reduce the time to market for new products and product enhancements.

        Expansion of Asian Market Presence. Over the past several years, we have expanded our presence in the Asian market and revenue from that region is a significant part of consolidated net revenues. We believe the Asian region, including China, has the potential for additional significant long-term growth. It is our sales, marketing and service strategy to expand our installed base of equipment in this region.

Products

        Our broad product suite of highly engineered, innovative processing systems leverages our core wet chemical processing expertise, and more than two decades of experience building and supporting production-proven semiconductor manufacturing equipment. Our primary wet chemical processing solutions are electrochemical deposition equipment, primarily for the plating of copper, gold and solder, multi-wafer batch and single-wafer cleaning, stripping and etching equipment and wafer transport container cleaning equipment. All of these solutions leverage and extend our original spin-spray technologies.

        Electrochemical Deposition (ECD) Products

RAIDER ECD
        The Raider ECD is an automated single-wafer processor for high volume electrochemical deposition. The specific configuration of its multiple processing chambers determines which semiconductor IC and advanced packaging markets the Raider ECD serves. For copper interconnect, several process steps can be integrated onto a single system such as ECD seed layer repair, ECD fill, wafer backside clean, bevel-edge clean, film thickness metrology and rapid thermal anneal. The tool uses our proprietary computational fluid dynamics, or CFD, designed processing chamber arranged in a linear format. This CFD chamber allows the user to optimize plating profiles for downstream operations such as better matching of film characteristics to chemical-mechanical planarization equipment, resulting in reduced processing time and cost. Our proprietary Capsule cleaning chamber, which is also used in our Raider SP, is integrated into the tool for bevel-edge and other cleaning processes. The modularity of the platform provides our customers with the flexibility to configure the chamber mix to meet their specific needs. The primary applications for the Raider ECD are copper, gold, nickel, platinum and solder depositions. It is available to accommodate 150mm, 200mm and 300mm wafer sizes.

ACMS
        The Advanced Chemical Management System, or ACMS, is an automated electroplating bath control unit. It maintains the desired chemical balance in the plating baths by automatically analyzing and replenishing the chemical constituents using our proprietary technology. Fully integrated with the Company’s ECD systems, the primary applications are copper and solder deposition.

        Single-Wafer Surface Preparation Products

RAIDER SP
        The Raider SP is a fully automated system with up to ten single-wafer process chambers for high volume production. The flexibility of its linear design makes it one of the most versatile wet cleaning, stripping and etching platforms in the industry. The tool can be equipped with our proprietary Capsule chamber, which allows side selectable processing. In addition, the system can be equipped with spray, immersion, megasonic, or vapor process chambers. Applications include wafer backside, bevel and edge clean for removal of unwanted copper and other contamination, post-etch polymer removal, critical pre-deposition cleans, and metal etching. The Raider SP is available to accommodate 150mm, 200mm & 300mm wafer sizes.

        Batch Wafer Surface Preparation Products

SIRIUS
        Introduced to the market during fiscal 2002, the Sirius was designed specifically to deliver our patented HydrOzone process. HydrOzone, using a minimal amount of deionized water and ozone is a low cost, low environmental impact process option in comparison to the typical processes used for photoresist stripping, photolithography rework and organic cleans as it does not require the use of sulfuric acid with its related used, disposal and delivery costs. The Sirius is a manually loaded semi-automated system with a 50 wafer capacity spray processing chamber. The system is available to accommodate either 200mm or 300mm wafer sizes.

SPECTRUM & SPECTRUM HO
        The Spectrum is an advanced automated batch processing system for cleaning, stripping and etching applications. Its compact modular design features high throughput, flexible process formats and precise control for low cost of ownership. In addition to our proprietary spray processing modules, the Spectrum can be equipped with immersion and surface tension gradient dry capabilities. It can be configured to use either corrosives, solvents or our proprietary hydrozone (Spectrum HO) based processes for polymer removal, photoresist strip and critical cleaning applications. The Spectrum is available to accommodate both 200mm and 300mm wafer sizes.

SAT
        The Spray Acid Tool, or SAT, is a manually loaded semi-automated system for performing sequential processing of 25 wafers per spray process chamber. The SAT is designed for wafer processing using highly caustic and corrosive media for an array of cleaning, stripping and etching applications. The system can be equipped with up to three 200mm process chambers and is ideal for medium to low production volumes and research and development activity.

SST
        The Spray Solvent Tool, or SST, is a manually loaded semi-automated system for performing sequential processing of 25 wafers per spray process chamber. The SST is designed for wafer processing using flammable solvents for removal of photoresist, etch polymers, polyimides and organic contaminants. The system can be equipped with up to two 200mm process chambers and is ideal for medium to low production volumes and research and development activity.

SRD
        The Spin Rinser/Dryer, or SRD, is a high efficiency cleaning system utilizing deionized water to remove water soluble contaminants, chemical residue and particulate matter. The SRD is available with up to three 25 wafer spray process chambers in a single system. It is available to accommodate wafer sizes up to 300mm in diameter.

SCEPTER
        The Scepter series is an advancement of our semi-automated products, the SATs, SSTs, and SRDs, that offers double the productivity of the 25 wafer capacity tools by processing 50 wafers at a time in nearly the same system footprint. The Scepter can process wafer sizes up to 200mm in diameter.

        Wafer Transport Container Cleaning

STORM
        The Storm is designed to clean the containers used to transport the wafers from process step to process step. A key factor in achieving high manufacturing yields is controlling contamination from these reusable containers. Our system processes multiple containers simultaneously, offering high productivity in a small footprint and is available to accommodate either 200mm or 300mm wafer sizes.

Customers, Sales and Marketing

        Our customers include leading worldwide semiconductor manufacturers. The following is a representative list in alphabetical order of our largest United States and international customers:

        Our top ten customers accounted for 58.4%, 58.6% and 38.7% of net sales in fiscal 2003, 2002 and 2001. Advanced Micro Devices accounted for 19.4% and 21.2% of our net sales in fiscal 2003 and fiscal 2002, respectively. No customer accounted for over 10% of net sales in fiscal 2001.

        International sales, primarily in Europe, Asia and Japan, accounted for approximately 61.4% of consolidated net sales in fiscal 2003, 62.6% of consolidated net sales in fiscal 2002 and 63.8% of consolidated net sales for fiscal 2001. While the relative proportion of international sales to total consolidated sales is nearly unchanged from fiscal 2002 to 2003, the geographic mix has shifted. On a combined basis, sales in Japan and Korea declined nearly 17% year-over-year, while the rest of Asia and Europe declined by lesser amounts. We have direct sales and customer support organizations located in Europe, Japan, Singapore and Korea, and for some products, an independent distributor serves Japan. Independent sales representatives serve Taiwan and China. We market and sell our products in the United States through our sales organization, which includes direct sales personnel and a limited use of independent sales representatives for specific products.

        Field service personnel and application engineers located in the United States, Europe, Japan and Asia, provide warranty service, post-warranty service and equipment installation. Field service engineers are located at over 40 sites throughout the world, including dedicated site-specific engineers at certain customer locations pursuant to customer agreements. We also provide service and maintenance training, as well as process application training for our customers’ personnel on a fee basis. Spare parts inventories are maintained in 19 outsourced locations throughout the world, which allows us to offer same day or overnight delivery in most instances.

Backlog and Deferred Revenue

        Consolidated orders backlog was $19.9 million at September 30, 2003, down 27.9% from $27.6 million at September 30, 2002. Semiconductor equipment orders represented 100% of consolidated orders backlog at September 30, 2003 and September 30, 2002.

        We include in backlog those customer orders for which we have written customer authorization and for which shipment is scheduled within the next twelve months. Orders are generally subject to cancellation or rescheduling by customers with limited or no cancellation fees. During periods of downturns in the semiconductor industry, we have experienced significant cancellations and delays.

        Our deferred revenue relates to equipment already shipped to customers and equipment subject to installation that will be recognized as sales when acceptance is received from the customer. At September 30, 2003, deferred revenue was $10.7 million, a decrease of 72.1% as compared to deferred revenues of $38.3 million at September 30, 2002. The associated deferred profit was also lower at September 30, 2003. Deferred revenue is not included in orders backlog.

        As a result of systems ordered and shipped in the same quarter, possible changes in customer delivery dates, cancellations and shipment delays, and acceptances of shipped equipment carried in deferred revenue, the backlog at any particular date and the orders bookings for any particular period are not necessarily indicative of actual revenue for any succeeding period.

Manufacturing

        Most of our manufacturing is conducted at our facilities located in Kalispell, Montana. Our manufacturing operations are selectively vertically integrated to include metals and plastics fabrication and finishing capabilities, component parts and final product assembly, and extensive product development capabilities. Manufacturing personnel work closely with product development engineers to enhance manufacturability and facilitate the transition from prototype to full-scale production. Our high-volume manufacturing line provides responsive lead time delivery of our products. Component and product prototyping typically is performed internally, reducing the time to market for new products and product enhancements.

Research and Development

        We believe that timely development of products is necessary to remain competitive in an equipment market characterized by rapid technological change and product innovation. We devote significant resources to programs directed at developing new and enhanced products, as well as new applications for existing products. We maintain extensive demonstration and process development laboratories at our facilities in Montana, including two clean rooms for demonstrating, testing and developing products. Research and development personnel work directly with customers, vendors, and research institutes to develop new processes and to design and evaluate new equipment.

        Expenditures for research and development, which are expensed as incurred, were approximately $18.1 million in fiscal 2003, $23.1 million in fiscal 2002 and $27.5 million in fiscal 2001. These expenditures, as a percentage of our net sales, represented approximately 15.5%, 18.7% and 10.7% in each of these fiscal years.

Competition

        The semiconductor equipment industry is an intensively competitive market place marked by constant technological change. Significant competitive factors in the semiconductor equipment and related markets in which we compete include: system performance, quality and reliability, cost of using our equipment, ability to ship products in the time required, timeliness and quality of technical support service, our success in developing new and enhanced products, pricing and payment terms. We face substantial competition from established competitors, some of which have greater financial, marketing, technical and other resources, broader and integrated product lines, more extensive customer support capabilities, and larger sales organizations and installed customer bases. Our primary competitors in electrochemical deposition include Applied Materials, Inc., Novellus Systems, Inc., and Ebara Corporation. In wet surface preparation applications, our competition includes Applied Materials, Inc., FSI International, Inc., Mattson Technology, Inc., SEZ Holding, AG, Tokyo Electron, Ltd. and wet bench manufacturers. We believe that we compete favorably with these manufacturers. We may also face competition from new market entrants.

        In order to remain competitive, we must maintain a high level of investment in research and development, marketing and customer service while controlling operating expenses. There can be no assurance that we will have sufficient resources to continue to make such investments or that our products will continue to be viewed as competitive as a result of technological advances by competitors or changes in semiconductor processing technology. Such competitive pressures may necessitate significant price reductions by us or result in lost orders, which could harm our business, financial condition, results of operations and cash flows.

        Moreover, there has been significant merger and acquisition activity among our competitors and potential competitors. These combinations may provide such competitors and potential competitors with a competitive advantage over us by enabling them to more rapidly expand their product offerings and service capabilities to meet a broader range of customer needs. Many of our customers and potential customers are relatively large companies that require global support and service for their semiconductor manufacturing equipment. Our larger competitors have more extensive infrastructures, which could place us at a disadvantage when competing for the business of global semiconductor device manufacturers.

        We expect our competitors to continue to improve the design and performance of their products. There can be no assurance that our competitors will not develop enhancements to, or future generations of, competitive products that will offer superior price, performance and/or cost of ownership features, or that new processes or technologies will not emerge that render our products less competitive or obsolete. As a result of the substantial investment required to integrate capital equipment into a production line, we believe that once a manufacturer has selected certain capital equipment from a particular vendor, there is a tendency for the manufacturer to rely upon that vendor to provide equipment for that specific production line application and may seek to rely upon that vendor to meet other capital equipment requirements. Accordingly, we may be at a competitive disadvantage for a protracted period of time with respect to a particular customer if that customer utilizes a competitor’s manufacturing equipment.

Patents and Other Intellectual Property

        We place a strong emphasis on the innovative features of our products and, where available, we generally seek patent protection for those features. We currently hold 215 U.S. patents, some with pending foreign counterparts, have 190 U.S. patent applications pending and intend to file additional patent applications, as we deem appropriate. There can be no assurance that patents will issue from any of our pending applications or that existing or future patents will be sufficiently broad to protect our technology. While we attempt to protect our intellectual property rights through patents, copyrights and non-disclosure agreements there can be no assurance that we will be able to protect our technology, or that competitors will not be able to develop similar technology independently. In addition, the laws of certain foreign countries may not protect our intellectual property to the same extent as the laws of the United States. Moreover, there can be no assurance that our existing or future patents will not be challenged, invalidated or circumvented, or that the rights granted thereunder will provide meaningful competitive advantages to us. In any of such events, our business, financial condition, results of operations and cash flows could be harmed.

        There has been substantial litigation regarding patent and other intellectual property rights in semiconductor related industries. We currently are involved in patent litigation, which is described in Item 3, Legal Proceedings. Although we are not aware of any potential infringement by our products of any patents or proprietary rights of others, other than as alleged by Novellus, Inc., which is described in Item 3, Legal Proceedings, further commercialization of our products could provoke claims of infringement from third parties.

        In addition, we rely on trade secret protection for our technology, in part through confidentiality agreements with our employees, consultants and third parties. However, these agreements may be breached and we may not have adequate remedies. In any case, others may come to know about or determine our trade secrets through a variety of methods.

        From time to time, we receive invitations to take a license to other parties’ patents or to grant a license on our technology. We evaluate these potential transactions on a case-by-case basis. Offers to us to take a license that are rejected by us could lead to an offeror making a claim of infringement.

        Now and in the future, litigation may be necessary to enforce patents issued to us, to protect trade secrets or know-how owned by us or to defend us against claimed infringement of the rights of others and to determine the scope and validity of the proprietary rights of others. Any such litigation, including the litigation in which we currently are engaged, could result in substantial cost and diversion of effort by us, which by itself could have a material adverse effect on our financial condition, results of operations and cash flows. Further, adverse determinations in such litigation could result in our loss of proprietary rights, subject us to significant liabilities and damages to third parties, require us to seek licenses from third parties or prevent us from manufacturing or selling our products, any of which could harm our business, financial condition, results of operations and cash flows.

Employees

        At September 30, 2003, we had 701 full-time and temporary employees worldwide. None of our employees are represented by a labor union, and we have never experienced a work stoppage or strike. We consider our employee relations to be good.

Environmental Matters

        We are subject to a variety of governmental regulations related to the discharge or disposal of toxic, volatile or otherwise hazardous waste. Our compliance with federal, state and local provisions regulating the discharge of materials into the environment, and the remedial actions we have taken with respect to environmental regulations, have not had, and are not expected to have, a material effect on our business, financial condition, result of operations and cash flows.

Executive Officers of the Registrant

The following table sets forth certain information with respect to the executive officers of the Company:

(1)     Raymon F. Thompson founded Semitool in 1979 and serves as our Chairman, President and Chief Executive Officer. In 1979, Mr. Thompson designed, patented and introduced the first on-axis spin rinser/dryer for the semiconductor industry.

(2)     Timothy C. Dodkin has been employed by us since 1985 and has served on our Board of Directors since 1998. Mr. Dodkin has held a number of sales-related positions including Senior Vice President, Global Sales and Marketing and, since June 2003, has served as Executive Vice President. Prior to joining us, Mr. Dodkin worked at Cambridge Instruments, a semiconductor equipment manufacturer, for ten years in national and international sales.

(3)     Larry A. Viano joined us in 1985 and has served as our Vice President and Chief Financial Officer since May 2003. He also serves as our Secretary, Treasurer, Principal Accounting Officer and Controller. He is a Certified Public Accountant.

(4)     Dana R. Scranton has served as our Vice President, Surface Preparation Technology since September 2001. Mr. Scranton has 11 years of experience with Semitool in the areas of engineering, product management and marketing. Mr. Scranton has a total of 16 years experience in the semiconductor capital equipment business.

(5)     Richard P. Schuster joined us in 1984 and has served as our Vice President, Global Service since February 2002.

The executive officers are elected each year by the Board of Directors to serve for a one-year term of office.

Item 2. Properties

        We have two manufacturing facilities located on sites in Kalispell, Montana with approximately 200,000 square feet in the aggregate. We also own a building and land located in Coopersburg, Pennsylvania, which serves as a manufacturing facility for our Rhetech, Inc. subsidiary. We believe that our existing manufacturing facilities will be adequate to meet our requirements for the foreseeable future and that suitable additional or substitute space will be available as needed. During fiscal 2001, we sold land and buildings that we owned in Cambridge, UK and during fiscal 2002, construction was completed on an office building on land retained at that location. We also lease 13 other smaller facilities worldwide, which are used as sales and customer service centers.

        We are subject to a variety of governmental regulations related to the discharge or disposal of toxic, volatile, or otherwise hazardous chemicals used on Semitool’s premises. We believe that we are in material compliance with these regulations and that we have obtained all necessary environmental permits to conduct our business. Nevertheless, current or future regulations could require us to purchase expensive equipment or to incur other substantial expenses to comply with environmental regulations. Any failure by us to control the use of, or adequately restrict the discharge or disposal of, hazardous substances could subject us to future liabilities, result in fines being imposed on us, or result in the suspension of production or cessation of our manufacturing operations.

Item 3. Legal Proceedings

        On January 16, 2002, we filed suit against Tokyo Electron, Ltd. and its subsidiaries, Tokyo Electron Kyushu Ltd. and Tokyo Electron America, Inc., referred to collectively as TEL, in the United States District Court for the Northern District of California (Case No. C-02-0288 EMC). The suit alleged infringement of our U.S. Patent 5,784,797 entitled “Carrierless Centrifugal Semiconductor Processing System (‘797 Patent), relating to the centrifugal cleaning and processing of semiconductor wafers. The defendants answered the complaint denying the claim and seeking to have the patent declared invalid. In addition, the defendants asserted counterclaims alleging our infringement of three patents: U.S. Patent 4,985,722 entitled “Apparatus for Coating a Photo-Resist Film and/or Developing it After Being Exposed”; U.S. Patent 5,446,416 entitled “Resist Processing Method”; and U.S. Patent 5,740,053 entitled “Method of Controlling Monitor Used in Cleaning Machine and Object Processing Machine and Monitor Apparatus”. After reaching an out-of-court settlement, on October 17, 2003 the court entered an order dismissing the claims and counterclaims of both parties. The terms of the settlement are confidential, except that there was no exchange of monetary compensation.

        In June 2001, we filed separate suits against Applied Materials, Inc., (Case No. CV-01-1066 AS), Novellus Systems, Inc. (Case No. CV-01-874 KI) and Ebara Corporation and Ebara Technologies, Inc. (Case No. CV-01-873 BR). The suits against all three parties are in the United States District Court for the District of Oregon. The suits allege infringement of Semitool’s U.S. Patent 6,197,181 (Chen) “Apparatus and Method for Electrolytically Depositing a Metal on a Microelectronic Workpiece” (‘181 Patent) and seek injunctive relief, damages for past infringement and increased damages for willful infringement. Each defendant has answered our complaints denying the claims and seeking to have the patent declared invalid. In addition, Novellus has counterclaimed for infringement of four of their patents: viz., U.S. Patent 6,179,983 “Method and Apparatus for Treating Surface Including Virtual Anode”; U.S. Patent 6,074,544 “Method of Electroplating Semiconductor Wafer Using Variable Currents and Mass Transfer to Obtain Uniform Plated Layer”; U.S. Patent 6,110,346 “Method of Electroplating Semiconductor Wafer Using Variable Currents and Mass Transfer to Obtain Uniform Plated Layer”; and U.S. Patent 6,162,344 “Method of Electroplating Semiconductor Wafer Using Variable Currents and Mass Transfer to Obtain Uniform Plated Layer”. On July 22, 2002, the District Court dismissed with prejudice Novellus’ counterclaim for infringement of U.S. Patent 6,179,983. The remaining counterclaims seek injunctive relief, damages for past infringement, increased damages for willful infringement and attorneys’ fees. We believe that the remaining counterclaims are without merit and we are contesting the actions vigorously. A trial date has been set for the suit against Applied Materials in February 2004, and in November 2004 for Novellus and Ebara. Given the inherent uncertainty of litigation, there can be no assurance that the ultimate outcome will be in our favor. If Novellus were to prevail in its counterclaims, it could have a material adverse effect on our business, financial condition, results of operations and cash flows. Further, regardless of the ultimate outcome, there can be no assurance that the diversion of management’s attention, and any costs associated with any of the lawsuits, will not have a material adverse effect on our business, financial condition, results of operations and cash flows.

        We are subject to other legal proceedings and claims which have arisen in the ordinary course of our business and have not been finally adjudicated. Although there can be no assurance as to the ultimate disposition of these matters, it is the opinion of our management, based upon the information available at this time, that the currently expected outcome of these matters, individually or in the aggregate, will not have a material adverse effect on our business, financial condition, results of operations and cash flows.

Item 4. Submission of Matters to a Vote of Security Holders

        No matters were submitted to the shareholders for a vote during the fourth quarter of the fiscal year.

PART II

Item 5. Market for Our Common Stock and Related Shareholder Matters

Our Common Stock is traded under the symbol “SMTL” principally on the Nasdaq National Market. The approximate number of shareholders of record at December 11, 2003 was 146 and the reported last sale price on that date of our common stock on the Nasdaq National Market was $10.98. The high and low sales prices for our common stock reported by the Nasdaq National Market are shown below.

Since our initial public offering of Common Stock in February of 1995, we have never declared or paid any cash dividend and we have no intent to do so in the near future.

Item 6. Selected Financial Data

This summary should be read in conjunction with the consolidated financial statements and related notes included elsewhere in this Annual Report on Form 10-K.

Summary Consolidated Financial Information
(in thousands, except per share data)

Item 7. Management’s Discussion and Analysis of Financial Condition andResults of Operations

        We design, manufacture, market, install and service our highly engineered equipment for use in the fabrication of semiconductor devices. Our products are focused on the wet chemical process steps in integrated circuit (IC) manufacturing and include systems for electrochemical deposition, wafer surface preparation and cleaning of wafer containers. Our electrochemical deposition systems are used for plating copper and gold for the IC’s internal wiring, or interconnects, solder and gold bumps for wafer level packaging applications and other metals for various semiconductor and related applications. The surface preparation systems are designed for wet cleaning, stripping and etching processes, including photoresist and polymer removal and metal etch. Typically, there are hundreds of manufacturing steps in fabricating semiconductor devices and after many of these steps a wet cleaning, stripping or etching process is required. Our customers include many of the major semiconductor device and wafer level packaging manufacturers worldwide.

        We provide worldwide sales, service and support primarily through our employees located in regional offices in the United States, Europe, Japan, Korea, and Singapore and through independent sales organizations for certain products in Taiwan, Japan and China. We expect that international sales will continue to account for a significant portion of net sales, particularly in Asia with the industry trend to outsourcing IC device manufacturing to foundries in that region, although the percentage of international sales and the geographic distribution may fluctuate from period to period.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

        Our discussion and analysis of our financial condition and results of operations is based upon our 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 us 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, we evaluate our estimates, including those related to revenue recognition, inventories, warranty obligations, bad debts, investments, intangible assets, income taxes, financing operations, contingencies and litigation. We base our 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.

        We believe the following critical accounting policies affect our more significant judgments and estimates used in the preparation of our consolidated financial statements.

Revenue Recognition
        Our revenue recognition policy, as discussed in Note 1 to the financial statements located in Item 8 below, is significant because revenue is a key component of our results of operations. In addition, revenue recognition determines the timing of certain expenses, such as cost of sales, installation, warranty and commission expenses. We follow specific guidelines in measuring revenue; however, certain judgments such as the definition of a new customer environment and new acceptance criteria or if installation is perfunctory may be required in the application of our revenue policy.

Inventories
        We write down the carrying value of inventories for estimated obsolescence and marketability based upon assumptions about future use, demand and market conditions. If actual future use, demand or market conditions are less favorable than those projected by us, additional inventory valuation write-downs may be required, as they were during fiscal 2003, when the introduction of a new product rendered certain inventory obsolete.

Warranty Obligations
        We provide for the estimated cost of product warranties at the time revenue is recognized. While we engage in extensive product quality programs and processes, including actively monitoring and evaluating the quality of our component suppliers, our warranty obligation is affected by product failure rates, material usage and service delivery costs incurred in correcting a product failure. Should actual product failure rates, material usage or service delivery costs differ from our estimates, revisions to the estimated warranty liability would be required.

Allowance for Doubtful Accounts
        We maintain allowances for doubtful accounts for estimated losses resulting from the inability of our customers to make required payments. If the financial condition of our customers were to deteriorate, due to the cyclicality of the industries we serve or for other reasons, resulting in an impairment of their ability to make payments, additional allowances may be required.

Impairment of Investments
        We record an investment impairment charge when we believe an investment has experienced a decline in value that is other than temporary. Future adverse changes in market conditions or poor operating results of underlying investments could result in losses or an inability to recover the carrying value of the investments that may not be reflected in an investment’s current carrying value, thereby possibly requiring an impairment charge in the future.

Deferred Tax Assets
        We make estimates to determine the amount of our deferred tax assets that we believe is more likely than not to be realized. We consider future taxable income and ongoing prudent tax planning strategies in assessing the need for a valuation allowance; however, should we determine that we will not be able to realize all or part of our net deferred tax asset in the future, a decrease in the deferred tax asset would negatively impact our results of operations in the period such determination was made.

Results of Operations

        The following table sets forth our consolidated results of operations for the periods indicated expressed as a percentage of net sales:

Results of Operations for the Fiscal Years Ended September 30, 2003, 2002 and 2001

Change in Accounting Principle
        In December 1999, the staff of the Securities and Exchange Commission, or SEC, issued staff accounting bulletin No. 101, “Revenue Recognition in Financial Statements”, or SAB 101. During the fourth quarter of fiscal 2001, we adopted SAB 101 retroactive to October 1, 2000. Under this method, revenue is recognized only when persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, the seller’s price is fixed or determinable and collectibility is reasonably assured. Our product sales generally contain substantive customer acceptance provisions. Sales of new products to new or existing customers are not recognized until customer acceptance. Likewise, sales of existing products to new customer environments are not recognized until acceptance. Sales of existing products into customer environments where the product has previously been accepted are treated as multiple element arrangements if multiple elements exist. The amount of revenue recognized in multiple element arrangements is the lesser of the fair value of the equipment or the contracted amount that was due upon title transfer. The revenue for elements other than equipment is recorded in deferred profit and is recognized when the remaining goods and/or services are delivered or performed. Revenue related to service is recognized upon completion of performance of the service or ratably over the life of the related service contract. Spare parts sales are recognized upon shipment.

        As a result of implementing SAB 101, the Company changed its method of accounting for revenue recognition. This change resulted in cumulative deferred revenue of $57.8 million as of October 1, 2000, which was recorded as a non-cash charge of $17.6 million after reduction for income taxes of $8.7 million, or a charge of $0.61 per share, to reflect the cumulative effect of the accounting change as of the beginning of fiscal 2001. The resulting deferred profit balance as of October 1, 2000 was $26.3 million. Deferred profit equals the amount of system revenue that was shipped, but deferred under SAB 101 less all applicable product, warranty and commission costs. Of the $26.3 million in deferred profit, the full amount was recognized in fiscal 2001. The change in revenue recognition did not affect our cash flow.

        Software revenue from the our wholly-owned subsidiary, Semy Engineering, Inc. was recognized when there was persuasive evidence of an arrangement, the software had been delivered, the price was fixed and determinable, and collectibility was probable in accordance with the AICPA’s Statement of Position 97-2 “Software Revenue Recognition.” We disposed of our software subsidiary in February 2001.

Consolidated Net Sales
        Consolidated net sales were $117.0 million for fiscal 2003, $123.7 million for fiscal 2002 and $256.5 million for fiscal 2001. This two year downward trend in sales reflects the state of the semiconductor and semiconductor equipment industries. Although there are signs that an industry upturn has begun, we are still cautious as to the timing and extent of an upturn in demand for our products. Customer purchases in fiscal 2003 and 2002 were primarily focused on newer technology products, especially single-wafer cleaning tools, rather than in fiscal 2001 where customers purchased products that also added to their manufacturing capacity. Product sales in fiscal 2003 continued the trends of fiscal 2002 to 300mm equipment and single-wafer platforms. Neither fiscal 2003 or 2002 included sale of software as compared to the $7.4 million in software sales in fiscal 2001. Those sales in fiscal 2001 occurred prior to February of that year when we sold our software division.

        In fiscal 2003, electrochemical deposition products contributed 25%, cleaning, stripping and etching products contributed 45% and parts, service and other contributed 30% to net sales compared to 34%, 40% and 26% contributed in fiscal 2002. This reflects normal year-to-year fluctuations.

        The geographic distribution of net sales in fiscal year 2003 was North America, 38.8%, Europe, 31.4%, and Asia, including Japan, 29.8%. While the relative proportion of international sales to total consolidated sales for fiscal 2003 is nearly unchanged from the previous fiscal year, the geographic mix has shifted. On a combined basis, sales in Japan and Korea declined nearly 17%, while the rest of Asia and Europe declined by lesser amounts. The geographic distribution of net sales in fiscal year 2002 was as follows: North America, 37.5%, Europe, 37.1%, and Asia, including Japan, 25.4%.

        Fiscal 2003 shipments totaled $95.9 million, compared to $123.8 million in fiscal 2002 and $229.4 million in fiscal 2001.

Orders Backlog
        Orders backlog decreased 27.9% to $19.9 million at September 30, 2003 from $27.6 million at September 30, 2002. Orders are generally subject to cancellation or rescheduling by customers with limited or no cancellation fees. In fiscal 2003, we experienced both cancellations and the forward rescheduling of equipment delivery dates by customers. Because of these factors and orders placed and shipped in the same quarter, our orders backlog is not necessarily indicative of actual revenue for any succeeding period.

Deferred Revenue
        Under the SAB 101 method of revenue recognition, certain revenues and their associated profit are deferred and recognized when customer acceptance is received. Deferred revenue at September 30, 2003 was $10.7 million, down 72.1% from fiscal 2002’s $38.3 million, as a result of lower shipment levels due to the downturn in the semiconductor industry.

Gross Profit
        Our gross margin for fiscal 2003 was 30.1%, compared to 47.8% in fiscal 2002 and 49.9% in fiscal 2001. The year-over-year decrease in gross margin from fiscal 2002 is primarily attributable to the write-down of $19.1 million in inventory due to obsolescence, which was caused by the introduction of a new product. The gross margin decrease from fiscal 2001 to fiscal 2002 was primarily attributable to reduced manufacturing overhead absorption, as a result of our lower operating levels, higher inventory obsolescence and changes in sales mix.

        Our gross margin has been and, we believe, will continue to be affected by a variety of factors, including the cost to manufacture, service and support new and enhanced products, inventory obsolescence, the mix and average selling prices of products sold and operating level.

Selling, General and Administrative
        Selling, general and administrative (SG&A) expenses include employment costs for sales, marketing, customer support and administrative personnel, travel, communications, sales, service and administrative office expenses and professional fees. SG&A expenses were $52.4 million, $60.5 million and $68.0 million for each of fiscal years 2003, 2002 and 2001. As a percentage of net sales, selling, general and administrative expenses were 44.8%, 48.9% and 26.5% for the same periods. The downward trend in SG&A expenses in absolute dollars from fiscal 2002 to fiscal 2003 is the result of continued cost control during the industry downturn. Reduced staffing and related expenses resulted in cost reductions, which were partially offset by increased legal expenses related to patent litigation.

        The decrease in absolute dollars in selling, general and administrative expenses from fiscal 2001 to fiscal 2002 is primarily the result of cost reductions, which include manpower reductions and lower sales commissions. These decreases were partially offset by a $4.4 million increase in legal expenses associated with ongoing patent litigation brought by us to protect our intellectual property.

Research and Development
        Research and development (R&D) expense consists of employment costs, project materials, laboratory costs, consulting fees, and other costs associated with our product development efforts. R&D expenses were $18.1 million for fiscal 2003, $23.1 million for fiscal 2002 and $27.5 million for fiscal 2001. As a percentage of net sales, research and development expenses were 15.5%, 18.7% and 10.7% for each of these years. The decline in fiscal 2003 R&D expenses as compared to fiscal 2002 is continued cost control in the form of staff reductions and related expenses. R&D projects in fiscal 2003 include the further development of our Raider products for single-wafer electrochemical deposition and single-wafer cleaning, stripping and etching in both 200mm and 300mm.

        The fiscal 2001 to 2002 year-over-year decrease in R&D costs was mainly due to a reduction in employee costs as manpower was reduced in response to the industry downturn. This reduction was partially offset by an increase in depreciation expense, as we updated our process development and demonstration laboratories. Fiscal 2002 R&D projects included enhancements to our Capsule processor and electrochemical deposition products, the development of the Sirius system and other projects focused on the industry technology trends toward smaller feature sizes and the transition to copper, wafer level packaging and 300mm.

        We believe that continued timely development of products is necessary to remain competitive in an equipment market characterized by rapid technological change and we expect to maintain a high level of product development investment.

Other Income (Expense), Net
        Other income (expense), net was income of $596,000 for fiscal 2003, $1.5 million for fiscal 2002 and $2.9 million for fiscal 2001. The primary components of other income, net in each of fiscal years 2003, 2002, and 2001 were a foreign exchange loss of $284,000, a foreign exchange gain of $364,000 and a foreign exchange loss of $46,000 and interest income of $590,000, $943,000 and $1.1 million, which were partially offset by interest expense of $205,000, $205,000, and $802,000. In fiscal 2001, we recorded a gain of $2.3 million on the sale of land and buildings that we owned in Cambridge, UK. The foreign exchange gains primarily consist of net gains and losses resulting from the re-measurement of our balance sheet amounts denominated in non-U.S. currencies into U.S. Dollars, which is our functional currency. The currency exchange gains and losses were due primarily to fluctuations of the U.S. Dollar against the Japanese Yen and the Euro.

Income Taxes
        The $13.5 million income tax benefit recorded in fiscal 2003 compares to an $8.7 million tax benefit in fiscal 2002 and a $23.2 million tax provision for fiscal 2001. The effective income tax rate for each of fiscal years 2003, 2002, and 2001 was 39.0%, 38.0%, and 34.9%. The anticipated tax rate for fiscal 2004 is 33.0%, but this expectation can be affected by tax legislation, geographic composition of our pretax income and research and experimentation credits as a percentage of pretax income. If we are not able to generate taxable income in fiscal 2004, our effective tax rate could go to zero as we may be unable to utilize operating losses generated. In this event, we would also need to write-down a portion or all of our net deferred tax assets of $6.6 million.

Liquidity and Capital Resources

        Cash and cash equivalents and marketable securities at September 30, 2003 were $27.9 million down $12.9 million from the beginning of the year. During fiscal 2003, cash used in operations was $10.1 million, which contrasts with fiscal 2002 when cash provided by operations was $2.0 million. The year-over-year change in cash from operations is primarily attributable to the net loss adjusted for non-cash benefits, most notably the inventory write-down of $19.1 million, depreciation and amortization and decreases in deferred tax assets. Changes in working capital accounts, notably decreases in trade receivables provided $16.5 million in cash, but were offset by an increase in income tax refund receivable of $8.4 million related to the net operating loss, and reductions in deferred profit of $15.2 million, the result of the industry-wide downturn.

        We expect future accounts receivable and inventory balances to fluctuate with net sales. As is customary in the semiconductor manufacturing equipment industry, products are generally built to fill specific customer orders, with typical order fulfillment times ranging from four to six weeks for certain products to six months or longer for more complex products. Accordingly, while our finished goods inventory accounts for 24.0% of total inventory at September 30, 2003, overall inventory levels tend to fluctuate with the level and type of orders received and order cancellations.

        Cash used in investing activities for fiscal 2003 was $788,000 as compared to cash used in investing activities of $6.7 million for the year ended September 30, 2002. Cash used to purchase plant, property and equipment in fiscal 2003 was $1.3 million and primarily included laboratory equipment. Consistent with our focus on product and process development, we further invested in our development and demonstration laboratories with a transfer of $2.6 million in finished goods inventory to plant, property and equipment in fiscal 2003. Cash invested in intangible assets, which primarily consisted of intellectual property rights, was approximately $1.5 million in fiscal 2003 compared to $1.7 million for fiscal 2002.

        Cash used in financing activities for fiscal 2003 primarily consisted of net repayments on long-term borrowings of $634,000 compared to $317,000 in long-term debt repayments in fiscal 2002. The exercise of stock options in fiscal 2003 provided $69,000 in cash compared to $255,000 in fiscal 2002.

        The following commitments as of September 30, 2003 have been included in the consolidated balance sheet and statement of operations included under Item 8. Financial Statements and Supplemental Data, with the exception of purchase order commitments which are properly excluded under general accepted accounting principles, and they are disclosed in the following table in order to provide a consolidated picture of our financial position and liquidity. We do not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. As such, we are not exposed to any financing, liquidity, market or credit risk that could arise if we had engaged in such relationships.

        Semitool has agreements with Mr. Raymon F. Thompson, the Company’s chairman, to lease aircraft and an aircraft hangar. Under these agreements, rent expense was approximately $2,094,000, $2,600,000 and $2,127,000 for the years ended September 30, 2003, 2002 and 2001, respectively. The current rental rate is approximately $175,000 per month for both the aircraft and the hangar; the lease terms are month-to-month and therefore are not included in the above table.

        As of September 30, 2003, our principal sources of liquidity consisted of approximately $23.0 million of cash and cash equivalents, $4.9 million in marketable securities, and ongoing operations. We believe that we have sufficient cash and cash equivalents, along with funds expected to be generated from operations to meet operating expenses and planned capital expenditures through fiscal 2004, and into the foreseeable future. We estimate capital expenditures will be between $3.0 to $5.0 million during fiscal 2004. We currently have an effective shelf registration statement, which registers the offer and sale of up to an aggregate $75 million of our securities. If additional financial resources are required in the future, we expect either to issue securities from the shelf registration statement, to issue other financial instruments or to obtain a suitable credit facility, whichever management deems advisable. However, there can be no assurance that in the future we will be able to issue additional common stock or other financial instruments or that we will be able to obtain a credit facility on acceptable terms.

Litigation

        We currently are involved in patent litigation which is described in Item 3, “Legal Proceedings”. Although we are not aware of any infringement by our products of any patents or proprietary rights of others, other than as alleged by Novellus, Inc., which is described in Item 3, “Legal Proceedings”, further commercialization of our products could provoke claims of infringement from third parties. In the future, litigation may be necessary to enforce patents issued to us, to protect trade secrets or know-how owned by us or to defend against claimed infringement of the rights of others and to determine the scope and validity of the proprietary rights of others. Any such litigation, including the litigation in which we currently are engaged, could result in substantial cost and diversion of our efforts, which by itself could have a material adverse effect on our business, financial condition, results of operations and cash flows. Further, adverse determinations in such litigation could result in our loss of proprietary rights, subject us to significant liabilities and damages to third parties, require us to seek licenses from third parties or prevent us from manufacturing or selling our products, any of which could harm our business, financial condition, results of operations and cash flows.

        We are subject to other legal proceedings and claims which have arisen in the ordinary course of our business and have not been finally adjudicated. Although there can be no assurance as to the ultimate disposition of these matters, it is the opinion of management, based upon the information available at this time, that the currently expected outcome of these matters, individually or in the aggregate, will not have a material adverse effect on our business, financial condition, results of operations and cash flows.

FACTORS THAT MIGHT AFFECT OUR FUTURE FINANCIAL RESULTS AND STOCK PRICE

        Set forth below are risks and uncertainties that could negatively impact our business, financial condition, results of operations and cash flows, and could cause actual results to differ materially from the results contemplated by the forward-looking statements contained in this Annual Report on Form 10-K. These risks and uncertainties could also cause our stock price to decline.

        Cyclicality in the semiconductor industry and the semiconductor equipment industry has historically led to substantial variations in demand for our products and may from time to time continue to do so.

        Our operating results are subject to significant variation due to the cyclical nature of the semiconductor industry. Our business depends upon the capital spending of semiconductor manufacturers, which, in turn, depend upon the current and anticipated market demand for semiconductors and products using semiconductors. The semiconductor industry recently experienced a downturn, which seriously affected our operating results. Typically, the semiconductor equipment industry experiences a more pronounced percentage decrease in revenues than the semiconductor industry as a whole.

        The semiconductor industry may continue to be depressed in fiscal 2004, and:

• demand in the semiconductor industry may continue to decline;
• any recovery of the semiconductor industry may not result in an increased demand by semiconductor manufacturers for capital equipment or our products; and
• the semiconductor industry may experience other, possibly more severe and prolonged, downturns in the future.

        Any failure of the semiconductor industry to fully recover from this downturn will harm our business, financial condition, results of operations and cash flows.

        Our quarterly operating results have varied in the past and probably will continue to vary significantly in the future, causing volatility in our stock price.

        Our quarterly operating results have varied significantly in the past and may continue to do so in the future, which could cause our common stock price to decline. Some of the factors that may influence our operating results and subject our common stock to price and volume fluctuations include:

• changes in customer demand for our systems, which is influenced by economic conditions and technological developments in the semiconductor industry;
• demand for products that use semiconductors;
• market acceptance of our systems and changes in our product offerings;
• size and timing of orders from customers;
• customer cancellations or delays in orders, shipments, and installations;
• customer delays or rejections of final acceptance of our shipments;
• changes in average selling price and product mix;
• failure to ship an anticipated number of tools in the quarter;
• product development costs, including research, development, engineering and marketing expenses associated with our introduction of new products and product enhancements;
• costs associated with protecting our intellectual property;
• level of our fixed expenses relative to our net sales; and
• currency exchange rate fluctuations.

        During any quarter, a significant portion of our net sales may be derived from the sale of a relatively small number of high value systems. The selling price of our systems range from under $100,000 to in excess of $2.8 million. Accordingly, a small change in the number and/or mix of tools we sell may cause significant changes in our operating results.

        Variations in the amount of time it takes for our customers to accept our systems may cause our operating results to fluctuate. Securities and Exchange Commission Staff Accounting Bulletin 101 (SAB 101) “Revenue Recognition in Financial Statements” provides guidance on the recognition of revenue for sales that involve contractual customer acceptance provisions and product installation commitments. Timing of revenue recognition from new systems, new customers and installation services is subject to the length of time required to achieve customer acceptance after shipment, which could cause our operating results to vary from period to period.

        In light of these factors and the cyclical nature of the semiconductor industry, we expect to continue to experience significant fluctuations in quarterly and annual operating results. Moreover, many of our expenses are fixed in the short-term which, together with the need for continued investment in research and development, marketing and customer support, limits our ability to reduce expenses quickly. As a result, net sales could decline and harm our business, financial condition, results of operations and cash flows, which could cause our operating results to be below the public market analysts’ or investors’ expectations and the market price of our stock could decline.

        We have experienced periods of rapid growth and decline in operating levels, and if we are not able to successfully manage these significant fluctuations, our business, financial condition and results of operations could be significantly harmed.

        We have experienced periods of significant growth and decline in net sales. Our net sales decreased 51.8% from approximately $256.5 million for fiscal year 2001 to approximately $123.7 million for fiscal year 2002 and then declined 5.4% to $117.0 million in fiscal 2003. In addition, our consolidated orders backlog decreased 27.9% from approximately $27.6 million at September 30, 2002 to $19.9 million at September 30, 2003. If we are unable to effectively manage periods of rapid sales growth or decline, our business, financial condition, results of operations and cash flows could be significantly harmed.

        Our deferred revenue and orders backlog may not result in future net sales.

        Following the revenue recognition guidance provided in SAB 101, revenue and the associated profit from the sale of newly introduced systems, systems sales to new customers and substantive installation obligations that are subject to contractual customer acceptance provisions are deferred until the customer has acknowledged their acceptance of the system. If the system does not meet the agreed specifications and the customer refuses to accept the system, the deferred revenue and associated deferred profit will not be realized and we may be required to refund any cash payments previously received from the customer, which may harm our business, financial condition, results of operations and cash flows.

        Order backlog does not necessarily include all sales needed to achieve net revenue expectations for a subsequent period. We schedule the production of our systems based in part upon order backlog. Due to possible customer changes in delivery schedules and cancellations of orders, our backlog at any particular date is not necessarily indicative of actual sales for any succeeding period. In addition, while we evaluate each customer order on a case-by-case basis to determine qualification for inclusion in backlog, there can be no assurance that amounts included in backlog will ultimately result in future sales. A reduction in backlog during any particular period, or the failure of our backlog to result in future sales, could harm our business, financial condition, results of operations and cash flows.

        Our ability to reduce costs is limited by our ongoing need to invest in research and development and to maintain a high level of customer service and support.

        Our industry is characterized by the need for continued investment in research and development as well as a high level of worldwide customer service and support. As a result of our need to maintain spending levels in these areas, our operating results could be materially harmed if our net sales fall below expectations. In addition, because of our emphasis on research and development and technological innovation, our operating costs may increase further in the future, which could have a negative impact on our results of operations and cash flow in any given period.

        We currently do not maintain a credit facility but rely on cash reserves and cash flow to finance our operations.

        We elected not to renew our $40 million credit facility in October 2001 and decided to rely on our cash reserves and expected cash flow to finance our operations. If there is a future need for a credit facility to finance current operations or growth, there is no assurance that we will be able to obtain a facility on reasonable terms to meet our needs.

        We depend on our key customers and we do not have long-term contracts with these or any other customers.

        Our ten largest customers accounted for approximately 58.4% of net sales in fiscal 2003, 58.6% of net sales in fiscal 2002 and 38.7% in fiscal 2001. There is a limited number of mostly large companies operating in the highly concentrated, capital intensive semiconductor industry. Accordingly, we expect that we will continue to depend on a relatively small number of large companies for a significant portion of our net sales. Although the composition of the group of largest customers may change from year to year, the loss of, or a significant curtailment of purchases by, one or more of our key customers or the delay or cancellation of a large order could cause our net sales to decline significantly, which would harm our business, financial condition, results of operations and cash flows. Similarly, delays in payments by large customers could have a significant impact on our cash flows.

        Our dependence on key suppliers could delay shipments and increase our costs.

        Some components and subassemblies included in our products are obtained from a single source or a limited group of suppliers. The loss of, or disruption in, shipments from these sole or limited source suppliers could in the short-term adversely affect our business and results of operations. Further, a significant increase in the price of one or more of these components could harm our business, financial condition, results of operations and cash flows.

        Our future success depends on international sales.

        Our net sales attributable to customers outside the United States as a percentage of our total net sales were approximately 61.4% in fiscal 2003, 62.6% in fiscal 2002 and 63.8% in fiscal 2001. We expect net sales outside the United States to continue to represent a significant portion of our future net sales. Sales to customers outside the United States are subject to various risks, including:

• exposure to currency fluctuations and related derivatives used to hedge such fluctuations;
• exposure of foreign accounts to foreign exchange translations;
• political and economic instability, including terrorism;
• unexpected changes in regulatory requirements in each of the countries outside the United States in which we operate;
• tariffs and other market barriers in each of the countries outside the United States in which we operate;
• potentially adverse tax consequences in each of the countries outside the United States in which we operate;
• outbreaks of hostilities, particularly in Israel, Korea or Taiwan;
• difficulties in managing foreign sales representatives and distributors in each of the countries outside the United States in which we operate; and
• difficulties in staffing and managing foreign branch operations in each of the countries outside the United States in which we operate.

        A substantial portion of our international sales are denominated in U.S. Dollars. Therefore, if the U.S. Dollar rises in value in relation to foreign currencies, our systems will become more expensive to customers outside the United States and less competitive with systems produced by competitors outside the United States. Such conditions could negatively impact our international sales.

        Although we endeavor to meet technical standards established by foreign standards setting organizations, there can be no assurance that we will be able to comply with changes in foreign standards in the future.

        Variations in the amount of time it takes for us to sell our systems may cause fluctuations in our operating results, which could cause our stock price to decline.

        Variations in the length of our sales cycles could cause our net sales, and thus our business, financial condition, results of operations and cash flows, to fluctuate widely from period to period. This variation could cause our stock price to decline. Our customers generally take a long time to evaluate many of our products before committing to a purchase. We expend significant resources educating and providing information to our prospective customers regarding the uses and benefits of our systems. The length of time it takes us to make a sale depends upon many factors, including:

• the efforts of our sales force and our independent sales representatives and distributors;
• the complexity of the customer's fabrication processes;
• the internal technical capabilities and sophistication of the customer; and
• capital spending by our customers.

        Because of the number of factors influencing the sales cycle, the period between our initial contact with a potential customer and the time when we recognize revenue from that customer, if ever, varies widely in length. Our sales cycle typically ranges from one month to two years. Occasionally our sales cycle can be even longer, particularly with our international customers and new technologies. The subsequent build cycle, or the time it takes us to build a product to customer specifications after receiving an order, typically ranges from one to six months. During these cycles, we commit substantial resources to our sales efforts in advance of receiving any revenue, and we may never receive any revenue from a customer despite our sales efforts.

        When a customer purchases one of our systems, that customer often evaluates the performance of the system for a lengthy period before considering the purchase of more systems. The number of additional products a customer may purchase from us, if any, often times depends on many factors, including a customer’s capacity requirements. The period between a customer’s initial purchase and subsequent purchases, if any, often varies from two to twelve months or longer, and variations in length of this period could cause further fluctuations in our business, financial condition, results of operations, cash flows, and possibly our stock price.

        Intense competition in the markets in which we operate may adversely affect our market share and reduce demand for our products.

        We face substantial competition from established competitors, some of which have:

• greater financial, marketing, technical and other resources;
• broader and integrated product lines;
• more extensive customer support capabilities; and
• larger sales organizations and customer bases.

        We may also face competition from new market entrants. Our ability to compete successfully in the future depends on a number of factors, including:

• system performance, quality and reliability;
• cost of using our products;
• ability to ship products in the time required;
• timeliness and quality of technical support service;
• our success in developing new and enhanced products; and
• the price of our products compared to our competitors' products.

        Due to intense competitive conditions in the semiconductor equipment industry, we have from time to time selectively reduced prices on our systems in order to protect our market share, and competitive pressures may necessitate further price reductions. Our competitors are likely to announce the introduction of new products or lower prices which will affect the prices of our systems and the level of discounts we grant our customers. To the extent that any of our semiconductor equipment systems are not distinguished from those of our competitors by significant technological advantages, we may experience increased price competition or loss of market share with respect to those systems.

        Moreover, there has been significant merger and acquisition activity among our competitors and potential competitors. These combinations may provide such competitors and potential competitors with a competitive advantage over us by enabling them to more rapidly expand their product offerings and service capabilities to meet a broader range of customer needs. Many of our customers and potential customers are relatively large companies that require global support and service for their semiconductor manufacturing equipment. Our larger competitors have more extensive infrastructures, which could place us at a disadvantage when competing for the business of global semiconductor device manufacturers.

        We expect our competitors to continue to improve the design and performance of their products. There can be no assurance that our competitors will not develop enhancements to, or future generations of, competitive products that will offer superior price, performance and/or cost of ownership features, or that new processes or technologies will not emerge that render our products less competitive or obsolete. As a result of the substantial investment required to integrate capital equipment into a production line, we believe that once a manufacturer has selected certain capital equipment from a particular vendor, there is a tendency for the manufacturer to rely upon that vendor to provide equipment for the specific production line application and may seek to rely upon that vendor to meet other capital equipment requirements. Accordingly, we may be at a competitive disadvantage for a protracted period of time with respect to a particular customer if that customer utilizes a competitor’s manufacturing equipment.

        There can be no assurance that we will be able to compete successfully in the future.

        If we deliver systems with defects, our credibility may be harmed, sales and market acceptance of our systems may decrease and we may incur liabilities associated with those defects.

        Our systems are complex and sometimes have contained errors, defects and software bugs when introduced. If we deliver systems with errors, defects or software bugs, our credibility and the market acceptance and sales of our systems could be harmed. Further, if our systems contain errors, defects or software bugs, we may be required to expend significant capital and resources to alleviate such problems. Defects could also lead to commercial and/or product liability as a result of lawsuits against us or against our customers. We have agreed to indemnify our customers in some circumstances against liability arising from defects in our systems. Our product and commercial liability policy currently provides only limited coverage per claim. In the event of a successful product liability and/or commercial claim, we could be obligated to pay damages, which are not covered by that insurance or which are significantly in excess of our insurance limits.

        Rapid technological change could make our products and inventories obsolete or unmarketable for specific applications.

        We operate in an industry that is subject to evolving industry standards, rapid technological changes, rapid changes in customer demands and the rapid introduction of new, higher performance systems with shorter product life cycles. As a result, we expect to continue to make significant investments in research and development. Although, historically, we have had adequate funds from operations to devote to research and development, there can be no assurance that such funds will be available in the future or, if available, that they will be adequate.

        Introductions of new products by us or our competitors could adversely affect sales of our existing products and cause these existing products and related inventories to become obsolete or unmarketable for specific purposes. There can be no assurance that we will be able to develop and introduce new products or enhancements to our existing products on a timely basis or in a manner which satisfies customer needs or achieves widespread market acceptance. Any significant delay in releasing new systems could adversely affect our reputation, give a competitor a first-to-market advantage or allow a competitor to achieve greater market share. These effects of rapid technological change could harm our business, financial condition, results of operations and cash flows.

        Failure of our products to gain market acceptance would adversely affect our financial condition and our ability to provide customer service and support.

        We believe that our growth prospects depend upon our ability to gain customer acceptance of our products and technology. Market acceptance of products depends upon numerous factors, including compatibility with existing manufacturing processes and products, perceived advantages over competing products and the level of customer service available to support such products. Moreover, manufacturers often rely on a limited number of equipment vendors to meet their manufacturing equipment needs. As a result, market acceptance of our products may be adversely affected to the extent potential customers utilize a competitor’s manufacturing equipment. There can be no assurance that growth in sales of new products will continue or that we will be successful in obtaining broad market acceptance of our systems and technology.

        We expect to spend a significant amount of time and resources to develop new products and refine existing products. In light of the long product development cycles inherent in our industry, these expenditures will be made well in advance of the prospect of deriving revenue from the sale of any new systems. Our ability to commercially introduce and successfully market any new products is subject to a wide variety of challenges during this development cycle, including start up delays, design defects and other matters that could delay the introduction of these systems to the marketplace. In addition, since our customers are not obligated by long-term contracts to purchase our systems, our anticipated product orders may not materialize, or orders that do materialize may be cancelled. As a result, if we do not achieve market acceptance of new products, we may not be able to realize sufficient sales of our systems in order to recoup research and development expenditures. The failure of any of our new products to achieve market acceptance would harm our business, financial condition, results of operations and cash flows.

        Compliance with environmental regulations may be very costly, and the failure to comply could result in liabilities, fines and cessation of our business.

        We are subject to a variety of governmental regulations related to the discharge or disposal of toxic, volatile or otherwise hazardous chemicals. Current or future regulations could require us to purchase expensive equipment or to incur other substantial expenses to comply with environmental regulations. Any failure by us to control the use of, or adequately restrict the discharge or disposal of, hazardous substances could subject us to future liabilities, result in fines being imposed on us, or result in the suspension of production or cessation of our manufacturing operations.

        If the protection of our proprietary rights is inadequate, our business could be harmed.

        We place a strong emphasis on the technically innovative features of our products and, where available, we generally seek patent protection for those features. We currently hold 215 U.S. patents, some with pending foreign counterparts, have 190 U.S. patent applications pending and intend to file additional patent applications, as we deem appropriate. There can be no assurance that patents will issue from any of our pending applications or that existing or future patents will be sufficiently broad to protect our technology. While we attempt to protect our intellectual property rights through patents, copyrights and non-disclosure agreements, there can be no assurance that we will be able to protect our technology, or that competitors will not be able to develop similar technology independently. In addition, the laws of certain foreign countries may not protect our intellectual property to the same extent as the laws of the United States. Moreover, there can be no assurance that our existing or future patents will not be challenged, invalidated or circumvented, or that the rights granted thereunder will provide meaningful competitive advantages to us. In any of such events, our business, financial condition, results of operations and cash flows could be harmed.

        There has been substantial litigation regarding patent and other intellectual property rights in semiconductor-related industries. We currently are involved in patent litigation which is described in Item 3. Legal Proceedings. Although we are not aware of any potential infringement by our products of any patents or proprietary rights of others (other than as alleged by Novellus, Inc., which is described in Item 3. Legal Proceedings), further commercialization of our products could provoke claims of infringement from third parties.

        In addition, we rely on trade secret protection for our technology, in part through confidentiality agreements with our employees, consultants and third parties. However, employees may breach these agreements, and we may not have adequate remedies for any breach. In any case, others may come to know about or determine our trade secrets through a variety of methods.

        From time to time, we receive invitations to take a license to other parties’ patents or to grant a license on our technology. We evaluate these potential transactions on an individual case-by-case basis. Offers to us to take a license that are rejected by us could lead to an offeror making a claim of infringement.

        Now and in the future, litigation may be necessary to enforce patents issued to us, to protect trade secrets or know-how owned by us or to defend us against claimed infringement of the rights of others and to determine the scope and validity of the proprietary rights of others. Any such litigation, including the litigation in which we currently are engaged, could result in substantial cost and diversion of effort by us, which by itself could have a material adverse effect on our financial condition, results of operations and cash flows. Further, adverse determinations in such litigation could result in our loss of proprietary rights, subject us to significant liabilities and damages to third parties, require us to seek licenses from third parties or prevent us from manufacturing or selling our products, any of which could harm our business, financial condition, results of operations and cash flows.

        Our efforts to protect our intellectual property may be less effective in some foreign countries where intellectual property rights are not as well protected as in the United States.

        In fiscal 2003, approximately 61.4% of our net sales were derived from sales in foreign countries, including certain countries in Asia such as Taiwan, Japan, China and Korea. The laws of some foreign countries do not protect our proprietary rights to as great an extent as do the laws of the United States, and many U.S. companies have encountered substantial problems in protecting their proprietary rights against infringement in such countries, some of which are countries in which we have sold and continue to sell systems. For example, Taiwan is not a signatory to the Patent Cooperation Treaty, which is designed to specify rules and methods for defending intellectual property internationally. In Taiwan, the publication of a patent prior to its filing would invalidate the ability of a company to obtain a patent. Similarly, in contrast to the United States where the contents of patents remain confidential during the patent prosecution process, the contents of a patent are published upon filing which provides competitors an advanced view of the contents of a patent application prior to the establishment of patent rights. There is a risk that our means of protecting our proprietary rights may not be adequate in these countries. Our competitors in these countries may independently develop similar technology or duplicate our systems. If we fail to adequately protect our intellectual property in these countries, it would be easier for our competitors to sell competing products in those countries.

        Anti-takeover provisions in our charter documents could adversely affect the rights of the holders of our common stock.

        The anti-takeover provisions of Montana law and our Articles of Incorporation and Bylaws may make a change of control of Semitool difficult, even if a change of control would be beneficial to our shareholders. Our Articles of Incorporation authorize our Board of Directors to issue preferred stock in one or more series and to fix the rights, preferences, privileges and restrictions granted to or imposed upon any unissued shares of preferred stock and to fix the number of shares constituting any series and the designations of such series, without further vote or action by the shareholders. Although we have no present plans to issue any preferred stock, we view the authorized preferred stock as a financing vehicle. In addition, under Montana law and our charter documents, our Board of Directors may adopt additional anti-takeover measures in the future.

        Any anti-takeover provisions, including any issuance of preferred stock, could have the effect of discouraging a third party from making a tender offer or otherwise attempting to gain control of us. In addition, these provisions could limit the price that investors might be willing to pay in the future for shares of our common stock.

        We must attract and retain key personnel to help direct and support our future growth. Competition for such personnel in our industry can be high.

        Our success depends to a significant degree upon the continued contributions of our key management, engineering, sales and marketing, customer support, finance and manufacturing personnel. The loss of any of these key personnel, particularly our Chairman, President and Chief Executive Officer Raymon F. Thompson, who would be extremely difficult to replace, could harm our business and operating results. We do not have key person life insurance on any of our executives. In addition, at times in our industry, we have often experienced significant employee attrition, and we may experience further attrition due to the current downturn. Further, to support future growth, we will need to attract and retain additional qualified employees. Competition for such personnel can be intense, and we may not be successful in attracting and retaining qualified senior executives and other employees.

        We manufacture substantially all of our equipment at a single facility and any prolonged disruption in the operations of that facility could have a material adverse effect on our net sales.

        We manufacture substantially all of our equipment in our primary manufacturing facility located in Kalispell, Montana. Our manufacturing processes are highly complex and require sophisticated and costly equipment and a specially designed facility. As a result, any prolonged disruption in the operations of our manufacturing facility, whether due to technical or labor difficulties, destruction or damage as a result of a fire or any other reason, could seriously harm our ability to satisfy our customer order deadlines. If we cannot timely deliver our systems, our net sales could suffer a material adverse effect.

        Our stock price may be volatile and our common stock may be thinly traded, which could cause investors to lose a substantial part of their investments in our common stock.

        The stock market in general, and the stock prices of technology companies in particular, have experienced volatility which has often been unrelated to the operating performance of any particular company or companies. If market or industry-based fluctuations continue, our common stock price could decline regardless of our actual operating performance and investors could lose a substantial part of their investments. The market price of our common stock will likely fluctuate in response to a number of factors, including the following:

• variations in our operating results;
• announcements by us or our competitors of significant contracts or acquisitions;
• our failure to meet management guidance on financial performance or the performance estimates of securities analysts;
• changes in financial estimates of our net sales and operating results by management or securities analysts;
• stock market price and volume fluctuations attributable to inconsistent trading volume levels; and
• general stock market conditions.

        We could be subject to class action litigation due to stock price volatility, which, if it occurs, will distract our management and could result in substantial costs or large judgments against us.

        In the past, securities class action litigation has often been brought against companies following periods of volatility in the market prices of their securities. Securities litigation could result in substantial costs and divert our management’s attention and resources, which could cause harm to our business, financial condition, results of operations and cash flows.

New Accounting Pronouncements

        In June of 2001, the FASB issued SFAS No. 143, “Accounting for Asset Retirement Obligations.” The statement provides accounting and reporting standards for recognizing obligations related to asset retirement costs associated with the retirement of tangible long-lived assets. Under this statement, obligations associated with the retirement of long-lived assets are to be recognized at their fair value in the period in which they are incurred if a reasonable estimate of fair value can be made. The fair value of the asset retirement costs is capitalized as part of the carrying amount of the long-lived asset and subsequently allocated to expense using a systematic and rational method over the assets’ useful life. Any subsequent changes to the fair value of the liability due to passage of time or changes in the amount or timing of estimated cash flows is recognized as an accretion expense. We will be required to adopt this statement on October 1, 2003. The adoption of this statement will not have a significant impact on our results of operations, financial position or cash flows.

Item 7A. Quantitative and Qualitative Disclosures About Market Risk

Market Risks

        Market risks relating to our operations result primarily from changes in interest rate and changes in foreign currency exchange rates.

        As of September 30, 2003, we had approximately $2.6 million in long-term debt and no short-term debt. Our long-term debt bears interest at a fixed rate. As a result, changes in the fixed rate interest market would change the estimated fair value of the fixed rate long-term debt. However, we believe that a 10% change in the long-term interest rate would not have a material effect on our business, financial condition, results of operations or cash flows.

        All of our international operations are subject to inherent risks in conducting business abroad, including fluctuation in the relative value of currencies. We manage this risk and attempt to reduce such exposure through an economic hedge using short-term forward exchange contracts. At September 30, 2003, we held forward contracts to sell Japanese Yen with a total face value of $1.04 million, a total market value of $1.10 million and a total unrealized loss of approximately $60,000. However, the impact of movements in currency exchange rates on forward contracts is offset to the extent of receivables denominated in Japanese Yen. The effect of a 10% change in foreign exchange rates on hedged transactions involving Japanese Yen forward exchange contracts and the underlying transactions would not be material to our financial condition, results of operations or cash flows. We do not hold or issue derivative financial instruments for trading or speculative purposes.

Item 8. Financial Statements and Supplementary Data

SEMITOOL, INC.
CONSOLIDATED BALANCE SHEETS
September 30, 2003 and 2002
(Amounts in Thousands, Except Share Amounts)

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

SEMITOOL, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
For the years ended September 30, 2003, 2002 and 2001
(Amounts in Thousands, Except Per Share Amounts)

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

SEMITOOL, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
For the years ended September 30, 2003, 2002 and 2001
(Amounts in Thousands)

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

SEMITOOL, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the years ended September 30, 2003, 2002 and 2001
(Amounts in Thousands)

SEMITOOL, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS, CONTINUED
For the years ended September 30, 2003, 2002 and 2001
(Amounts in Thousands)

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

SEMITOOL, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
For the years ended September 30, 2003, 2002 and 2001
(Amounts in Thousands)

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

SEMITOOL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. Company Organization and Summary of Significant Accounting Policies:

Semitool, Inc. (Semitool) designs, manufactures, markets and supports single-wafer and batch wet chemical processing systems used in the fabrication of semiconductor devices. The Company’s primary suites of equipment include electrochemical deposition systems for electroplating copper, gold, solder and other metals; surface preparation systems for cleaning, stripping and etching silicon wafers; and wafer transport container cleaning systems. The Company’s equipment is used in semiconductor fabrication front-end and back-end processes, including wafer level packaging.

Significant accounting policies followed by the Company are:

Principles of Consolidation

The consolidated financial statements include the accounts of Semitool and its wholly-owned subsidiaries: Semitool Europe Ltd., (United Kingdom); Semitool Halbleitertechnik Vertriebs GmbH, (Germany); Semitool France SARL; Semitool Italia SRL; Semitool Japan Inc.; Semitool Korea, Inc.; Semitool (Asia) Pte Ltd., (Singapore); Semitool FSC, Inc.; and Rhetech, Inc.

All significant intercompany accounts and transactions are eliminated in consolidation.

Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the dates of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Actual results inevitably will differ from those estimates, and such differences may be material to the consolidated financial statements.

Cash Equivalents

The Company considers all highly liquid debt instruments with original maturities of ninety days or less to be cash equivalents.

Marketable Securities

The Company classifies its marketable securities as available-for-sale in accordance with the provision of the Statement of Financial Accounting Standard (“SFAS”) No. 115, “Accounting for Certain Investments in Debt and Equity Securities.” Securities classified as available-for-sale are reported at fair market value with the related unrealized gains and losses included, net of tax, in accumulated other comprehensive income (loss) (“OCI”). Realized gains and losses and declines in value of securities judged to be other than temporary are included in earnings.

Derivatives

The Company uses derivative instruments to manage some of its exposures to foreign currency risks. The objective for holding derivatives is to minimize these risks using the most effective methods to eliminate or reduce the impact of these exposures. The Company uses cash flow hedge accounting in accordance with SFAS 133 to account for hedges. At the inception of the hedge, the hedging relationship to a forecasted transaction, risk management objective and the strategy for undertaking the hedge is documented. Quarterly, forward rates are used to evaluate hedging effectiveness. If the derivative no longer meets hedge accounting criteria, or the terms of the hedged item change so the derivative no longer qualifies for hedge accounting, the derivative is marked-to-market. Any amounts in OCI relating to a derivative that no longer qualifies for hedge accounting are transferred out of OCI and reported in earnings during the period in which hedge accounting no longer applies. At maturity or termination the gain or loss on the derivative is calculated and reported in earnings.

Certain forecasted transactions and assets are exposed to foreign currency risk. The Company monitors foreign currency exposures regularly to maximize the overall effectiveness of the foreign currency hedge positions. The only currency hedged is the Japanese yen. Forward contracts used to hedge forecasted international sales on credit for up to eighteen months in the future are designated as cash flow hedging instruments. Derivative gains and losses included in OCI are reclassified when forecasted transactions become receivables. During the fiscal year ended September 30, 2003, the amount transferred from OCI to Other income (expense), net, was not material. We estimate that all $55,000 of net derivative losses included in OCI will be reclassified into earnings within the next twelve months.

All derivatives, whether designated in hedging relationships or not, are recorded on the balance sheet at fair value. If the derivative is designated a fair value hedge, the changes in the fair value of the derivative and of the hedged item attributable to the hedged risk are recognized in earnings. If the derivative is designated as a cash flow hedge, the effective portions of changes in the fair value of the derivative are recorded in OCI and are recognized in earnings when the cash flow hedge ceases.

Ineffective portions of changes in the fair value of cash flow hedges are recognized in earnings. Hedge ineffectiveness, determined in accordance with SFAS 133, had no impact on earnings for the fiscal year ended September 30, 2003. Two cash flow hedges were discontinued during the fiscal year ended September 30, 2002, with an impact on earnings of ($3,275).

Inventories

Inventories are carried at the lower of first-in, first-out (FIFO) cost or market. The Company periodically reviews its inventories to identify slow moving and obsolete inventories and to record such inventories at net realizable values. In the fourth quarter of fiscal 2003, the Company wrote down inventory by $19.1 million primarily due to a change in forecasted demand for certain of our products due to the successful introduction of our new Raider platform. It is reasonably possible that the Company’s estimates of net realizable values could be revised in the near term due to technological and other changes.

Property, Plant and Equipment

Property, plant and equipment is stated at cost. Depreciation and amortization is provided using the straight-line method with estimated useful lives as follows:

Major additions and betterments are capitalized. Costs of maintenance and repairs which do not improve or extend the lives of the respective assets are expensed when incurred. When items are disposed of, the related costs and accumulated depreciation are removed from the accounts and any gain or loss is recognized.

Impairment of Long-Lived Assets

We evaluate the carrying value of our long-lived assets whenever events or changes in circumstances indicate that the carrying value of the asset may be impaired in accordance with the provisions of Statement of Financial Accounting Standard No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” An impairment loss is recognized when estimated future cash flows expected to result from the use of the asset including disposition, is less than the carrying value of the asset.

Intangible Assets

Intangible assets include legal costs associated with obtaining patents and, in fiscal 2001, the cost of internally developed software for sale to our customers.

Costs incurred for internally developed software products and enhancements after technological feasibility and marketability had been established for the related product were capitalized and were stated at the lower of cost or net realizable value. Amortization was provided based on the greater of the amount computed using (a) the ratio that current gross revenues for a product bears to the total of current and anticipated future gross revenues for that product, or (b) the straight-line method over the remaining economic life of the product, estimated at three years. No software costs were capitalized in fiscal 2003, 2002, and 2001 and no capitalized software remained on the balance sheet as of September 30, 2003 and 2002.

The cost of patents is amortized on a straight-line basis over seven years. In the fourth quarter of fiscal 2003, the Company wrote down patents for which there was no expected future benefit by $384,000.

Revenue Recognition

In December 1999, the staff of the Securities and Exchange Commission (SEC) issued Staff Accounting Bulletin No. 101 (SAB 101), “Revenue Recognition in Financial Statements.” During the fourth quarter of fiscal 2001, the Company adopted SAB 101 retroactive to October 1, 2000. Under this method, revenue is recognized only when persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, the seller’s price is fixed or determinable and collectibility is reasonably assured. Our product sales generally contain substantive customer acceptance provisions. Sales of new products to new or existing customers are not recognized until customer acceptance. Likewise, sale of existing products to new customer environments are not recognized until acceptance. Sales of existing products into existing customer environments are treated as multiple element arrangements in accordance with Emerging Issues Task Force Issue No. 00-21, “Accounting for Revenue Arrangements with Multiple Deliverables”, if multiple elements exist. The amount of revenue recognized in multiple element arrangements is the lesser of the fair value of the equipment or the contracted amount that was due or payable upon title transfer. The revenue for elements other than equipment is recorded in deferred profit and is recognized when the remaining goods and/or services are delivered or performed. Revenue related to service is recognized upon completion of performance of the service or ratably over the life of the related service contract. Spare parts sales are recognized upon shipment when title and risk of loss pass to the customer.

As a result of implementing SAB 101, the Company changed its method of accounting for revenue recognition. This change resulted in a cumulative deferred revenue of $57.8 million as of October 1, 2000, which was recorded as a non-cash charge of $17.6 million (after reduction for income taxes of $8.7 million), or a charge of $0.61 per share, to reflect the cumulative effect of the accounting change as of the beginning of fiscal 2001. The deferred profit balance as of October 1, 2000 was $26.3 million. Deferred profit equals the amount of system revenue that was shipped, but deferred under SAB 101 less all applicable product, warranty and commission costs. Of the $26.3 million in deferred profit, the full amount was recognized in fiscal 2001. The change in revenue recognition did not affect the Company’s cash flow.

Software revenue from our wholly-owned subsidiary, Semy Engineering, Inc. was recognized when there was persuasive evidence of an arrangement, the software had been delivered, the price was fixed and determinable, and collectibility was probable in accordance with the AICPA’s Statement of Position 97-2 “Software Revenue Recognition.” We sold our software subsidiary in February 2001.

Accrued Warranty

The Company’s obligations for warranty are accrued concurrently with the revenue recognized. The Company has made a provision for its warranty obligations based upon historical costs incurred for such obligations adjusted, as necessary, for current conditions and factors. Due to the significant uncertainties and judgments involved in estimating the Company’s warranty and installation obligations, including changing product designs and specifications, the ultimate amount incurred for warranty and installation costs could change in the near term from the Company’s current estimate.

Foreign Currency

The functional currency for most of the Company’s foreign subsidiaries is the U.S. Dollar. For these foreign operations, realized gains and losses from foreign currency transactions and unrealized gains and losses from re-measurement of the financial statements of the foreign operations into the functional currency are included in the consolidated statements of operations.

Semitool Japan Inc., has the Yen as its functional currency and invoices its customers in Yen. A loss of $49,000 in 2003, and gains of $5,000, and $203,000 in 2002 and 2001 are included in Other Income (Expense) in the Consolidated Statements of Operations and unrealized gains and losses from remeasurement of the financial statements are reflected as a component of Other Comprehensive Income (Loss).

Research and Development Costs

Costs of research and development are expensed as incurred.

Earnings (Loss) Per Share

Basic earnings per share is computed using the weighted average number of common shares outstanding. Diluted earnings per share is computed using the weighted average number of common shares outstanding and potential common shares, except when they are antidilutive. Potential shares result from the assumed exercise of outstanding stock options. Diluted earnings (loss) per share excludes the effects of antidilutive stock options of 1,531,115, 1,396,235 and 119,700 in fiscal 2003, 2002 and 2001, respectively.

The following table sets forth the computation of basic and diluted earnings (loss) per common share for the years ended September 30, 2003, 2002 and 2001 (in thousands):

Stock-Based Compensation

The Company has adopted the disclosure-only provisions of Statement of Financial Accounting Standards No. 123 (SFAS No. 123) “Accounting for Stock-Based Compensation” as amended by SFAS No. 148 “Accounting for Stock-Based Compensation Transition and Disclosure.” Had compensation cost for the Option Plan been determined based on the fair value consistent with the provisions of SFAS No. 123, the Company’s net income (loss) and earnings (loss) per share would have been changed to the pro forma amounts shown below (in thousands, except for per share amounts):

The fair value of each option grant is estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted-average assumptions used for grants in 2003, 2002 and 2001, respectively: dividend yield of 0% for all years; expected volatility of 80.0%, 77.0% and 80.0%; risk-free interest rates of 2.8%, 4.0% and 5.1%; and expected lives of 4.8, 4.7 and 4.8 years. The weighted-average fair value of stock options granted during the years ended September 30, 2003, 2002 and 2001, was $2.60, $5.56 and $6.08, respectively.

New Accounting Pronouncements

In June of 2001, the FASB issued SFAS No. 143, “Accounting for Asset Retirement Obligations.” The statement provides accounting and reporting standards for recognizing obligations related to asset retirement costs associated with the retirement of tangible long-lived assets. Under this statement, obligations associated with the retirement of long-lived assets are to be recognized at their fair value in the period in which they are incurred if a reasonable estimate of fair value can be made. The fair value of the asset retirement costs is capitalized as part of the carrying amount of the long-lived asset and subsequently allocated to expense using a systematic and rational method over the assets’ useful life. Any subsequent changes to the fair value of the liability due to passage of time or changes in the amount or timing of estimated cash flows is recognized as an accretion expense. The Company will be required to adopt this statement on October 1, 2003. The adoption of this statement will not have a significant impact on the Company's results of operations, financial position or cash flows.

2. Securities Available-For-Sale

Securities available-for-sale consist of the following (in thousands):

Cash and cash equivalents included investments in debt instruments and other securities of $2.8 million and $6.7 million at September 30, 2003 and September 30, 2002, respectively.

Contractual maturities of short-term investments at September 30, 2003 and 2002 were all due in less than one year. Gross realized gains or losses were immaterial on sales of available-for-sale securities for fiscal 2003 and 2002. Semitool manages its cash equivalents and short-term investments as a single portfolio of highly marketable securities that is intended to be available to meet our current cash requirements.

3. Inventories:

Inventories at September 30, 2003 and 2002 are summarized as follows (in thousands):

4. Property, Plant and Equipment:

Property, plant and equipment at September 30, 2003 and 2002 is summarized as follows (in thousands):

Equipment under capital leases and accumulated amortization thereon were approximately $132,000 and $73,000 as of September 30, 2003 and approximately $666,000 and $425,000 as of September 30, 2002.

5. Intangible Assets:

Amortization expense was $717,000, $192,000 and $381,000 for fiscal years 2003, 2002 and 2001, respectively, including $255,000 in amortization of capitalized software costs in fiscal 2001. Based on patent rights granted and recorded at September 30, 2003, and assuming no subsequent impairment of the underlying assets, the annual estimated amortization expense is expected to be as follows (in thousands):

6. Long-Term Debt and Capital Leases:

Long-term debt and capital leases at September 30, 2003 are summarized as follows (in thousands):

Principal maturities for long-term debt and capital leases at September 30, 2003, are summarized as follows (in thousands):

7. Employee Benefit and Stock Option Plans:

Semitool maintains a profit-sharing plan and trust under Section 401(k) of the Internal Revenue Code. Under the terms of the plan, U.S. employees may make voluntary contributions to the plan. Semitool contributes a matching amount equal to 50% of the employee’s voluntary contribution for up to 5% of the employee’s compensation. Semitool may also make non-matching contributions to the plan. Total profit sharing contribution cost for this plan was approximately $820,000, $669,000, and $1.2 million for the years ended September 30, 2003, 2002 and 2001, respectively.

Semitool Europe Ltd. maintains a defined contribution pension agreement. This pension agreement is open to all employees with more than three months of service. The employer and employee contributions are invested in each individual member’s personal pension plan with a United Kingdom insurance company as Trustee. The employer has an obligation to make contributions at one-half of the contribution rate paid by the employee, subject to a rate between 2.5% and 5.0% of the employee’s salary. The total pension cost for this plan for the years ended September 30, 2003, 2002 and 2001 approximated $45,000, $43,000, and $39,000, respectively.

The Company’s other foreign subsidiaries do not operate their own pension plans, but retirement benefits are generally provided to employees through government plans operated in their respective countries.

In December 1994, the Board of Directors adopted and the shareholders approved the Semitool, Inc. 1994 Stock Option Plan (the Option Plan). The total shares reserved for issuance under the Option Plan are 3,300,000 at September 30, 2003. Options granted under the Option Plan generally become exercisable at a rate of 5% per quarter commencing three months after the grant date. Semitool may grant options that qualify as incentive stock options to employees and nonqualified stock options to employees, officers and directors, independent contractors and consultants. The Option Plan also provides for automatic grants of nonqualified stock options to independent directors. The Option Plan will terminate in December 2004 unless terminated earlier at the discretion of the Board of Directors. At September 30, 2003, 506,732 shares were available for future issuance under the Option Plan. Options are granted at an exercise price equal to the market price of the common stock and no compensation expense has been recognized in 2003, 2002 or 2001 under the Option Plan. Options granted generally have a ten-year term.

The following summary shows stock option activity for the three years ended September 30, 2003:

The following tables summarize information about stock options outstanding at September 30, 2003: