Form 10-K

For Annual and Transition Reports Pursuant to Section 13 or
#15D of the Securities and Exchange Act of 1934

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 reports) and (2) has
been subject to such filing requirements for the past 90 days. Yes
þ
No

o

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.
þ

Indicate
by check mark if the registrant is an accelerated filer (as defined in Exchange Act Rule
12b-2) Yes
o No
þ

The
aggregate market value of the voting and non-voting common equity held by non-affiliates
of the registrant as of June 10, 2003, based on the closing sale price of the common stock
on September 30, 2002 as reported on the Nasdaq National Market, was $6,275,787. As of
June 10, 2003, 16,091,762 shares of the registrant’s common stock were outstanding.

Portions
of the Proxy Statement for registrant’s 2003 Annual Meeting of Stockholders to be
held August 26, 2003 will be filed with the Commission within 120 days after the close of
the registrant’s fiscal year and are incorporated by reference in Part III.

PART I

Item 1. Business

Information
contained or incorporated by reference herein contains “forward-looking
statements” within the meaning of the Private Securities Litigation Reform Act of
1995, which can be identified by the use of forward-looking terminology such as
“may,” “will,” “expect,” “anticipate,”
“estimate” or “continue” or the negative thereof or other variations
thereon or comparable terminology or which constitute projected financial information. The
following contains cautionary statements identifying important factors with respect to
such forward-looking statements, including certain risks and uncertainties, that could
cause actual results to differ materially from those in such forward-looking statements.
See “Risk Factors.”

The Company

Tegal
Corporation, a Delaware corporation (“Tegal”), designs, manufactures, markets
and services plasma etch and deposition systems that enable the production of integrated
circuits (“ICs”), memory and related microelectronics devices used in personal
computers, wireless voice and data telecommunications, contact-less transaction devices,
radio frequency identification devices (“RFID’s”), smart cards, data
storage and micro-level actuators. Etching and deposition constitute two of the principal
IC and related device production process steps and each must be performed numerous times
in the production of such devices.

We
were formed in December 1989 to acquire the operations of the former Tegal Corporation, a
division of Motorola, Inc. (“Motorola”). Our predecessor company was founded in
1972 and acquired by Motorola in 1978. We completed our initial public offering in October
1995.

On
August 30, 2002, we acquired all of the outstanding common stock of Sputtered Films,
Incorporated (“SFI”), a privately held California corporation pursuant to an
Agreement and Plan of Merger dated August 13, 2002. Sputtered Films is a leader in the
design, manufacture and service of high performance physical vapor deposition sputtering
systems for the semiconductor and semiconductor packaging industry. SFI was founded in
1967 with the development of the S-Gun, core technology of the acquired company.

Semiconductor Industry
Background

Growth of Semiconductor
and Semiconductor Equipment Industries

The
semiconductor industry has experienced significant growth over the last 20 years. This
growth has resulted from the increasing demand for ICs from traditional IC markets, such
as personal computers, telecommunications, consumer electronics, automotive electronics
and office equipment, as well as developing markets, such as wireless communications,
multimedia and portable and network computing. As a result of this increased demand,
semiconductor device manufacturers have periodically expended significant amounts of
capital to build new semiconductor fabrication facilities (“fabs”) and to expand
existing fabs. In spite of the continuing growth in demand for semiconductors, the
industry periodically experiences cycles of excess supply and excess capacity as additions
to capacity are brought online in large increments which exceed the short-term growth in
demand for ICs. The industry periodically experiences such fluctuations, and is currently
experiencing a significant slowdown in the purchase of equipment for the manufacture of
ICs.

Growth
in the semiconductor industry has been driven, in large part, by advances in semiconductor
performance at a decreasing cost per function. Advanced semiconductor processing
technologies increasingly allow semiconductor manufacturers to produce ICs with smaller
features, thereby increasing processing speed and expanding device functionality and
memory capacity. As ICs have become more complex, however, both the number and price of
state of the art process tools required to manufacture ICs have increased significantly.
As a result, the cost of semiconductor manufacturing equipment has become an increasingly
large part of the total cost of producing advanced ICs. Today, a typical 200 millimeter
wafer fab may cost as much as $1.5 to $2.0 billion, with semiconductor manufacturing
equipment costs representing the majority of total fab costs.

Semiconductor Production
Processes

To
create an IC, semiconductor wafers are subjected to a large number of complex process
steps. The three primary steps in manufacturing ICs are (1) deposition, in which a layer
of insulating or conducting material is deposited on the wafer surface, (2)
photolithography, in which the circuit pattern is projected onto a light sensitive
material (the photoresist), and (3) etch, in which the unmasked parts of the deposited
material on the wafer are selectively removed to form the IC circuit pattern.

Each
step of the manufacturing process for ICs requires specialized manufacturing equipment.
Today, plasma-based systems are used for the great majority of both deposition and etching
processes. During physical vapor deposition (also known as “PVD”), the
semiconductor wafer is exposed to a plasma environment that forms continuous thin films of
electrically insulating or electrically conductive layers on the semiconductor wafer.
During a plasma etch process (also known as “dry etch”), a semiconductor wafer
is exposed to a plasma composed of a reactive gas, such as chlorine, which etches away
selected portions of the layer underlying the patterned photoresist layer.

Segmentation of the
Deposition and Etch Markets

The
deposition market is generally divided into the following market segments, defined
according to the underlying technology used to create the deposited thin film:
electrochemical deposition (also known as “electroplating”), chemical vapor
deposition (also known as “CVD”, of which plasma-enhanced chemical vapor
deposition “PECVD” is a major sub-segment), atomic layer deposition (also known
as “ALD”), and physical vapor deposition (also known as “PVD”).

Certain
deposition technologies or processes are better suited than others for depositing
different types of materials (films). In silicon-based microelectronic fabrication,
electrochemical deposition of copper is the essential basis for creating the multi-level
metal electrical interconnects found in advanced logic and memory ICs. CVD and PECVD
deposition of dielectric materials like silicon dioxide and silicon nitride is used to
create layers of electrical insulation between active circuit elements in the integrated
circuit. CVD and PECVD are also used for polysilicon and silicide deposition, to create
the electrically conductive thin films used in the active circuit elements. ALD is a
technique whereby, in a process repeated many times, a monolayer of chemical reactant
adsorbed on the IC wafer surface forms a single atomic layer of a dielectric or a metallic
film. Physical vapor deposition is used for both metallic thin film deposition and, in
reactive PVD processes, for dielectric thin film deposition.

Further
segmentation occurs within the PVD market according to specific applications. One
important application for PVD is the deposition of thin films where residual film stress
must be closely controlled in order to create specific desired electrical results, as in
precision thin film resistor fabrication, or to avoid physically deforming the substrate,
as in the fabrication of power MOS devices on ultra-thin silicon wafers. The ability to
control film stress is also critical for the deposition of multi-layer thin film stacks on
photomasks used in advanced microelectronic photolithography applications such as extreme
ultraviolet lithography (also known as “EUVL”) for development of 45nm and 32nm
fabrication processes. If stress is not low and controlled in this step, the masks can
become distorted.

We
believe that enabling tight control of stress and other process parameters, along with
minimizing overall contamination levels during PVD thin film deposition processes, will be
increasingly recognized by IC makers as key features that differentiate PVD tool products
and PVD tool makers. We also believe these capabilities will be important to device makers
in the related industries of compound semiconductor device fabrication, LED fabrication,
optical communication device manufacturing, in micro electromechanical systems (also known
as “MEMS”) fabrication, and in the field of advanced packaging processes for
microelectronic devices.

The
dry etch market is generally segmented into the following market segments, defined
according to the class of film being etched: polysilicon, oxide (dielectric) and metal.
New films are continually being developed in each of these three market segments.

Certain
dry etch technologies or processes are better suited for etching different types of
materials (films) and, as a result, the dry etch market may be segmented according to the
type of film being etched. In addition, as ICs become increasingly complex, certain etch
steps required to manufacture a state of the art IC demand leading edge (or
“critical”) etch performance. For example, to produce a 64-megabit DRAM device,
semiconductor manufacturers are required to etch certain device features at dimensions as
small as 0.13 micron. Nonetheless, even in the most advanced ICs, production steps can be
performed with less demanding (or “non-critical”) etch performance. As a result,
we believe the etch market has also begun to segment according to the required level of
etch performance — critical or non-critical.

Today,
the semiconductor industry is faced with the need to develop and adopt an unprecedented
number of new materials as conventional films are running out of the physical properties
needed to support continuing shrinks in die size and to provide improved performance.
Certain of these new materials present unique etch production problems. For example, the
use of certain films, such as platinum, iridium and Lead Zirconium Titanate
(“PZT”), currently being used in the development of non-volatile, ferroelectric
random access memory (“FRAM”) devices, is presenting new challenges to
semiconductor manufacturers. While these new films contribute to improved IC performance
and reduced die size, their unique properties make them particularly difficult to etch
and, therefore, require more advanced etch process technologies. Similarly, customers seek
to achieve zero corrosion of metal etched wafers within 48 to 72 hours after completion of
the etch process, regardless of the line geometries involved. The reaction byproducts of a
chlorine based metal etch process tend to redeposit on the wafer and corrode when exposed
to water in the atmosphere. Removal of these contaminants from the wafer is essential to
prevent this corrosion.

Market Segmentation and
Tool Costs

PVD
systems have become one of the most expensive pieces of capital equipment found in modern
IC wafer fabs. PVD tool system architecture is generally of modular, or cluster-tool
style, with as many as six active process chambers placed around a central robotic
handling system, plus separate loadlocks for the entry and exit of wafers. Each active
chamber, the system loadlocks, and the central core wafer handler must be configured for
high vacuum operation. Average selling prices for a typical fully-configured PVD system
have increased from an estimated $2,600,000 in 1994 to an estimated $7,000,000 today.

Over
time, the disparity in relative prices for etch systems capable of etching at non-critical
versus critical dimensions has grown significantly. We believe that in 1993, the cost of
an eight-inch wafer-capable system ranged from approximately $500,000 to $700,000. Given
the relatively modest price differential among etchers, manufacturers of ICs and similar
devices tended to purchase one system (the one they believed provided the most
technologically advanced solution for their particular etch requirements) to perform all
of their etching. In contrast, the cost today of an eight inch capable etch system ranges
from approximately $500,000, for reliable, non-critical etchers, to more than $2.5
million, for advanced, state of the art critical etchers. Consequently, in periods of high
equipment utilization we believe it is no longer cost effective to use state of the art
etchers to perform both critical and non-critical etching. When critical etching is
required in the production process, we believe that the leading purchasing factor for a
semiconductor manufacturer will continue to be, ultimately, the product’s etch
performance. However, when non-critical etching is required in the production process, we
believe the leading purchasing factor for a semiconductor manufacturer will be the overall
product cost, with particular emphasis on the system’s sale price. In either case,
however, the semiconductor manufacturer is driven to make a value-oriented purchasing
decision which minimizes the overall etch system costs, while meeting the required etch
process performance. We believe that a well-implemented “mix and match”
purchasing philosophy could allow a semiconductor manufacturer to realize significant etch
system savings.

Business Strategy

We
have a large installed base of etch and deposition equipment exceeding 1,700 systems and
we believe that over the years we have earned a reputation as a supplier of reliable,
value-oriented systems along with systems incorporating unique, advanced process
technologies. Our systems are sold throughout the world to both domestic and international
customers. In our fiscal year ended March 31, 2003, approximately 66% of our revenues
resulted from international sales. To support our systems sales, we maintain local service
and support in every major geographic market in which we have an installed base, backed up
by a spares logistics system designed to provide delivery within 24 hours anywhere in the
world.

Tegal’s
strategy is to become the leading provider of integrated etch and deposition process
solutions for a defined set of new and emerging materials central to the production of a
broad array of advanced semiconductor devices. Incorporation of these new, exotic
materials is essential to achieving the higher device densities, lower power consumption
and novel functions exhibited by the newest generation of cell phones, computer memories,
fiber optic switches and remote sensors. Currently, Tegal is the leading supplier of etch
solutions to makers of advanced “non-volatile” ferro-electric
(“FeRAM”) and magnetic (“MRAM”) devices. FeRAM is just now entering
commercial production with chips for the newest generation of cell phones, PDA’s,
smart cards and radio-frequency identification devices (“RFID’s”), used for
applications such as inventory tracking and cashier-less transaction processing. Rounding
out Tegal’s portfolio of new materials expertise are so-called
“compound-semi” materials, such as GaAs, GaN and InP, widely used in telecom
device production.

Our
long-term growth strategy is to build on the Company’s technical knowledge,
experience and reputation in semiconductor capital equipment, both through organic growth
in the markets in which it specializes and through selective acquisitions of complementary
technologies. Through its recent acquisition of Sputtered Films, Inc., Tegal secured a
source for a complementary deposition technology for its new materials strategy and gained
a key foothold in the advanced EUV mask market.

Products

6500 Series
“Critical Etch” Products

We
offer several models of our 6500 series critical etch products configured to address film
types and applications desired by our customers. We introduced the 6500 series tool in
1994 and since that time have expanded the product line to address new applications
including:

PART I		Page
Item 1. Business		3
Item 2. Properties		15
Item 3. Legal Proceedings		16
Item 4. Submission of Matters to a Vote of Security Holders		16
Executive Officers		16
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters		17
Item 6. Selected Financial Data		18
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations		19
Item 7A. Quantitative and Qualitative Disclosure about Market Risks		24
Item 8. Financial Statements and Supplementary Data		25
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure		43
PART III
Item 10. Directors and Executive Officers of the Registrant		43
Item 11. Executive Compensation		43
Item 12. Security Ownership of Certain Beneficial Owners and Management		43
Item 13. Certain Relationships and Related Transactions		43
Item 14. Controls and Procedures
PART IV
Item 16. Exhibits, Financial Statement Schedules and Reports on Form 8-K		44
Signatures		46

•

new high K dielectrics and associated materials used in capacitors at sub-0.5 micron for
FRAMs, high-density DRAM and magnetic memory (MRAM) devices;

•

shallow trench isolation used to isolate transistors driven by increased packing densities
used in memory devices employing design rules at or below 0.25 micron;

•

sub-0.5
micron multi-layer metal films composed of aluminum/copper/silicon/titanium alloys;

•

sub-0.5
micron polysilicon;

•

compound
semiconductor III-V materials; and

All
6500 series models offer one and two-chamber configurations and a rinse/strip option.
Prices for 6500 series systems typically range between $1.8 million and $3.0 million.

Our
6500 series systems have been engineered to provide process flexibility and competitive
throughput for wafers and substrates up to eight inches in diameter, while minimizing cost
and space requirements. The 6550 Spectra chamber is 300mm capable and is currently being
used on the 200mm 6500 platform. Customer demand for new materials is at the 200mm node.
However, having 300mm capability is important for future customer needs. A dual chamber
platform design allows for either parallel or integrated etch processes. We seek to
maximize the 6500 series systems’ average throughput by incorporating a process
chamber technology and system architecture designed to minimize processing down-time
required for cleaning and maintenance. Each 6500 series system has a central wafer
handling system with full cassette vacuum loadlocks, non-contact optical wafer alignment
and a vacuum transport system. Individual process module servicing is possible without
shutting down the system or other chambers. Contamination control features in the 6500
series systems include pick and place wafer handling with no moving parts above the wafer,
four-level vacuum isolation from the atmosphere to the etch chamber, and individual
high-throughput, turbo-pumped vacuum systems for the cassettes, wafer handling platform
and each process module. These and other features of the 6500 series are designed to
enable a semiconductor manufacturer to reduce wafer particle contamination to a level that
we believe exceeds industry standards and to improve etch results and process flexibility.

In
addition, our 6500 series systems incorporate a software system that has been designed and
tested to minimize the risk of the system operator “crashing” the system or
interrupting wafer fabrication, while being easy to use. This software system incorporates
a software architecture designed to operate in multiple interface modes, including
operator, maintenance engineer, process engineer and diagnostic modes. Features include
icon-based touch screen menus for ease of use. In addition, the software provides a
quick-response interface which allows the semiconductor manufacturer access to all
necessary system information for factory automation. The system includes data in-situ
process manufacturing archiving and remote, real time diagnostics.

900 Series
“Non-Critiecal Etech” Products

We
introduced our 900 series family of etch systems in 1984 as a critical etch tool of that
era. Over the years, we have enhanced the 900 series family as non-critical etch systems
capable of performing the etch steps required in the production of silicon-based IC
devices and, more recently, as critical etch tools for new specialty devices such as
gallium arsenide for high-speed telecommunications devices. In 1994, we introduced an
eight-inch wafer capable 900 series system (capable of etching five inch to eight-inch
wafers). The 900 series non-critical etch systems are aimed at pad, zero layer,
non-selective nitride, backside, planarization and small flat panel display applications,
thin film etch applications used in the manufacture of read-write heads for the disk drive
industry and gallium arsenide and other III-V materials used in high-speed digital
wireless telecommunications applications. Our 900 series systems typically sell for a
price of $250,000 to $600,000.

The
900 series systems incorporate a single process chamber on a non-loadlocked modular
platform for reliability and ease of maintenance, which we believe results in higher
average throughput and lower operating costs. Continued improvements in both reliability
and performance have enabled us to offer the 900 series systems as a solution for a broad
range of applications involving line widths down to 0.8 microns.

The
i900 was introduced in July 2000. This system has enhanced the functionality of the
900 series with added features such as user-friendly GUI (graphical user interface) touch
screens, better process control and an improved transport system that will increase
efficiency, while preserving the durability for which the tool is known.

Endeavor Series Critical
Deposition Products

We
offer several models of our Endeavor series critical deposition products configured to
address film types and applications desired by the customer. We introduced the Endeavor
series tool in 1992 and since that time have expanded the product line to address new
applications. Deposition applications addressed by the Endeavor series system include:

•

leading
edge thin film head materials.

•

chip
packaging technologies requiring stress control in multi-layer under bump
metallization (UBM), including deposition onto polyimide;

•

IC
front side interconnect metallization;

•

Ohmic
contact formation and metallization of thinned wafers for high power transistors;

•

deposition
of thin film resistors with fine tuning of thermal capacitance of resistance (TCR);

•

barrier
and seed layer deposition in deep vias;

•

encapsulating
films for light emitting diodes (LED);

•

dielectric
layers for sound acoustic wave (SAW) and integrated gate bipolar transistors (IGBT);

•

automobile
electronics requiring high adhesion properties of the backside metal film stacks;

All
Endeavor series models offer one to five process modules, and can be configured as single
or dual cassette module systems. The system is fully field upgradeable. Prices for
Endeavor series systems typically range between $1.8 million and $3.0 million.

Our
Endeavor series systems have been engineered to provide process flexibility and
competitive throughput for wafers and substrates up to eight inches in diameter, or six
inches square while minimizing cost and space requirements. The Endeavor cassette module
is SMIF compatible. Fast and efficient, the system’s capability is enhanced by
parallel processing and scheduled downtime is minimized by its modularity. Each Endeavor
series system has a central wafer handling system with full vacuum loadlocks, non-contact
optical wafer alignment and a vacuum transport system. Individual process module servicing
is possible without shutting down the system or other chambers. Contamination control
features in the Endeavor series systems include sputter-up processing, and a gentle and
reliable handling system that allows the transport and process of wafers without clamping
or mechanical pressure, and no backside contact of the wafer or substrate at any time. All
processing is done under high vacuum, using individual high-throughput, turbo-pumped
vacuum systems for the cassette module and transfer module and each process module. These
and other features of the Endeavor series are designed to enable a semiconductor
manufacturer to reduce wafer particle contamination to a level that we believe exceeds
industry standards and to improve deposition results and process flexibility.

In
addition, our Endeavor series systems employs a user-friendly software system that is
equipped with full safety interlocks and is four-level password protected. This software
system incorporates a graphical user interface with software architecture designed to
operate in multiple interface modes, including operator, maintenance engineer, process
engineer and diagnostic modes. The software provides a quick-response interface which
allows the semiconductor manufacturer access to all necessary system information for
factory automation. The software and automation are completely functional from remote
locations via ISDN line. This remote access can be used to download software upgrades, or
as a powerful diagnostic tool, providing our customers with immediate factory support.

Customers

We
sell our systems to semiconductor and related electronic device component manufacturers
throughout the world. Major customers over the last three fiscal years have included the
following:

•

high precision, ultra clean deposition of films used in photolithography and extreme
ultraviolet (EUV) masks.

Of
these 20 customers, five ordered one or more systems in fiscal 2003. The composition of
our top five customers has changed from year to year, but net system sales to our top five
customers in each of fiscal 2003, 2002 and 2001 accounted for 88.2%, 54.4% and 42.0%,
respectively, of our total net system sales. International Rectifier, University Francois,
ST Microelectronics and OKI represented 32.2%, 22.7%, 12.5% and 12.0%, respectively, of
our net system sales in 2003. STMicroelectronics, Nortel, Analog and NEC represented
24.2%, 17.1%, 10.1% and 13.1%, respectively, of our net system sales in 2002. Nortel and
Sony represented 17.6% and 13.0%, respectively, of our net system sales in 2001. Other
than the above customers, no single customer represented more than 10% of our net system
sales in fiscal 2003, 2002 or 2001. Although the composition of the group comprising our
largest customers may vary from year to year, the loss of a significant customer or any
reduction in orders by any significant customer, including reductions due to market,
economic or competitive conditions in the semiconductor and related device manufacturing
industry, may have a material adverse effect on us.

Backlog

We
schedule production of our systems based upon order backlog and customer commitments. We
include in our backlog only orders for which written purchase orders have been accepted
and shipment dates within the next 12 months have been assigned. As of May 30, 2003 and
2002, our order backlog was approximately $6.0 million and $2.0 million, respectively.
Booked system orders are subject to cancellation by the customer, but with substantial
penalties except in the case of orders for evaluation systems or for systems that have not
yet incurred production costs. Orders may be subject to rescheduling with limited or no
penalty. Some orders are received for systems to be shipped in the same quarter as the
order is received. As a result, our backlog at any particular date is not necessarily
indicative of actual sales for any succeeding period.

Marketing, Sales and
Service

We
sell our systems worldwide through a network of eight direct sales personnel and three
independent sales representatives in sales offices located throughout the world. In the
United States of America, we market our systems through direct sales personnel located in
two regional sales offices and at our Petaluma, California headquarters. In addition, we
provide field service and applications engineers out of our regional locations and our
Petaluma headquarters in order to ensure dedicated technical and field process support
throughout the United States of America on short notice.

We
maintain sales, service and process support capabilities in Japan, Taiwan, Germany, Italy
and the United Kingdom and service/support operations in Austria and China. In addition to
our international direct sales and support organizations, we also market our systems
through independent sales representatives in China, Israel, South Korea and Singapore and
selected markets in Japan.

International
sales, which consist of export sales from the United States of America either directly to
the end user or to one of our foreign subsidiaries, accounted for approximately 66%, 67%
and 61% of total revenue for fiscal 2003, 2002 and 2001, respectively. Revenues by region
for each of the last three fiscal years were as follows:


Alcatel Microelectronics	Motorola	Sumitomo
Analog Devises	NEC	Tesla Sezam,S.A.
AMS	Nortel Technology	United Microelectronics
Compound Semiconductor	OKI	University Francois Rabelais
Fairchild	RF Microdevices	Walsin Lihwa Corp.
Fuji Microdevice	Sony	Winbond Electronics Corp.
International Rectifier	ST Microelectronics

We
generally sell our systems on 30-to-60 day credit terms to our domestic and European
customers. Customers in the Pacific Rim countries, other than Japan, are generally
required to deliver a letter of credit payable in U.S. dollars upon system shipment. Sales
to other international customers, including Japan, are billed either in local currency or
U.S. dollars. We anticipate that international sales will continue to account for a
significant portion of revenue in the foreseeable future.

We
generally warrant our new systems for 12 months and our refurbished systems for six months
from shipment. Our field engineers provide customers with call-out repair and maintenance
services for a fee. Customers may also enter into repair and maintenance service contracts
covering our systems. We train customer service engineers to perform routine service for a
fee and provide telephone consultation services generally free of charge.

The
sales cycles for our systems vary depending upon whether the system is an initial
design-in, reorder or used equipment. Initial design-in sales cycles are typically 12 to
18 months, particularly for 6500 and Endeavor series systems. In contrast, reorder sales
cycles are typically four to six months, and used system sales cycles are generally one to
three months. The initial design-in sales cycle begins with the generation of a sales
lead, which is followed by qualification of the lead, an analysis of the customer’s
particular applications needs and problems, one or more presentations to the customer
(frequently including extensive participation by our senior management), two to three
wafer sample demonstrations, followed by customer testing of the results and extensive
negotiations regarding the equipment’s process and reliability specifications.
Initial design-in sales cycles are monitored by senior management for correct strategic
approach and resource prioritization. We may, in some rare instances, need to provide the
customer with an evaluation system for three to six months prior to the receipt of a firm
purchase order.

Research and Development

The
market for semiconductor capital equipment is characterized by rapid technological change.
We believe that continued and timely development of new systems and enhancements to
existing systems is necessary for us to maintain our competitive position. Accordingly, we
devote a significant portion of our personnel and financial resources to research and
development programs and seek to maintain close relationships with our customers in order
to be responsive to their system needs.

Our
research and development encompasses the following areas: plasma and sputtering
technology, process characterization and development, material sciences applicable to etch
and deposition environments, systems design and architecture, electro-mechanical design
and software engineering. Management emphasizes advanced plasma and reactor chamber
modeling capabilities in order to accelerate bringing advanced chamber designs to market.
We employ multi-discipline teams to facilitate short engineering cycle times and rapid
product development.

As
of March 31, 2003, we had 28 full-time employees dedicated to equipment design
engineering, process support and research and development. Research and development
expenses for fiscal 2003, 2002 and 2001 were $4.8 million, $5.9 million and $8.9 million,
respectively, and represented 34.2%, 27.4% and 23.4% of total revenue, respectively. Such
expenditures were primarily used for the development of new processes, continued
enhancement and customization of existing systems, processing customer samples in our
demonstration labs and providing process engineering support at customer sites.

Manufacturing

Our
etch systems are produced at our headquarters in Petaluma, California. Deposition systems
are currently produced at our facility in Santa Barbara, California. Our manufacturing
activities consist of assembling and testing components and sub-assemblies, which are then
integrated into finished systems. We have structured our production facilities to be
driven either by orders or by forecasts and have adopted a modular system architecture to
increase assembly efficiency and design flexibility. We have also implemented
“just-in-time” manufacturing techniques in our assembly processes. Through the
use of such techniques, 900 series system manufacturing cycle times take approximately 14
days and cycle times for our Endeavor systems and our 6500 series products take two to
three months.

Competition

The
semiconductor capital equipment industry is highly competitive. We believe that the
principal competitive factor in the critical segments of the etch industry is technical
performance of the system, followed closely by the existence of customer relationships,
the system price, the ability to provide service and technical support on a global basis
and other related cost factors. We believe that the principal competitive factor in the
non-critical segments of the etch industry is system price, followed closely by the
technical performance of the system, the existence of established customer relationships,
the ability to provide service and technical support on a global basis and other related
cost factors.

Intellectual Property

We
hold an exclusive license or ownership of 54 United States of America patents, including
our dual frequency tri-electrode control system, and 27 corresponding foreign patents
covering various aspects of our systems. We have also applied for seven additional United
States of America patents and 52 additional foreign patents. Of these patents, a few
expire as early as 2003, others expire as late as 2021 with the average expiration
occurring in approximately 2013. We believe that the duration of such patents generally
exceeds the life cycles of the technologies disclosed and claimed therein. We believe that
although the patents we have exclusively licensed or hold directly will be of value, they
will not determine our success, which depends principally upon our engineering, marketing,
service and manufacturing skills. However, in the absence of patent protection, we may be
vulnerable to competitors who attempt to imitate our systems, processes and manufacturing
techniques. We have signed a non-exclusive field of use license to two of our patents,
relating to our strategic application sets. In addition, other companies and inventors may
receive patents that contain claims applicable to our systems and processes. The sale of
our systems covered by such patents could require licenses that may not be available on
acceptable terms, if at all. We also rely on trade secrets and other proprietary
technology that we seek to protect, in part, through confidentiality agreements with
employees, vendors, consultants and other parties. There can be no assurance that these
agreements will not be breached, that we will have adequate remedies for any breach or
that our trade secrets will not otherwise become known to or independently developed by
others.

The
original version of the system software for our 6500 series systems was jointly developed
by us and Realtime Performance, Inc., a third party software vendor. We hold a perpetual,
non-exclusive, non-royalty bearing license to use and enhance this software. The enhanced
version of the software currently used on our 6500 series systems has undergone multiple
releases of the original software, and such enhancements were developed exclusively by us.
Neither the software vendor nor any other party has any right to use our current release
of the system software. However we cannot make any assurances that this software will not
be illegally copied or reversed-engineered by either customers or third-parties.

Employees

As
of March 31, 2003, we had a total of 81 regular employees and two part-time contract
personnel. Of our regular employees, eight are in engineering, 10 are in research and
development, 21 are in manufacturing and operations, 31 are in marketing, sales and
customer service and support and 11 are in executive and administrative positions. Many of
our employees are highly skilled, and our success will depend in part upon our ability to
attract, retain and develop such employees. Skilled employees, especially employees with
extensive technological backgrounds, remain in demand. There can be no assurance we will
be able to attract or retain the skilled employees that may be necessary to continue our
research and development, manufacturing or marketing programs. The loss of any such
persons, as well as the failure to recruit additional key personnel in a timely manner,
could have a material adverse effect on us.

None
of our employees is represented by a labor union or covered by a collective bargaining
agreement. We consider our employee relations to be good.

Risk Factors

We have incurred
operating losses and may not be profitable in the future; Our plans to maintain and
increase liquidity may not be successful.

We
incurred net losses of $12.6 million and $8.7 million for the years ended March 31, 2003
and 2002, respectively, and generated negative cash flows from operations of $6.0 million
and $3.6 million in these years. These factors raise substantial doubt as to our ability
to continue as a going concern, and our auditors have included a going concern uncertainty
in their opinion. Our plans to maintain and increase liquidity include the restructuring
executed during fiscal 2002, which reduced headcount from 155_employees to 81 employees
and has reduced our cost structure entering fiscal 2004. We believe the cost reduction and
a projected increase in sales during fiscal 2004 will generate sufficient cash flows to
fund our operations through March 31, 2004. However, these projected sales are to a
limited number of new and existing customers and are based, for the most part, on internal
and customer provided estimates of future demand, not firm customer orders. If the
projected sales do not materialize, we will need to reduce expenses further and raise
additional capital through the issuance of debt or equity securities. If additional funds
are raised through the issuance of preferred stock or debt, these securities could have
rights, privileges or preferences senior to those of our common stock, and debt covenants
could impose restrictions on our operations. The sale of equity or debt could result in
additional dilution to current stockholders, and such financing may not be available to us
on acceptable terms, if at all. The consolidated financial statements do not include any
adjustments relating to the recoverability and classification of recorded assets or the
amount or classification of liabilities or any other adjustments that might be necessary
should we be unable to continue as a going concern.

The semiconductor
industry is cyclical and may experience periodic downturns that may negatively affect
customer demand for our products and result in losses such as those experienced in the
past.

Our
business depends upon the capital expenditures of semiconductor manufacturers, which in
turn depend on the current and anticipated market demand for integrated circuits. The
semiconductor industry is highly cyclical and historically has experienced periodic
downturns, which often have had a material adverse effect on the semiconductor
industry’s demand for semiconductor capital equipment, including etch and deposition
systems manufactured by us. In response to the current prolonged industry slow-down, we
have initiated a substantial cost containment program and a corporate-wide restructuring
to preserve our cash. However, the need for continued investment in research and
development, possible capital equipment requirements and extensive ongoing customer
service and support requirements worldwide will continue to limit our ability to reduce
expenses in response to the current downturn.

Our competitors have
greater financial resources and greater name recognition than we do and therefore
may compete more successfully in the semiconductor capital equipment industry than we can.

We
believe that to be competitive, we will require significant financial resources in order
to offer a broad range of systems, to maintain customer service and support centers
worldwide and to invest in research and development. Many of our existing and potential
competitors, including, among others, Applied Materials, Inc., Lam Research Corporation,
Novellus and Tokyo Electron Limited, have substantially greater financial resources, more
extensive engineering, manufacturing, marketing and customer service and support
capabilities, larger installed bases of current generation etch, deposition and other
production equipment and broader process equipment offerings, as well as greater name
recognition than we do. We cannot assure you that we will be able to compete successfully
against these companies in the United States of America or worldwide.

If we fail to meet the
continued listing requirements of the Nasdaq Stock Market, our stock could be delisted.

Our
stock is currently listed on The Nasdaq SmallCap Market. The Nasdaq Stock Market’s
Marketplace Rules impose certain minimum financial requirements on us for the continued
listing of our stock. One such requirement is the minimum bid price on our stock of $1.00
per share. Beginning in 2002, there have been periods of time during which we have been
out of compliance with the $1.00 minimum bid requirements of the Nasdaq SmallCap Market.

On
September 6, 2002, we received notification from Nasdaq that for the 30 days prior to the
notice, the price of our common stock had closed below the minimum $1.00 per share bid
price requirement for continued inclusion under Marketplace Rule 4450(a)(5) (the
“Rule”), and were provided 90 calendar days, or until December 5, 2002, to
regain compliance. Our bid price did not close above the minimum during that period. On
December 6, 2002, we received notification from Nasdaq that our securities would be
delisted from The Nasdaq National Market, the exchange on which our stock was listed prior
to May 6, 2003, on December 16, 2002 unless we either (i) applied to transfer our
securities to The Nasdaq SmallCap Market, in which case we would be afforded additional
time to come into compliance with the minimum $1.00 bid price requirement; or (ii)
appealed the Nasdaq staff’s determination to the Nasdaq’s Listing Qualifications
Panel (the “Panel”). On December 12, 2002 we requested an oral hearing before
the Panel and such hearing took place on January 16, 2003 in Washington, D.C. Our appeal
was based, among other things, on our intention to seek stockholder approval for a reverse
split of our outstanding common stock. On April 28, 2003 at a special meeting of our
stockholders, our board of directors was granted the authority to effect a reverse split
of our common stock within a range of two-for-one to fifteen-for-one. The timing and ratio
of a reverse split, if any, is at the sole discretion of our board of directors. On May 6,
2003, we transferred the listing of our common stock to the Nasdaq SmallCap Market. In
connection with this transfer, Nasdaq granted us an extension until December 1, 2003, to
regain compliance with the Rule’s minimum $1.00 per share bid price requirement for
continued inclusion on the Nasdaq SmallCap Market.

If
we are out of compliance in the future with Nasdaq listing requirements, we may take
actions in order to achieve compliance, which actions may include a reverse split of our
common stock. If an initial delisting decision is made by the Nasdaq’s staff, we may
appeal the decision as permitted by Nasdaq rules. If we are delisted and cannot obtain
listing on another major market or exchange, our stock’s liquidity would suffer, and
we would likely experience reduced investor interest. Such factors may result in a
decrease in our stock’s trading price. Delisting also may restrict us from issuing
additional securities or securing additional financing.

We depend on sales of our
advanced products to customers that may not fully adopt our product for production
use.

We
have designed our advanced etch and deposition products for customer applications in
emerging new films, polysilicon and metal which we believe to be the leading edge of
critical applications for the production of advanced semiconductor and other
microelectronic devices. Revenues from the sale of our advanced etch and deposition
systems accounted for 25% and 36% of total revenues in fiscal 2003 and 2002, respectively.
Our advanced systems are currently being used primarily for research and development
activities or low volume production. For our advanced systems to achieve full market
adoption, our customers must utilize these systems for volume production. There can be no
assurance that the market for devices incorporating emerging films, polysilicon or metal
will develop as quickly or to the degree we expect.

If
our advanced systems do not achieve significant sales or volume production due to a lack
of full customer adoption, our business, financial condition, results of operations and
cash flows will be materially adversely affected.

Our potential customers
may not adopt our products because of their significant cost or because our
potential customers are already using a competitor’s tool.

A
substantial investment is required to install and integrate capital equipment into a
semiconductor production line. Additionally, we believe that once a device manufacturer
has selected a particular vendor’s capital equipment, that manufacturer generally
relies upon that vendor’s equipment for that specific production line application
and, to the extent possible, subsequent generations of that vendor’s systems.
Accordingly, it may be extremely difficult to achieve significant sales to a particular
customer once that customer has selected another vendor’s capital equipment unless
there are compelling reasons to do so, such as significant performance or cost advantages.
Any failure to gain access and achieve sales to new customers will adversely affect the
successful commercial adoption of our products and could have a material adverse effect on
us.

Our quarterly operating
results may continue to fluctuate.

Our
revenue and operating results have fluctuated and are likely to continue to fluctuate
significantly from quarter to quarter, and there can be no assurance as to future
profitability.

Our
900 series etch systems typically sell for prices ranging between $250,000 and $600,000,
while prices of our 6500 series critical etch systems and our Endeavor deposition system
typically range between $1.8 million and $3.0 million. To the extent we are successful in
selling our 6500 and Endeavor series systems, the sale of a small number of these systems
will probably account for a substantial portion of revenue in future quarters, and a
transaction for a single system could have a substantial impact on revenue and gross
margin for a given quarter.

Other
factors that could affect our quarterly operating results include:

	Years Ended March 31,

	2003	2002	2001

United States	$ 4,864	$ 7,168	$15,087
Asia, excluding Japan	1,537	3,903	5,612
Japan	2,934	4,094	6,862
Germany	1,851	731	3,998
Italy	353	2,617	2,219
Europe, excluding Germany and Italy	2,561	3,093	4,427

Total sales	$14,100	$21,606	$38,205

[X]

our
timing of new systems and technology announcements and releases and ability to
transition between product versions;

[X]

product
returns upon the introduction of new product versions and pricing adjustments
for our distributors;

[X]

seasonal
fluctuations in sales;

|X|

anticipated declines in selling prices of our products to original equipment manufacturers
and potential declines in selling prices to other parties as a result of competitive
pressures;

[X]

changes
in the mix of our revenues represented by our various products and customers;

[X]

adverse
changes in the level of economic activity in the United States or other major economies
in which we do business;

[X]

foreign
currency exchange rate fluctuations;

[X]

expenses
related to, and the financial impact of, possible acquisitions of other businesses;

Additionally,
potential acquisitions may result in significant expenses, including amortization of
purchased software, which is reflected in cost of revenues, as well as charges for
in-process research and development and amortization of acquired identifiable intangible
assets, which are reflected in operating expenses.

Because technology
changes rapidly, we may not be able to introduce our products in a timely enough fashion.

The
semiconductor manufacturing industry is subject to rapid technological change and new
system introductions and enhancements. We believe that our future success depends on our
ability to continue to enhance our existing systems and their process capabilities, and to
develop and manufacture in a timely manner new systems with improved process capabilities.
We may incur substantial unanticipated costs to ensure product functionality and
reliability early in our products’ life cycles. There can be no assurance that we
will be successful in the introduction and volume manufacture of new systems or that we
will be able to develop and introduce, in a timely manner, new systems or enhancements to
our existing systems and processes which satisfy customer needs or achieve market
adoption.

Some of our sales cycles
are lengthy, exposing us to the risks of inventory obsolescence and fluctuations
in operating results.

Sales
of our systems depend, in significant part, upon the decision of a prospective customer to
add new manufacturing capacity or to expand existing manufacturing capacity, both of which
typically involve a significant capital commitment. We often experience delays in
finalizing system sales following initial system qualification while the customer
evaluates and receives approvals for the purchase of our systems and completes a new or
expanded facility. Due to these and other factors, our systems typically have a lengthy
sales cycle (often 12 to 18 months in the case of critical etch and deposition systems)
during which we may expend substantial funds and management effort. Lengthy sales cycles
subject us to a number of significant risks, including inventory obsolescence and
fluctuations in operating results over which we have little or no control.

We may not be able to
protect our intellectual property or obtain licenses for third parties’
intellectual property and therefore we may be exposed to liability for infringement or the risk that our
operations may be adversely affected.

Although
we attempt to protect our intellectual property rights through patents, copyrights, trade
secrets and other measures, we may not be able to protect our technology adequately and
competitors may be able to develop similar technology independently. Additionally, patent
applications that we may file may not be issued and foreign intellectual property laws may
not protect our intellectual property rights. There is also a risk that patents licensed
by or issued to us will be challenged, invalidated or circumvented and that the rights
granted thereunder will not provide competitive advantages to us. Furthermore, others may
independently develop similar systems, duplicate our systems or design around the patents
licensed by or issued to us.

Existing
litigation and any future litigation could result in substantial cost and diversion of
effort by us, which by itself could have a material adverse effect on our financial
condition, operating results and cash flows. Further, adverse determinations in such
litigation could result in our loss of proprietary rights, subject us to significant
liabilities to third parties, require us to seek licenses from third parties or prevent us
from manufacturing or selling our systems. In addition, licenses under third parties’
intellectual property rights may not be available on reasonable terms, if at all.

Our customers are
concentrated and therefore the loss of a significant customer may harm our business.

Our
top five customers accounted for 88.2%, 54.4% and 42.0% of our systems revenues in fiscal
2003, 2002 and 2001, respectively. Four customers accounted for more than 10% of net
systems sales in fiscal 2003. Although the composition of the group comprising our largest
customers may vary from year to year, the loss of a significant customer or any reduction
in orders by any significant customer, including reductions due to market, economic or
competitive conditions in the semiconductor manufacturing industry, may have a material
adverse effect on our business, financial condition, results of operations and cash flows.
Our ability to increase our sales in the future will depend, in part, upon our ability to
obtain orders from new customers, as well as the financial condition and success of our
existing customers and the general economy, which is largely beyond our ability to
control.

We are exposed to
additional risks associated with international sales and operations.

International
sales accounted for 66%, 67% and 61% of total revenue for fiscal 2003, 2002 and 2001,
respectively. International sales are subject to certain risks, including the imposition
of government controls, fluctuations in the U.S. dollar (which could increase the sales
price in local currencies of our systems in foreign markets), changes in export license
and other regulatory requirements, tariffs and other market barriers, political and
economic instability, potential hostilities, restrictions on the export or import of
technology, difficulties in accounts receivable collection, difficulties in managing
distributors or representatives, difficulties in staffing and managing international
operations and potentially adverse tax consequences. There can be no assurance that any of
these factors will not have a material adverse effect on our operations and financial
results.

Sales
of our systems in certain countries are billed in local currency, and we have a line of
credit denominated in Japanese Yen. We generally attempt to offset a portion of our U.S.
dollar denominated balance sheet exposures subject to foreign exchange rate remeasurement
by purchasing forward currency contracts for future delivery. There can be no assurance
that our future results of operations and cash flows will not be adversely affected by
foreign currency fluctuations. In addition, the laws of certain countries in which our
products are sold may not provide our products and intellectual property rights with the
same degree of protection as the laws of the United States of America.

We must integrate our
recent acquisition of Sputtered Films and we may need to make additional future acquisitions to remain
competitive. The process of identifying, acquiring and integrating future acquisitions may
constrain valuable
management resources, and our failure to effectively integrate future acquisitions may
result in the loss of key
employees and the dilution of stockholder value and have an adverse effect on our
operating

results.

We
acquired Sputtered Films, Inc. in August 2002. We may in the future seek to acquire or
invest in additional businesses, products or technologies that we believe could complement
or expand our business, augment our market coverage, enhance our technical capabilities or
that may otherwise offer growth opportunities. We may encounter problems with the
assimilation of Sputtered Films or businesses, products or technologies acquired in the
future including:

	•	changes in the timing of product orders due to unexpected delays in the introduction of our customers’ products, due to lifecycles of our customers’ products ending earlier than expected or due to market acceptance of our customers’ products; and

	•	timely and accurate reporting to us by our original equipment manufacturer customers of units shipped.

[X]

difficulties
in assimilation of acquired personnel, operations, technologies or products;

[X]

unanticipated
costs associated with acquisitions;

[X]

diversion
of management's attention from other business concerns and potential disruption of our
ongoing business;

[X]

adverse
effects on our existing business relationships with our customers;

[X]

potential
patent or trademark infringement from acquired technologies;

[X]

adverse
effects on our current employees and the inability to retain employees of acquired
companies;

[X]

use
of substantial portions of our available cash as all or a portion of the purchase price;
and

If
we are unable to successfully integrate our acquired companies or to create new or
enhanced products and services, we may not achieve the anticipated benefits from our
acquisitions. If we fail to achieve the anticipated benefits from the acquisitions, we may
incur increased expenses and experience a shortfall in our anticipated revenues and we may
not obtain a satisfactory return on our investment. In addition, if a significant number
of employees of acquired companies fail to remain employed with us, we may experience
difficulties in achieving the expected benefits of the acquisitions.

Completing
any potential future acquisitions could cause significant diversions of management time
and resources. Financing for future acquisitions may not be available on favorable terms,
or at all. If we identify an appropriate acquisition candidate for any of our businesses,
we may not be able to negotiate the terms of the acquisition successfully, finance the
acquisition or integrate the acquired business, products, technologies or employees into
our existing business and operations. Future acquisitions may not be well-received by the
investment community, which may cause our stock price to fall. We have not entered into
any agreements or understanding regarding any future acquisitions and cannot ensure that
we will be able to identify or complete any acquisition in the future.

If
we acquire businesses, new products or technologies in the future, we may be required to
amortize significant amounts of identifiable intangible assets and we may record
significant amounts of goodwill that will be subject to annual testing for impairment. If
we consummate one or more significant future acquisitions in which the consideration
consists of stock or other securities, our existing stockholders’ ownership could be
significantly diluted. If we were to proceed with one or more significant future
acquisitions in which the consideration included cash, we could be required to use a
substantial portion of our available cash.

Our workforce reductions
and financial performance may adversely affect the morale and performance of our
personnel and our ability to hire new personnel.

We
have made reductions in our workforce in order to reduce costs and bring staffing in line
with our anticipated requirements. There were costs associated with the workforce
reductions related to severance and other employee-related costs, and our restructuring
may yield unanticipated costs and consequences, such as attrition beyond our planned
reduction in staff. In addition, our common stock has declined in value below the exercise
price of many options granted to employees pursuant to our stock option plans. Thus, the
intended benefits of the stock options granted to our employees, the creation of
performance and retention incentives, may not be realized. In addition, workforce
reductions and management changes create anxiety and uncertainty and may adversely affect
employee morale. As a result, we may lose employees whom we would prefer to retain. As a
result of these factors, our remaining personnel may seek employment with larger, more
established companies or companies perceived as having less volatile stock prices.

Provisions in our
agreements, charter documents, stockholder rights plan and Delaware law may deter
takeover attempts, which could decrease the value of your shares

Our
certificate of incorporation and bylaws and Delaware law contain provisions that could
make it more difficult for a third party to acquire us without the consent of our board of
directors. Our board of directors has the right to issue preferred stock without
stockholder approval, which could be used to dilute the stock ownership of a potential
hostile acquirer. Delaware law imposes some restrictions on mergers and other business
combinations between us and any holder of 15% or more of our outstanding common stock. In
addition, we have adopted a stockholder rights plan that makes it more difficult for a
third party to acquire us without the approval of our board of directors. These provisions
apply even if the offer may be considered beneficial by some stockholders.

Our stock price is
volatile and could result in a material decline in the value of your investment in Tegal.

We
believe that factors such as announcements of developments related to our business,
fluctuations in our operating results, sales of our common stock into the marketplace,
failure to meet or changes in analysts’ expectations, general conditions in the
semiconductor industry or the worldwide economy, announcements of technological
innovations or new products or enhancements by us or our competitors, developments in
patents or other intellectual property rights, developments in our relationships with our
customers and suppliers, natural disasters and outbreaks of hostilities could cause the
price of our common stock to fluctuate substantially. In addition, in recent years the
stock market in general, and the market for shares of small capitalization stocks in
particular, have experienced extreme price fluctuations, which have often been unrelated
to the operating performance of affected companies. There can be no assurance that the
market price of our common stock will not experience significant fluctuations in the
future, including fluctuations that are unrelated to our performance.

Potential disruption of
our supply of materials required to build our systems could have a negative effect on
our operations and damage our customer relationships.

Materials
delays have not been significant in recent years. Nevertheless, we procure certain
components and sub-assemblies included in our systems from a limited group of suppliers,
and occasionally from a single source supplier. For example, we depend on MECS
Corporation, a robotic equipment supplier, as the sole source for the robotic arm used in
all of our 6500 series systems. We currently have no existing supply contract with MECS
Corporation, and we currently purchase all robotic assemblies from MECS Corporation on a
purchase order basis. Disruption or termination of certain of these sources, including our
robotic sub-assembly source, could have an adverse effect on our operations and damage our
relationship with our customers.

Any failure by us to
comply with environmental regulations imposed on us could subject us to future
liabilities.

We
are subject to a variety of governmental regulations related to the use, storage,
handling, discharge or disposal of toxic, volatile or otherwise hazardous chemicals used
in our manufacturing process. We believe that we are currently in compliance in all
material respects with these regulations and that we have obtained all necessary
environmental permits generally relating to the discharge of hazardous wastes to conduct
our business. Nevertheless, our failure to comply with present or future regulations could
result in additional or corrective operating costs, suspension of production, alteration
of our manufacturing processes or cessation of our operations.

Special Note Regarding
Forward Looking Statements

This
Form 10-K includes or incorporates by reference forward-looking statements within the
meaning of Section 27A of the Securities Act and Section 21E of the Exchange Act.
Forward-looking statements, which are based on assumptions and describe our future plans,
strategies and expectations, are generally identifiable by the use of the words
“anticipate,” “believe,” “estimate,” “expect,”
“intend,” “project,” or similar expressions. These forward-looking
statements are subject to risks, uncertainties and assumptions about us. Important factors
that could cause actual results to differ materially from the forward-looking statements
we make in this Form 10-K are set forth under the caption “Risk Factors” and
elsewhere in this prospectus and the documents incorporated by reference in this Form
10-K. If one or more of these risks or uncertainties materialize, or if any underlying
assumptions prove incorrect, our actual results, performance or achievements may vary
materially from any future results, performance or achievements expressed or implied by
these forward-looking statements. All forward-looking statements attributable to us or
persons acting on our behalf are expressly qualified in their entirely by the cautionary
statements in this paragraph.

Item 2. Properties

We
maintain our headquarters, encompassing our executive office, manufacturing, engineering
and research and development operations, in one leased 45,064 square foot facility in
Petaluma, California. The lease, which was entered into on June 9, 2003, and is filed as
an exhibit to this Form 10-K, expires on December 31, 2009. The prior lease for the same
facility was due to expire in March 2004. The Company was leasing 120,000 sq. ft. and
occupying 80,000 sq. ft. with the balance subleased or available for sublease. The new
lease for 45,064 sq. ft. is for the occupied space only and the sub-tenants’ leases
have been assigned to the landlord. Other than certain large pieces of capital equipment
leased by us, we own substantially all of the machinery and equipment used in our
facilities. We believe that our existing facilities are adequate to meet our requirements
for several years.

We
lease an 18,000 square foot facility in Santa Barbara, California for manufacturing and
support of Sputtered Films tools. We currently occupy about 10,700 sq. ft. with the
remaining portion being sublet. The lease expires in September 2005 with an option to
extend for three additional years.

We
lease sales, service and process support space in Munich, Germany; Kawasaki, Japan;
Catania, Italy; and Hsin Chu City, Taiwan.

Item 3. Legal Proceedings

On
September 1, 1999, we filed a patent infringement action against Lam Research Corporation
(the ‘Lam’ case), asserting infringement of two of our patents directed to dual
frequency plasma processing technologies (the “'618 and the ‘223 patents). We
sought injunctive relief barring Lam from manufacturing, selling and supporting products
that incorporate our patented technology. We further sought enhanced damages for willful
infringement of our patents. The suit was initially filed in United States District Court
for the Eastern District of Virginia, but was transferred by that court to the United
States District Court of the Northern District of California.

Following
an adverse decision from the United States Court of Appeals for the Federal Circuit in a
prior case against Tokyo Electron Limited, Tegal voluntarily dismissed the ‘223
patent from the Lam case. A Markman hearing was held on the ‘618 patent in July 2002,
and in September 2002 the Court issued a claim interpretation ruling in which it
determined that the claim term “low frequency” means “less than
approximately 1Mhz.” In October 2002, Lam filed a motion for summary judgment of
non-infringement of the ‘618 patent. On January 14, 2003, after modifying its
original Markman ruling and further interpreting “low frequency” to have an
upper limit of 1.4 Mhz, the Court granted Lam’s motion for summary judgment of
noninfringement of the ‘618 patent. Following the disposition of all of Tegal’s
claims of infringement, Lam sought an award of attorney’s fees based on the
allegation that Tegal’s pursuit of the case should be deemed “exceptional.”
On June 5, 2003, the Court granted Tegal’s motion for entry of judgment and request
for a determination that the case is not exceptional (effectively denying Lam’s
demand for attorneys fees). Tegal is considering whether or not to appeal the summary
judgment ruling of noninfringement of the ‘618 patent. At the present time we cannot
assure you of the outcome of any such appeal may have on our business.

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

No
matters were submitted to a vote of security holders during the fiscal fourth quarter
ended March 31, 2003.

On
April 28, 2003 at a special meeting of our stockholders, our board of directors was
granted the authority to effect a reverse split of our common stock within a range of
two-for-one to fifteen-for-one. The timing and ratio of a reverse split, if any, is at the
sole discretion of our board of directors.

EXECUTIVE OFFICERS OF
THE REGISTRANT

The
following sets forth certain information regarding our executive officers as of March 31,
2003:

[X]

dilution
of our current stockholders due to issuances of additional securities as
consideration for acquisitions.

Michael
L. Parodi joined us as Director, President and Chief Executive Officer in December
1997 and assumed the additional role of Chairman of the Board in March 1999. From 1991 to
1996, Mr. Parodi was Chairman of the Board, President and Chief Executive Officer of
Semiconductor Systems, Inc. (“SSI”), a manufacturer of photolithography
processing equipment sold to the semiconductor and thin film head markets until SSI was
merged with FSI International (“FSI”). Mr. Parodi remained with FSI as Executive
Vice President and General Manager of SSI from the time of the merger to December 1997,
integrating SSI into FSI. In 1990, Mr. Parodi led the acquisition of SSI from General
Signal Corporation. Prior to 1990, Mr. Parodi held various senior engineering and
operations management positions with General Signal Corporation, Signetics Corporation,
Raytheon Company, Fairchild Semiconductor Corporation and National Semiconductor
Corporation. Mr. Parodi currently is a member of the Semiconductor Equipment and Materials
International Board of Directors.

Thomas
R. Mika joined us in August 2002 as Executive Vice President and Chief Financial
Officer. Mr. Mika has served as a director of Tegal since June 1992. From January 1982
until December 2001, he was the Managing Director of IMTEC, a private investment firm.
During his tenure at IMTEC, Mr. Mika served as President and Chief Executive Officer of
Soupmasters International, Inc., which filed for Chapter 11 protection in April 2000. On
July 12, 2001, that company’s plan of reorganization was confirmed by the Federal
Bankruptcy Court and the bankruptcy proceedings were closed on October 19, 2001. Mr. Mika
was also Managing Director of DISC International, Inc., a software company headquartered
in England, and President of its U.S.-based subsidiary. While at IMTEC, he was involved in
the financing and start-up of several companies, and acted as a financial advisor to
several companies in merger and acquisition activities. Prior to founding IMTEC, Mr. Mika
was a managing consultant with Cresap, McCormick & Paget and a science policy analyst
for the National Science Foundation. He received a Masters in Business Administration from
the Harvard Graduate School of Business.

Carole
Anne Demachkie joined Sputtered Films in January of 1997 as Director of Corporate
Communications. In 1999, Ms. Demachkie assumed the additional role of Manager of Customer
Service and in 2001 was asked to increase her responsibilities to include general
management of the day-to-day operations of the Company, reporting directly to the
President, Peter Clarke. When the Company merged with Tegal Corporation in August of 2002,
Ms. Demachkie became Vice President of Tegal, and General Manager of Sputtered Films. From
1986 to 1996, Ms. Demachkie owned and operated Clarke Design, a full service advertising
and design agency in Santa Barbara, serving a variety of high-tech and development firms,
including Sputtered Films.

Stephen
P. Deornellas joined us in July 1990 as Vice President of Marketing and Technology,
served as Vice President of Process Technology from April 1995 until June 1996, at which
time he was appointed Vice President, Technology and Corporate Development and Chief
Technical Officer. From 1989 to 1990 he was Vice President of Marketing for the Wafer
Inspection Systems Division of KLA Instruments Corporation (“KLA”). From 1981 to
1989 he held a variety of product development and marketing management positions,
including Vice President Marketing from 1987 to 1989, Vice President of Process
Engineering from 1983 to 1987, and Senior Process Engineer from 1981 to 1983, with Lam
Research Corporation where he had responsibility for the development and introduction of
the Lam Autoetch and Rainbow product lines.

George
B. Landreth joined us in November 1992 as Manager of Mechanical Engineering where he
was responsible for directing the development of our 6500 series critical etch systems
platform. From June 1996 until April 1997 he served as Director of Program Development, at
which time he was promoted to Vice President, Product Development. Prior to joining us,
Mr. Landreth held product development engineering management and design engineering
positions with KLA, Silicon Valley Group, Inc., Optoscan Corporation, Eaton Corporation,
Siltec Corporation and Peterbilt Motors.

James
D. McKibben joined us in June 1996 as Vice President, Worldwide Sales. In November
1998, he assumed the additional role of Vice President, Marketing. Prior to joining us,
from 1995 to 1996 and from 1988 to 1992, Mr. McKibben was Vice President, Marketing, Sales
and Customer Support for MRS Technology, Inc., a lithography equipment manufacturer for
flat panel displays. From 1993 to 1995, he served as Director of Marketing and Sales for
SSI. From 1992 to 1993, he was Regional Manager for Kulicke and Soffa Industries, Inc., a
maker of wire bonders and other back-end assembly equipment for the IC industry. Prior to
1988, Mr. McKibben held several sales and service management positions with Wild/Lietz,
Inc., GCA Corporation and J.T. Baker Chemical Company.

There
are no family relationships between any director, executive officer or person nominated to
become a director or executive officer.

PART II

Item 5. Market for the
Registrant’s Common Equity and Related Stockholder Matters

Since
May 6, 2003, our common stock has traded on the Nasdaq SmallCap Market under the symbol
TGAL. Prior to this date, our common stock traded on the Nasdaq National Market since
October 19, 1995. The following table sets forth the range of high and low sales prices
for our common stock for each quarter during the prior two fiscal years.

Name	Age	Position
Michael L. Parodi	54	Chairman of the Board of Directors, President and Chief Executive Officer
Thomas R. Mika	51	Executive Vice President and Chief Financial Officer
Carole Anne Demachkie	40	Vice President, General Manager, Sputtered Films, Inc.
Stephen P. DeOrnellas	48	Vice President, Technology and Corporate Development and Chief Technical Officer
George B. Landreth	48	Vice President, Product Development
James D. McKibben	52	Vice President, Worldwide Sales and Marketing

The
approximate number of record holders of our common stock as of March 31, 2003 was 297. We
have not paid any cash dividends since our inception and do not anticipate paying cash
dividends in the foreseeable future. Further, our domestic line of credit restricts the
declaration and payment of cash dividends.

Equity Compensation
Plan Information

FISCAL YEAR 2002	High	Low
First Quarter	$3.450	$2.031
Second Quarter	3.000	1.000
Third Quarter	1.810	1.100
Fourth Quarter	2.000	1.050
FISCAL YEAR 2003
First Quarter	1.420	0.130
Second Quarter	1.300	0.330
Third Quarter	0.880	0.130
Fourth Quarter	0.790	0.250

Item 6. Selected Financial Data

Plan Category	Number of securities to be issued upon exercise of outstanding options, warrants and rights	Weighted-average exercise price of outstanding options, warrants and rights		Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in column (a))
	(a)	(b)		(c)
Equity compensation Plans approved by security holders
Equity Incentive Plan	1,396,345	$ 4.03		--
1990 Stock Option Plan	192,516	5.88		--
1998 Equity Participation Plan	1,042,075	2.62	1,357,925
Directors Stock Option Plan	495,000	2.53		90,000
Equity Compensation Plans not approved by security holders	--	--		--
Total	3,125,936	$15.06	1,447,925

	Year Ended March 31,

	2003		2002		2001		2000		1999

	(In thousands, except per share data)
Consolidated Statements of Operations Data:
Revenue	$ 14,100		$ 21,606		$ 38,205		$ 26,438		$ 29,035
Gross profit (loss)	(66	)	6,676		13,915		9,231		8,161
Operating loss	(12,617	)	(8,235	)	(7,226	)	(12,932	)	(15,402	)
Income (loss) before provision for income taxes and
cumulative effect of change in accounting principle	(12,625	)	(8,730	)	1,096		(12,571	)	(14,997	)
Net income (loss)	(12,625	)	(8,730	)	699		(12,571	)	(15,132	)
Net income (loss) per share: (1)
Basic	(0.82	)	(0.67	)	0.06		(1.15	)	(1.42	)
Diluted	(0.82	)	(0.67	)	0.05		(1.15	)	(1.42	)
Shares used in per share computation:
Basic	15,311		13,030		12,499		10,964		10,630
Diluted	15,311		13,030		12,838		10,964		10,630

_________________


	March 31,

	2003	2002	2001	2000	1999

	(In thousands, except per share data)
Consolidated Balance Sheet Data:
Cash and cash equivalents	$ 912	$ 8,100	$12,649	$12,627	$17,569
Working capital	5,041	20,816	26,551	24,993	27,298
Total assets	17,209	29,227	42,252	35,573	39,652
Notes payable to banks and others	426	922	3,884	560	253
Stockholders' equity	11,123	22,286	28,609	27,431	30,816

Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

Information
contained herein contains “forward-looking statements” within the meaning of the
Private Securities Litigation Reform Act of 1995, which can be identified by the use of
forward-looking terminology such as “may,” “will,” “expect,”
“anticipate,” “estimate” or “continue” or the negative
thereof or other variations thereon or comparable terminology or which constitute
projected financial information. The following contains cautionary statements identifying
important factors with respect to such forward-looking statements, including certain risks
and uncertainties, that could cause actual results to differ materially from those in such
forward-looking statements. See “Risk Factors.”

Company Overview

On
August 30, 2002, we acquired Sputtered Films, Incorporated (“SFI”), a privately
held California corporation, pursuant to an Agreement and Plan of Merger dated August 13,
2002. SFI is a leader in the design, manufacture and service of high performance physical
vapor deposition sputtering systems for the semiconductor and semiconductor packaging
industry. SFI was founded in 1967 with the development of the S-Gun, a core technology of
the acquired company.

Critical Accounting
Policies and Estimates

Our
discussion and analysis of the financial condition and results of operations are based
upon our consolidated financial statements, which have been prepared in accordance with
accounting principles generally accepted in the United States of America. 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 inventory, warranty obligations, purchase order commitments,
bad debts, income taxes, intangible assets, restructuring and contingencies and
litigation. We base our estimates on historical experience and on various other
assumptions that we believe 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

Revenue
is only recognized when persuasive evidence of an arrangement exists, delivery has
occurred or services have been rendered, the sales price is fixed or determinable, and
collectibility is reasonably assured. We defer revenue recognition for new product sales
until both installation and customer acceptance have occurred. For sales of existing
products, upon the transfer of title and risk of loss, revenue is recorded at the lesser
of the fair value of the equipment or the contractual amount billable upon shipment. The
remainder is recorded as deferred revenue and recognized as revenue upon installation and
customer acceptance. Revenue for spare part sales is generally recognized upon shipment.
Services revenue is recognized as the related services are provided, unless services are
paid for in advance according to service contracts, in which case revenue is deferred and
recognized over the service period using the straight-line method.

Accounts Receivable
– Allowance for Doubtful Accounts

We
maintain an allowance for doubtful accounts receivable for estimated losses resulting from
the inability of our customers to make required payments. If the financial condition of
our customers were to deteriorate, or even a single customer was otherwise unable to make
payments, additional allowances may be required. Given the average selling prices of our
systems, a single customer default could have a material adverse effect on our
consolidated financial position, results of operations, and cash flows.

Inventory

We
estimate the effects of excess and obsolescence on the carrying values of our inventories
based upon estimates of future demand and market conditions. We reserve inventories in
excess of production demand. Should actual production demand differ from our estimates,
additional inventory write-downs may be required, as was the case in the second quarter of
fiscal 2003.

Impairment of Long-Lived
Assets

Long-lived
assets are reviewed for impairment whenever events or changes in circumstances indicate
that the carrying amount may not be recoverable. If undiscounted expected future cash
flows are less than the carrying value of the assets, an impairment loss is recognized
based on the excess of the carrying amount over the fair value of the assets.

Warranty Obligations

We
provide for the estimated cost of our product warranties at the time revenue is
recognized. Our warranty obligation is affected by product failure rates, material usage
rates and the efficiency by which the product failure is corrected. Should actual product
failure rates, material usage rates and labor efficiencies differ from our estimates,
revisions to the estimated warranty liability may be required.

Deferred Taxes

We
record a valuation allowance to reduce our deferred tax assets to the amount that is more
likely than not to be realized. Based on the uncertainty of future pre-tax income, we have
fully reserved our deferred tax assets as of March 31, 2003. In the event we were to
determine that we would be able to realize our deferred tax assets in the future, an
adjustment to the deferred tax asset would increase income in the period such
determination was made.

Results of Operations

Tegal
designs, manufactures, markets and services plasma etch and deposition systems that enable
the production of integrated circuits (“ICs”), memory and related
microelectronics devices used in personal computers, wireless voice and data
telecommunications, contact-less transaction devices, radio frequency identification
devices (“RFID’s”), smart cards, data storage and micro-level actuators.
With the acquisition of Sputtered Films on August 30, 2002 for stock consideration and
assumed liabilities of approximately $1.6 million, we now also provide deposition
capabilities. The acquisition of Sputtered Films secured a source for a complementary
deposition technology for our new materials strategy.

The
following table sets forth certain financial data for the years indicated as a percentage
of revenue:

(1)

See Note 3 of our Consolidated Financial Statements for an explanation of the
computation of earnings per share.

Years Ended March 31,
2003, 2002 and 2001

Revenue

Our
revenue is derived from sales of new and refurbished systems, spare parts and non-warranty
service. Revenue decreased 35 percent in fiscal 2003 from fiscal 2002 (to $14.1 million
from $21.6 million). The revenue decrease in fiscal 2003 compared to fiscal 2002 was
principally attributable to a sharp decrease in the sale of our 900 series systems during
the economic slow down and two fewer 6500 series system sales, offset in part by the sale
of one Endeavor system, in addition to lower spares and service sales. We believe the
lower spares and service sales is the result of lower usage of the systems previously
installed, occurring naturally as a result of lower capacity utilization by our customers.
We believe that we have seen a “bottoming-out” of spares and service revenues,
indicating higher utilization of our equipment. Revenue decreased 43 percent in fiscal
2002 from fiscal 2001 (to $21.6 million from $38.2 million). The revenue decrease in
fiscal 2002 compared to fiscal 2001 was principally attributable to a sharp decrease in
the sale of our 900 series systems during the economic slow down and lower spares sales.

International
sales accounted for approximately 66, 67 and 61 percent of total revenue in fiscal 2003,
2002 and 2001, respectively. We expect that international sales will continue to account
for a significant portion of our revenue.

Gross Profit (Loss)

Our
gross profit (loss) as a percentage of revenue (gross margin) decreased to (0.5) percent
in fiscal 2003 compared to 31 percent in fiscal 2002. The gross margin decrease in fiscal
2003 as compared to fiscal 2002 was principally due to an inventory write down of
approximately $1.9 million in the second quarter, accompanied by lower gross margins for
systems because of lower volumes and continued high overhead costs. Our gross profit as a
percentage of revenue (gross margin) decreased to 31 percent in fiscal 2002 compared to 36
percent in fiscal 2001. The gross margin decrease in fiscal 2002 as compared to fiscal
2001 was principally due to lower gross margins for systems because of lower volumes
offset slightly by increased margins in spares and service.

Our
gross profit as a percentage of revenue has been, and will continue to be, affected by a
variety of factors, including the mix and average selling prices of systems sold and the
costs to manufacture, service and support new product introductions and enhancements.
Gross margins for our 6500 series systems are typically lower than those of our more
mature 900 series systems due to the inefficiencies and lower vendor discounts associated
with lower order volumes and increased service, installation and warranty support.
However, gross profit improvement is one of our highest priorities. We believe that the
results of our overhead reductions, along with a reclassification of certain assets will
begin to exhibit themselves in gross profit improvements, especially as our sales volume
increases.

Research and Development

Research
and development expenses consist primarily of salaries, prototype material and other costs
associated with our research and product development efforts. In absolute dollars,
research and development expenses decreased to $4.8 million in fiscal 2003 from $5.9
million in fiscal 2002. The absolute dollar decrease in fiscal 2003 expenses from fiscal
year 2002 was due primarily to cuts in expenses within non-essential programs. As a
percentage of revenue, research and development increased to 34.2 percent in fiscal 2003
from 27.4 percent in fiscal 2002. In absolute dollars, research and development expenses
decreased to $5.9 million in fiscal 2002 from $8.9 million in fiscal 2001. Research and
development as a percentage of revenue increased to 27.4 percent in fiscal 2002 from 23.4
percent in fiscal 2001. The absolute dollar decrease in fiscal 2002 expenses from fiscal
year 2001 was due primarily to strategic cuts in expenses. Although our R&D expense in
absolute dollars is decreasing year over year, we continue to maintain active process
development efforts in support of our new materials strategy. For several years, our
research and development efforts have been focused primarily on customer needs for process
solutions rather than hardware developments, which typically require substantially more
investment.

Sales and Marketing

Sales
and marketing expenses primarily consist of salaries, commissions, trade show promotion
and advertising expenses. In absolute dollars, sales and marketing expenses decreased to
$2.9 million in fiscal year 2003 from $4.0 million in fiscal 2002. As a percentage of
revenue, sales and marketing expenses increased to 20.7 percent in fiscal year 2003 from
18.5 percent in fiscal 2002. The absolute dollar decrease in fiscal 2003 from fiscal year
2002 was primarily due to our cuts in expenses, such as a reduced presence at regional
trade shows and conferences and lower advertising expenses. We naturally have lower
commission expense due to reduced system sales, and have converted from direct sales to
manufacturer’s representatives in some foreign markets where business is very soft.
Nevertheless, we believe that we have sufficient coverage in all markets to ensure that we
are under consideration by customers who are in a position to commit funds to capital
equipment purchases. In absolute dollars, sales and marketing expenses decreased to $4.0
million in fiscal year 2002 from $5.1 million in fiscal 2001. As a percentage of revenue,
sales and marketing expenses increased to 18.5 percent in fiscal year 2002 from 13.5
percent in fiscal 2001. The absolute dollar decrease in fiscal 2002 from fiscal year 2001
was primarily due to our strategic cuts in expenses.

General and Administrative

General
and administrative expenses consist of salaries, legal, accounting and related
administrative services and expenses associated with general management, finance,
information systems, human resources and investor relations activities. General and
administrative expenses in absolute dollars decreased slightly to $4.8 million in fiscal
2003 from $5.0 million in fiscal 2002. The absolute dollar decreases in spending were
related to continued strategic expense cuts, offset in part by the cost of the acquisition
of Sputtered Films and their operations in August 2002. As a percentage of revenues,
general and administrative expenses increased to 34.1 percent, up from 23.1 percent in
fiscal 2002. General and administrative expenses in absolute dollars decreased to $5.0
million in fiscal 2002 from $7.1 million in fiscal 2001. As a percentage of revenues,
general and administrative expenses increased to 23.1 percent, up from 18.4 percent in
fiscal 2001. We continue to seek improvements in productivity in all general and
administrative expense areas through reduction and cross-training of personnel, tighter
management of outside service providers and the lowering of costs associated with being a
public company.

Other Income (Expense),
Net

Other
income (expense), net, consists principally of royalty income, interest income, interest
expense, gains and losses on foreign exchange and the sale of fixed assets. We recorded
net non-operating expense of $8 thousand in fiscal 2003 and $0.5 million in fiscal 2002.
In 2003, interest expense was greatly reduced due to reduced borrowings on both the
Japanese and domestic lines of credit. We recorded net non-operating expense of $0.5
million in fiscal 2002 and income of $8.3 million in fiscal 2001. In 2002, net
non-operating expense was primarily due to interest expense while in 2001, net
non-operating income was primarily due to licensing fees received for non-exclusive patent
rights.

Provision for Income Taxes

Our
effective tax rate was zero percent in fiscal 2003 and 2002 and 2.3 percent in fiscal
2001. We recorded a small provision for federal alternative minimum tax in fiscal year
2001. No tax benefit was recorded for the losses incurred in fiscal 2003 and 2002 due to
uncertainty related to the realization of such benefits.

Cumulative Effect of
Change in Accounting Principle

In
December 1999, the Securities and Exchange Commission issued Staff Accounting Bulletin No.
101, “Revenue Recognition in Financial Statements” (“SAB 101”). SAB
101 summarizes certain areas of the Staff’s views in applying generally accepted
accounting principles to revenue recognition. Prior to the adoption of SAB 101, we
recognized revenue from the sales of our products when title passed to the customer, and
accrued for the costs of installation and estimated warranty costs. Under the new
accounting method adopted retroactively to April 1, 2000, no revenues are recognized until
both title and risk of loss have passed to the customer and we defer revenue recognition
for new product sales until installation and customer acceptance have occurred. For sales
of existing products, upon the transfer of title and risk of loss, revenue is recorded at
the lesser of the fair value of the equipment or the contractual amount billable upon
shipment. The remainder is recorded as deferred revenue and recognized as revenue upon
installation and customer acceptance. Revenue recognition for spare part sales has
generally not changed under the provisions of SAB 101. Services revenue recognition is
also unchanged, with such revenue recognized as the related services are provided, unless
services are paid for in advance according to service contracts, in which case revenue is
deferred and recognized over the service period using the straight-line method. In all
cases, revenue is only recognized when persuasive evidence of an arrangement exists,
delivery has occurred or services have been rendered, our price is fixed or determinable,
and collectibility is reasonably assured.

During
the fourth quarter of fiscal 2001, we implemented SAB 101, retroactive to the beginning of
the fiscal year. This was reported as a cumulative effect of a change in accounting
principle as of April 1, 2000. The cumulative effect of the change in accounting principle
on prior years resulted in a charge to income of $372,000 (net of income taxes of $0),
which has been included in income for the year ended March 31, 2001. For fiscal 2001, we
recognized $478,000 in revenue that is included in the cumulative effect of the change in
accounting principle.

Liquidity and Capital
Resources

Net
cash used in operations was $6.0 million in fiscal 2003, due principally to a loss of
$11.6 million (after adjusting for depreciation and amortization) and a decrease in
accounts payable, accrued liabilities, and deferred revenue, offset in part by a decrease
in accounts receivable, inventory and prepaid assets. Net cash used in operations was $3.6
million in fiscal 2002 due principally to a loss of $7.8 million (after adjusting for
depreciation and amortization) and a decrease in accounts payable and other current
liabilities, offset in part by a decrease in accounts receivable, inventory and prepaid
expenses. Net cash used in operations was $2.9 million in fiscal 2001 due principally to
income of $2.1 million (after adjusting for depreciation and amortization) and an increase
in accounts payable and other accrued liabilities, offset by an increase in accounts
receivable, inventory and prepaid expenses.

Net
capital expenditures totaled $0.5 million, $0.5 million and $0.9 million, in fiscal 2003,
2002 and 2001, respectively. Capital expenditures in all three years were incurred
principally for demonstration equipment, leasehold improvements and to acquire design
tools, analytical equipment and computers. Fiscal 2003 investing activities also included
$0.2 million of cash transaction costs related to the SFI acquisition, net of cash
acquired.

Net
cash used in financing activities totaled $0.8 million for fiscal 2003 due principally to
decreased borrowings against the domestic line of credit. Net cash used in financing
activities totaled $0.7 million for fiscal 2002 due principally to decreased borrowings
against the domestic line of credit, partially offset by the $2.2 million of net proceeds
from the sale of common stock and warrants. Net cash provided by financing activities
totaled $3.6 million for fiscal 2001 due principally to increased borrowings against the
domestic line of credit.

As
of March 31, 2003, we had $0.9 million of cash and cash equivalents. In addition to cash
and cash equivalents, our other principal sources of liquidity consist of unused portions
of several bank borrowing facilities. As of March 31, 2003, we had available $10.0 million
of unused domestic credit line availability based on borrowing ratios with no borrowing
against that line. The domestic credit line bears interest at prime plus 1 percent, or
5.25% as of March 31, 2003. The domestic line of credit has a $10 million maximum
borrowing capacity secured by substantially all of our assets and is limited by the
amounts of eligible accounts receivable and inventory on the balance sheet. This facility
will be available until July 24, 2004. In addition to the foregoing facility, as of March
31, 2003, our Japanese subsidiary had a line of credit available for a total of 150
million Yen (approximately $1.3 million at exchange rates prevailing on March 31, 2003)
collateralized by Japanese customer promissory notes held by such subsidiary in advance of
payment on customers’ accounts receivable with 8.4 million yen borrowed
(approximately $0.07 million at exchange rates prevailing on March 31, 2003). The Japanese
bank line bears interest at Japanese prime (1.375 percent as of March 31, 2003) plus 1.0
percent.

The
Company incurred net losses of $12.6 million and $8.7 million for the years ended March
31, 2003 and 2002, respectively, generated negative cash flows from operations of $6.2
million and $3.6 million in these years, and has a cash balance of $912 at March 31, 2003,
which raises substantial doubt about its ability to continue as a going concern. The
Company’s plans with respect to this matter include (1) the restructuring executed in
the third and fourth quarters of fiscal 2003, which further reduced employee headcount,
(2) the restructuring of the Company’s Petaluma facility lease which reduced both
available square footage and expected fiscal 2004 payments to the lessor (see note 6) and
(3) ongoing negotiations to raise debt financing. The Company believes the cost reductions
and a projected increase in sales during fiscal 2004 will generate sufficient cash flows
to fund its operations through March 31, 2004. However, the projected sales are to a
limited number of new and existing customers and are based on internal and customer
provided estimates of future demand, not firm customer orders. If the projected sales do
not materialize, the Company will need to reduce expenses further and raise additional
capital through the issuance of debt or equity securities. If additional funds are raised
through the issuance of preferred stock or debt, these securities could have rights,
privileges or preferences senior to those of common stock, and debt covenants could impose
restrictions on the Company’s operations. The sale of equity or debt could result in
additional dilution to current stockholders, and such financing may not be available to
the Company on acceptable terms, if at all.

The
following summarizes our contractual obligations at March 31, 2003, and the effect such
obligations are expected to have on our liquidity and cash flows in future periods (in
thousands):

	Year ended March 31,

	2003		2002		2001

Revenue	100.0	%	100.0	%	100.0	%
Cost of revenue	100.5		69.1		63.6
Gross profit (loss)	(0.5	)	30.9		36.4
Operating expenses:
Research and development expenses	34.2		27.4		23.4
Sales and marketing expenses	20.7		18.5		13.5
General and administrative expenses	34.1		23.1		18.4

Total operating expenses	89.0		69.0		55.3

Operating loss	(89.5	)	(38.1	)	(18.9	)
Other income (expense), net	--		(2.3	)	21.8
Income (loss) before provision for income taxes
and cumulative effect of change in accounting principle	(89.5	)	(40.4	)	2.9
Provision for income taxes	--		--		0.1

Income (loss) before cumulative effect of change in accounting principle	(89.5	)	(40.4	)	2.8

Cumulative effect of change in accounting principle	--		--		(1.0	)
Net income (loss)	(89.5	)%	(40.4	)%	1.8	%

Certain
sales contracts of the Company include provisions under which customers would be
indemnified by the Company in the event of, among other things, a third-party claim
against the customer for intellectual property rights infringement related to the
Company’s products. There are no limitations on the maximum potential future payments
under these guarantees. The Company has accrued no amounts in relation to these provisions
as no such claims have been made and the Company believes it has valid, enforceable rights
to the intellectual property embedded in its products.

Item 7A. Quantitative
and Qualitative Disclosure about Market Risk

Market Risk Disclosure

We
are exposed to financial market risks, including changes in foreign currency exchange
(“FX”) rates and interest rates. To mitigate the risks associated with FX rates,
we utilize derivative financial instruments. We do not use derivative financial
instruments for speculative or trading purposes.

We
manufacture the majority of our products in the United States of America; however, we
service customers worldwide and thus have a cost base that is diversified over a number of
European and Asian currencies as well as the U.S. dollar. This diverse base of local
currency costs serves to mitigate partially the earnings effect of potential changes in
value of our local currency denominated revenue. Additionally, we denominate our export
sales in U.S. dollars, whenever possible.

We
manage short-term exposures to changing FX rates with financial market transactions,
principally through the purchase of forward FX contracts to offset the earnings and
cash-flow impact of the nonfunctional currency-denominated receivables. Forward FX
contracts are denominated in the same currency as the receivable being hedged, and the
term of the forward FX contract matches the term of the underlying receivable. The
receivables being hedged arise from trade transactions and other firm commitments
affecting us.

We
do not hedge our foreign currency exposures in a manner that would entirely eliminate the
effects of changes in FX rates on our operations. Accordingly, our reported revenue and
results of operations have been, and may in the future be, affected by changes in the FX
rates. We have utilized a sensitivity analysis for the purpose of identifying market risk
in relation to underlying transactions that are sensitive to FX rates including foreign
currency forward exchange contracts and nonfunctional currency denominated receivables.
The net amount that is exposed to changes in foreign currency rates was evaluated against
a 10% change in the value of the foreign currency versus the U.S. dollar. Based on this
analysis, we believe that we are not materially sensitive to changes in foreign currency
rates on our net exposed FX position.

A
49 basis-point move in the weighted average interest rates (10% of our weighted average
interest rates in 2003) affecting our floating rate financial instruments as of March 31,
2003 would have an immaterial effect on our pretax results of operations over the next
fiscal year.

All
of the potential changes noted above are based on sensitivity analyses performed on our
balances as of March 31, 2003.

Item 8. Financial
Statements and Supplementary Data

TEGAL CORPORATION

CONSOLIDATED BALANCE
SHEETS

	Less than		After
Contractual obligations:	Total	1 Year	1-3 Years	3 Years
Non-cancelable capital lease obligations	$ 47.0	$ 9.7	$ 23.6	$ 13.7
Non-cancelable operating lease obligations	5,687.4	1,031.7	1,808.1	2,847.6
Notes payable	308.0	308.0	--	--

Total contractual cash obligations	$6,042.4	$1,349.4	$1,831.7	$2,861.3

See
accompanying notes to consolidated financial statements.

TEGAL CORPORATION

CONSOLIDATED
STATEMENTS OF OPERATIONS

	March 31,

	2003		2002

	(In thousands, except share data)
ASSETS
Current assets:
Cash and cash equivalents	$ 912		$ 8,100
Accounts receivable, net of allowances for sale returns and doubtful accounts
of $213 and $399 at March 31, 2003 and 2002, respectively	2,681		2,579
Inventory	7,032		15,577
Prepaid expenses and other current assets	465		1,492

Total current assets	11,090		27,748
Property and equipment, net	4,916		1,382
Intangible assets, net	959		--
Other assets	244		97

Total assets	$ 17,209		$ 29,227

LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Notes payable	$ 389		$ 913
Accounts payable	1,923		1,166
Deferred revenue	324		932
Accrued expenses and other current liabilities	3,413		3,921

Total current liabilities	6,049		6,932
Long term portion of capital lease obligations	37		9

Total liabilities	6,086		6,941

Commitments and contingencies (Note 6)
Stockholders' equity:
Preferred stock; $0.01 par value; 5,000,000 shares authorized; none
issued and outstanding	--		--
Common stock; $0.01 par value; 35,000,000 shares authorized; 16,091,762
and 14,310,938 shares issued and outstanding at March 31, 2003 and 2002, respectively	161		143
Additional paid-in capital	68,806		67,315
Accumulated other comprehensive income	465		512
Accumulated deficit	(58,309	)	(45,684	)

Total stockholders' equity	11,123		22,286

Total liabilities and stockholders' equity	$ 17,209		$ 29,227

See
accompanying notes to consolidated financial statements.

TEGAL CORPORATION

CONSOLIDATED
STATEMENTS OF STOCKHOLDERS’ EQUITY

	Year Ended March 31,

	2003		2002		2001

	(In thousands, except share and per share data)
Revenue	$ 14,100		$ 21,606		$ 38,205
Cost of revenue	14,166		14,930		24,290

Gross profit (loss)	(66	)	6,676		13,915

Operating expenses:
Research and development expenses	4,815		5,928		8,939
Sales and marketing expenses	2,922		3,996		5,140
General and administrative expenses	4,814		4,987		7,062

Total operating expenses	12,551		14,911		21,141

Operating loss	(12,617	)	(8,235	)	(7,226	)
Other income (expense), net	(8	)	(495	)	8,322
Income (loss) before provision for income taxes and cumulative
effect of change in accounting principle	(12,625	)	(8,730	)	1,096
Provision for income taxes	--		--		25

Income (loss) before cumulative effect of change in accounting principle	(12,625	)	(8,730	)	1,071
Cumulative effect of change in accounting principle, net of tax of $0	--		--		(372	)
Net income (loss)	$(12,625	)	$(8,730	)	$ 699

Income (loss) per share before cumulative effect of
change in accounting principle:
Basic	$ (0.82	)	$ (0.67	)	$ 0.09
Diluted	(0.82	)	(0.67	)	0.08
Cumulative effect of change in accounting principle per share:
Basic	$ --		$ --		$ (0.03	)
Diluted	--		--		(0.03	)
Net income (loss) per share:
Basic	$ (0.82	)	$ (0.67	)	$ 0.06
Diluted	(0.82	)	(0.67	)	0.05
Weighted average shares used in per share computations:
Basic	15,311		13,030		12,499
Diluted	15,311		13,030		12,838

See
accompanying notes to consolidated financial statements.

TEGAL CORPORATION

CONSOLIDATED
STATEMENTS OF CASH FLOWS

	Common Stock
	Shares	Amount	Additional Paid-in Capital	Accumulated Other Comprehensive Income		Accumulated Deficit		Total StockHolders' Equity		Comprehensive Income (Loss)

	(In thousands, except share and per share data)
Balances at March 31, 2000	12,452,744	$124	$64,699	$ 261		$(37,653	)	$ 27,431
Common stock issued under option and
stock purchase plans	119,508	2	388	--		--		390
Net income	--	--	--	--		699		699		$ 699
Cumulative translation adjustment	--	--	--	89		--		89		89
Total comprehensive income	--	--	--	--		--		--		$ 788

Balances at March 31, 2001	12,572,252	126	65,087	350		(36,954	)	28,609
Common stock issued under option and
stock purchase plans	77,681	1	97	--		--		98
Common stock sold	1,661,005	16	2,131	--		--		2,147
Net loss	--	--	--	--		(8,730	)	(8,730	)	$(8,730	)
Cumulative translation adjustment	--	--	--	162		--		162		162
Total comprehensive loss	--	--	--	--		--		--		$(8,568	)

Balances at March 31, 2002	14,310,938	$143	$67,315	$ 512		$(45,684	)	$ 22,286
Common stock issued under option and
stock purchase plans	55,412	1	25	--		--		26
Common stock issued for acquisition	1,499,987	15	1,170	--		--		1,185
Common stock issued for services
rendered	225,425	2	102	--		--		104
Warrants and options to purchase common
stock issued for services rendered .	--	--	194	--		--		194
Net loss	--	--	--	--		(12,625	)	(12,625	)	$(12,625	)
Cumulative translation adjustment	--	--	--	(47	)	--		(47	)	(47	)
Total comprehensive loss	--	--	--	--		--		--		$(12,672	)

Balances at March 31, 2003	16,091,762	$161	$68,806	$ 465		$(58,309	)	$ 11,123

Supplemental Schedule of Non Cash
Investing Activities (amounts in thousands, except shares):

The
Company reclassified finished goods inventory of $3,698 to property and equipment during
the quarter ended September 30, 2002 as the systems are being used for customer testing,
training and demonstration purposes and the Company does not believe such equipment will
be sold in the upcoming twelve months.

On
August 30, 2002, the Company acquired the outstanding capital stock of Sputtered Films,
Inc. Consideration totaled $1,560 and consisted of 1,499,987 shares of the Company’s
common stock valued at $1,185 and transaction costs of $375. The purchase price was
allocated as follows:

	Year Ended March 31,

	2003		2002		2001

Cash flows from operating activities:	(In thousands)
Net income (loss)	$(12,625	)	$(8,730	)	$ 699
Adjustments to reconcile net income (loss) to net
cash used in operating activities:
Depreciation and amortization	1,043		891		1,362
Allowance for doubtful accounts and for sales return	(186	)	272		(322	)
Cumulative effect of change in accounting principle	--		--		372
Warrants and options issued for services rendered	143		--		--
Changes in operating assets and liabilities, net of acquisition:
Accounts receivable	363		5,361		(1,232	)
Inventory	5,328		1,927		(4,961	)
Prepaid expenses and other assets	1,004		692		(1,102	)
Accounts payable and other current liabilities	(1,054	)	(4,016	)	2,326

Net cash used in operating activities	(5,984	)	(3,603	)	(2,858	)

Cash flows from investing activities:
Purchases of property and equipment	(295	)	(501	)	(910	)

Business acquisition, net of cash acquired	(184	)	--		--

Net cash used in investing activities	(479	)	(501	)	(910	)

Cash flows from financing activities:
Net proceeds from issuance of common stock	21		2,245		390
Borrowings under notes payable	5,590		23,834		40,757
Repayment of notes payable	(6,386	)	(26,722	)	(37,433	)
Repayment of capital lease obligations	(45	)	(74	)	(104	)

Net cash provided by (used in) financing activities	(820	)	(717	)	3,610

Effect of exchange rates on cash and cash equivalents	95		272		180

Net increase (decrease) in cash and cash equivalents	(7,188	)	(4,549	)	22
Cash and cash equivalents at beginning of year	8,100		12,649		12,627

Cash and cash equivalents at end of year	$ 912		$ 8,100		$ 12,649

Supplemental disclosures of cash paid during the year for:
Income taxes	$ --		$ --		$ 35

Interest	$ 581		$ 508		$ 557

See
accompanying notes to consolidated financial statements.

TEGAL CORPORATION

NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS

(All amounts in
thousands, except per share data and share
data, unless otherwise noted)

Note 1. Description of
Business and Summary of Significant Accounting Policies

Description of Business

On
August 30, 2002, the Company acquired Sputtered Films, Incorporated (“SFI”), a
privately held California corporation, pursuant to an Agreement and Plan of Merger dated
August 13, 2002. SFI is a leader in the design, manufacture and service of high
performance physical vapor deposition sputtering systems for the semiconductor and
semiconductor packaging industry. SFI was founded in 1967 with the development of the
S-Gun, a core technology of the acquired company (see Note 8).

Basis of Presentation

The
consolidated financial statements contemplate the realization of assets and the
satisfaction of liabilities in the normal course of business. The Company incurred net
losses of $12.6 million and $8.7 million for the years ended March 31, 2003 and 2002,
respectively, generated negative cash flows from operations of $6.0 million and $3.6
million in these years, and has a cash balance of $0.9 million at March 31, 2003, which
raises substantial doubt about its ability to continue as a going concern. The
Company’s plans with respect to this matter include (1) the restructuring executed in
the third and fourth quarters of fiscal 2003, which further reduced employee headcount,
and (2) the restructuring of the Company’s Petaluma facility lease which reduced both
available square footage and expected fiscal 2004 payments to the lessor (see note 6). The
Company believes the cost reductions, and a projected increase in sales during fiscal 2004
will generate sufficient cash flows to fund its operations through March 31, 2004.
However, the projected sales are to a limited number of new and existing customers and are
based on internal and customer provided estimates of future demand, not firm customer
orders. If the projected sales do not materialize, the Company will need to reduce
expenses further and raise additional capital through the issuance of debt or equity
securities. If additional funds are raised through the issuance of preferred stock or
debt, these securities could have rights, privileges or preferences senior to those of
common stock, and debt covenants could impose restrictions on the Company’s
operations. The sale of equity or debt could result in additional dilution to current
stockholders, and such financing may not be available to the Company on acceptable terms,
if at all. The consolidated financial statements do not include any adjustments relating
to the recoverability and classification of recorded assets or the amount or
classification of liabilities or any other adjustments that might be necessary should the
Company be unable to continue as a going concern.

The
consolidated financial statements include the accounts of the Company and all of its
subsidiaries. Intercompany transactions and balances are eliminated in consolidation.
Accounts denominated in foreign currencies are translated using the foreign currencies as
the functional currencies. Assets and liabilities of foreign operations are translated to
U.S. dollars at current rates of exchange and revenues and expenses are translated using
weighted average rates. The effects of translating the financial statements of foreign
subsidiaries into U.S. dollars are reported as accumulated other comprehensive income, a
separate component of stockholders’ equity. Gains and losses from foreign currency
transactions are included as a separate component of other income (expense).

The
preparation of financial statements in conformity with generally accepted accounting
principles in the United States of America requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and disclosures of
contingent assets and liabilities at the date of the financial statements and the reported
amounts of revenues and expenses during the reporting periods. Actual results could vary
from those estimates.

Cash and Cash Equivalents

The
Company considers all highly liquid debt instruments having a maturity of three months or
less on the date of purchase to be cash equivalents.

At
March 31, 2003 and 2002, all of the Company’s investments are classified as cash
equivalents on the consolidated balance sheet. The investment portfolio at March 31, 2003
and 2002 is comprised of money market funds. At March 31, 2003 and 2002, the fair value of
the Company’s investments approximated cost.

Financial Instruments
Disclosures

The
carrying amount of the Company’s financial instruments, including cash and cash
equivalents, accounts receivable and accounts payable, approximates fair value due to
their relatively short maturity. The Company has foreign subsidiaries which operate and
sell the Company’s products in various global markets. As a result, the Company is
exposed to changes in foreign currency exchange rates. The Company utilizes hedge
instruments, primarily forward contracts, to manage its exposure associated with firm
third-party transactions denominated in non-functional currencies. The Company does not
hold derivative financial instruments for speculative purposes. Realized and unrealized
gains and losses related to forward contracts considered to be effective hedges are
deferred until settlement of the hedged items. They are recognized as other gains or
losses when a hedged transaction is no longer expected to occur. Realized and unrealized
gains and losses on ineffective hedges are recorded to other income (expense). Deferred
gains and losses were not significant at March 31, 2003 or 2002. Foreign currency gains
and losses included in other income (expense) were not significant for the years ended
March 31, 2003, 2002 and 2001 (see note 2).

At
March 31, 2003, the Company had forward exchange contracts maturing at various dates
throughout fiscal 2004 to exchange 85.0 million Japanese Yen into $0.7 million. At March
31, 2002, the Company had forward exchange contracts maturing at various dates throughout
fiscal 2003 to exchange 255 million Japanese Yen into $1.9 million. The fair value of
these instruments was immaterial at March 31, 2003 and 2002.

Concentration of Credit
Risk

Financial
instruments that potentially subject the Company to significant concentrations of credit
risk consist primarily of temporary cash investments and accounts receivable.
Substantially all of the Company’s temporary investments are invested in money market
funds. The Company’s accounts receivable are derived primarily from sales to
customers located in the U.S., Europe, and Asia. The Company performs ongoing credit
evaluations of its customers and generally requires no collateral. The Company maintains
reserves for potential credit losses. Write-offs during the periods presented have been
insignificant. As of March 31, 2003, one customer accounted for approximately 38 percent
of the accounts receivable balance. As of March 31, 2002, two customers accounted for
approximately 27 percent and 11 percent of the accounts receivable balance.

Inventory

Inventory
is stated at the lower of cost or market, reduced by provision for excess and
obsolescence. Cost is computed using standard cost, which approximates actual cost on a
first-in, first-out basis and includes material, labor and manufacturing overhead costs.

Warranty Costs

A
warranty is provided under the terms of our system contract. Typically, the warranty
period is six to 12 months depending on the contract specifications. The Company provides
for these costs at the time of revenue recognition based upon prior experience (see Note
2).

Property and Equipment

Property
and equipment is recorded at cost. Depreciation is calculated using the straight-line
method over the estimated useful lives of the assets, ranging from three to seven years.
Leasehold improvements are stated at cost and are amortized using the straight-line method
over the shorter of the estimated useful life of the improvements or the lease term. When
assets are disposed of, the cost and related accumulated depreciation are removed from the
accounts and the resulting gains or losses are included in the results of operations. The
Company generally depreciates their assets over the following periods:


Assets acquired:
Current assets	$ 708
Fixed assets	824
Technology	782
Trade name	253

Total assets	2,567
Liabilities assumed:
Current liabilities	(1,007	)

Net assets acquired	$ 1,560

Impairment of Long-Lived
Assets

Income Taxes

Deferred
income taxes are recognized for the differences between the tax bases of assets and
liabilities and their financial reporting amounts based on enacted tax rates. Valuation
allowances are established when necessary to reduce deferred tax assets to the amount
expected to be realized.

Revenue Recognition

In
December 1999, the Securities and Exchange Commission issued Staff Accounting Bulletin No.
101, “Revenue Recognition in Financial Statements” (“SAB 101”). SAB
101 summarizes certain areas of the Staff’s views in applying generally accepted
accounting principles to revenue recognition. Prior to the adoption of SAB 101, the
Company recognized revenue from the sales of its products when title passed to the
customer, and accrued for the costs of installation and estimated warranty costs. Under
the new accounting method adopted retroactively to April 1, 2000, no revenues are
recognized until both title and risk of loss have passed to the customer and we defer
revenue recognition for new product sales until installation and customer acceptance have
occurred. For sales of existing products, upon the transfer of title and risk of loss,
revenue is recorded at the lesser of the fair value of the equipment or the contractual
amount billable upon shipment. The remainder is recorded as deferred revenue and
recognized as revenue upon installation and customer acceptance. Revenue recognition for
spare part sales generally occurs upon shipment, which is unchanged under the provisions
of SAB 101. Services revenue recognition is also unchanged, with such revenue recognized
as the related services are provided, unless services are paid for in advance according to
service contracts, in which case revenue is deferred and recognized over the service
period using the straight-line method. In all cases, revenue is only recognized when
persuasive evidence of an arrangement exists, delivery has occurred or services have been
rendered, the sales price is fixed or determinable, and collectibility is reasonably
assured.

During
the fourth quarter of fiscal 2001, the Company implemented SAB 101, retroactive to the
beginning of the fiscal year. This was reported as a cumulative effect of a change in
accounting principle as of April 1, 2000. The cumulative effect of the change in
accounting principle on prior years resulted in a charge to income of $372 (net of income
taxes of $0), or $0.03 per share, which has been included in income for the year ended
March 31, 2001. For fiscal 2000, the Company recognized $478 in revenue that is included
in the cumulative effect of the change in accounting principle as of April 1, 2001. The
results for the first three quarters of the year ended March 31, 2001 were restated in
accordance with SAB 101.

Earnings Per Share

Basic
earnings per share (“EPS”) is computed by dividing net income (loss) available
to common stockholders by the weighted average number of common shares outstanding during
the period. Diluted EPS is computed using the weighted average number of common shares
outstanding plus any potentially dilutive securities, except when antidilutive.

Stock-Based Compensation

The
Company accounts for stock-based compensation using the intrinsic value method prescribed
in Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to
Employees,” and related interpretations, including FASB Interpretation No. 44
(“FIN 44”), “Accounting for Certain Transactions Involving Stock
Compensation — an interpretation of APB Opinion No. 25.” The Company’s
policy is to grant options with an exercise price equal to the closing market price of the
Company’s stock on the grant date. Accordingly, no compensation cost for stock option
grants has been recognized in the Company’s statements of operations. Additional
proforma disclosures assuming the Company applied the fair value method of accounting for
employee stock compensation under Statement of Financial Accounting Standards
(“SFAS”) No. 123, “Accounting for Stock-Based Compensation” as amended
by SFAS No. 148, “Accounting for Stock-Based Compensation – Transition and
Disclosure” follows.

As
required by SFAS No. 123 for proforma disclosure purposes only, the Company has calculated
the estimated grant date fair value of its stock option awards using the Black-Scholes
model. The Black-Scholes model, as well as other currently accepted option valuation
models, was developed to estimate the fair value of freely tradable, fully transferable
options without vesting restrictions. These models also require highly subjective
assumptions, including future stock price volatility and expected time until exercise,
which greatly affect the calculated grant date fair value.

The
following assumptions are included in the estimated grant date fair value calculations for
the Company’s stock option awards and Employee Qualified Stock Purchase Plan
(“Employee Plan”):

		Years
Furniture and machinery and equipment		7
Computer and software		3 - 5
Leasehold improvements		5 or remaining lease life

The
weighted average estimated grant date fair value, as defined by SFAS No. 123, for stock
option awards granted during fiscal 2003, 2002 and 2001 was $0.62, $1.02 and $2.23 per
option, respectively.

The
following table summarizes information with respect to stock options outstanding as of
March 31, 2003 (number of shares in thousands):

	2003		2002		2001

Expected life (years):
Stock options	4.0		4.0		4.0
Employee plan	0.5		0.5		0.5
Volatility:
Stock options	165	%	85	%	108	%
Employee plan	165	%	85	%	115	%
Risk-free interest rate	2.45	%	4.3	%	5.5	%
Dividend yield	0	%	0	%	0	%

Compensation
cost (included in proforma net income (loss) and net income (loss) per share amounts only)
for the grant date fair value, as defined by SFAS No. 123, of the purchase rights granted
under the Employee Plan was calculated using the Black-Scholes model and the assumptions
outlined above. The weighted average estimated grant date fair values per share, as
defined by SFAS No. 123, for rights granted under the employee stock purchase plan during
fiscal 2003, 2002 and 2001 were $0.29, $0.47 and $1.29, respectively.

Had
the Company recorded compensation costs based on the estimated grant date fair value (as
defined by SFAS 123) for awards granted under its stock option plans and Employee Plan,
the Company’s net loss and loss per share would have been increased to the proforma
amounts below for the years ended March 31, 2003, 2002 and 2001:

	Outstanding Options as of March 31, 2003						Options in Which Underlying Shares No Longer Subject to Repurchase Rights				Exercisable at March 31, 2003

Range of Exercise Prices	Number of Shares		Weighted Average Exercise Price		Weighted Average Remaining Contractual Life		Number of Shares		Weighted Average Exercise Price		Number of Shares		Weighted Average Exercise Price

$0.39 -- $1.50		525	$	1.00		8.43		263	$	1.33		265	$	1.32
$1.51 -- $2.19		380		1.72		9.34		371		1.73		380		1.72
$2.25 -- $3.00		284		2.61		8.68		178		2.65		223		2.62
$3.25 -- $3.25		656		3.25		6.44		656		3.25		656		3.25
$3.38 -- $3.88		225		3.51		9.54		217		3.51		225		3.51
$4.25 -- $4.25		510		4.25		9.61		510		4.25		510		4.25
$4.75 -- $6.88		355		5.62		5.00		342		5.65		353		5.63
$7.68 -- $8.00		19		7.69		6.89		19		7.69		19		7.69
$8.75 -- $8.75		145		8.75		8.35		128		8.88		145		8.75
$12.00 -- $12.00 .		27		12.00		2.98		27		12		27		12.00
$0.39 -- $12.00		3,126	$	3.44		7.97		2,711	$	3.71		2,803	$	3.71

Comprehensive Income
(Loss)

Comprehensive
income (loss) is defined as the change in equity of a company during a period from
transactions and other events and circumstances excluding transactions resulting from
investments by owners and distributions to owners. The primary difference between net
income (loss) and comprehensive income (loss) for Tegal is attributable to foreign
currency translation adjustments. Comprehensive income (loss) is shown in the statement of
stockholders’ equity.

New Accounting
Pronouncements

On
June 28, 2002, the Financial Accounting Standards Board (the “FASB”) issued SFAS
No. 146 (“SFAS No. 146”), “Accounting for Exit or Disposal
Activities”, effective for exit or disposal activities that are initiated after
December 31, 2002. SFAS No. 146 addresses significant issues regarding the recognition,
measurement, and reporting of costs that are associated with exit and disposal activities,
including restructuring activities that are currently accounted for pursuant to the
guidance that the Emerging Issues Task Force (“EITF”) has set forth in EITF
Issue No. 94-3, “Liability Recognition for Certain Employee Termination Benefits and
Other Costs to Exit an Activity (including Certain Costs Incurred in a
Restructuring)". A fundamental conclusion reached in SFAS No. 146 is that an
entity’s commitment to a plan, by itself, does not create a present obligation to
others that meets the definition of a liability. Therefore, this Statement eliminates the
definition and requirements for recognition of exit costs in EITF Issue 94-3. This
Statement also establishes that fair value is the objective for initial measurement of the
liability. The scope of SFAS No. 146 also includes (1) costs related to terminating a
contract that is not a capital lease and (2) termination benefits that employees who are
involuntarily terminated receive under the terms of a one-time benefit arrangement that is
not an ongoing benefit arrangement or an individual deferred-compensation contract. The
Company does not believe that the implementation of this pronouncement will have a
material impact on its consolidated financial position, results of operations or cash
flows.

In
November 2002, the FASB issued FASB Interpretation No. 45 (“FIN 45”),
“Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others.” FIN 45 requires that a liability be
recorded in the guarantor’s balance sheet upon issuance of a guarantee. In addition,
FIN 45 requires disclosures about the guarantees that an entity has issued, including a
rollforward of the entity’s product warranty liabilities. At March 31, 2003, no
guarantees were issued by the Company. The Company has accrued warranty costs and included
additional disclosures in accordance with FIN 45 in note 2.

In
November 2002, the Emerging Issues Task Force reached a consensus on Issue No. 00-21,
“Revenue Arrangements with Multiple Deliverables.” This issue addresses how
revenue arrangements with multiple deliverables should be divided into separate units of
accounting and how the arrangement consideration should be allocated to the identified
separate accounting units. EITF No. 00-21 is effective for fiscal periods beginning after
June 15, 2003. The Company has not yet determined the impact of adopting EITF No. 00-21 on
its consolidated financial statements.

In
December 2002, the FASB issued SFAS No. 148, “Accounting for Stock-Based Compensation
Costs—Transition and Disclosure”. This statement amends SFAS No. 123,
“Accounting for Stock-Based Compensation”, and provides alternative methods of
transition for an entity that voluntarily changes to the fair value based method of
accounting for stock-based compensation. It also requires additional disclosures about the
effects on reported net income of an entity’s accounting policy with respect to
stock-based employee compensation. The Company accounts for stock-based compensation in
accordance with Accounting Principles Board (APB) Opinion No. 25, “Accounting for
Stock Issued to Employees” and has adopted the disclosure-only alternative of FAS
123. The Company adopted the disclosure provisions of SFAS No. 148 in December 2002.

The
FASB issued Interpretation No. 46, “Consolidation of Variable Interest
Entities”, (“FIN 46”) in January 2003. FIN 46 provides accounting guidance
for consolidation of variable interest entities (“VIE”), formerly referred to as
special purpose entities. FIN 46 applies to enterprises that have a controlling interest
or business or contractual relationship with a VIE. FIN 46 requires consolidation of
existing, non-controlled affiliates if the VIE is unable to finance its operations without
investor support, or where the other investors do not have exposure to the significant
risks and rewards of ownership. The Company will adopt the provisions of FIN 46 in the
quarter ending September 30, 2003. The Company does not expect this pronouncement to have
an effect on the Company’s consolidated financial position, results of operations or
cash flows.

In
May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Financial Instruments
with Characteristics of both Liabilities and Equity.” SFAS No. 150 changes the
accounting guidance for certain financial instruments that, under previous guidance, could
be classified as equity or “mezzanine” equity by now requiring those instruments
to be classified as liabilities (or assets in some circumstances) in the statement of
financial position. Further, SFAS No. 150 requires disclosure regarding the terms of those
instruments and settlement alternatives. SFAS No. 150 is generally effective for all
financial instruments entered into or modified after May 31, 2003, and is otherwise
effective at the beginning of the first interim period beginning after June 15, 2003. The
Company is currently assessing the impact of SFAS No. 150 on its financial position and
results of operations.

Note 2. Balance Sheet
and Income Statement Detail

Inventory consisted of:


		2003			2002			2001

Proforma net loss	$	(12,910	)	$	(10,077	)	$	(1,124	)
Proforma net loss per share:
Basic and diluted	$	(0.84	)	$	(0.78	)	$	(0.09	)

Property
and equipment, net, consisted of:

	March 31,

		2003		2002

Raw materials	$	3,218	$	5,430
Work in process		1,937		2,542
Finished goods and spares		1,877		7,605

	$	7,032	$	15,577

Machinery
and equipment at March 31, 2003 and 2002, includes approximately $56 and $252,
respectively, of assets under leases that have been capitalized. Accumulated amortization
for such equipment approximated $13 and $199, respectively.

A
summary of accrued expenses and other current liabilities follows:

	March 31,

		2003			2002

Machinery and equipment	$	4,994		$	4,460
Demo lab equipment		5,591			2,251
Computer and software		2,324			2,011
Leasehold improvements		3,509			3,188

		16,418			11,910
Less accumulated depreciation and amortization		(11,502	)		(10,528	)

	$	4,916		$	1,382

Product
warranty and guarantees:

The
Company provides warranty on all system sales based on the estimated cost of product
warranties at the time revenue is recognized. The warranty obligation is affected by
product failure rates, material usage rates, and the efficiency by which the product
failure is corrected. Warranty activity for the years ended March 31, 2003 and 2002 is as
follows:

	March 31,

		2003		2002

Accrued compensation costs	$	756	$	686
Income taxes payable		504		512
Product warranty		734		1,205
Other		1,419		1,518

	$	3,413	$	3,921

Certain
of the Company’s sales contracts include provisions under which customers would be
indemnified by the Company in the event of, among other things, a third-party claim
against the customer for intellectual property rights infringement related to the
Company’s products. There are no limitations on the maximum potential future payments
under these guarantees. The Company has accrued no amounts in relation to these provisions
as no such claims have been made and the Company believes it has valid, enforceable rights
to the intellectual property embedded in its products

Other
income (expense), net, consisted of the following:

	Year ended March 31,

		2003			2002

Balance at the beginning of the period	$	1,205		$	1,542
Additional warranty accruals for warranties issued during the year		427			1,511
Changes in accruals related to pre-existing warranties		(203	)		--
Settlements made during the year		(695	)		(1,848	)

Balance at the end of the year	$	734		$	1,205

Note 3. Earnings Per Share

SFAS
No. 128, “Earnings Per Share,” requires dual presentation of basic and diluted
net income (loss) per share on the face of the statement of operations. Basic EPS is
computed by dividing income (loss) available to common stockholders (numerator) by the
weighted average number of common shares outstanding (denominator) for the period. Diluted
EPS gives effect to all dilutive potential common shares outstanding during the period.
The computation of diluted EPS uses the average market prices during the period. All
amounts in the following table are in thousands except per share data.

	Year Ended March 31,

		2003			2002			2001

Interest income	$	41		$	203		$	597
Interest expense		(370	)		(617	)		(731	)
Foreign currency exchange gain (loss), net		178			(60	)		276
Non-exclusive licensing fees		--			--			8,350
Other		143			(21	)		(170	)

	$	(8	)	$	(495	)	$	8,322

Stock
options and warrants outstanding at March 31, 2003 of 4,739,559 and at March 31, 2002 of
4,153,413 were excluded from the computations of diluted net income (loss) per share
because of their anti-dilutive effect on diluted income (loss) per share.

Note 4. Notes Payable

In
June 2002, the Company replaced its prior line of credit with a line of credit totaling
$10 million with a U.S. financial institution. This line of credit is available until July
2004. There was no borrowing on this line of credit as of March 31, 2003. The amount
outstanding as of March 31, 2002, under the prior line of credit arrangement, was $0.7
million. The current line bears interest at prime plus 1.0 percent (5.25 percent at March
31, 2003), is secured by a blanket security on all of the Company’s assets, and
further limited by the amounts of accounts receivable and inventories on the balance
sheet. The line of credit restricts the declaration and payment of cash dividends and
includes, among other terms and conditions, requirements that the Company maintain certain
levels of tangible net worth. The Company was in compliance with the tangible net worth
covenant as of March 31, 2003.

The
Company’s Japanese subsidiary has a line of credit available for a total of 150
million Yen (approximately $1.3 million at exchange rates prevailing on March 31, 2003)
collateralized by Japanese customer promissory notes held by such subsidiary in advance of
payment on customers’ accounts receivable. The Japanese bank line bears interest at
Japanese prime (1.375 percent as of March 31, 2003) plus 1.0 percent. Outstanding balances
on the lines in U.S. dollars as of March 31, 2003 and 2002 were $0.07 and $0.2 million.

Notes
payable as of March 31, 2003 consisted of two outstanding notes to the California Trade
and Commerce Agency and to a retiring officer of Sputtered Films, Inc. for $233,000 and
$75,000, respectively. These two notes are payable on demand. The unsecured note from the
California Trade and Commerce Agency carries an annual interest rate of 5.75 percent with
monthly interest only payments of approximately $4,200 per month. Although the payment
deadlines are being met, the note is currently in technical default due to the acquisition
of Sputtered Films by Tegal Corporation. The unsecured note from the retiring officer of
Sputtered Films, Inc carries an annual interest rate of 10 percent.

Note 5. Income Taxes

The
components of income (loss) before provision for income taxes and cumulative effect of
change in accounting principle are as follows:

	Year Ended March 31,

		2003			2002			2001

Basic net income (loss) per share:
Income (loss) available to common stockholders	$	(12,625	)	$	(8,730	)	$	699
Weighted average common shares outstanding		15,311			13,030			12,499
Basic net income (loss) per share	$	(0.82	)	$	(0.67	)	$	0.06
Diluted net income (loss) per share:
Income (loss) available to common stockholders	$	(12,625	)	$	(8,730	)	$	699

Weighted average common shares outstanding		15,311			13,030			12,499
Diluted potential common shares from stock options		--			--			339

Weighted average common shares and dilutive potential common shares		15,311			13,030			12,838
Diluted net income (loss) per share	$	(0.82	)	$	(0.67	)	$	0.05

The
income tax provision differs from the amount computed by applying the statutory U.S.
federal income tax rate as follows:

	Year Ended March 31,

		2003			2002			2001

Domestic	$	(12,090	)	$	(8,280	)	$	1,447
Foreign		(535	)		(450	)		(351	)

	$	(12,625	)	$	(8,730	)	$	1,096

The components of deferred taxes are as follows:

	Year Ended March 31,

		2003			2002			2001

Income tax provision (benefit) at U.S. statutory rate	$	(4,293	)	$	(2,968	)	$	373
State taxes net of federal benefit		(419	)		(283	)		--
Utilization of foreign losses		182			--			209
Reversal of deferred tax assets previously reserved		--			--			160
Utilization of net operating losses and credits		--			--			(643	)
Change in valuation allowance		4,042			3,146			(74	)
Other		488			105			--

Income tax expense	$	--		$	--		$	25

We
have recorded no net deferred tax assets at March 31, 2003 and 2002, respectively. The
Company has provided a valuation allowance of $23.4 million and $19.4 million at March 31,
2003 and March 31, 2002, respectively. The valuation allowance is for the net operating
loss carryfoward, credits and non-deductible accruals and reserves, for which realization
of future benefit is uncertain. The valuation allowance increased by $4.0 million and $3.1
million during the years ended March 31, 2003 and 2001 respectively.

At
March 31, 2003, the Company had federal and state operating loss carryforwards of
approximately $40.6 million and $17.7 million, respectively. These net operating loss
carryforwards will begin to expire, if not utilized, in the year ending March 31, 2020 and
2006 for federal and state income tax purposes, respectively.

At
March 31, 2003, the Company also had research and experimentation credit carryforwards of
$2.3 million and $1.1 million for federal and state income tax purposes, respectively,
which begin to expire, if not utilized in the year ending March 31, 2006.

Note 6. Commitments and
Contingencies

The
Company has several noncancelable operating leases and capital leases, primarily for
general office, production and warehouse facilities, that expire over the next five years.
Future minimum lease payments under these leases are as follows:

	March 31,

		2003			2002

Revenue recognized for tax and deferred for book	$	246		$	308
Non-deductible accruals and reserves		3,834			3,220
Net operating loss carryforward		14,831			10,978
Credits		2,975			3,346
Uniform capitalization adjustment		644			565
Other		911			983

Total		23,441			19,400
Valuation allowance		(23,441	)		(19,400	)

Net deferred tax asset	$	--		$	--

Most
leases provide for the Company to pay real estate taxes and other maintenance expenses.
Rent expense for operating leases, net of sublease income, was $1.3 million, $1.3 million,
and $1.7 million, during the years ended March 31, 2003, 2002 and 2001, respectively.

The
Company signed a new lease agreement dated June 9, 2003 for the manufacturing and
corporate office facility in Petaluma, California to occupy 45,064 square feet. The lease
expires December 31, 2009. The prior lease for the same facility was due to expire in
March 2004. The Company was leasing 120,000 sq. ft. and occupying 80,000 with the balance
subleased or available for sublease. The new lease for 45,064 sq. ft. is for the occupied
space only and the sub-tenants’ leases have been assigned to the landlord.

Note 7. Restructuring

During
the year ended March 31, 2003, the Company recorded a severance charge of approximately
$500 related to staff reductions of 74 employees, of which approximately $300 was
classified as cost of sales, $100 as research and development, and $100 as sales,
marketing and general and administrative expenses. The Company had an outstanding
severance liability of approximately $75 as of March 31, 2003.

During
the year ended March 31, 2002, the Company recorded a charge of approximately $600 related
to staff reductions of 55 employees, of which approximately $86 was classified as cost of
sales, $231 as research and development, $263 as sales and marketing and $20 as general
and administrative expenses. All amounts were paid to the terminated employees as of March
31, 2002.

Note 8. Acquisition and
Intangible Assets

On
August 30, 2002, the Company acquired Sputtered Films, Inc., a California corporation
(“Sputtered Films”) pursuant to an Agreement and Plan of Merger dated August 13,
2002. Sputtered Films is a leader in the design and manufacture of sputtering equipment
for semiconductor, photomask, advanced packaging (including flip chip) and compound
semiconductor applications. The acquisition of Sputtered Films secured a source for a
complementary deposition technology for the Company’s new materials strategy. The
total acquisition cost was $1,560,000, comprised of 1,499,987 shares of the Company’s
common stock valued at $1,185,000 and transaction costs of $375,000. The results of
Sputtered Films’ operations have been included in the Company’s results
commencing on August 31, 2002.

The
purchase price of this acquisition has been allocated to the acquired assets and assumed
liabilities on the basis of their fair values as of the date of the acquisition, as
determined by an appraisal performed by an independent valuation specialist. The fair
value of the assets acquired and liabilities assumed, based on the allocation of the
purchase price, is summarized as follows:

	Capital Leases			Operating Leases		Operating Leases
Year Ending March 31	As of March 31, 2003					As of June 9, 2003

2004	$	12		$	2,000	$	1,032
2005		14			326		1,011
2006		15			91		797
2007		16			8		734
2008		3			3		751
Thereafter		--			--		1,362

Total minimum lease payments		60		$	2,428	$	5,687
Less amount representing interest		(13	)

Present value of minimum lease payments		47
Less current portion		10

Long term capital lease obligation	$	37

The
amounts allocated to technology and trade name are amortized on a straight-line basis over
estimated useful lives of eight years.

As
of March 31, 2003, intangible assets consisted of the following:


Current assets	$	708
Property and equipment		824
Technology		782
Trade name		253

Total assets acquired		2,567
Current liabilities		(1,007	)

Net assets acquired	$	1,560

The
estimated future amortization expense of intangible assets as of March 31, 2003 is as
follows:

	Gross		Accumulated Amortization		Net
Technology	$	782	$	57	$	725
Trade name		253		19		234

Total	$	1,035	$	76	$	959

The
following unaudited proforma financial results of Tegal Corporation and Sputtered Films
for the year ended March 31, 2003, give effect to the acquisition of Sputtered Films as if
the acquisition had occurred on the first day of the periods presented and includes
adjustments such as amortization of intangible assets directly attributable to the
acquisition, and expected to have a continuing impact on the combined company.

The
unaudited proforma financial results are provided for comparative purposes only and are
not necessarily indicative of what the Company’s actual results would have been had
the forgoing transaction been consummated on such date, nor does it give effect to the
synergies, cost savings and other charges expected to result from the acquisition.
Accordingly, the proforma financial results do not purport to be indicative of the
Company’s results of operations as of the date hereof or for any period ended on the
date hereof or for any other future date or period.

Unaudited
Proforma Financial Information (in thousands, except per share amounts):

2004	$	130
2005		130
2006		130
2007		130
2008		130
Thereafter		309

Total	$	959

Note 9. Sale of Units of Common
Stock and Warrants

In
August 2002, the Company granted 62,650 options to purchase shares of the Company’s
common stock at an exercise price of $0.83 to consultants for services rendered. The
estimated fair value of the vested options for fiscal 2003 amounted to $7 and was recorded
as an operating expense. The following variables were used to determine the fair value of
such instruments under the Black-Scholes option pricing model:volatility of 85%, term of
four years, risk free interest of 3.40% and underlying stock price equal to fair market
value at the time of grant.

During
2003, the Company granted 225,425 shares of common stock to consultants for services
rendered. The fair value of such shares, which amounted to approximately $104, was
recorded as an operating expense.

In
July 2002, the Company granted 125,000 warrants to purchase shares of the Company’s
common stock at an exercise price of $2.00 to a financial institution. The fair value of
such warrants, which amounted to approximately $82, was recorded as a debt offering cost
and is being amortized over the two-year life of the associated line of credit. The
amortization for fiscal 2003 amounted to $32 and was recorded as interest expense. The
following variables were used to determine the fair value of such instruments under the
Black-Scholes option pricing model: volatility of 85%, term of two years, risk free
interest of 4.95% and underlying stock price equal to fair market value at the time of
grant.

In
September 2002, the Company granted 350,000 warrants to purchase shares of the
Company’s common stock at an exercise price of $1.20 to consultants in lieu of cash
payments. The fair value of such warrants, which amounted to approximately $105, was
capitalized as a transaction cost under purchase accounting. The following variables were
used to determine the fair value of such instruments under the Black-Scholes option
pricing model: volatility of 85%, term of four years, risk free interest of 4.95% and
underlying stock price equal to fair market value at the time of grant.

On
December 31, 2001, the Company closed a private placement in which it sold to accredited
investors 1,661,005 units, each unit consisting of one share of common stock and one
warrant to purchase one-half of a share of common stock, for proceeds of $2.2 million, net
of $0.1 million in cash stock issuance costs. The Company also granted to the placement
agent warrants to purchase 83,050 shares of the Company’s common stock. The warrants
have an exercise price of $2.50 per share and expire on December 31, 2006.

Note 10. Employee
Benefit Plans

Equity Incentive Plan

Pursuant
to the Amended and Restated Equity Incentive Plan (“Equity Incentive Plan”),
options and stock purchase rights to purchase 3,500,000 shares of common stock could be
granted to management and consultants. The exercise price of options and the purchase
price of stock purchase rights generally has been the fair value of the Company’s
common stock on the date of grant. At the date of issuance of the stock options, all
options are exercisable; however the Company has the right to repurchase any stock
acquired pursuant to the exercise of stock options upon termination of employment or
consulting agreement at the original exercise price for up to four years from the date the
options were granted, with the repurchase rights ratably expiring over that period of
time. Incentive stock options are exercisable for up to ten years from the grant date of
the option. Nonqualified stock options are exercisable for up to 15 years from the grant
date of the option. The Equity Incentive Plan expired in December 1999. Consequently no
shares were available for issuance under the Equity Incentive Plan as of March 31, 2003.

1990 Stock Option Plan

Pursuant
to the terms of the Company’s 1990 Stock Option Plan (“1990 Option Plan”),
options and stock purchase rights to purchase 550,000 shares of common stock could be
granted to employees of the Company or its affiliates. Incentive stock options are
exercisable for a period of up to ten years from the date of grant of the option and
nonqualified stock options are exercisable for a period of up to ten years and two days
from the date of grant of the option. At the date of issuance of the stock options, all
options are exercisable; however, the Company has the right to repurchase any stock
acquired pursuant to the exercise of stock options upon termination of employment at the
original exercise price for up to four years from the date the options were granted, with
the repurchase rights ratably expiring over that period of time. The 1990 Option Plan
expired on March 10, 2000. Consequently no shares were available for issuance under the
1990 Option Plan as of March 31, 2003.

1998 Equity
Participation Plan

Pursuant
to the terms of the Company’s Amended 1998 Equity Participation Plan (“Equity
Plan”), which was authorized as a successor plan to the Company’s Equity
Incentive Plan and 1990 Option Plan, 2,400,000 shares of common stock may be granted upon
the exercise of options and stock appreciation rights or upon the vesting of restricted
stock awards. The exercise price of options generally will be the fair value of the
Company’s common stock on the date of grant. Options are generally subject to vesting
at the discretion of the Compensation Committee of the Board of Directors (the
“Committee”). At the discretion of the Committee, vesting may be accelerated
when the fair market value of the Company’s stock equals a certain price established
by the Committee on the date of grant. Incentive stock options will be exercisable for up
to ten years from the grant date of the option. Non-qualified stock options will be
exercisable for a maximum term to be set by the Committee upon grant. As of March 31,
2003, 1,042,075 shares were available for issuance under the Equity Plan.

Directors Stock Option
Plan

Pursuant
to the terms of the Stock Option Plan for Outside Directors, as amended, (“Directors
Plan”), up to 600,000 shares of common stock may be granted to outside directors.
Under the Directors Plan, each outside director who was elected or appointed to the Board
on or after September 15, 1998 shall be granted an option to purchase 20,000 shares of
common stock and on each second anniversary after the applicable election or appointment
shall receive an additional option to purchase 20,000 shares, provided that such outside
director continues to serve as an outside director on that date. For each outside
director, 10,000 shares will vest on the first and second anniversaries of the option
grant date, contingent upon continued service as a director. Vesting may be accelerated,
at the discretion of the Board, when the fair market value of the Company’s stock
equals a certain price set by the Board on the date of grant of the option. The Directors
Plan allows for additional grants at the discretion of the Compensation Committee. As of
March 31, 2003, 495,000 shares were available for issuance under the Directors Plan.

The
following table summarizes the Company’s stock option activity for the four plans
described above and weighted average exercise price within each transaction type for each
of the years ended March 31, 2003, 2002 and 2001 (number of shares in thousands):

	Year ended March 31,

		2003			2002

Revenue	$	15,764		$	25,713
Net loss	$	(13,257	)	$	(11,932	)
Net loss per share, basic and diluted	$	(0.80	)	$	(0.82	)
Shares used in per share computations:
Basic		16,547			14,530
Diluted		16,547			14,530

At March 31, 2003, the repurchase
rights associated with 2,711,440 of the options outstanding had expired.

Employee Qualified Stock
Purchase Plan

The
Company has offered an Employee Plan under which rights are granted to purchase shares of
common stock at 85% of the lesser of the market value of such shares at the beginning of a
six month offering period or at the end of that six month period. Under the Employee Plan,
the Company is authorized to issue up to 500,000 shares of common stock. 50,813 common
stock shares were purchased in fiscal 2003 and 74,824 common shares were purchased in
fiscal 2002. Shares available for future purchase under the Employee Plan were 91,260 at
March 31, 2003.

Savings and Investment
Plan

The
Company has established a defined contribution plan that covers substantially all U.S.
employees who are regularly scheduled to work 20 or more hours per week. Employee
contributions of up to four percent of each covered employee’s compensation will be
matched by the Company based upon a percentage to be determined annually by the Board.
Employees may contribute up to 15 percent of their compensation, not to exceed a
prescribed maximum amount. The Company made contributions to the plan of $10, $17 and $25
in the years ended March 31, 2003, 2002 and 2001, respectively.

Note 11. Stockholder
Rights Plan

On
June 11, 1996, the Board adopted a Preferred Shares Rights Agreement (“Rights
Agreement”) and pursuant to the Rights Agreement authorized and declared a dividend
of one preferred share purchase right (“Right”) for each common share of the
Company’s outstanding shares at the close of business on July 1, 1996. The Rights are
designed to protect and maximize the value of the outstanding equity interests in the
Company in the event of an unsolicited attempt by an acquirer to take over the Company in
a manner or under terms not approved by the Board. Each Right becomes exercisable to
purchase one one-hundredth of a share of Series A Junior Participating Preferred Stock at
an exercise price of $45.00 upon certain circumstances associated with an unsolicited
takeover attempt and expires on June 11, 2006. The Company may redeem the Rights at a
price of $0.01 per Right. The Agreement was amended on January 15, 1999.

Note 12. Segment
Information

The
Company’s business is completely focused on one industry segment, the design,
manufacturing and servicing of plasma etch systems and deposition systems used in the
manufacturing of integrated circuits and related devices.

The
following is a summary of the Company’s operations by geography:

	2003					2002					2001

	Shares			Weighted Average Exercise Price		Shares			Weighted Average Exercise Price		Shares			Weighted Average Exercise Price

Options outstanding at beginning of year		2,962		$	3.69		2,656		$	3.95		3,099		$	4.19
Options canceled		(92	)		3.76		(206	)		4.90		(730	)		4.68
Options granted		260			0.67		515			2.83		343			3.00
Options exercised		(4	)		0.24		(3	)		0.24		(56	)		1.71

Options outstanding March 31		3,126		$	3.19		2,962		$	3.69		2,656		$	3.95

Revenues:	Years Ended March 31,

Sales to customers located in:		2003		2002		2001

United States	$	4,864	$	7,168	$	15,087
Asia, excluding Japan		1,537		3,903		5,612
Japan		2,934		4,094		6,862
Germany		1,851		731		3,998
Italy		353		2,617		2,219
Europe, excluding Germany and Italy		2,561		3,093		4,427

Total sales	$	14,100	$	21,606	$	38,205

The Company’s
sales are primarily to domestic and international semiconductor manufacturers. The top
five customers accounted for approximately 40 percent, 46 percent and 46 percent of the
Company’s total net revenues for the years ended March 31, 2003, 2002 and 2001,
respectively. Two customers accounted for 15 percent and 10 percent of the Company’s
total net revenues for the year ended March 31, 2003. One customer accounted for 15
percent and two customers accounted for 12 percent each of the Company’s total net
revenues for the year ended March 31, 2002. One customer accounted for 13 percent and two
customers accounted for 11 percent each of the Company’s total net sales for the year
ended March 31, 2001.

Quarterly Results of
Operations (Unaudited)

The
following table sets forth our unaudited selected financial data for each of the eight
quarterly periods in the two year period ended March 31, 2003. The data for the eight
quarterly periods for fiscal year 2003 and 2002 are under SAB 101.


	March 31,

		2003		2002

Long-lived assets at year-end:
United States	$	5,966	$	1,288
Europe		38		53
Japan		82		84
Asia, excluding Japan		33		54

Total long-lived assets	$	6,119	$	1,479

_________________

	Three Months Ended

	Mar. 31, 2003			Dec. 31, 2002			Sept. 30, 2002			June 30 2002			Mar. 31, 2002			Dec. 31, 2001			Sept. 30, 2001			June 30, 2001

	(In thousands, except per share data)
Quarterly Financial Data:
Revenue	$	4,002		$	3,701		$	2,675		$	3,722		$	6,969		$	2,369		$	4,379		$	7,889
Gross profit (loss)		1,275			88			(1,632	)		203			1,944			966			1,484			2,282
Net loss		(1,695	)		(3,262	)		(4,822	)		(2,846	)		(1,225	)		(2,542	)		(2,468	)		(2,495	)
Net loss per share*
Basic		(0.09	)		(0.20	)		(0.33	)		(0.20	)		(0.09	)		(0.20	)		(0.20	)		(0.20	)
Diluted		(0.09	)		(0.20	)		(0.33	)		(0.20	)		(0.09	)		(0.20	)		(0.20	)		(0.20	)

REPORT OF INDEPENDENT
ACCOUNTANTS

To the Board of Directors and
Stockholders of Tegal Corporation:

In
our opinion, the consolidated financial statements listed in the index appearing under
Item 16(a)(1) present fairly, in all material respects, the financial position of Tegal
Corporation and its subsidiaries at March 31, 2003 and 2002, and the results of their
operations and their cash flows for each of the three years in the period ended March 31,
2003 in conformity with accounting principles generally accepted in the United States of
America. In addition, in our opinion, the financial statement schedule listed in the index
appearing under Item 16(a)(2) presents fairly, in all material respects, the information
set forth therein when read in conjunction with the related consolidated financial
statements. These financial statements and financial statement schedule are the
responsibility of the Company’s management; our responsibility is to express an
opinion on these financial statements and financial statement schedule based on our
audits. We conducted our audits of these statements in accordance with auditing standards
generally accepted in the United States of America, which require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and evaluating
the overall financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.

The
accompanying consolidated financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note 1 to the consolidated
financial statements, the Company has suffered recurring losses from operations and has
generated negative cash flows from operations that raise substantial doubt about its
ability to continue as a going concern. Management’s plans in regard to these matters
are also described in Note 1. The consolidated financial statements do not include any
adjustments that might result from the outcome of this uncertainty.

/s/
PricewaterhouseCoopers LLP

San Francisco, California
June 10, 2003

Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.

PART III

Certain
information required by Part III is omitted from this Report in that we will file a
definitive proxy statement pursuant to Regulation 14A (the “Proxy Statement”) no
later than 120 days after the end of the fiscal year covered by this Report, and certain
information included therein is incorporated herein by reference. Only those sections of
the Proxy Statement that specifically address the items set forth herein are incorporated
by reference. Such incorporation does not include the Compensation Committee Report or the
Performance Graph included in the Proxy Statement.

Item 10. Directors and
Executive Officers of the Registrant

The
information concerning our directors required by this Item is incorporated by reference to
our Proxy Statement under the caption “Election of Directors.”

The
information required by this Item relating to our executive officers is included under the
caption “Executive Officers of the Registrant” in Part I, Item 4 of this Form
10-K Report.

The
information regarding compliance with Section 16(a) of the Securities Exchange Act of
1934, as amended, is incorporated by reference to the Company’s Proxy Statement under
the caption “Section 16(a) Beneficial Ownership Reporting Compliance.”

Item 11. Executive
Compensation

The information
required by this Item is incorporated by reference to our Proxy Statement under the
caption “Executive Compensation.”

Item 12. Security
Ownership of Certain Beneficial Owners and Management

The
information required by this Item is incorporated by reference to our Proxy Statement
under the captions “Principal Stockholders”, “Ownership of Stock by
Management.”

Item 13. Certain
Relationships and Related Transactions

The
information required by this Item is incorporated by reference to our Proxy Statement
under the caption “Certain Transactions.”

Item 14. Controls and
Procedures

Net loss per share is computed independently for each of the quarters presented.
Therefore, the sum of the quarterly net loss per share may not equal the annual net loss
per share.

(a)

Evaluation of Disclosure Controls and Procedures. Based on their
evaluation as of a date within 90 days of the filing date of this annual report
on Form 10-K, the Company’s principal executive officer and principal
financial officer have concluded that the Company’s disclosure controls and
procedures (as defined in Rules 13a-14(c) under the Securities Exchange Act of
1934 are effective.

PART IV

Item 16. Exhibits,
Financial Statement Schedule and Reports on Form 8-K

(a)
The following documents are filed as part of this Form 10-K:

(1) Financial Statements

The
Company’s Financial Statements and notes thereto appear in this Form 10-K according
to the following Index of Consolidated Financial Statements:

(b)

Changes in Internal Controls. There were no significant changes in the
Company’s internal controls or in other factors that could significantly
affect these controls subsequent to the date of their evaluation, including any
corrective actions with regard to significant deficiencies and material
weaknesses.

(2) Financial Statement Schedule

			Page
Consolidated Balance Sheets as of March 31, 2003 and 2002				25
Consolidated Statements of Operations for the years ended March 31, 2003, 2002 and 2001				26
Consolidated Statements of Stockholders' Equity for the years ended March 31, 2003, 2002 and 2001				27
Consolidated Statements of Cash Flows for the years ended March 31, 2003, 2002 and 2001				28
Notes to Consolidated Financial Statements				29
Report of Independent Accountants				43

Schedules
other than those listed above have been omitted since they are either not required, not
applicable, or the required information is shown in the consolidated financial statements
or related notes.

(3) Exhibits

The
following exhibits are referenced or included in this report:

			Page
Schedule II-- Valuation and Qualifying Accounts				50

Exhibit Number		Description
2.1		Agreement and Plan of Merger by and among Tegal Corporation, SFI Acquisition Corp., Sputtered Films, Inc. and the Shareholder Agent dated as of August 13, 2002 (incorporated by reference to Exhibit 2.1 to the Registrant's Current Report filed with the SEC on August 16, 2002)

3.1

Certificate
of Incorporation of the Registrant, as amended (incorporated by reference to Exhibits
3(i).1 and 3(i).2 included in Registrant's Registration Statement
on Form S-1 (File No. 33-84702) declared effective by the
Securities and Exchange Commission on October 18, 1995)

3.2

By-laws
of Registrant (incorporated by reference to Exhibit 3(ii) included in
Registrant's Registration Statement on Form S-1 (File No.
33-84702) declared effective by the Securities and Exchange Commission on
October 18, 1995)

*4.1

Form
of Certificate for Common Stock

4.2

First
Amendment to Rights Agreement between the registrant and ChaseMellon Shareholder
Services, dated as of January 15, 1999 (incorporated by
reference to Exhibit 99.1 to the Registrant's Current Report filed with the
SEC on January 1,1999)

4.3

Rights
Agreement between the Registrant and ChaseMellon Shareholder Services dated as
of June 11, 1996 (incorporated by reference to Registrant's
current report filed with the SEC on June 28, 1996)

**10.1

Employment
Agreement between the Registrant and Stephen P. DeOrnellas dated December 16, 1997
(incorporated by reference to Exhibit 10.10 to the Registrant's
Annual Report on Form 10-K for the fiscal year ended March 31,
1998 filed with the SEC on May 20, 1998 (Commission File No.
0-26824))

**10.2

Employment
Agreement between Registrant and Michael L. Parodi dated as of December 17, 1997
(incorporated by reference to Exhibit 10.18 to the Registrant's
Annual Report on Form 10-K for the fiscal year ended March 31,
1998 filed with the SEC on May 20, 1998)

10.3

Form
of Unit Purchase Agreement dated December 31, 2001 (incorporated by reference to
Exhibit (i) to the Registrant's Quarterly Report filed with the SEC
on February 13, 2002)

Exhibit Number		Description
10.4		Form of Warrant (incorporated by reference to Exhibit (ii) to the Registrant's Quarterly Report filed with the SEC on February 13, 2002)

**10.5

Third
Amended and Restated Stock Option Plan for Outside Directors (incorporated by
reference to Exhibit (iv) to the Registrant's Quarterly Report
filed with the SEC on February 13, 2002)

10.6

Security
and Loan Agreement between Registrant and Silicon Valley Bank dated as of June 26, 2002

10.7

Lease
between the Registrant and Jane Crocker, formerly Jane C. Jacobs, as Trustee under
the Jane C. Jacobs Trust Agreement dated October 5, 1990
("Crocker") and Norman E. MacKay ("MacKay") dated as of June 9, 2003

10.8

Security
and Loan Agreement [Exim] between Registrant and Silicon Valley Bank dated as of June 26,
2002

10.9

Intellectual
Property Security Agreement between Registrant and Valley Bank dated as of June 26, 2002

10.10

Warrant
to purchase stock Agreement between Registrant and Silicon Valley Bank dated as of June
26, 2002

10.11

Employment Agreement between the Registrant and Thomas Mika dated August 12, 2002


10.12		Employment Agreement between the Registrant and Carole Anne Demachkie dated August 30, 2002


21		List of Subsidiaries of the Registrant

23.1

Consent
of Independent Accountants

24.1

Power
of Attorney (incorporated by reference to the signature page to this Annual Report)

** Management contract for compensatory plan or arrangement.

None.

SIGNATURES

Pursuant
to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.

Incorporated by reference to identically numbered exhibits included in Registrant’s
Registration Statement on Form S-1 (File No. 33-84702) declared effective by the
Securities and Exchange Commission on October 18, 1995.

	TEGAL CORPORATION

	By:	/s/ MICHAEL L. PARODI

	Michael L. Parodi
	Chairman, Presiden t & Chief Executive Officer

Dated: June 27, 2003

POWER OF ATTORNEY

KNOW
ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below constitutes
and appoints Michael L. Parodi, his or her attorney-in-fact, with the powers of
substitution, for him or her in any and all capacities, to sign any amendments to this
Report of Form 10-K, and to file the same, with exhibits thereto and other documents in
connection therewith, with the Securities and Exchange Commission, hereby ratifying and
confirming all that each of said attorneys-in-fact, or his substitute or substitutes, may
do or cause to be done by virtue hereof.

Pursuant
to the requirements of the Securities Exchange Act of 1934, this report has been signed
below by the following persons on behalf of the registrant and in the capacities and on
the dates indicated.

CERTIFICATIONS

I, Thomas R. Mika, certify that:


Signature	Title	Date


/s/ MICHAEL L. PARODI Michael L. Parodi	Chairman, President, Chief Executive Officer and Director (Principal Executive Officer)	June 27, 2003

/s/ THOMAS R. MIKA Thomas R. Mika	Chief Financial Officer (Principal Financial and Accounting Officer)	June 27, 2003

/s/ EDWARD A. DOHRING Edward A. Dohring	Director	June 27, 2003

/s/ JEFFREY KRAUSS Jeffrey Krauss	Director	June 27, 2003

/s/ DUANE WADSWORTH Duane Wadsworth	Director	June 27, 2003

I have reviewed this annual report on Form 10-K of Tegal Corporation;

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

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

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

(a)

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

(b)

evaluated the effectiveness of the registrant’s disclosure controls and
procedures as of a date within 90 days prior to the filing date of this report
(the “Evaluation Date”); and

(c)

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

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

(a)

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

(b)

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

Date: June 27, 2003

                                                                                                     /s/ Thomas R. Mika


                                                                                                     Chief Financial Officer

I, Michael L. Parodi, certify that:

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

I have reviewed this annual report on Form 10-K of Tegal Corporation;

(a)

(b)

evaluated the effectiveness of the registrant’s disclosure controls and
procedures as of a date within 90 days prior to the filing date of this report
(the “Evaluation Date”); and

(c)

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

(a)

(b)

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

Date: June 27, 2003

                                                                               /s/ Michael L. Parodi


                                         Chief Executive Officer and

President

TEGAL CORPORATION



SCHEDULE II-- VALUATION AND QUALIFYING ACCOUNTS

Years Ended March 31, 2001, 2002, 2003

INDEX TO EXHIBITS

Description	Balance At Beginning of Year	Charged to Costs and Expenses	Charged to Other Accounts		Deductions		Balance At End of Year

	(In thousands)
Year ended March 31, 2001:
Doubtful accounts	354	24	(11	)	(253	)	114
Sales returns and allowances	66	298	(51	)	(305	)	8
Cash discounts	29	25	(2	)	(47	)	5
Year ended March 31, 2002:
Doubtful accounts	114	216	24		(15	)	339
Sales returns and allowances	8	92	--		(57	)	43
Cash discounts	5	20	--		(8	)	17
Year ended March 31, 2003:
Doubtful accounts	339	64	--		(238	)	165
Sales returns and allowances	43	44	--		(65	)	22
Cash discounts	17	16	--		(7	)	26

Exhibit Number		Description
2.1		Agreement and Plan of Merger by and among Tegal Corporation, SFI Acquisition Corp., Sputtered Films, Inc. and the Shareholder Agent dated as of August 13, 2002 (incorporated by reference to Exhibit 2.1 to the Registrant's Current Report filed with the SEC on August 16, 2002)

3.1

3.2

*4.1

Form
of Certificate for Common Stock

4.2

4.3

Rights
Agreement between the Registrant and ChaseMellon Shareholder Services dated as
of June 11, 1996 (incorporated by reference to Registrant's
current report filed with the SEC on June 28, 1996)

**10.1

**10.2

10.3

Form
of Unit Purchase Agreement dated December 31, 2001 (incorporated by reference to
Exhibit (i) to the Registrant's Quarterly Report filed with the SEC
on February 13, 2002)

10.4

Form
of Warrant (incorporated by reference to Exhibit (ii) to the Registrant's Quarterly
Report filed with the SEC on February 13, 2002)

**10.5

Third
Amended and Restated Stock Option Plan for Outside Directors (incorporated by
reference to Exhibit (iv) to the Registrant's Quarterly Report filed
with the SEC on February 13, 2002)

10.6

Security
and Loan Agreement between Registrant and Silicon Valley Bank dated as of June 26, 2002

10.7

10.8

Security
and Loan Agreement [Exim] between Registrant and Silicon Valley Bank dated as of June 26,
2002

10.9

Intellectual
Property Security Agreement between Registrant and Valley Bank dated as of June 26, 2002

10.10

Warrant
to purchase stock Agreement between Registrant and Silicon Valley Bank dated as of June
26, 2002

**10.11

Employment Agreement between the Registrant and Thomas Mika dated August 12, 2002


**10.12		Employment Agreement between the Registrant and Carole Anne Demachkie dated August 30, 2002

List of Subsidiaries of the Registrant

23.1

Consent
of Independent Accountants

24.1

Power
of Attorney (incorporated by reference to the signature page to this Annual Report)


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

		For the fiscal year ended March 31, 2003

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


Delaware		68-0370244
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

2201 South McDowell Boulevard Petaluma, California		94954
(Address of principal executive offices)		(Zip Code)

PART I

The Company

Semiconductor Industry Background

Business Strategy

Products

Customers

Backlog

Marketing, Sales and Service

Research and Development

Manufacturing

Competition

Intellectual Property

Employees

Risk Factors

EXECUTIVE OFFICERS OF THE REGISTRANT

PART II

Equity Compensation Plan Information

Company Overview

Critical Accounting Policies and Estimates

Revenue Recognition

Accounts Receivable – Allowance for Doubtful Accounts

Inventory

Impairment of Long-Lived Assets

Warranty Obligations

Deferred Taxes

Results of Operations

Years Ended March 31, 2003, 2002 and 2001

Market Risk Disclosure

TEGAL CORPORATION

CONSOLIDATED BALANCE SHEETS

TEGAL CORPORATION

CONSOLIDATED STATEMENTS OF OPERATIONS

TEGAL CORPORATION

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

TEGAL CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

TEGAL CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (All amounts in thousands, except per share data and share data, unless otherwise noted)

Note 1. Description of Business and Summary of Significant Accounting Policies

Description of Business

Basis of Presentation

Cash and Cash Equivalents

Financial Instruments Disclosures

Concentration of Credit Risk

Inventory

Warranty Costs

Property and Equipment

Impairment of Long-Lived Assets

Income Taxes

Revenue Recognition

Earnings Per Share

Stock-Based Compensation

Comprehensive Income (Loss)

New Accounting Pronouncements

Note 2. Balance Sheet and Income Statement Detail

Note 3. Earnings Per Share

Note 4. Notes Payable

Note 5. Income Taxes

Note 6. Commitments and Contingencies

Note 7. Restructuring

Note 8. Acquisition and Intangible Assets

Note 9. Sale of Units of Common Stock and Warrants

Note 10. Employee Benefit Plans

Equity Incentive Plan

1990 Stock Option Plan

1998 Equity Participation Plan

Directors Stock Option Plan

Employee Qualified Stock Purchase Plan

Savings and Investment Plan

Note 11. Stockholder Rights Plan

Note 12. Segment Information

Quarterly Results of Operations (Unaudited)

REPORT OF INDEPENDENT ACCOUNTANTS

PART III

PART IV

POWER OF ATTORNEY

CERTIFICATIONS

Semiconductor Industry
Background

Marketing, Sales and
Service

EXECUTIVE OFFICERS OF
THE REGISTRANT

Equity Compensation
Plan Information

Critical Accounting
Policies and Estimates

Accounts Receivable
– Allowance for Doubtful Accounts

Impairment of Long-Lived
Assets

Years Ended March 31,
2003, 2002 and 2001

CONSOLIDATED BALANCE
SHEETS

CONSOLIDATED
STATEMENTS OF OPERATIONS

CONSOLIDATED
STATEMENTS OF STOCKHOLDERS’ EQUITY

CONSOLIDATED
STATEMENTS OF CASH FLOWS

NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS

(All amounts in
thousands, except per share data and share
data, unless otherwise noted)

Note 1. Description of
Business and Summary of Significant Accounting Policies

Financial Instruments
Disclosures

Concentration of Credit
Risk

Impairment of Long-Lived
Assets

Comprehensive Income
(Loss)

New Accounting
Pronouncements

Note 2. Balance Sheet
and Income Statement Detail

Note 6. Commitments and
Contingencies

Note 8. Acquisition and
Intangible Assets

Note 9. Sale of Units of Common
Stock and Warrants

Note 10. Employee
Benefit Plans

1998 Equity
Participation Plan

Directors Stock Option
Plan

Employee Qualified Stock
Purchase Plan

Savings and Investment
Plan

Note 11. Stockholder
Rights Plan

Note 12. Segment
Information

Quarterly Results of
Operations (Unaudited)

REPORT OF INDEPENDENT
ACCOUNTANTS