UNITED STATES SECURITIES AND EXCHANGE COMMISSION

FORM 10-Q

(Mark One)

For the quarterly period ended       MARCH 27, 2005      

OR

For the transition period from _______________ to _______________

Commission File Number       0-14709      

HUTCHINSON TECHNOLOGY INCORPORATED

(320) 587-3797
(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes [ X ]            No [    ]

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

Yes [ X ]            No [    ]

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

As of April 25, 2005 the registrant had 25,261,251 shares of Common Stock issued and outstanding.

Table of Contents

PART I. FINANCIAL INFORMATION

HUTCHINSON TECHNOLOGY INCORPORATED
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except shares and per share data)

See accompanying notes to condensed consolidated financial statements - unaudited.

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HUTCHINSON TECHNOLOGY INCORPORATED
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS - UNAUDITED
(In thousands, except per share data)

See accompanying notes to condensed consolidated financial statements - unaudited.

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HUTCHINSON TECHNOLOGY INCORPORATED
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS - UNAUDITED
(In thousands)

See accompanying notes to condensed consolidated financial statements - unaudited.

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HUTCHINSON TECHNOLOGY INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - UNAUDITED
(Columnar dollar amounts in thousands except per share amounts)

Reference to the “Company” means Hutchinson Technology Incorporated and its subsidiaries. Unless otherwise indicated, references to “2006” mean the Company’s fiscal year ending September 24, 2006, references to “2005” mean the Company’s fiscal year ending September 25, 2005, references to “2004” mean the Company’s fiscal year ended September 26, 2004, references to “2003” mean the Company’s fiscal year ended September 28, 2003 and references to “2002” mean the Company’s fiscal year ended September 29, 2002.

(1) ACCOUNTING POLICIES

The condensed consolidated financial statements have been prepared by the Company, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). The information furnished in the condensed consolidated financial statements includes normal recurring adjustments and reflects all adjustments which are, in the opinion of management, necessary for a fair presentation of such financial statements. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to such rules and regulations. Although the Company believes that the disclosures are adequate to make the information presented not misleading, it is suggested that these condensed consolidated financial statements be read in conjunction with the financial statements and the notes thereto included in the Company’s latest Annual Report on Form 10-K. The quarterly results are not necessarily indicative of the actual results that may occur for the entire fiscal year.

(2) ACCOUNTING PRONOUNCEMENTS

In December 2004, the Financial Accounting Standards Board (“FASB”) issued a revision to Statement of Financial Accounting Standards 123, “Share-Based Payment” (“SFAS 123(R)(R)”). The revision requires all entities to recognize compensation expense in an amount equal to the fair value of share-based payments granted to employees. SFAS 123(R) eliminates the alternative method of accounting for employee share-based payments previously available under Accounting Principles Board Opinion No. 25 (“APB 25”). In April 2005, the SEC delayed the effective date of SFAS 123(R) to fiscal years beginning after June 15, 2005. As a result SFAS 123(R) will be effective for the Company beginning in the first quarter of 2006. The Company has not completed its evaluation of the impact that adopting SFAS 123(R) will have on its financial statements.

(3) BUSINESS AND CUSTOMERS

The Company is the world’s leading supplier of suspension assemblies for hard disk drives. Suspension assemblies hold the recording heads in position above the spinning magnetic disks in the drive and are critical to maintaining the necessary microscopic clearance between the head and disk. The Company developed its leadership position in suspension assemblies through research, development and design activities coupled with a substantial investment in manufacturing technologies and equipment. The Company is focused on continuing to develop suspension assemblies which address the rapidly changing requirements of the hard disk drive industry. To further assure a readily available supply of products to its customers, the Company sells etched and stamped component-level suspension assembly parts, such as flexures and baseplates, to competing suspension assembly manufacturers. The Company also is engaged in the development and production of products for the medical device market, but does not expect to generate significant revenue from these products during 2005.

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A breakdown of customer sales is as follows:

(4) TRADE RECEIVABLES

The Company grants credit to customers, but generally does not require collateral or any other security to support amounts due. Trade receivables of $76,692,000 at March 27, 2005 and $69,073,000 at September 26, 2004 are net of allowances of $1,583,000 and $1,462,000, respectively. As of March 27, 2005, allowances of $1,583,000 consisted of a $940,000 allowance for doubtful accounts and a $643,000 allowance for sales returns. As of September 26, 2004, allowances of $1,462,000 consisted of a $683,000 allowance for doubtful accounts and a $779,000 allowance for sales returns.

The Company generally warrants that the goods sold by it will be free from defects in materials and workmanship for a period of one year or less following delivery to the customer. Upon determination that the goods sold are defective, the Company typically accepts the return of such goods and refunds the purchase price to the customer. The Company records a provision against revenue for estimated returns on sales of its products in the same period that the related revenues are recognized. The Company bases the allowance on historical product returns, as well as existing product return authorizations. The following table reconciles the changes in the Company’s allowance for sales returns under warranties:

(5) INVENTORIES

Inventories are valued at the lower of cost (first-in, first-out method) or market by analyzing market conditions, current sales prices, inventory costs and inventory balances. Inventories consisted of the following at March 27, 2005 and September 26, 2004:

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(6) EARNINGS PER SHARE

Basic earnings per share is computed by dividing net income available to common shareholders by the weighted average number of common shares outstanding during the year. Diluted earnings per share is computed under the treasury stock method for stock options and the if-converted method for convertible debt and is calculated to compute the dilutive effect of potential common shares. A reconciliation of these amounts is as follows:

(7) INCOME TAXES

The following table details the significant components of the Company’s deferred tax assets:

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Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. At March 27, 2005, the Company’s deferred tax assets included $18,328,000 of unused tax credits, $4,940,000 of which can be carried forward indefinitely and $13,388,000 of which begin to expire at various dates beginning in 2010. A valuation allowance of $4,969,000 has been recognized to offset the estimated tax credits that may not be realized before they expire. At March 27, 2005, the Company’s balance sheet included $35,162,000 of deferred tax assets related to an estimated federal net operating loss (“NOL”) carryforward of approximately $90,689,000 for United States federal tax return purposes and certain state NOLs that will begin to expire in 2018.

Significant judgment is required in determining the Company’s provision for income taxes, its deferred tax assets and liabilities and any valuation allowance recorded against its deferred tax assets. At September 28, 2003, the Company had a valuation allowance of $49,021,000, due to the uncertainty of realizing the benefits of certain tax credits and NOL carryforwards before they expire. The valuation allowance was based on the Company’s historical taxable income and its estimates of future taxable income in each jurisdiction in which it operates and the period over which its deferred tax assets will be recoverable. At June 27, 2004, based on the Company’s continued review of various factors, including the Company’s recent historical taxable income, year-to-date operating results and its estimates of future taxable income, the Company determined that it was more likely than not that a significant portion of the tax benefits of these deferred tax assets would be realized. Accordingly, the valuation allowance was reduced by $41,318,000, resulting in a net income tax benefit of $36,202,000 for the three and nine months ended June 27, 2004 and an increase to shareholders’ equity at June 27, 2004 of $5,116,000, which related to the exercise and/or sale of stock options by employees. At December 26, 2004 and due to the completion of the Company’s income tax return, the Company determined it is more likely than not that the state NOL carryforward would be realized. Accordingly, the valuation allowance was reduced by $673,000, resulting in a net income tax benefit of $649,000 for the three months ended December 26, 2004 and the six months ended March 27, 2005 and an increase to shareholders’ equity at March 27, 2005 of $24,000. The Company will continue to assess the likelihood that the deferred tax assets will be realizable and the valuation allowance will be adjusted accordingly, which could materially impact the Company’s financial position and results of operations.

(8) OTHER ASSETS

During the second quarter of 2002, the Company prepaid $26,000,000 related to a technology and development agreement. As of March 27, 2005, the unamortized portion of the prepayment was $15,686,000, of which $3,174,000 was included in “Other current assets” and $12,512,000 was included in “Other assets” on the accompanying condensed consolidated balance sheet. The unamortized portion is being amortized over the remaining term of the agreement which ends in 2010.

(9) SHAREHOLDERS’ EQUITY

In July 2004, the Company’s Board of Directors authorized the repurchase of up to two million shares of its common stock from time to time in the open market or through privately negotiated transactions, subject to market conditions, share price and other factors. In 2004, the Company repurchased a total of 1,722,500 shares for a total cost of $39,252,000. The average price paid per share was $22.75. No shares were repurchased during the twenty-six weeks ended March 27, 2005. The Company may still repurchase up to 277,500 shares under this program.

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(10) SUPPLEMENTARY CASH FLOW INFORMATION

Capitalized interest for the twenty-six weeks ended March 27, 2005 was $806,000 compared to $454,000 for the twenty-six weeks ended March 28, 2004. Interest is capitalized, using an overall borrowing rate, for assets that are being constructed or otherwise produced for the Company’s own use. Interest capitalized during the twenty-six weeks ended March 27, 2005 was primarily related to the expansion of production capacity, new program tooling, process technology and capability improvements and new business systems.

(11) STOCK-BASED COMPENSATION

The Company has an employee stock purchase plan that provides for the sale of the Company’s common stock at discounted purchase prices. The cost per share under this plan is 85% of the lesser of the fair market value of the Company’s common stock on the first or last day of the purchase period, as defined.

The Company has two stock option plans under which options have been granted to employees, including officers and directors of the Company, at a price not less than the fair market value of the Company’s common stock at the date the options were granted. Options under one plan are no longer granted because the maximum number of shares available for option grants under such plan has been reached. Under the other plan, options also may be granted to certain non-employees at a price not less than the fair market value of the Company’s common stock at the date the options are granted. Options generally expire ten years from the date of grant or at an earlier date as determined by the committee of the Board of Directors of the Company that administers the plans. Options granted under the plans generally are exercisable one year from the date of grant.

Effective beginning in the first quarter of fiscal 2006, the Company will adopt the provisions of SFAS 123(R). The Company will be required to recognize compensation expense in an amount equal to the fair value of share-based payments granted to employees. SFAS 123(R) eliminates the alternative method of accounting for employee share-based payments previously available under APB 25. However, the Company currently follows APB 25, under which no compensation expense has been recognized in connection with stock option grants pursuant to the stock option plans. Had compensation expense been determined consistent with Statement of Financial Accounting Standards No. 123, “Accounting for Stock-Based Compensation” (“FAS 123”), the Company’s pro forma net income and pro forma earnings per share would have been as follows:

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In determining compensation cost pursuant to FAS 123, the fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model. The following weighted average assumptions were used for various grants in 2005: risk-free interest rate of 3.9%; expected life of six years; and expected volatility of 41%. The following weighted average assumptions were used for various grants in 2004: risk-free interest rate of 3.6%; expected life of six years; and expected volatility of 43%.

(12) LEGAL CONTINGENCIES

The Company and certain users of the Company’s products have from time to time received, and may in the future receive, communications from third parties asserting patents against the Company or its customers which may relate to certain of the Company’s manufacturing equipment or products or to products that include the Company’s products as a component. In addition, certain of the Company’s customers have been sued on patents having claims closely related to products sold by the Company. If any third party makes a valid infringement claim and a license were not available on terms acceptable to the Company, the Company’s operating results could be adversely affected. The Company expects that, as the number of patents issued continues to increase, and as the Company grows, the volume of intellectual property claims could increase. The Company may need to engage in litigation to enforce patents issued or licensed to it, protect trade secrets or know-how owned by it or determine the enforceability, scope and validity of the intellectual property rights of others. The Company could incur substantial costs in such litigation or other similar legal actions, which could have a material adverse effect on its results of operations.

The Company is a party to certain claims arising in the ordinary course of business. In the opinion of management, the outcome of such claims will not materially affect the Company’s current or future financial position or results of operations.

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(13) OTHER MATTERS

The American Jobs Creation Act of 2004 (“AJCA”) was signed into law on October 22, 2004. The AJCA contained two provisions that affect the Company. The first provision is the repeal of the FSC Repeal and Extraterritorial Income Exclusion Act of 2000 (“EIE”), which will be phased out on a calendar year basis with the benefit ending December 31, 2006. Due to the new law, it is expected that the Company will have a decreased benefit from EIE.

The second provision is the introduction of a deduction for a percentage of income from domestic production activities. The deduction is phased in on a taxable year basis with the benefit to the Company beginning in 2006 and being fully phased in for the Company’s fiscal year ending September 25, 2011. There will be no impact to the Company from this new deduction in 2005, and the benefit starting in 2006 is expected to offset some of the lost EIE benefit.

(14) SEGMENT REPORTING

The Company follows the provisions of Statement of Financial Accounting Standards No. 131, “Disclosures about Segments of an Enterprise and Related Information” (“FAS 131”). FAS 131 establishes annual and interim reporting standards for an enterprise’s business segments and related disclosures about its products, services, geographic areas and major customers. The method for determining what information to report is based upon the way management organizes the operating segments within the Company for making operating decisions and assessing financial performance. The Company considers its chief operating decision-maker to be the Chief Executive Officer.

The Company has determined that it has two reportable segments: the Disk Drive Division and the BioMeasurement Division. The accounting policies of the segments are the same as those described in the summary of significant accounting policies in the Company’s most recent Annual Report on Form 10-K.

The following table represents net sales and operating income for each reportable segment.

Assets of the BioMeasurement Division are not relevant for management of the BioMeasurement Division segment or significant for disclosure.

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HUTCHINSON TECHNOLOGY INCORPORATED

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

When we refer to “we,” “us” or “HTI,” we mean Hutchinson Technology Incorporated and its subsidiaries. Unless otherwise indicated, references to “2006” mean HTI’s fiscal year ending September 24, 2006, references to “2005” mean HTI’s fiscal year ending September 25, 2005, references to “2004” mean HTI’s fiscal year ended September 26, 2004, references to “2003” mean HTI’s fiscal year ended September 28, 2003, references to “2002” mean HTI’s fiscal year ended September 29, 2002, references to “2001” mean HTI’s fiscal year ended September 30, 2001, and references to “2000” mean HTI’s fiscal year ended September 24, 2000.

GENERAL

Since the late 1980s, we have derived virtually all of our revenue from the sale of suspension assemblies to a small number of customers. We currently supply a variety of suspension assemblies and suspension assembly components to nearly all manufacturers of disk drives and manufacturers of disk drive components for all sizes of disk drives. Suspension assemblies are a critical component of disk drives and our results of operations are highly dependent on the disk drive industry. The disk drive industry is intensely competitive, and demand for disk drive components fluctuates. Our results of operations are affected from time to time due to disk drive industry demand changes, adjustments in inventory levels throughout the disk drive supply chain, technological changes that impact suspension assembly demand, shifts in our market position and our customers’ market position, our customers’ production yields and our own product transitions, and changes in our yields and production capacity utilization.

We estimate the average number of suspension assemblies required per drive decreased from approximately 4.5 in 1999 to approximately 2.3 in 2003. During that time, improvements in data density, the amount of data which can be stored on disks, outpaced disk drive storage capacity requirements. This enabled disk drive manufacturers to reduce their costs by using fewer components, including suspension assemblies, in each drive. In calendar 2004, the average number of suspension assemblies per drive increased to 2.4 and we expect that number to increase to 2.7 for calendar 2005. This increase in the number of suspension assemblies used per disk drive is the result of market demand for disk drive storage capacity requirements increasing faster than the improvement in data density and an increased demand for higher capacity disk drives. Higher capacity disk drives, such as those used in personal video recorders and near-line storage in the enterprise market, typically require multiple disks and recording heads and therefore multiple suspension assemblies per drive.

Shipments of suspension assemblies in the first two quarters of 2004 were 147 million and 127 million units, respectively. In the third quarter of 2004 we shipped 114 million suspension assemblies, down 13 million or 10% from the second quarter of 2004. This reduction in shipments was due to reduced suspension assembly demand as a result of shifts in market share and product mix among the major disk drive makers, weaker overall disk drive demand and improved yields in our customers’ manufacturing processes. In the fourth quarter of 2004 and the first quarter of 2005 we shipped 150 million and 175 million suspension assemblies, respectively. The increase in shipments in these periods resulted primarily from a seasonal increase in demand and an increase in the average number of suspension assemblies per disk drive. During the second quarter of 2005, we shipped 181 million suspension assemblies, up 3% compared to the first quarter of 2005, due to strong demand for suspension assemblies for higher capacity disk drives used in server and consumer electronics applications, such as personal video recorders. We expect these factors to continue to impact our shipments through the third quarter of 2005. We anticipate shipments to range from 190 million to 200 million units for the third quarter of 2005.

Our selling prices are subject to market pressure from our competitors and pricing pressure from our customers. In 2004, our average selling prices declined as a result of planned price reductions triggered by higher volumes of certain suspension assemblies, as well as changes in the mix of products we sold. In 2005, our average selling prices have increased and we anticipate t