CABOT MICROELECTRONICS CORP - 10-K Annual Report

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K

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

FOR THE FISCAL YEAR ENDED SEPTEMBER 30, 2004

OR

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

FOR THE TRANSITION PERIOD FROM TO

COMMISSION FILE NUMBER 000-30205
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CABOT MICROELECTRONICS CORPORATION
(Exact name of registrant as specified in its charter)

DELAWARE 36-4324765
(State of Incorporation) (I.R.S. Employer
Identification No.)

870 NORTH COMMONS DRIVE 60504
AURORA, ILLINOIS (Zip Code)
(Address of principal executive offices)

REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE:
(630) 375-6631

SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
NONE

SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
COMMON STOCK, $0.001 PAR VALUE

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

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

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

The aggregate market value of the registrant's Common Stock held
beneficially or of record by stockholders who are not affiliates of the
registrant, based upon the closing price of the Common Stock on March 31, 2004
as reported by the NASDAQ National Market, was approximately $1,045,000,000. For
the purposes hereof, "affiliates" include all executive officers and directors
of the registrant.

As of November 30, 2004, the Company had 24,649,518 shares of Common Stock
outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the registrant's definitive Proxy Statement for the Annual
Meeting of Stockholders to be held on March 8, 2005 are incorporated by
reference in Part III of this Form 10-K to the extent stated herein.

This Form 10-K includes statements that constitute "forward-looking
statements" within the meaning of federal securities regulations. For more
detail regarding "forward-looking statements" see item 7 of Part II of this Form
10-K
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CABOT MICROELECTRONICS CORPORATION
FORM 10-K
FOR THE FISCAL YEAR ENDED SEPTEMBER 30, 2004

INDEX

1

PART I

ITEM 1. BUSINESS

OUR COMPANY

Cabot Microelectronics Corporation ("Cabot Microelectronics," "the
Company," "us," "we," or "our") is the leading supplier of high-performance
polishing slurries used in the manufacture of the most advanced integrated
circuit ("IC") devices within the semiconductor industry, in a process called
chemical mechanical planarization ("CMP"). CMP is a polishing process used by IC
device manufacturers to planarize or flatten many of the multiple layers of
material that are built upon silicon wafers in the production of advanced ICs.
Planarization is a polishing process that uses CMP slurries and pads to level,
smooth and remove excess material from the surfaces of these layers, while
leaving minimal residue or defects on the surface. CMP slurries are liquid
solutions generally composed of high-purity deionized water, proprietary
chemical additives and engineered abrasives that chemically and mechanically
interact with the surface material of the IC device at an atomic level.

CMP enables IC device manufacturers to produce smaller, faster and more
complex IC devices with fewer defects. We believe CMP will become increasingly
important in the future as manufacturers continue to shrink the size of these
devices and to improve their performance. Our CMP products are used for a number
of applications, such as polishing insulating oxide layers, the tungsten plugs
that connect the multiple wiring layers of IC devices through these insulating
layers, and copper wiring. In addition, we have developed and sell CMP slurries
for polishing certain components in hard disk drives, specifically rigid disk
substrates and magnetic heads, and we believe we are one of the leading
suppliers in this area. We are continuing to develop new and improved products
for these applications as well as improving existing products on an ongoing
basis. In addition, we are developing polishing pads for use in the CMP process.

Prior to our initial public offering in April 2000, we operated as a
division of Cabot Corporation ("Cabot Corporation"). In September 2000 we became
a wholly independent entity upon Cabot Corporation's spin-off of its ownership
in us that remained after the initial public offering.

IC DEVICE MANUFACTURING

Advanced IC devices are composed of millions of transistors and other
electronic components connected by miles of wiring. The wiring, composed
primarily of either aluminum or copper, carries electric signals through the
multiple layers of the IC device. Insulating material is used throughout the IC
device to isolate the electronic components and the wiring, thereby preventing
short circuiting and improving the efficiency of the travel of the electric
signal within the device. To enhance performance, IC device manufacturers have
progressively increased the number and density of transistors and other
electronic components in each IC device. As a result, the number of wires and
the number of layers have also increased. We expect this trend towards increased
complexity to continue. In addition, we expect that in the future, other more
advanced materials will be used in IC devices, and will need to be polished with
CMP.

The multi-step manufacturing process for IC devices typically begins with a
circular wafer of pure silicon. A large number of identical IC devices, or dies,
are manufactured on each wafer at the same time. The first step in the
manufacturing process builds transistors and other electronic components on the
silicon wafer. These are then isolated from each other to prevent electrical
signals from bridging from one transistor to another by using a technique called
shallow trench isolation ("STI"). Once the transistors and other electronic
components are in place on the silicon wafer, they are usually covered with a
layer of insulating material, most often silicon dioxide. These components are
then wired together using either aluminum or copper in a particular sequence to
produce a functional IC device with particular characteristics; copper wiring
currently is used in the most advanced devices. At the end of the process, the
wafer is cut into the individual dies, which are then packaged to form
individual chips.

The two major segments in the IC industry that use CMP are logic and
memory. Logic devices include chips such as microprocessors, digital signal
processors (DSP), microcomponents and microcontrollers. These are normally
computing intensive devices that need to perform large numbers of processing
steps every second.
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As a result, these chips, particularly the leading microprocessors and DSPs,
usually require use of the latest technology that increases speed of signal
processing. The leading logic chips use copper wiring to provide that speed
since copper wiring has lower resistance than aluminum wiring, which is used in
older logic devices and in chips that do not require this speed. Memory devices,
which include flash, DRAM and SRAM chips, function by reading, storing and
writing data. Traditionally this segment has been highly cost sensitive and
processing speed is not as critical. Therefore, memory devices tend to use
aluminum wiring, which represents a lower cost approach than copper.

CMP is used to planarize the various insulating layers of an IC device and
prepare them for a process known as metallization. During metallization, wiring
is added to the surface of the insulating layer through a series of steps
involving the following: deposition of a metal onto the surface of the layer;
projection of an image of the desired wiring pattern on the layer using a
process known as photolithography; and removal of the excess deposited metal
from the surface of the insulating layer, which leaves behind the desired wiring
pattern. If the IC device uses aluminum wiring, the excess metal is removed
using a process called etching. If the IC device uses copper wiring, the excess
metal is removed by a CMP process step.

When the wiring on a particular layer of the IC device is finished, another
layer of insulating material is added and may be planarized using CMP. This
process of alternating insulating and wiring layers is repeated until the
desired wiring within the IC device is completed. The electronic components and
wiring layers are connected by conductive plugs that are formed by making holes
in the insulating layers and filling those holes with metal, usually tungsten
for aluminum wiring or copper for copper wiring. After these holes have been
filled with metal, either an etching process for aluminum wiring or CMP for
copper wiring, is used to remove all the excess metal above the surface of the
insulating layer so that the top of the plug is level with the surface of the
insulating layer before the next wiring layer is built.

The number of transistors on a chip has increased exponentially since the
inception of the IC industry, generally following what is referred to as
"Moore's Law", in which the number of transistors on an integrated circuit
historically has doubled every 12-18 months. This has driven relentless
improvement in the speed and a reduction in the cost of computing power
available today. As a result of this evolution, the number of wires and the
number of wiring layers in an IC device have also increased. To accommodate and
standardize these increases, the semiconductor industry follows generally
accepted design rules that describe current and projected size and spacing of
electronic components and wiring in IC devices. To date, the size and spacing in
these design rules have been progressively decreasing to accommodate the demand
for increased circuit density and transistor miniaturization. As the density has
increased, the amount of wiring needed to connect the transistors and other
electronic components to each other also has increased. As IC devices have
become smaller, this increase in wiring has required tighter and more precise
spacing of the wiring, and an increased number of wiring layers in IC devices.
The industry uses the term "node" to define advancement of technology from one
generation to the next. For example, in the present 130 nanometer node, the size
of the smallest wire on the chip is 130 nanometers. Historically the industry
has moved from one node to the next in a time frame of roughly two years. Today,
the leading participants in the industry are migrating from the 130 nanometer to
the 90 nanometer node. Although we expect technology to continue to advance in
the future, we have recently observed that the time between adoption of one
technology node to adoption of the next technology node appears to be
increasing.

Most IC devices today are manufactured on 200 mm silicon wafers. However, a
significant development for the IC industry is the transition to manufacturing
IC devices using 300 mm wafers. The industry leaders are driving this change
from 200 mm to 300 mm wafers to reduce the cost of making each chip. In general,
300 mm wafer manufacturing began in 2002 and this trend is expected to
accelerate in the future. The larger 300 mm wafers contain more IC devices and
typically use less CMP slurry per device.

CHEMICAL MECHANICAL PLANARIZATION

The CMP process utilizes a combination of chemical reactions and mechanical
abrasion to planarize the insulating and conductive layers of an IC device that
are built upon a silicon wafer. During the CMP process the wafer is typically
held on a rotating carrier, which is spun at high speed and pressed against a
rotating polishing table. The portion of the table that comes in contact with
the wafer is covered by a textured polishing pad. A

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CMP slurry is continuously applied to the polishing pad to facilitate and
enhance the polishing process. CMP slurries are liquid solutions generally
composed of high-purity deionized water, proprietary chemical additives and
engineered abrasives that chemically and mechanically interact with the surface
material of the IC device at an atomic level. CMP pads are engineered polymeric
materials designed to distribute and transport the slurry to the surface of the
wafer and distribute it evenly across the wafer.

BENEFITS OF CMP

CMP provides IC device manufacturers with a number of advantages. CMP
enables IC device manufacturers to produce IC devices that are smaller and of
greater density of transistors and other electronic components, both of which
improve the performance and capabilities of the device. As IC devices shrink and
become denser, they require smaller feature sizes and tighter spacing among the
device wiring. If the surface is not level, the smaller feature size and tighter
spacing make it more difficult for the photolithography equipment to focus
accurately and create the desired wiring pattern. In addition, because today's
smaller, denser IC devices have more layers than previous devices, any
unevenness of a layer at or near the bottom of an IC device will be magnified in
the additional layers that are added to the device. Defects caused by problems
in the photolithography process or unevenness in the layers can lead to short
circuits, reduced performance and at worst, failure of the IC device. By using
CMP, IC device manufacturers can eliminate or minimize these problems.

By enabling IC device manufacturers to make smaller IC devices, CMP allows
them to increase the number of IC devices that fit on a wafer. This increase in
the number of IC devices that fit on a wafer in turn increases the throughput,
or the number of IC devices that can be manufactured in a given time period, and
reduces the cost per chip. CMP also helps reduce the number of defective or
substandard IC devices produced, which increases the device yield. Improvements
in throughput and yield reduce an IC device manufacturer's unit production
costs. Manufacturers have the opportunity to achieve further improvements in
throughput and yield as new improvements to the CMP process help to reduce
defect rates and decrease the amount of time required for the polishing process.

CMP SLURRIES

The characteristics that are important for an effective CMP process
include:

- high polishing rates, which increase productivity and throughput;

- high selectivity, which is the ability to enhance the polishing of
specific materials while at the same time inhibiting the polishing of
other materials;

- uniform planarity, which minimizes unevenness as different layers are
built on the wafer;

- uniformity of polishing, which means that different surface materials can
be polished to the same degree at the same time across the wafer, leading
to uniformity of all dies on the wafer;

- low defectivity, which means that the devices have fewer imperfections
and therefore produce higher yield; and

- cost, which is important for users to minimize their cost of
manufacturing.

These attributes may be achieved through technical optimization of both the
slurry and the pad in conjunction with an appropriately designed CMP process.
These qualities affect and enhance the performance of IC devices, and most also
have the ability to reduce the cost of ownership of the CMP process for IC
device manufacturers. Cost of ownership is the result of a calculation by which
IC device manufacturers evaluate the benefits and costs of each production step
by analyzing the impact of that step on throughput and yield, compared with the
costs of the production inputs of that step.

Prior to introducing new or different CMP slurries into its manufacturing
process, an IC device manufacturer generally requires the product to be
qualified in its plant through a series of tests and evaluations. These
qualifications are intended to ensure that the product will function properly in
the manufacturing process, as well as to optimize its application. These tests
may require changes to the CMP process or the CMP slurry.

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While this qualification process varies depending on numerous factors, it is not
unusual for it to be very costly and to take six or more months to complete. IC
device manufacturers usually take the cost, time delay and impact on production
into account when they consider implementing or switching to a new CMP slurry.

INDUSTRY TRENDS

The semiconductor industry has experienced rapid growth over the past three
decades, but it has also been highly cyclical and prone to downturns on a
relatively regular two to three year basis. Over the past one to two years, the
industry was in an expansion phase, as it had been recovering from one of the
most severe downturns in its history, following the end of the technology boom
of the late 1990's. While 2004 has been a strong growth year for the industry,
there are indications that 2005 will be a year of moderating revenue growth for
the broad semiconductor industry, and possibly even a contraction.

Over the next several years, we believe that growth in emerging consumer
connectivity and wireless technologies such as digital mobile phones, digital
still and video cameras, digital television and portable media will represent
the next wave in the semiconductor industry. We believe that the increased
emphasis on memory technology and the incorporation of advanced memory products
into digital consumer devices will drive additional growth in the industry over
the long term, in parallel with the industry's traditional emphasis on
microprocessors for personal computers.

We anticipate the worldwide market for CMP consumables used by IC device
manufacturers will grow in the future as a result of expected increases in the
number of IC devices produced, the percentage of IC devices produced that
require CMP and the number of CMP polishing steps used to produce these devices.
In addition, we believe that technology advances will require the use of new
materials in IC device manufacture that will require new CMP solutions. We
expect this anticipated growth will be somewhat mitigated by efficiencies in CMP
slurry usage, driven by pressure on IC manufacturers to reduce their CMP costs.
Some examples of these potential efficiencies include the transition by IC
manufacturers from 200 mm to 300 mm wafers, as well as the development of
technologies intended to reduce slurry usage. In addition, we have recently
observed that the time between adoption of one technology node to the adoption
of the next technology node appears to be increasing.

As CMP technology has become more advanced, we believe that CMP technical
solutions have become more complex, and leading edge technologies now often
require some customization by customer, tool set and process integration
approach. Further, as CMP technology has matured, we believe that semiconductor
manufacturers' processes have become highly sensitive to CMP slurries, and
customers now demand a very high level of consistency and quality in CMP slurry
products.

Another trend that we have observed is the continued transition of IC
manufacturing to the Asia Pacific region.

STRATEGY

In an effort to maintain our leadership in IC CMP slurries as well as grow
our business profitably, we intend to continue to pursue the following
strategies:

ADVANCE OUR TECHNOLOGY LEADERSHIP

We believe that technology is vital to success in the CMP slurry business
and we plan to continue to devote significant resources to research and
development. We need to keep pace with the rapid technological advances in the
semiconductor industry so we can continue to deliver products that meet or
exceed our customers' evolving needs. Our technology efforts are focused on
three main areas: development of new products for specific applications; process
development to support rapid and effective commercialization of new products;
and, development of fundamental enabling technology to provide new platforms for
future generation products. Additionally, we plan to expand our technology
infrastructure by constructing an Asia Pacific technology center in Geino, Japan
which will add polishing, metrology and product development capability to
support our customers in the Asia Pacific region.

5

ACHIEVE OPERATIONS EXCELLENCE

Our customers demand increasing performance of our products in terms of
product quality and consistency and expect a reliable supply source. We believe
the capacity and the location of our production facilities in the United States,
Europe and Asia allow us to provide a reliable supply chain to meet our
customers' CMP slurry requirements in a consistent and timely manner. We intend
to advance our strict quality controls in order to improve the uniformity and
consistency of performance of our CMP products. To support our operations
excellence initiative, we have broadly introduced the concepts of Six Sigma,
which is a systematic, data-driven approach and methodology for improving
quality by reducing variability in processes, across our company. We believe
there may be significant opportunities to improve product quality and to capture
productivity and efficiency gains through this process.

BECOME CLOSER TO OUR CUSTOMERS

We believe that building close relationships with our customers is another
cornerstone for long-term success in our business. We work closely with our
customers to identify and develop new and better CMP consumables, to integrate
our products into their manufacturing processes and to assist them with supply,
warehousing, packaging and inventory management. We have devoted significant
resources to enhancing our close customer relationships and we are committed to
continuing this effort. As more of our business shifts to the Asia Pacific
region, we are reinforcing our customer commitment by constructing an Asia
Pacific technology center in Geino, Japan, which we believe will enhance our
ability to provide optimized CMP solutions to our customers in this region.

EXPAND INTO NEW APPLICATIONS AND PRODUCTS

We intend to leverage our CMP experience and technology to explore new
applications and products to diversify and grow our business, such as we have
accomplished with our slurries for data storage polishing applications. We
believe that we have unique capabilities to modify surfaces of materials using
chemistry in conjunction with mechanical abrasion, at an atomic level, which may
provide enhanced or previously unseen performance that can be applied to a range
of fine finish polishing applications.

EXPAND GLOBAL PRESENCE

We believe that having production facilities, personnel and technical
resources in strategic locations around the world is important to the success of
our business, particularly in light of increased IC device manufacturing in
Asia. Accordingly, we have established operations in North America, Asia Pacific
and Europe, including production facilities in the United States, Barry, Wales
and Geino, Japan. We also have assembled a team of business professionals,
account managers and technical support personnel strategically located in the
United States, Europe, Taiwan, Singapore, Japan, China and South Korea. Further,
we are expanding our technology infrastructure through our planned Asia Pacific
technology center which we believe will enhance our ability to provide optimized
CMP solutions to our customers in the Asia Pacific region. We intend to continue
to expand our production capacity and technical and sales support in locations
around the world where our customers are concentrated.

ATTRACT AND RETAIN WORLD-CLASS PERSONNEL

We have assembled a highly skilled and dedicated workforce that includes a
wide range of scientists, applications specialists and business professionals,
many of whom have significant experience in the semiconductor industry. We plan
to continue to attract, motivate, develop and retain experienced personnel who
are committed to providing high-performance products and strong customer and
applications support.

PRODUCTS

CMP SLURRIES FOR IC DEVICES

We produce CMP slurries of various formulations for polishing a wide
variety of materials. In addition to improving our existing tungsten and oxide
slurries, we focus on developing new slurries to keep pace with our
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customers' evolving needs. Our new generations of tungsten and oxide slurries,
which are currently the most common use of CMP in IC device manufacturing, are
designed to improve flatness, reduce defects in IC devices and reduce the
required polishing time.

We also manufacture slurry products for polishing copper used in the wiring
layers of the most advanced IC devices and are working on next generation
slurries for these applications. These products include different slurries for
polishing the primary copper film, as well as the thin barrier metal layer used
in copper wiring. We have also developed a slurry for an application known as
direct STI which helps eliminate a number of manufacturing steps for our
customers. We continue to work closely with our customers to develop advanced
slurries to meet their evolving technological needs.

CMP SLURRIES FOR THE DATA STORAGE INDUSTRY

We produce CMP slurries for polishing the magnetic heads and the coating on
disks in hard disk drives by leveraging our core slurry technology and
manufacturing capacity, as well as by employing personnel who understand the
needs of the data storage industry. We believe CMP significantly improves the
surface finish of these coatings, resulting in greater storage capacity of the
substrates, and also improves the production efficiency of manufacturers of hard
disk drives by helping them increase their throughput and yield. We have also
established a dedicated research and development team and an applications
support team similar to that used for our other slurry products.

CMP POLISHING PADS

CMP polishing pads are consumable materials used in the CMP process that
work in conjunction with CMP slurries to facilitate the polishing process. We
believe the CMP polishing pad market is currently led by one principal supplier,
Rohm and Haas. Through discussions with our customers, as well as our own
examination of the CMP polishing pad market, we have determined that demand
exists for higher quality, more reliable and consistent polishing pads. We
previously had participated in the polishing pad business as a value added
reseller of pads supplied to us by a third party. However, due to what we
believe was a less than acceptable level of profitability under this value-added
reseller model, the distribution agreement was terminated by mutual agreement in
June 2004. We continue to believe that there is value in co-developing slurries
and pads to achieve technically optimized CMP solutions. We continue our
development of pads utilizing our own and licensed technology.

CUSTOMERS, SALES AND MARKETING

Our sales process begins with development teams who work closely with our
customers, using our research and development facilities to design CMP products
tailored to their precise needs. Next, our applications teams work with
customers to integrate our products into their manufacturing processes. Finally,
our logistics and sales personnel work to provide reliable supply, warehousing,
packaging and inventory management to our customers. Through our interactive
approach, we are able to build close relationships with our customers in a
variety of areas.

We also market our products through independent distributors primarily in
Taiwan and China. Over the last few years we have reduced the number of
resellers that distribute our products, employing more of a direct sales model.

In response to significant growth in the IC device manufacturing industry
in Asia, we have increased our focus in Asia over the last several years by
increasing the number of sales and marketing, technical and customer support
personnel present in this region. In addition, during the fourth fiscal quarter
of 2004 we commenced design work on an Asia Pacific technology center. The
technology center, which will be located adjacent to our existing manufacturing
facility in Geino, Japan, is expected to become operational during the second
half of 2005, and will include polishing, metrology and product development
capability to support our customers in this region.

In fiscal 2004, our five largest customers, of which one is a distributor,
accounted for approximately 55% of our revenue, with Marketech (our distributor
in Taiwan and China), and Intel accounting for approximately
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32% and 9% of our revenue, respectively. In fiscal year 2003, our five largest
customers, of which two were distributors, accounted for approximately 61% of
our revenue, with Marketech and Intel accounting for approximately 28% and 15%
of our revenue, respectively. In June 2003, we completed our transition to
selling directly to customers in Europe, Singapore and Malaysia who previously
had been serviced through one of these distributors.

CABOT CORPORATION AS OUR MAJOR SUPPLIER OF RAW MATERIALS

The base ingredients for most of our CMP slurries are ultra-fine, high
purity fumed metal oxides -- fumed silica and fumed alumina -- that are both
produced by a flame process. From the time of our initial public offering in
April 2000 to January 2004, we purchased fumed silica and fumed alumina under a
fumed metal oxide agreement with Cabot Corporation that was due to expire in
June 2005. In January 2004 we entered into a fumed silica supply agreement with
Cabot Corporation, which replaced the original fumed metal oxide agreement with
respect to fumed silica, and accordingly amended our fumed metal oxide agreement
with respect to its fumed silica terms such that the agreement now only applies
to fumed alumina and runs through June 2005. This fumed silica supply agreement
provides for improved supply assurance, reduces our risk to rising raw material
costs and implements improved quality performance measures and requirements that
support our initiative to increase product quality and consistency. The contract
provides for the cost of fumed silica to increase approximately 4% over the
initial six-year term of the fumed silica supply agreement, and in some
circumstances is subject to certain inflation adjustments and certain shared
cost savings adjustments resulting from our joint efforts. Under the fumed
silica supply agreement, Cabot Corporation continues to be our primary supplier,
subject to certain terms and conditions, of fumed silica for our slurry products
produced as of the effective date of the fumed silica supply agreement. Subject
to those terms and for products introduced since that time, we have the
flexibility to purchase from other parties. The agreement prohibits Cabot
Corporation from selling fumed silica to third parties for, or engaging itself
in its use in, CMP applications. This agreement expires in December 2009 and
will automatically renew unless either party gives certain notice of
non-renewal.

In addition, since December 2001, we have operated under a fumed alumina
supply agreement with Cabot Corporation under which Cabot Corporation expanded
its capacity for the manufacture of fumed alumina, and we have the first right
to all of this expanded capacity. The agreement provides that the price we pay
to Cabot Corporation for fumed alumina is based on all of its fixed and variable
costs for producing the fumed alumina, plus its capital costs for expanding its
capacity, plus an agreed upon rate of return on investment, plus incentive
payments if they produce more than a certain amount of fumed alumina per year
that meets our specifications. Under this agreement, Cabot Corporation is the
exclusive supplier of certain quantities of fumed alumina for products we
produced as of the effective date of the agreement, subject to certain terms and
conditions. For amounts over these quantities, and for products we introduce
after the effective date, we have the flexibility to purchase from other
parties. The agreement prohibits Cabot Corporation from selling fumed alumina to
third parties for, or engaging itself in its use in, CMP applications. The
agreement has an initial five-year term and we may renew the agreement for an
additional five-years to 2011.

If Cabot Corporation fails to supply us with our requirements for any
reason, including if we require product specification changes that Cabot
Corporation cannot meet, we have the right to purchase products meeting those
specifications from other suppliers.

RESEARCH AND DEVELOPMENT

We believe our leadership position depends in part on our ability to
develop CMP applications tailored to our customers' needs. In our product
development and dispersion technology laboratories, our skilled technical
personnel study different aspects of the CMP process and CMP products, such as
various studies of chemical reactions on the surfaces of wafers. Results from
these studies allow us to adjust the composition of our slurries to achieve
uniform polishing performance. Understanding the chemical processes on the
surface of the polished wafer allows us to compose slurries with specifically
tailored selectivity that interact with one material and then slow or
essentially stop planarization as soon as this particular material has been
polished. We have also assembled dedicated development teams that work closely
with customers to identify their specific technology

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and manufacturing challenges and to translate these challenges into viable CMP
process solutions. We have dedicated substantial resources in research &
development in each of the copper, tungsten and oxide application areas to
support our customers' requirements.

We expanded our existing research and development capabilities in fiscal
2002 with the opening of a new research and development facility in Aurora,
Illinois. This facility is staffed by a team that includes experts from the
semiconductor industry and scientists from key disciplines required for the
development of high-performance CMP products and features a state-of-the-art
Class 1 clean room and advanced equipment for product development. We have also
invested in 300 mm polishing and metrology capabilities to remain aligned with
our technology leading customers and provide us with the ability to replicate
their CMP activities in our clean room. In addition, in the fourth fiscal
quarter of 2004 we commenced design work on a new Asia Pacific technology center
that will be constructed adjacent to our existing manufacturing facility in
Geino, Japan. The new 18,000 square foot facility will provide polishing,
metrology and product development capabilities. The technology center will
include a clean room, development and applications laboratories, a pilot plant
and office space. We expect the facility to become operational during the second
half of 2005. We believe the technology center will enhance our ability to
provide optimized CMP solutions to our customers in the Asia Pacific region. We
believe competitive advantage lies in technology and that our existing and
planned investments in research and development provide us with leading edge
polishing and metrology capabilities to support the most advanced and
challenging customer technology requirements on a global basis.

We expensed approximately $44.0 million, $41.5 million and $33.7 million
for research and development in fiscal years 2004, 2003 and 2002, respectively.
Investments in research and development property, plant and equipment are
capitalized and depreciated over their useful life.

COMPETITION

We are aware of several other manufacturers of CMP consumables with
significant commercial sales of CMP slurries for IC devices and, due to our
success to date and the attractive outlook for the CMP industry, we expect
competition will continue to increase as other companies attempt to enter this
market. Competitive activity has also increased due to customer desires to gain
purchasing leverage and lower their cost of ownership. We believe that customers
make supplier decisions based on three factors, in this order of priority:
first, product performance; second, supply assurance, which entails not only
redundancy in manufacturing but the ability of the supplier to reliably deliver
consistent product and provide technical and manufacturing support for the
product globally; and third, product price. We believe we are the only CMP
slurry supplier today that offers and supports a full line of CMP slurry
products for all major applications, serves a broad range of customers and has a
proven track record of supplying these products globally in high volumes. In the
data storage area we believe there are only two other manufacturers with
significant commercial sales of CMP slurries for polishing the nickel coating on
hard disk drives, and two other manufacturers with significant commercial sales
of CMP slurries for polishing magnetic heads.

We may also face competition in the future from other companies that
develop CMP products, customers that currently have, or that may develop,
in-house capability to produce their own CMP products, and from significant
changes in technology, such as the development of polishing pads containing
abrasives and emerging technologies such as electrochemical mechanical
planarization ("eCMP").

INTELLECTUAL PROPERTY

Our intellectual property is important to our success and ability to
compete. We currently have 65 active U.S. patents and 93 pending U.S. patent
applications. In most cases we file counterpart foreign patent applications.
Many of these patents are important to our continued development of new and
innovative products for CMP and related processes. Our patents have a range of
duration and we do not expect to lose any material patent through the expiration
of such patent in the next seven years. We attempt to protect our intellectual
property rights through a combination of patent, trademark, copyright and trade
secret laws, as well as employee and third party nondisclosure and assignment
agreements.

9

ENVIRONMENTAL MATTERS

Our facilities are subject to various environmental laws and regulations,
including those relating to air emissions, wastewater discharges, the handling
and disposal of solid and hazardous wastes, and occupational safety and health.
We believe that our facilities are in substantial compliance with applicable
environmental laws and regulations. We have incurred, and will continue to
incur, capital and operating expenditures and other costs in complying with
these laws and regulations in both the United States and abroad. However, we
currently do not anticipate that the future costs of environmental compliance
will have a material adverse effect on our business, financial condition or
results of operations.

EMPLOYEES

As of September 30, 2004, we employed 585 individuals, including 279 in
operations, 180 in research and development, 65 in sales and marketing and 61 in
administration. None of our employees are covered by collective bargaining
agreements. We have not experienced any work stoppages and in general consider
our relations with our employees to be good.

FINANCIAL INFORMATION ABOUT GEOGRAPHIC AREAS

Our revenue from customers in the United States totaled $78.1 million,
$79.9 million and $81.0 million, and total revenue in other geographic locations
totaled $231.3 million, $171.8 million and $154.2 million for fiscal years 2004,
2003 and 2002, respectively. Revenue from Taiwan and Japan each accounted for
more than ten percent of our total revenue. Our revenue from customers in Taiwan
totaled $86.3 million, $63.8 million and $54.9 million for fiscal years 2004,
2003 and 2002, respectively. Our revenue from customers in Japan totaled $44.9,
$40.3 million and $34.2 million for fiscal years 2004, 2003 and 2002,
respectively. Revenue attributable to foreign regions are based upon the
customer location and not the geographic location from which our products were
shipped.

Net property, plant and equipment in the United States totaled $94.8
million, $102.8 million and $100.9 million and net property, plant and equipment
in other geographic locations totaled $33.0 million, $30.9 million and $31.4
million at September 30, 2004, 2003 and 2002, respectively. More than ten
percent of our net property, plant and equipment is located in Japan, having a
net book value of $30.2 million, $28.1 million and $27.1 million at September
30, 2004, 2003 and 2002, respectively.

For more financial information about geographic areas, see Note 19 of Notes
to the Consolidated Financial Statements included in "Item 8 -- Financial
Statements and Supplementary Data."

AVAILABLE INFORMATION

Our annual reports on Form 10-K, quarterly reports on Form 10-Q, definitive
proxy statements on Form 14a, current reports on Form 8-K, and any amendments to
those reports, are made available free of charge on our company website at
www.cabotcmp.com as soon as reasonably practicable after such reports are filed
with the Securities and Exchange Commission (SEC). Statements of changes in
beneficial ownership of our securities on Form 4 by our executive officers and
directors are made available on our company website by the end of the business
day following the submission to the SEC of such filings. In addition, the SEC's
website, www.sec.gov, contains reports, proxy statements, and other information
regarding reports that we file electronically with the SEC.

ITEM 2. PROPERTIES

Our principal U.S. facilities that we own consist of:

- a global headquarters and research and development facility in Aurora,
Illinois, comprising approximately 200,000 square feet;

- a commercial dispersion plant and distribution center in Aurora,
Illinois, comprising approximately 175,000 square feet;

10

- a commercial dispersion plant in Aurora, Illinois, comprising
approximately 48,000 square feet; and

- an additional 13.2 acres of vacant land in Aurora, Illinois to
accommodate the possibility of future growth.

Our principal foreign facilities that we own consist of:

- a commercial dispersion plant in Geino, Japan, consisting of
approximately 113,000 square feet.

- an additional 6.2 acres of vacant land adjacent to our Geino, Japan
facility to accommodate the construction of our Asia Pacific technology
center and possible future expansion.

We lease land and a building from Cabot Corporation at a commercial
dispersion plant in Barry, Wales consisting of approximately 22,000 square feet.
We also lease office and laboratory space in Hsin-Chu, Taiwan consisting of
approximately 8,000 square feet and office space in Tokyo, Japan of
approximately 3,000 square feet.

In the fourth fiscal quarter of 2004 we commenced design work on a new
18,000 square foot Asia Pacific technology center that will be constructed
adjacent to our existing manufacturing facility in Geino, Japan. We expect the
facility to become operational during the second half of 2005.

We believe that our current facilities are suitable and adequate for their
intended purpose and provide us with sufficient capacity and capacity expansion
opportunities and technological capability to meet our current and expected
demand in the foreseeable future.

ITEM 3. LEGAL PROCEEDINGS

We are not currently involved in any material legal proceedings.

11

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

None.

EXECUTIVE OFFICERS OF THE REGISTRANT

Set forth below is information concerning our executive officers and their
ages as of December 1, 2004.

William P. Noglows has served as our Chairman, President and Chief
Executive Officer since November 2003. Mr. Noglows had previously served as a
director of our company from January 2000 until April 2002. Prior to joining us,
Mr. Noglows served as an Executive Vice President of Cabot Corporation from 1998
to June 2003. Prior to that, Mr. Noglows held various management positions at
Cabot Corporation including General Manager of Cabot Corporation's Cab-O-Sil
Division, where he was one of the primary founders of Cabot Microelectronics and
was responsible for identifying and encouraging the development of the CMP
application. Mr. Noglows received his B.S. in Chemical Engineering from the
Georgia Institute of Technology.

H. Carol Bernstein has served as our Vice President, Secretary and General
Counsel since August 2000. From January 1998 until joining us, Ms. Bernstein
served as the General Counsel and Director of Industrial Technology Development
of Argonne National Laboratory, which is operated by the University of Chicago
for the United States Department of Energy. From May 1985 until December 1997,
she served in various positions with the IBM Corporation, culminating in serving
as an Associate General Counsel, and was the Vice President, Secretary and
General Counsel of Advantis Corporation, a joint venture between IBM and Sears
Roebuck and Co. Ms. Bernstein received her B.A. from Colgate University and her
J.D. from Northwestern University; she is a member of the Bar of the States of
Illinois and New York.

Victoria J. Brush has served as our Vice President of Human Resources since
August 2004. Prior to joining us, Ms. Brush served as the Vice President of
Human Resources for DuPont Photomasks, Inc. from 2001 through August 2004, and
as Vice President of Human Resources, Organizational Development and Marketing
Communications at W.R. Grace from 1999 to 2001. Prior to that, she served in
human resources leadership positions at AT&T Corporation and Lucent
Technologies, Inc. Ms. Brush holds an M.S. and B.S. in Human Resource Management
from Upsala College.

Jean Pol Delrue has served as our Vice President of European Business
Region since July 2004 and previously served as our European Business Manager
from June 2001 to July 2004. Prior to joining us, Dr. Delrue worked for Ebara
Precision Machinery Europe from January 1995 to June 2001, culminating in
serving as the Vice President of CMP Europe. Prior to that, he served as the
Business and Technical Development Director and Member of the Management Board
at Riber SA. Dr. Delrue holds an Executive

12

MBA from the Centre de Perfectionnement des Affaires in Paris, France; a Ph.D.
in Physical Chemistry from Belgium's University of Mons and has performed post
doctorate work in chemical engineering at Stanford University.

William S. Johnson has served as our Vice President, Chief Financial
Officer and Treasurer since April 2003. Prior to joining us, Mr. Johnson served
as Executive Vice President and Chief Financial Officer for Budget Group, Inc.
from August 2000 to March 2003. Before that, Mr. Johnson spent 16 years at BP
Amoco in various senior finance and management positions. Mr. Johnson received
his B.S. in Mechanical Engineering from the University of Oklahoma and his
M.B.A. from the Harvard Business School.

Hiroyuki Nishiya has served as our Vice President of Northeast Asia since
January 2004 and previously was our Vice President, Asia Pacific Business Region
from January 2001 to such time. Mr. Nishiya also served as Japan Business
Manager upon joining our company in April 1997. Prior to joining us, Mr. Nishiya
held various positions at OKIDATA and Materials Research Corporation. Mr.
Nishiya received a B.B.A. from George Washington University.

Daniel J. Pike has served as our Vice President of Corporate Development
since January 2004 and previously was our Vice President of Operations from
December 1999. Mr. Pike served as our Director of Global Operations from 1996 to
1999. Prior to joining us, Mr. Pike worked for FMC Corporation as a Marketing
Manager. Mr. Pike received his B.S. in Chemical Engineering from the University
of Buffalo and his M.B.A. from the Wharton School of Business of the University
of Pennsylvania.

Stephen R. Smith has served as our Vice President of Marketing and Sales
since October 2001. Prior to joining us, Mr. Smith served as Vice President,
Sales & Business Development for Buildpoint Corporation from 2000 to October
2001. Prior to that, Mr. Smith spent 17 years at Tyco Electronics Group,
formerly known as AMP Incorporated, in various management positions. Mr. Smith
earned a B.S. in Industrial Engineering from Grove City College and a M.B.A.
from Wake Forest University.

Clifford L. Spiro has served as Vice President, Research and Development
since December 2003. Prior to joining us, Dr. Spiro served as Vice President of
Research and Development at Ondeo-Nalco from 2001 through November 2003. Prior
to that, Dr. Spiro held research and development management and senior
technology positions at the General Electric Company from 1980 through 2001, the
most recent of which was Global Manager -- Technology for Business Development.
Dr. Spiro received his B.S. in Chemistry from Stanford University and holds a
Ph.D in Chemistry from the California Institute of Technology.

Adam F. Weisman has served as our Vice President of Operations since May
2004. Prior to joining us, Mr. Weisman held various engineering and senior
operations management positions with the General Electric Company from 1988
through 2004, including having served as the General Manager of Manufacturing
for GE Plastics - Superabrasives, and culminating in serving as the Executive
Vice President of Operations for GE Railcar Services. Prior to joining GE, he
worked as an engineering team leader and pilot plant manager for E.I. Du Pont de
Nemours & Company. Mr. Weisman holds a B.S. degree in ceramic engineering from
Alfred University.

Daniel S. Wobby has served as our Vice President of Greater China and
Southeast Asia since February 2004. Mr. Wobby previously served as Corporate
Controller and Principal Accounting Officer from 2000 to 2004. Prior to that,
Mr. Wobby had served as our Director of Finance, and had held various accounting
and operations positions with Cabot Corporation since 1989. Before that, Mr.
Wobby worked for Arthur Andersen LLP. Mr. Wobby earned a B.S. in Accounting from
St. Michael's College and a M.B.A. from the University of Chicago's Graduate
School of Business.

Thomas S. Roman has served as our Corporate Controller and Principal
Accounting Officer since February 2004 and previously served as our North
American Controller. Prior to joining us in April 2000, Mr. Roman was employed
by FMC Corporation in various financial reporting, tax and audit positions.
Before that, Mr. Roman worked for Gould Electronics and Arthur Andersen LLP. Mr.
Roman is a C.P.A. and earned a B.S. in Accounting from the University of
Illinois and a M.B.A. from DePaul University's Kellstadt Graduate School of
Business.

13

PART II

ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND
ISSUER PURCHASES OF EQUITY SECURITIES

Our common stock has traded publicly on the NASDAQ National Market under
the symbol "CCMP" since our initial public offering in April 2000. The following
table sets forth the range of quarterly high and low closing sales prices for
our common stock on the NASDAQ National Market.

As of November 30, 2004, there were approximately 1,173 holders of record
of our common stock. No dividends were declared or paid in either fiscal 2004 or
fiscal 2003 and we have no current plans to pay cash dividends in the future.

ISSUER PURCHASES OF EQUITY SECURITIES

In July 2004 we announced that our Board of Directors had authorized a
share repurchase program for up to $25.0 million of our outstanding common
stock. Shares are repurchased from time to time, depending on market conditions,
in open market transactions, at management's discretion. We fund share
repurchases from our existing cash balance. The program is primarily intended to
diminish earnings dilution from the issuance of stock from the exercise of stock
options under our equity incentive plan and purchases under our employee stock
purchase plan. The program, which was effective on the announcement date, may be
suspended or terminated at any time, at the Company's discretion.

ITEM 6. SELECTED FINANCIAL DATA

The following selected financial data for each of the five-years ended
September 30, 2004 has been derived from the audited consolidated financial
statements.

14

The information set forth below is not necessarily indicative of results of
future operations and should be read in conjunction with "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
the consolidated financial statements and notes to those statements included in
Items 7 and 8 of Part II of this Form 10-K.

CABOT MICROELECTRONICS CORPORATION

SELECTED FINANCIAL DATA -- FIVE YEAR SUMMARY

Certain amounts in the prior fiscal years have been reclassified to conform with
the current year presentation.

15

ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS

The following "Management's Discussion and Analysis of Financial Condition
and Results of Operations", as well as disclosures included elsewhere in this
Form 10-K, include "forward-looking statements" within the meaning of the
Private Securities Litigation Reform Act of 1995. This Act provides a "safe
harbor" for forward-looking statements to encourage companies to provide
prospective information about themselves so long as they identify these
statements as forward-looking and provide meaningful cautionary statements
identifying important factors that could cause actual results to differ from the
projected results. All statements other than statements of historical fact we
make in this Form 10-K are forward-looking. In particular, the statements herein
regarding future sales and operating results, company and industry growth and
trends, growth of the markets in which the company participates, international
events, product performance, new product introductions, development of new
products and technologies, the construction of new facilities by the company and
statements preceded by, followed by or that include the words "intends,"
"estimates," "plans," "believes," "expects," "anticipates," "should," "could,"
or similar expressions, are forward-looking statements. Forward-looking
statements reflect our current expectations and are inherently uncertain. Our
actual results may differ significantly from our expectations. We assume no
obligation to update this forward-looking information. The section entitled
"Factors Affecting Future Operating Results" describes some, but not all, of the
factors that could cause these differences.

The following discussion and analysis should be read in conjunction with
our historical financial statements and the notes to those financial statements
which are included in Item 8 of Part II of this Form 10-K.

OVERVIEW

Cabot Microelectronics Corporation ("Cabot Microelectronics," "the
Company," "us," "we," or "our") is the leading supplier of high-performance
polishing slurries used in the manufacture of the most advanced integrated
circuit ("IC") devices within the semiconductor industry, in a process called
chemical mechanical planarization ("CMP"). CMP is a polishing process used by IC
device manufacturers to planarize or flatten many of the multiple layers of
material that are built upon silicon wafers in the production of advanced ICs.
Planarization is a polishing process that uses CMP slurries and pads to level,
smooth and remove excess material from the surfaces of these layers, while
leaving minimal residue or defects on the surface. CMP slurries are liquid
solutions generally composed of high-purity deionized water, proprietary
chemical additives and engineered abrasives that chemically and mechanically
interact with the surface material of the IC device at an atomic level.

CMP enables IC device manufacturers to produce smaller, faster and more
complex IC devices with fewer defects. We believe CMP will become increasingly
important in the future as manufacturers continue to shrink the size of these
devices and to improve their performance. Our CMP products are used for a number
of applications, such as polishing insulating oxide layers, the tungsten plugs
that connect the multiple wiring layers of IC devices through these insulating
layers, and copper wiring. We also develop slurries for direct shallow trench
isolation, used to electrically isolate adjoining transistors. In addition, we
have developed and sell CMP slurries for polishing certain components in hard
disk drives, specifically rigid disk substrates and magnetic heads, and we
believe we are one of the leading suppliers in this area. We are continuing to
develop new and improved products for these applications as well as improving
existing products on an ongoing basis. In addition, we are developing polishing
pads for use in the CMP process.

Prior to our initial public offering in April 2000, we operated as a
division of Cabot Corporation ("Cabot Corporation"). In September 2000 we became
a wholly independent entity upon Cabot Corporation's spin-off of its ownership
in us that remained after the initial public offering.

We have continued to focus on three key strategies; remaining the
technology leader in CMP slurries, achieving operations excellence through
improved product quality and consistency, and building and maintaining close
customer relationships. We believe that this, coupled with an expansionary
period for the semiconductor industry, resulted in profitable growth for our
company in fiscal 2004. Revenue for fiscal 2004 was $309.4 million, up 23.0%
from the $251.7 million reported for fiscal 2003, and net income increased by
23.8% from the prior year. In addition, diluted earnings per share in fiscal
2004 were $1.88, which represents an

16

increase of 22.9% from the $1.53 reported in fiscal 2003. The following
represents what we believe were important events for our business in fiscal
2004:

- We realigned and refreshed our executive leadership team in order to
drive broad organizational development and increase overall leadership
capability. In addition, we transitioned to a Global Business Team
structure to provide a single point of accountability for each major
application area.

- We entered into a strategic alliance with NanoProducts Corporation under
which we acquired a minority equity ownership interest in the company in
exchange for a $3.8 million investment. Under this alliance we are
collaborating to develop nanoscale particles for use in next generation
CMP slurries, as well as other fine finish polishing applications.

- We executed a silica supply agreement with Cabot Corporation, which
provides better supply assurance, reduced cost risk and additional
benefits related to quality that support our operations excellence
initiative.

- We established a multi-year supply arrangement with a top 5 semiconductor
manufacturer to supply the majority of its CMP needs for polishing copper
interconnects at 130 nanometer technology.

- We renewed our revolving credit facility in the amount of $50.0 million,
with an option to increase the facility by up to $30.0 million.

- We initiated a share repurchase program for up to $25.0 million of our
common stock, primarily intended to diminish earnings dilution from the
issuance of stock from the exercise of stock options under our equity
incentive plan and purchases under our employee stock purchase plan.

- We commenced design work on a new Asia Pacific technology center that
will be constructed adjacent to our existing manufacturing facility in
Geino, Japan, which will provide polishing, metrology and product
development capabilities.

- We terminated our distribution agreement with a polishing pad
manufacturer due to what we believe was a less than acceptable level of
profitability.

- We experienced increased competition and pricing pressure, and one large
customer notified us of its decision to transition to another supplier of
CMP slurry for polishing 130 nanometer copper interconnects.

- We launched a company-wide Six-Sigma initiative to reduce product
variation, increase efficiency and productivity and reduce costs.

We believe that the Asia Pacific region continues to be the fastest growing
region in the world for the semiconductor industry, and we believe that demand
for our products will continue to shift to this region. We have increased our
focus in Asia over the last few years by increasing the number of sales and
marketing, technical and customer support personnel present in this region. In
the fourth fiscal quarter of 2004 we commenced design work on a new Asia Pacific
technology center that will be constructed adjacent to our existing
manufacturing facility in Geino, Japan. This facility represents our first
research and development facility to be located outside of the United States.
This investment reflects the importance of the Asia Pacific market to our
business and underscores our commitment both to continuing to invest in our
technology infrastructure to maintain our technology leadership, and to becoming
even more responsive to the needs of our customers.

We believe there are three CMP industry trends that are currently impacting
our business. First, we believe that rapid incorporation of CMP technology and
growth of the CMP industry, combined with our customers' desires to gain
purchasing leverage and lower their cost of ownership, have led to much greater
competitive activity. Second, as CMP technology has become more advanced, we
believe that CMP technical solutions have become more complex, and leading edge
technologies often require customization by customer, tool set and process
integration approach. Third, as CMP technology has matured, we believe that
semiconductor manufacturers' processes have become highly sensitive to CMP
slurries, and customers now demand a very high level of consistency and quality
in CMP slurry products, which increases our costs. As a result of these

17

trends, we expect our gross margin as a percentage of revenue to be 48%, plus or
minus 2%, for fiscal 2005. There are indications that 2005 will be a year of
moderating revenue growth for the broad semiconductor industry, and possibly
even a contraction. The continued uncertainty makes it difficult for us to
predict future revenue trends for the industry or our business.

Over the next several years, we believe that growth in emerging consumer
connectivity and wireless technologies such as digital mobile phones, digital
still and video cameras, digital television and portable media will represent
the next wave in the semiconductor industry. We believe that the increased
emphasis on memory technology and the incorporation of advanced memory products
into digital consumer devices will drive additional growth in the industry over
the long term, in parallel with the industry's traditional emphasis on
microprocessors for personal computers.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

The following "Management's Discussion and Analysis of Financial Condition
and Results of Operations", as well as disclosures included elsewhere in this
Form 10-K, are based upon our audited consolidated financial statements, which
have been prepared in accordance with accounting principles generally accepted
in the United States. The preparation of these financial statements requires us
to make estimates and judgments that affect the reported amounts of assets,
liabilities, revenues and expenses, and related disclosure of contingencies. On
an ongoing basis, we evaluate the estimates used, including those related to
product returns, bad debt expense, inventory valuation, warranty obligations,
other accruals, contingencies and litigation. We base our estimates on
historical experience, current conditions 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, as well as
identifying and assessing our accounting treatment with respect to commitments
and contingencies. Actual results may differ from these estimates under
different assumptions or conditions. We believe the following critical
accounting policies involve significant judgments and estimates used in the
preparation of the consolidated financial statements.

We maintain an allowance for doubtful accounts for estimated losses
resulting from the potential inability of our customers to make required
payments. Our allowance for doubtful accounts includes both a general reserve
based on historical experience and an additional reserve for individual accounts
when we become aware of a customer's inability to meet its financial
obligations, such as in the case of bankruptcy filings or deterioration in the
customer's operating results or financial condition. While historical experience
may provide a reasonable estimate of uncollectible accounts, actual results may
differ from what was recorded. As of September 30, 2004 our allowance for
doubtful accounts represented 1.4% of gross accounts receivable. If we had
increased our estimate of bad debts by 1.0%, to 2.4% of gross accounts
receivable, our general and administrative expense would have increased by $0.4
million.

We maintain a warranty reserve that reflects management's best estimate of
the cost to replace product that does not meet customers' specifications and
performance requirements, and related costs. The warranty reserve is based upon
a historical product return rate applied against sales made in the current
quarterly period, plus an additional amount related to any specific known
conditions or circumstances. Should actual warranty costs differ substantially
from our estimates, revisions to the estimated warranty liability may be
required. As of September 30, 2004 our warranty reserve represented 1.2% of the
current quarter revenue. If we had increased our estimate of general warranty
reserve by 1.0%, to 2.2% of the current quarter revenue, our cost of goods sold
would have increased by $0.8 million.

We value inventory at the lower of cost or market and write down the value
of inventory for estimated obsolescence or if inventory is deemed unmarketable.
An inventory reserve is maintained based upon a historical percentage of actual
inventory written off applied against inventory at the end of the period, plus
an additional amount for known conditions and circumstances. We exercise
judgment in estimating the amount of inventory that is obsolete. Should actual
product marketability and raw material fitness for use be affected by conditions
that are different from those projected by management, revisions to the
estimated inventory reserve may be required. Also, the purchase cost of one of
our key raw materials from one supplier changes significantly based upon the
total quantity of in-specification product that we purchase in a given fiscal
year. During interim
18

periods we determine inventory valuation and the amount charged to cost of goods
sold for this raw material from this supplier based on the expected average cost
over the entire fiscal year using our current full year forecast of purchases of
this raw material from this supplier.

We have entered into unconditional purchase obligations, which include
noncancelable purchase commitments and take-or-pay arrangements with suppliers.
We review our agreements and make an assessment of the likelihood of a shortfall
in purchases and determine if it is necessary to record a liability.

In accordance with the provisions of Statement of Financial Accounting
Standards No. 148, "Accounting for Stock-Based Compensation -- Transition and
Disclosure" ("SFAS 148") and No. 123, "Accounting for Stock-Based Compensation"
("SFAS 123"), we have elected to account for stock-based compensation plans in
accordance with Accounting Principles Board Opinion No. 25, "Accounting for
Stock Issued to Employees" ("APB 25"), and related interpretations. We disclose
the summary of pro forma effects to reported net income as if we had elected to
recognize compensation cost based on the fair value of stock-based awards to
employees of Cabot Microelectronics as prescribed by SFAS 123.

We have entered into a strategic alliance with NanoProducts Corporation and
acquired a minority interest in the company of 13.1% in exchange for an
investment of $3.8 million. Although we do not own 20% or more of NanoProducts,
we have concluded that we have the ability to significantly influence
NanoProducts' operating and financial policies. Therefore, in accordance with
Accounting Principles Board Option No. 18 "The Equity Method of Accounting for
Investments in Common Stock", we account for our investment using the equity
method of accounting, which requires us to record earnings and losses of
NanoProducts in proportion to our share of ownership.

We maintain an intercompany loan agreement with our wholly-owned
subsidiary, Nihon Cabot Microelectronics K.K. ("the K.K."), under which we
provided funds to the K.K. to finance the purchase of certain assets from our
former Japanese branch at the time of the establishment of this subsidiary, as
well as for the purchase of land adjacent to our Geino, Japan facility, which is
part of the K.K. Since settlement of the note is expected in the foreseeable
future, and our subsidiary has been consistently making timely payments on the
loan, the loan is considered a foreign-currency transaction under FASB Statement
No. 52, "Foreign Currency Translation". Therefore the associated foreign
exchange gains and losses are recognized in earnings rather than being deferred
in the cumulative translation account in other comprehensive income.

RESULTS OF OPERATIONS

The following table sets forth, for the periods indicated, the percentage
of revenue of certain line items included in our historical statements of
income:

19

YEAR ENDED SEPTEMBER 30, 2004 VERSUS YEAR ENDED SEPTEMBER 30, 2003

REVENUE

Revenue was $309.4 million in 2004, which represented a 23.0%, or $57.8
million, increase from 2003. Of this increase, $56.7 million was due to an
increase in sales volume and $1.1 million was due to an increase in weighted
average selling price resulting from both a higher valued product mix and
favorable foreign exchange rate changes, which more than offset selective price
reductions that were granted to certain customers. Revenue for fiscal year 2004
would have been $4.7 million lower had the average exchange rates for the
Japanese Yen and Euro during the period held constant with the prior year's
average rates. Also, in June 2003, we began selling directly to customers in
Europe, Singapore and Malaysia. These customers previously had been serviced
through Metron, a third party distributor. During this transition period we
discontinued sales to Metron while they drew down their inventory of our
products, which we believe resulted in an adverse revenue impact of $3.7 million
during our third quarter of fiscal 2003.

While 2004 has been a growth year for the semiconductor industry, there are
indications that 2005 will be a year of moderating revenue growth and possibly
even a contraction, which we would expect to have an impact on our business. We
expect continued competition as other companies attempt to enter the CMP
business. We also expect pricing pressure to continue due to customer desires to
gain purchasing leverage and lower their cost of ownership. The cyclical nature
of and continued uncertainty in the semiconductor industry makes it difficult
for us to predict future revenue trends.

COST OF GOODS SOLD

Total cost of goods sold was $156.8 million in 2004, which represented an
increase of 26.2%, or $32.5 million, from 2003. Of this increase, $27.3 million
was due to higher sales volume and $8.1 million was due to higher average costs
per gallon resulting from increased fixed manufacturing costs and higher costs
from lower yields associated with meeting our customers' more stringent product
quality requirements, as well as from transition costs associated with the
termination of a polishing pad distribution agreement. These increases were
partially offset by the absence of $2.9 million of expense incurred in fiscal
2003 related to a raw material supply agreement for a polishing pad technology
that was previously under development but is no longer being pursued.

Fumed metal oxides, both fumed silica and fumed alumina, are significant
raw materials we use in many of our CMP slurries. From the time of our initial
public offering in April 2000 to January 2004, we purchased fumed silica and
fumed alumina under a fumed metal oxide agreement with Cabot Corporation that
was due to expire in June 2005. In January 2004 we entered into a fumed silica
supply agreement with Cabot Corporation, which replaces the original fumed metal
oxide agreement with respect to fumed silica, and accordingly amended our fumed
metal oxide agreement with respect to its fumed silica terms such that the
agreement now only applies to fumed alumina and runs through its original term
of June 2005. This fumed silica supply agreement provides for improved supply
assurance, reduces our risk to rising raw material costs and incorporates
increased quality performance measures and requirements that support our
initiative to increase product quality and consistency. This agreement has an
initial six-year term, which expires in December 2009 and will automatically
renew unless either party gives certain notice of non-renewal. The contract
provides for the cost of fumed silica to increase approximately 4% over the
initial six-year term of the fumed silica supply agreement, and in some
circumstances is subject to certain inflation adjustments and certain shared
cost savings adjustments resulting from our joint efforts.

In addition, since December 2001, we have operated under a fumed alumina
supply agreement with Cabot Corporation under which Cabot Corporation expanded
its capacity for the manufacture of fumed alumina and we have the first right to
all of this expanded capacity. The agreement provides that the price Cabot
Corporation charges us for fumed alumina is based on all of its fixed and
variable costs for producing the fumed alumina, its capital costs for expanding
its capacity, an agreed upon rate of return on investment and incentive payments
if they produce more than a certain amount of fumed alumina per year that meets
our specifications.

Our need for additional quantities or different kinds of key raw materials
in the future has required, and will continue to require, that we enter into new
supply arrangements with third parties. Future arrangements
20

may result in costs which are different from those in the existing agreements.
We also expect to continue to invest in our operations excellence initiative to
improve our manufacturing capabilities to meet our customers' increasing product
performance requirements.

GROSS PROFIT

Our gross profit as a percentage of revenue was 49.3% in 2004 as compared
to 50.6% in 2003. The 1.3% decrease in gross profit expressed as a percentage of
revenue resulted primarily from increased costs from lower yields associated
with meeting customer requirements for higher product quality. We continue to
experience increasing competition and pricing pressure, along with increasing
costs to support the higher product quality and advanced technology requirements
of our customers. For these reasons, we expect our gross profit as a percentage
of revenue for fiscal 2005 to be in the range of 48%, plus or minus 2%.

RESEARCH AND DEVELOPMENT

Total research and development expenses were $44.0 million in 2004, which
represented an increase of 6.0% or $2.5 million, from 2003. Research and
development expense increased primarily due to $2.4 million in higher staffing
costs, $1.2 million due to higher depreciation related to the purchase of
equipment for our CMP polishing and metrology clean room in Aurora, Illinois,
and $0.5 million due to higher technical service fees. These increases were
partially offset by a decrease in laboratory supplies of $2.1 million. Research
and development efforts were mainly related to formulation and evaluation of new
and enhanced CMP slurry products for copper and other applications,
commercialization and transfer of new products to our customers and research
related to fundamental technology such as advanced chemistry and particle
technology.

SELLING AND MARKETING

Selling and marketing expenses were $16.2 million in 2004, which
represented an increase of 44.6%, or $5.0 million, over 2003. The increase
resulted primarily from higher staffing costs of $2.7 million, increased office
expenses of $0.6 million, higher travel costs of $0.6 million, increased
consulting fees of $0.5 million and $0.3 million in separation costs for certain
employees. The higher selling and marketing expenses resulted from our increased
customer support initiatives including our transition to selling direct to
customers in Europe, Singapore and Malaysia, rather than through a distributor;
although we still use a distributor for a relatively small amount of business in
Japan, we have greatly reduced our percentage of business through this
distributor and sell more of our product direct to customers. Increases in
selling and marketing expenses also resulted from the transition to a Global
Business Team structure to provide a single point of accountability for each
major application.

GENERAL AND ADMINISTRATIVE

General and administrative expenses were $22.4 million in 2004, which
represented an increase of 22.6%, or $4.1 million, from 2003. The increase
resulted primarily from $2.5 million in higher staffing costs, $0.5 million of
increased professional fees, $0.3 million due to higher insurance premiums and
$0.2 million in separation costs for an employee.

AMORTIZATION OF INTANGIBLES

Amortization of intangibles was $0.3 million in 2004 and 2003.

OTHER INCOME, NET

Other income was $0.1 million in 2004, compared to being negligible in
2003. The increase in other income is primarily due to higher interest income
and lower interest expense, offset by increased foreign exchange losses.

21

PROVISION FOR INCOME TAXES

Our effective income tax rate was 33.1% in 2004 and 32.7% in 2003. The
increase in the effective tax rate was primarily due to the decreased effect of
tax credits from research and experimentation activities. We expect our income
tax rate for fiscal year 2005 to be 32.8%.

NET INCOME

Net income was $46.7 million in 2004, which represented an increase of
23.8%, or $9.0 million, from 2003 as a result of the factors discussed above.

YEAR ENDED SEPTEMBER 30, 2003 VERSUS YEAR ENDED SEPTEMBER 30, 2002

REVENUE

Revenue was $251.7 million in 2003, which represented a 7.0%, or $16.5
million, increase from 2002. Of this increase, $9.7 million was due to a 4.1%
increase in sales volume and $6.8 million was due to increased weighted average
selling prices driven by improved sales mix. Fiscal 2003 revenue would have been
$1.7 million lower had the Japanese Yen average exchange rate for the year held
constant with the prior year average. Also, in June 2003, we began selling
directly to customers in Europe, Singapore and Malaysia. These customers
previously had been serviced through Metron, a third party distributor. During
this transition period we discontinued sales to Metron while they drew down
their inventory of our products, which we believe resulted in an adverse revenue
impact of $3.7 million during our third quarter of fiscal 2003.

COST OF GOODS SOLD

Total cost of goods sold was $124.3 million in 2003, which represented an
increase of 9.9% or $11.2 million from 2002. Of this increase, $4.6 million was
due to higher sales volume, $4.6 million was due to higher average costs per
gallon associated with meeting our customers' more stringent product quality
requirements and $2.0 million was due to a charge related to the remaining
minimum purchase obligation under a raw material supply agreement for a
polishing pad technology that was previously under development but is no longer
being pursued. Our total cost of this supply agreement was $2.9 million in
fiscal 2003, compared to $0.8 million in the prior fiscal year.

The increase in cost of goods sold was partially offset by the absence of
royalty payments that ended in August 2002, following the expiration of a
contingent payment arrangement with Rippey Corporation resulting from our 1995
acquisition of selected assets used or created in connection with the
development and sale of polishing slurries. We had made payments under this
agreement of 2.5% of applicable slurry revenue from July 1995 through our last
payment in August 2002.

GROSS PROFIT

Our gross profit as a percentage of revenue was 50.6% in 2003 as compared
to 51.9% in 2002. The decrease in gross profit resulted primarily from an
increase in manufacturing costs to support our customers' increasing quality
requirements, pricing pressure from certain key customers and our recognition of
the minimum purchase obligation referred to above.

RESEARCH AND DEVELOPMENT

Total research and development expenses were $41.5 million in 2003, which
represented an increase of 23.3% or $7.8 million, from 2002. Research and
development expense increased $1.6 million due to increased staffing, $1.7
million due to higher wafer purchases and $2.7 million due to depreciation and
operating costs of our Aurora, Illinois research and development facility and
other new equipment. Since our new research and development facility was opened
during fiscal 2002, 2002 does not represent a full year of depreciation and
operating costs related to the facility. An additional $1.0 million increase
resulted from allocating certain common facility operating costs to research and
development. These costs had previously been treated as general and
administrative expense prior to construction of the facility. Additional costs
were incurred in

22

technical service support and other areas to support the overall increase in
research and development activities. Research and development efforts were
mainly related to new and enhanced CMP products, including slurry products for
copper applications, new CMP polishing pad technology and advanced chemistry and
particle technology.

SELLING AND MARKETING

Selling and marketing expenses were $11.2 million in 2003, which
represented an increase of 16.1%, or $1.6 million, over 2002. The increase
resulted primarily from higher staffing costs associated with our increased
customer support initiatives including our transition to selling direct to
customers in Europe, Singapore and Malaysia, rather than through a distributor.

GENERAL AND ADMINISTRATIVE

General and administrative expenses were $18.2 million in 2003, which
represented an increase of 4.4%, or $0.8 million, from 2002. Increases include
depreciation of our business information systems, higher directors' and
officers' liability insurance premiums of $1.2 million and increased staffing
costs of $0.6 million. These increases were partially offset by a $0.8 million
reduction in legal and professional expenses, primarily due to the absence of
legal fees associated with the Rodel litigation, discussed further below, a
decrease in facilities charges due to the change in allocation of certain common
facility operating costs described under Research and Development and the
absence of a $0.2 million non-cash charge related to the modification of a
former director's stock option agreement in fiscal 2002.

LITIGATION SETTLEMENT

During the second fiscal quarter of 2002, we settled all pending patent
infringement litigation with Rodel, which resulted in a one-time payment of $1.0
million. Under the settlement agreement, we received a fully paid-up, worldwide
royalty-free license to all technology that was the subject of the litigation
and their foreign equivalents, and there is no further financial obligation with
respect to this matter.

AMORTIZATION OF INTANGIBLES

Amortization of intangibles was $0.3 million in 2003 and 2002.

OTHER INCOME, NET

Other expense was negligible in 2003 compared to $0.8 million of other
income in 2002. The decrease in other income in 2003 is due to the absence of
foreign exchange gains recorded in the prior year resulting from the
strengthening of the Japanese Yen, which were partially offset by a payment made
to Cabot Corporation in 2002 as reimbursement for certain capital improvements
made to equipment used to supply us with raw materials, that is no longer in
service.

PROVISION FOR INCOME TAXES

The effective income tax rate was 32.7% in 2003 and 33.0% in 2002. The
decrease in the effective tax rate was due to an increase in tax credits from
expanded research and experimentation activities.

NET INCOME

Net income was $37.7 million in 2003, which represented a decrease of 7.3%,
or $3.0 million, from 2002 as a result of the factors discussed above.

INFLATION

We believe that inflation has not had a material effect on our revenues and
net income for the last three fiscal years.

23

LIQUIDITY AND CAPITAL RESOURCES

We had cash flows from operating activities of $64.2 million in 2004, $47.6
million in 2003 and $53.5 million in 2002. Our cash provided by operating
activities in 2004 originated from net income from operations of $46.7 million
and non-cash items of $20.4 million, which were partially offset by a net
increase in working capital of $2.9 million.

In 2004 cash flows used in investing activities were $12.8 million, of
which $11.0 million was used for purchases of land in Geino, Japan,
production-related equipment and research and development equipment. In
addition, we acquired a minority equity ownership interest in NanoProducts
Corporation in exchange for a $3.8 million investment of which we have paid
approximately $1.8 million to NanoProducts Corporation and intend to pay an
additional $1.9 million. In 2003 cash flows used in investing activities were
$14.5 million, primarily due to $16.4 million in purchases of additional
production-related equipment, a 300 mm polishing tool and metrology tools to
support increased polishing capacity in our Class 1 clean room. These capital
expenditures were partially offset by $1.9 million in cash received from the
sale of assets, of which $1.8 million related to the January 2003 sale of our
distribution center and land in Ansung, South Korea. In 2002, cash flows used in
investing activities were $35.3 million, primarily due to completion of the
construction of our new research and development facility in Aurora, Illinois,
and equipping the facility with additional research and development equipment.
We also purchased additional production-related equipment to be used in Aurora,
Illinois and invested in the development and implementation of our business
information system.

In 2004 cash flows used in financing activities of $5.4 million resulted
primarily from the repurchase of $8.0 million of common stock and principal
payments of $0.8 million made under capital lease obligations. These outflows
were partially offset by the issuance of common stock of $3.4 million from the
exercise of stock options under our equity incentive plan and purchases under
our employee stock purchase plan. We had cash flows from financing activities of
$8.5 million in 2003 that resulted from the issuance of common stock of $12.8
million for the exercise of stock options under our equity incentive plan and to
a much lesser extent, purchases under our employee stock purchase plan, offset
by a $3.5 million loan repayment, which is described below, and principal
payments of $0.7 million made under capital lease obligations. We had cash flows
from financing activities of $3.6 million in 2002 which resulted from the
issuance of common stock of $4.5 million for both the exercise of stock options
under our equity incentive plan and purchases under our employee stock purchase
plan, offset partially by principal payments of $0.9 million made under capital
lease obligations.

In July 2004 we announced that our Board of Directors had authorized a
share repurchase program for up to $25.0 million of our outstanding common
stock. Shares are repurchased from time to time, depending on market conditions,
in open market transactions, at management's discretion. We fund share
repurchases from our existing cash balance. The plan is primarily intended to
diminish earnings dilution from the issuance of stock from the exercise of stock
options under our equity incentive plan and purchases under our employee stock
purchase plan. The program, which became effective on the announcement date, may
be suspended or terminated at any time, at the Company's discretion.

In February 2003, we prepaid the entire $3.5 million unsecured term loan
that had been funded on the basis of the Illinois State Treasurer's Economic
Program which had been due in April 2005 and had incurred interest at an annual
rate of 4.68%. No gain or loss was recognized with respect to the prepayment. As
a result of this prepayment, we have no outstanding long term debt.

In July 2001 we entered into a $75.0 million unsecured revolving credit and
term loan facility with a group of commercial banks, and in February 2002 and
August 2003, this agreement was amended with no material changes in terms. On
November 24, 2003, the then existing agreement was terminated and replaced with
an amended and restated unsecured revolving credit facility of $50.0 million
with an option to increase the facility by up to $30.0 million. Under this
agreement, which terminates in November 2006, but can be renewed for two
one-year terms, interest accrues on any outstanding balance at either the
institution's base rate or the eurodollar rate plus an applicable margin. A
non-use fee also accrues. Loans under this facility are anticipated to be used
primarily for general corporate purposes, including working capital and capital
expenditures. The credit agreement also contains various covenants. No amounts
are currently outstanding under this credit facility and we believe we are
currently in compliance with the covenants.

24

We estimate that our total capital expenditures in fiscal year 2005 will be
approximately $33.0 million, approximately $0.4 million of which we have already
spent as of October 31, 2004. We expect our major capital expenditures in 2005
to include the construction of our Asia Pacific technology center in Geino,
Japan and equipment for new product introductions and product capacity
expansions.

We believe that cash generated by our operations and available borrowings
under our revolving credit facility will be sufficient to fund our operations,
expected capital expenditures and share repurchases for the foreseeable future.
However, we plan to expand our business and continue to improve our technology
and, to do so, we may be required to raise additional funds in the future
through public or private equity or debt financing, strategic relationships or
other arrangements.

OFF-BALANCE SHEET ARRANGEMENTS

At September 30, 2004 and 2003, we did not have any unconsolidated entities
or financial partnerships, such as entities often referred to as structured
finance or special purpose entities, which might have been established for the
purpose of facilitating off-balance sheet arrangements.

TABULAR DISCLOSURE OF CONTRACTUAL OBLIGATIONS

The following summarizes our contractual obligations at September 30, 2004
and the effect such obligations are expected to have on our liquidity and cash
flow in future periods.

CONTRACTUAL OBLIGATIONS

CAPITAL LEASE OBLIGATIONS

Since December 2001 we have operated under a fumed alumina supply agreement
with Cabot Corporation, under which Cabot Corporation expanded its capacity in
Tuscola, Illinois for the manufacture of fumed alumina. Payments made by us with
respect to capital costs for the facility have been treated as a capital lease
for accounting purposes and the present value of the minimum quarterly payments
of approximately $0.3 million resulted in a $9.8 million lease obligation and
$9.8 million related leased asset. The agreement has an initial five-year term,
which expires in 2006, but we can choose to renew the agreement for another
five-year term, which would expire in 2011. We also can choose to not renew the
agreement subject to certain terms and conditions and the payment of certain
costs, after the initial five-year term.

In January 2002 we entered into a CMP tool and polishing consumables
transfer agreement with a third party under which we agreed to transfer
polishing consumables to this entity in return for a CMP polishing tool. The
polishing tool has been treated as a capital lease and the aggregate fair market
value of the polishing consumables resulted in a $2.0 million lease obligation.
The term of the agreement is approximately three years.

OPERATING LEASES

We lease certain vehicles, warehouse facilities, office space, machinery
and equipment under cancelable and noncancelable operating leases, most of which
expire within ten years and may be renewed by us.

25

PURCHASE OBLIGATIONS

Purchase obligations include our take-or-pay arrangements with suppliers,
and purchase orders and other obligations entered into in the normal course of
business regarding the purchase of goods and services. In the fourth quarter of
fiscal 2003, we recorded a $2.0 million liability for a raw material supply
agreement for a polishing pad technology that was previously under development,
but is no longer being pursued. Our remaining obligation with respect to this
agreement is $1.2 million which is recorded in current liabilities and shown in
the preceding table under purchase obligations.

In January 2004 we entered into a fumed silica supply agreement with Cabot
Corporation, which replaces our original fumed metal oxide agreement with
respect to fumed silica, and accordingly amended our fumed metal oxide agreement
with Cabot Corporation with respect to its fumed silica terms such that the
agreement now only applies to fumed alumina through its original term of June
2005. Under the fumed silica supply agreement, we continue to be obligated to
purchase at least 90% of our six-month volume forecast and to pay for the
shortfall if we purchase less than that amount. This agreement has an initial
six-year term, which expires in December 2009 and will automatically renew
unless either party gives certain notice of non-renewal. We currently anticipate
meeting minimum forecasted purchase volume requirements. Also, under our fumed
alumina supply agreement with Cabot Corporation we are obligated to pay certain
fixed, capital and variable costs through December 2006. This agreement has an
initial five-year term, but we can choose to renew the agreement for another
five-year term, which would expire in December 2011. If we do not renew the
agreement, we will become subject to certain terms and conditions and the
payment of certain costs. Purchase obligations include $24.3 million of
contractual commitments for fumed silica and fumed alumina under these contracts
based upon our anticipated renewal of the fumed alumina agreement through
December 2011.

We have an agreement with a toll manufacturer pursuant to which the
manufacturer performs certain agreed-upon dispersion services. We have agreed to
purchase minimum amounts of services per year and to invest approximately $0.2
million per year in capital improvements or other expenditures to maintain
capacity at the manufacturer's dispersion facility. The initial term of the
agreement expired in October 2004. In November 2004 the agreement was renewed
for another year under similar terms and conditions. The contract continues to
have automatic one-year renewals and contains a 90-day cancellation clause
executable by either party. Purchase obligations related to this agreement are
$8.8 million, which include a termination payment if the agreement is not
renewed.

In June 2003 we entered into a technology licensing and co-marketing
agreement with a semiconductor equipment manufacturer under which we may
develop, manufacture and sell polishing pads utilizing endpoint detection window
technology licensed from the manufacturer for use on the manufacturer's
equipment. Under this agreement, we are obligated to supply this manufacturer
with certain free commercially available polishing pads, up to an agreed upon
dollar amount, for particular uses over a seven-year period. The table above
includes estimated total costs associated with these products of $1.2 million
over the remaining period. We are also obligated to supply the equipment
manufacturer with certain commercially available polishing pads, up to an agreed
upon dollar amount over the seven-year period, which the manufacturer will
purchase from us at our cost. We will also pay a royalty to the equipment
manufacturer and, in certain circumstances, to another party to whom we are a
sub-licensee under our agreement, based upon net revenue earned with respect to
commercial sales of polishing pads covered under the agreement. The term of the
agreement lasts as long as the patents on the technology subject to the license
agreement remain valid and enforceable.

We had been operating under a distribution agreement with an existing
supplier of polishing pads to the semiconductor industry pursuant to which the
supplier sold pads to us for our resale to end users. However, due to what we
believe was a less than acceptable level of profitability under this value-added
reseller model, the distribution agreement was terminated by mutual agreement in
June 2004. Pursuant to our June 2004 termination agreement, we were obligated to
pay a non-material transition fee which is included in the table above and was
paid in December 2004.

In July 2004 we formed a strategic alliance with NanoProducts Corporation
under which we acquired a minority equity ownership interest in the company in
exchange for a $3.8 million investment. Under this arrangement, we are
collaborating with NanoProducts to develop nanoscale particles for use in future

26

generation CMP slurries, and other fine finish polishing applications. As of
September 30, 2004 we have paid $1.8 million to NanoProducts and intend to pay
an additional $1.9 million.

OTHER LONG-TERM LIABILITIES

Other long-term liabilities include $0.8 million for pension liabilities
and $0.7 for deferred compensation obligations.

EFFECTS OF RECENT ACCOUNTING PRONOUNCEMENTS

In March 2004, the Emerging Issues Task Force (EITF) reached a consensus on
Issue No. 03-06, "Participating Securities and the Two-Class Method under FASB
Statement No. 128, Earning per Share" ("EITF Issue No. 03-06"), which provides
guidance on the calculation and disclosure of earnings per share (EPS),
including the use of the two-class method for determining EPS when a company has
participating securities. We have adopted EITF Issue No. 03-06 effective
September 2004, which had no impact on our fiscal 2004 EPS.

FACTORS AFFECTING FUTURE OPERATING RESULTS

RISKS RELATING TO OUR BUSINESS

WE HAVE A NARROW PRODUCT RANGE AND OUR PRODUCTS MAY BECOME OBSOLETE, OR
TECHNOLOGICAL CHANGES MAY REDUCE OR LIMIT INCREASES IN CMP CONSUMPTION

Our business is substantially dependent on a single class of products, CMP
slurries, which historically has accounted for almost all of our revenue. Our
business would suffer if these products became obsolete or if consumption of
these products decreased. Our success depends on our ability to keep pace with
technological changes and advances in the semiconductor industry and to adapt,
improve and customize our products for the most advanced IC applications in
response to evolving customer needs and industry trends. Since its inception,
the semiconductor industry has experienced rapid technological changes and
advances in the design, manufacture, performance and application of IC devices,
and our customers continually pursue lower cost of ownership of materials
consumed in their manufacturing processes, including CMP slurries. We expect
these technological changes and advances, and this drive toward lower costs, to
continue in the future. Emerging technologies in the semiconductor industry,
such as polishing pads containing abrasives and electrochemical mechanical
planarization ("eCMP"), as well as our customers' efforts to reduce consumption
of CMP slurries, could render our products less important to the IC device
manufacturing process.

A SIGNIFICANT AMOUNT OF OUR BUSINESS COMES FROM A LIMITED NUMBER OF LARGE
CUSTOMERS AND OUR REVENUE AND PROFITS COULD DECREASE SIGNIFICANTLY IF WE LOST
ONE OR MORE OF THEM AS CUSTOMERS