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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

FORM 10-K

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended June 29, 2003

CREE, INC.

(Exact name of registrant as specified in its charter)

4600 Silicon Drive, Durham, North Carolina 27703

(Address of principal executive offices)

(919) 313-5300

(Registrant’s telephone number, including area code)

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

Securities registered pursuant to Section 12(g) of the Act:

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.  x

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

The aggregate market value of common stock held by non-affiliates of the registrant as of December 29, 2002 was approximately $1,059,059,406 (based on the closing sale price of $17.13 per share).

The number of shares of the registrant’s Common Stock, $0.00125 par value per share, outstanding as of September 5, 2003 was 74,203,109.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the definitive Proxy Statement to be delivered to shareholders in connection with the Annual Meeting of Shareholders to be held October 28, 2003 are incorporated by reference into Part III.

Table of Contents

CREE, INC.

FORM 10-K

For the Fiscal Year Ended June 29, 2003

INDEX

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PART I

Item 1.    Business

Introduction

Cree, Inc., a North Carolina Corporation established in 1987, develops and manufactures semiconductor materials and devices based on silicon carbide (SiC), group III nitrides (GaN), silicon, and related compounds. Our SiC and GaN materials technology is the basis for many of the core devices that we develop and produce. The physical and electronic properties of SiC and GaN, such as higher voltage and higher thermal conductivity, offer technical advantages over traditional silicon, gallium arsenide (GaAs), sapphire and other materials for certain electronic applications. We focus our expertise in SiC and GaN materials on four product areas: short wavelength light emitting diodes (LEDs), including blue, green and near ultraviolet (UV) products, power switching products, radio frequency (RF) and microwave devices, and near UV lasers. We have products commercially available in each of these categories except for near UV lasers. We also manufacture silicon RF transistors and modules.

As of the end of fiscal 2003, we derive the majority of our revenues from sales of our LED products. We also generate revenue from sales of SiC wafers and gemstone materials, and we earn revenue under government contracts that support certain of our research and development programs to the extent the contract funding exceeds our cost of performing those activities. In addition, we derive a small portion of revenues from our sales of devices for wireless infrastructure and power switching applications. We currently are working to develop near UV lasers that are targeted for future optical storage markets.

Most semiconductor devices are fabricated on wafers made from silicon crystals. Silicon evolved as the dominant semiconductor material because it is relatively easy to grow into large, high quality single crystals that are suitable for fabricating many types of electronic devices. Alternative semiconductors such as GaAs were developed to enable the fabrication of improved RF devices and optoelectronic products such as red LEDs and lasers. Wide bandgap semiconductors, such as SiC and GaN, have emerged to provide improved capabilities for solid state devices. SiC is most commonly targeted for power and RF devices, while GaN is generally targeted for optoelectronic applications such as blue, green or UV LEDs and near UV lasers, as well as higher frequency microwave devices.

We operate our business in two segments, the Cree segment, which consists of our SiC-based products and research contracts, and the Cree Microwave segment, which includes silicon-based RF transistors and RF transistor modules. Our Cree Microwave segment began operations with the December 2000 acquisition of the UltraRF business from Spectrian Corporation (Spectrian). The UltraRF acquisition was accounted for under the purchase method. We renamed the UltraRF business Cree Microwave during fiscal 2002. Additionally, our Cree segment acquired Nitres, Inc (Nitres) in May 2000 in a business combination accounted for as a pooling of interests. Our Cree segment products are manufactured in Durham, North Carolina in a six-part process, which include: SiC crystal growth, wafering, polishing, epitaxial deposition, fabrication and testing. Our Cree Microwave products are produced in Sunnyvale, California at our silicon wafer fabrication facility, where we buy silicon wafers from third parties, fabricate devices in a clean room environment and test/package finished products. Subcontractors located domestically and in foreign countries also package some of our products.

Products and Products under Development

Cree Segment:

The Cree segment produces blue, green and UV LEDs, SiC wafers, materials used for gemstone applications and RF and microwave transistors and power devices using our SiC and GaN materials. In addition, we currently are developing near UV laser devices in this segment.

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Blue, Green and UV LEDs

Our LED products include blue, green and UV devices made from GaN and related materials grown on SiC substrates. LEDs are solid-state electronic components used in applications such as indicator lights on consumer products, including stereos, printers, computers and other equipment. LEDs also are used to backlight handheld devices and automotive dashboards and groups of LEDs can make up single or full-color electronic displays. LEDs offer several advantages over small incandescent bulbs, including longer life, lower maintenance cost and energy consumption, and smaller space requirements. We currently sell our LEDs in chip form to customers who package them in a variety of applications. LEDs represented 75%, 58% and 65% of our revenue for the fiscal years ended June 29, 2003, June 30, 2002 and June 24, 2001, respectively.

Most manufacturers of nitride-based LEDs currently use sapphire substrates because historically SiC was perceived by the market to be more expensive than sapphire because of the external cost of the substrate. Sapphire devices have also traditionally offered a lower forward voltage than SiC based devices, which may extend battery lifetimes in handheld applications. We have continued to evolve our SiC-based products to offer lower forward voltage for our devices and believe that our current SiC-based devices are very competitive with sapphire-based devices. The conductive properties of SiC substrates also enable us to fabricate a less complex chip that is smaller than comparable LEDs grown on competing sapphire substrates. This feature allows SiC-based devices to have a greater number of potential chips per wafer, which can result in a lower cost for SiC-based devices compared to sapphire-based devices. Our LEDs offer other potential benefits such as an industry standard vertical chip structure and improved resistance to electrostatic discharge. We have continued to evolve our LED product line over time by offering higher performance devices and reducing the cost of our older products. As a result, we have developed and released several generations of GaN-based LED products that cover a broad spectrum of applications.

Our LEDs currently are available in three brightness ranges, which we refer to as: standard brightness, mid-brightness and our highest brightness range which comprises our XBright^® family of products. Our standard brightness LED products, offered in blue wavelengths only, target applications requiring high quality and high volume availability at a lower price point. End customers use this product for applications where higher brightness is not a significant factor, such as for indoor applications, automotive designs or as indicator lights. In fiscal 2003, these products comprised 10% of our LED revenues.

Our mid-brightness range includes our MegaBright^®, UltraBright^™ and SuperBright^™ LEDs. Our mid-brightness LEDs provide an option for applications where a higher level of brightness is required than our standard brightness LEDs. End user applications include the backlight source for mobile appliances, which includes mobile phones, personal digital assistants (PDA’s), digital cameras and other small hand-held devices, and automotive dashboards. Our customers also use mid-brightness LEDs in gaming displays, consumer products, office equipment, full color video displays, and as the green light in traffic signals. In the fourth quarter of fiscal 2003, we released our MegaBright Plus^™ LED for customer products that require a higher amount of brightness available in the price range for MegaBright LED products. Our mid-brightness LEDs are offered in blue, traffic green, true green and UV wavelengths. In fiscal 2003, this category of product comprised 87% of our LED revenue.

Our first XBright LED products originally were introduced in fiscal 2002, and our customers have recently begun to incorporate them into their products. The XBright LEDs are strategically important to our business because the chips deliver increased brightness by approximately 40 percent over the MegaBright family of LEDs. Target applications for XBright LEDs include mobile appliances, miniature white lights, traffic signals and video screens. In the fourth quarter of fiscal 2003, we released our XBright Plus^™ LED for customer products that require the maximum amount of brightness available to the marketplace. XBright Plus LEDs are only available in blue and are targeted primarily for white LED applications. We are in the process of expanding our product family of XBright LEDs to include blue, traffic green, true green and UV wavelengths. In fiscal 2003, this category of LEDs comprised 3% of our LED revenue.

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Some of our customers use our mid-brightness LEDs to create white light from blue LEDs by combining them with phosphors. We believe that one of the most significant opportunities over the next twelve months to grow revenue is to gain market share in the white LED market. In particular, as mobile appliance manufacturers move towards offering a greater percentage of their products featuring full color displays, we anticipate that white LEDs will be used in more of these products, including mobile phones and other handheld devices. We began offering our MegaBright Plus and XBright Plus LEDs to address this important market. Over the next twelve months our focus is to target our development efforts toward creating thinner chips while lowering the forward voltage of our LEDs to better serve the needs of the mobile appliance market. We believe that a lower forward voltage is desired to enable handheld products to have longer battery lifetimes. We also are developing LEDs with higher brightness with the goal of improving efficiency so that our LEDs can compete with incandescent and fluorescent lighting technology for conventional lighting markets in the future. In order to compete in these markets, the performance that our LEDs can achieve will need to increase significantly over what is currently available. Within the next few years, we do not anticipate that our LEDs will be available in a cost competitive product that will compete with conventional lighting markets. However, our LEDs may be used today to enable initial illumination applications such as colored light replacements for neon tubes.

We also continue development efforts with our XBright 900 Power Chip^™ LED. The XBright 900 Power Chip is about ten times larger than industry standard size (300 x 300 microns) LEDs and is the first large area version of our XBright chip technology. Once development is complete, these chips are expected to deliver approximately 10 times the light output due to operation at a much higher input power than our standard XBright chips, and could be used in a new range of lighting applications. These chips will require our customers to develop new packages to support these higher-powered chips. The targeted application for these chips is the solid state illumination market.

SiC Materials Products

Our SiC materials products consist of SiC wafers and bulk materials used for gemstone applications.

SiC Wafers.    We manufacture SiC wafers for sale to corporate customers who use the wafers in manufacturing products for optoelectronic and power device applications. Corporate, government and university programs also buy SiC wafers for research and development directed to optoelectronic, microwave and high power devices. We may sell our SiC wafers as a bare wafer or a customized wafer with additional epitaxial films of SiC or GaN materials, depending upon the nature of a customer’s needs. We currently sell both two-inch and three-inch wafers with the majority of sales as two-inch. Wafer products represented 9%, 11% and 11% of our revenue for the fiscal years ended June 29, 2003, June 30, 2002 and June 24, 2001, respectively.

In October 1999, we introduced our first three-inch wafer and we have continued to expand our product line of three-inch wafers, which are better suited for the manufacture of power and microwave devices. We use our internal sales staff and distributors to market SiC wafers directly to our customers. Over the past five years, we have continued to develop SiC wafers that are larger and have fewer defects to further improve the quality of our materials and lower the cost of devices made from our SiC wafers.

Bulk Materials Used for Gemstones.    We manufacture SiC crystals in near colorless form for use in gemstone applications. Single crystalline SiC has characteristics that are similar to diamond, including properties relating to color, hardness and brilliance. We sell SiC in bulk crystal form to Charles & Colvard, Ltd. (C&C), which produces and markets gemstone products made from SiC crystals. We sell our SiC materials used in gemstone applications exclusively to C&C. SiC materials sold for gemstone applications represented 3%, 2% and 3% of our revenue for the fiscal years ended June 29, 2003, June 30, 2002 and June 24, 2001, respectively.

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SiC-based Power Devices

SiC-based power devices can operate at significantly higher breakdown voltages than silicon-based power devices and provide faster switching speeds than comparable silicon-based power devices at similar breakdown voltages. These attributes create lower switching losses, which yield power savings due to higher efficiency that enable smaller, more efficient systems.

Our SiC-based power products are 600-volt Schottky diodes offered at 1, 4, 6, 10 and 20-amp ratings for applications such as power supplies used in computer servers. We also offer 1200-volt Schottky diodes at 5 and 10-amp ratings targeted for motor control applications. We are marketing these products to manufacturers of power conditioning and power switching equipment as potential replacements for silicon-based power devices in certain applications. SiC-based power devices represented less than 1% of revenue for each of the fiscal years ended June 29, 2003 and June 30, 2002.

We are developing additional prototype SiC-based power devices that could have many potential uses such as power conditioning and power switching applications. We are developing other types of SiC-based power devices, including PIN diodes and power MOSFETs, however, these devices are still at least several years away from being commercially available.

RF and Microwave Transistors

RF and microwave devices made from SiC can operate at higher voltages which allows for higher power densities as compared to silicon or GaAs based devices. Additionally, this characteristic allows SiC-based devices to be significantly smaller while carrying the same or greater power levels than silicon-based or GaAs-based devices. Currently, there is a higher cost associated with SiC than silicon or GaAs-based devices for RF and microwave transistors.

We currently offer a 10-watt transistor product, or MESFET product, made from SiC to our customers. During fiscal 2003, we introduced our second generation SiC MESFET process and introduced an improved 10-watt product with higher gain based on this new design. Additionally, we introduced the world’s first foundry service for wide bandgap monolithic microwave integrated circuits (MMIC). These SiC-based RF circuits can be used in a variety of wide bandwidth communications applications, high-powered radar amplifiers, electronic warfare, and wireless infrastructure. The MMIC foundry service allows a customer to design their own custom SiC RF circuit to be fabricated in our MMIC foundry, or have us provide custom MMIC design for the customer and fabricate the chips. We intend to focus future development efforts in this area on creating higher power SiC MESFETs and GaN RF devices. SiC MESFET and MMIC devices represented less than 1% of revenue for each of the fiscal years ended June 29, 2003, June 30, 2002 and June 24, 2001.

Near-UV Laser Diodes

We have demonstrated near UV lasers (sometimes referred to as blue lasers) that operate at power levels ranging from 3 milliwatts to greater than 30 milliwatts. Our development activity continues to focus on developing more reliable and higher performance devices. We target our first 30-milliwatt product to be released for customer sampling during calendar 2004. The primary target market for our lasers is optical disk drives for next generation digital versatile disk (DVD) and computer data storage applications. The shorter wavelength of near UV\blue lasers enables significantly higher storage capacity than the current generation of optical drives which employ red lasers. At this point, numerous standards are being proposed for the next generation of DVDs including Blu-ray and Advanced Optical Disk (AOD). Even if a commercially viable blue laser product were available in mass production, the new systems and standards are still in the development stage such that high volume component usage is forecasted to be a few years away.

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Cree Microwave Segment:

Our Cree Microwave segment produces bipolar and laterally diffused metal oxide semiconductor (LDMOS) devices made from silicon substrates. These products enable us to offer our customers an array of power transistors designed to meet a broad spectrum of the current and potential wireless infrastructure markets. These products represent the main semiconductor content of a power amplifier, which is used in a base station to boost the power of a signal so that it can reach a wireless phone or other device within a designated geography. Cree Microwave’s RF products represented 1%, 16% and 11% of our revenue for the fiscal years ended June 29, 2003, June 30, 2002 and June 24, 2001, respectively.

Prior to fiscal 2003, sales to Spectrian, represented 99% of Cree Microwave’s revenue. In November 2002, we entered into an agreement with Spectrian to terminate our supply contract. During fiscal 2003 we developed a new LDMOS device that is intended as a second source for parts currently available from one of our competitors. We continue to work to enhance the capabilities of our silicon-based LDMOS product family with module designs that combine our chips with additional circuit components to provide convenient building blocks for power amplifier manufacturers. We have recently introduced LDMOS products to the military and avionics markets and aim to expand these offerings during fiscal 2004.

Financial Information about Segments and Geographic Areas of Customers and Assets

For financial information about business segments and geographical areas of customers, please see Note 2, “Summary of Significant Accounting Policies and Other Matters” to our consolidated financial statements included in Item 8 of this report. All of our long-lived tangible assets currently are maintained in the United States.

Government Contract Funding

We derive a portion of our revenue from funding that we receive pursuant to research contracts with various agencies of the U.S. Government. We had 19, 18 and 13 government contracts in effect during the fiscal years ended June 29, 2003, June 30, 2002 and June 24, 2001, respectively.

These contracts typically cover work performed over several months up to four years. These contracts may be modified or terminated at the convenience of the government and typically are subject to appropriation and allocation of the required funding on an annual basis. The revenue that we recognize pursuant to these contracts represents reimbursement by various U.S. Government entities that aid in the development of new technology. The applicable contracts generally provide that we may elect to retain ownership of inventions made in performing the work, subject to a non-exclusive license retained by the U.S. Government to use the inventions for government purposes.

Contract funding may be based on either a cost-plus or a cost-share arrangement. The amount of funding under each contract is determined based on cost estimates that include direct costs, plus an allocation for research and development expenses, general and administrative expenses and cost of capital expenses. The specific reimbursement provisions of the contracts, including the portion of our general and administrative expenses and other operating expenses that are reimbursed, vary by contract. Cost-plus funding is determined based on actual costs plus a set percentage margin. For the cost-share contracts, based on the terms of the contract, the actual costs relating to activities we are to perform under the contract, are divided between the U.S. Government and us. The U.S. Government’s cost share is then paid to us. The contracts typically require the submission of a written report that documents the results of the research, as well as some material deliverables.

The revenue and expense classification for contract activities is based on the nature of the contract. For contracts where we anticipate that the U.S. Government funding will exceed our direct costs relating to the

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program over the life of the contract, funding is reported as contract revenue and all direct costs are reported as costs of contract revenue. For contracts under which we anticipate that direct costs of the activities subject to the contract will exceed amounts to be funded over the life of the contract, costs are reported as research and development expenses and related funding is reported as an offset of those expenses. For the fiscal years ended June 29, 2003, June 30, 2002 and June 24, 2001, U.S. Government funding represented 12%, 12% and 10% of total revenue, respectively.

We generally must compete with other companies for funding awards from the U.S. Government. In certain cases, such as when the value of a U.S. Government contract exceeds $100,000 and when highly technical research is required, the U.S. Government issues a request for proposal (RFP). In a typical RFP, the U.S. Government requests a product or service and solicits proposals from perspective contractors on how they intend to carry out that request, and at what price. Proposals received in response to an RFP can be subject to negotiation after they have been submitted. Many U.S. Government contracts are awarded on a type of RFP called a broad agency announcement (BAA). In a BAA, the U.S. Government requests a broad range of research and development services. Contractors submit bids for research in any of the technical areas mentioned in the BAA. Then the U.S. Government may select winners of the awards and negotiate contracts with those parties. The U.S. Government uses many methods to select contractors to receive awards. Some of these methods include choosing vendors who offer products or services that provide the best value, lowest price and highest level of technology. We also may be the recipients of a sole source contract from the U.S. Government if the U.S. Government determines that we are the only viable source for the work to be performed. In this case, the U.S. Government would publish their intent to award a sole source contract with us and if there are no viable challenges made to that publication, the U.S. Government may award the contract to us without a competitive bid process.

In June 2002, the Office of Naval Research (ONR), awarded us two contracts with a total value of approximately $14.4 million as part of the Wide Bandgap Semiconductor Technology Initiative of the Defense Advanced Research Projects Agency (DARPA). The first contract provided for up to $8.8 million in U.S. Government funding over an 18-month period, for work directed to microwave and related technologies. This effort is focused on the development of high quality 4-inch semi-insulating substrates, SiC MESFET and GaN HEMT epitaxial processes on large diameter wafers, and studies correlating material advances with device performance. The second ONR/DARPA contract provided for up to $5.6 million in U.S. Government funding over an 18-month period for work directed to SiC high voltage, high power switching devices for high power conversion and distribution technology. This contract is focused on the development of low defect density 4-inch, n-type 4H-SiC substrates, more uniform, thick SiC epitaxial processes, and power device development focused on high reliability, high voltage SiC PIN rectifiers and MOSFETs.

We may enter into a number of contracts for different projects with a single agency or enter into contracts addressing different parts of the same project with more than one agency. For example, we currently have several large contracts, with the ONR, and the Air Force Research Laboratories (AFRL). In July 2002, we were awarded U.S. Government contracts totaling $26.5 million, if fully funded, over a three-year period from ONR and AFRL for SiC MMIC process development. These contracts are jointly funded by the U.S. Navy, the Missile Defense Agency and the Department of Defense’s Title III program. Under our previously existing Title III contract with AFRL, the project added $3.2 million through a contract modification for additional tasks focused on improving yields of the three-inch diameter high purity semi-insulating SiC substrates to be used for MMIC devices. The remaining $23.3 million is being provided through the new contract with ONR. The goal of this contract is to provide enhanced producibility of SiC materials, both substrates and epitaxy, and cleanroom processing, in support of high-power MMIC amplifiers used in military radar applications. The majority of the work is directed to yield enhancement and cost reduction for MMICs fabricated on three-inch diameter SiC wafers. In fiscal 2003, revenues under the specific contracts (DARPA and producibility) with the ONR and AFRL combined were approximately 7% of total revenue.

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Additionally, we were awarded with another contract in June 2002 funded by DARPA through the United States Army Robert Morris Acquisition Center to pursue the development of UV LEDs and lasers for a variety of military communications and bio-threat detection applications under DARPA’s SUVOS program. This DARPA SUVOS contract provides for up to $14.4 million in U.S. Government funding over a four-year period. In fiscal 2003, this DARPA SUVOS contract accounted for approximately 2.5% of total revenue.

The DARPA SUVOS contract as well as the contracts with ONR and AFRL are cost share arrangements. The contracts require us to conduct the research effort described in the statement of work section of the contract. The contracts also require that we pay a contractually agreed upon portion of the costs of the work with the U.S. Government paying the balance. There are no milestones to be reached for payments from the U.S. Government. We invoice the U.S. Government monthly for their share of the costs of the work performed based on costs incurred for that month.

Distributorship Agreement with Sumitomo Corporation

In April 2002, we entered into a distributorship agreement with Sumitomo Corporation (Sumitomo), which was amended in March 2003. Under the agreement, Sumitomo became our strategic partner and the exclusive distributor of our LED and wafer products in Japan for fiscal years 2003, 2004 and 2005. Prior to the beginning of each fiscal year, the distributorship agreement requires Sumitomo to commit in advance to purchase a specified dollar value of our products during the next fiscal year. For fiscal year 2003, Sumitomo’s advance purchase commitment was approximately $23 million, and Sumitomo’s actual purchases were $54.6 million. For fiscal year 2004, Sumitomo’s current advance purchase commitment is approximately $100 million. Sumitomo may vary its commitment under certain circumstances, and, therefore, we only account for eight-weeks of purchase orders from Sumitomo as firm backlog. In addition, the distributorship agreement provides that Sumitomo may decrease its advance purchase commitment and/or terminate the agreement if its inventory of Cree products reaches a specified level. If Sumitomo does not purchase at least half of its advance purchase commitment for any fiscal quarter as a result of this inventory limitation, we have the option of terminating the distributorship agreement.

The distributorship agreement also requires us to establish two rolling reserves at the time we ship LED products to Sumitomo, each based upon a percentage of the total purchase price of such products. We defer revenue recognition on the amounts added to both rolling reserves each fiscal quarter. These reserves are used to reimburse Sumitomo for certain sales costs incurred in selling our products and for managing its inventory, up to the balance in these reserves. If Sumitomo makes a valid claim against these reserves, we write off or reduce the amount of the claim against the applicable reserve. Except to the extent Sumitomo makes a valid claim against the reserves, amounts added to these reserves during a fiscal quarter will expire on a rolling basis by at least the end of the second following fiscal quarter, and we recognize revenue equal to the expired amount at that time.

Research and Development

We invest significant resources in research and development aimed at improving our semiconductor materials and developing new device and production technology. Our core SiC materials research is directed to improving the quality and diameter of our SiC substrates. We also are working to improve the quality of the SiC and nitride epitaxial materials we grow to produce devices and to improve device yields by reducing variability in our processes. These efforts are in addition to on-going projects focused on brighter LEDs, higher power/higher linearity RF and microwave devices, UV laser devices and higher power diodes/switches as discussed above.

We recorded expenditures of $31.2 million in fiscal 2003, $28.0 million in fiscal 2002 and $13.0 million in fiscal 2001 for direct expenditures relating to research and development activities. The amount of recorded expenditures is supplemented by funding received from our customers and the U.S. Government, in certain

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cases, which is recorded as a reduction in research and development expenditures. When we receive payments from our customers for sponsoring research and development programs, we offset those payments against direct research and development expenditures. In addition, when we receive payments from the U.S. Government under contracts where direct expenses of the contract are estimated to exceed the funding award over the life of the program, we offset the payment against reported research and development expenditures. Customer funding that offset research and development costs was $500,000, $9.0 million and $11.9 million for fiscal 2003, 2002 and 2001, respectively. The majority of this funding was received from companies in which we have made investments. For example, in fiscal 2003, the entire customer funding we received came from an affiliate of Lighthouse Technologies, Inc. (Lighthouse), in which we hold a private company  equity investment. In fiscal 2002, Microvision, Inc. (Microvision), the Lighthouse affiliate and Xemod, Inc. (Xemod) funded $4.4 million, $3.0 million and $492,000, respectively, of our research and development. We held an investment in each of these companies at the time that they provided research and development funding to us. In addition, Spectrian, our largest customer for our Cree Microwave segment, also participated in funding our research and development programs for $1.1 million. When customers participate in funding our research and development programs, we record the amount funded as a reduction of research and development expenses. We do not expect funding for research and development during fiscal 2004 at this time from these or any other customers or third parties in which we invested. U.S. Government funding that offset costs included as research and development was $0, $276,000 and $1.3 million for fiscal 2003, 2002 and 2001, respectively.

Sales and Marketing

We actively market our LED, wafer, RF, microwave and power products through targeted promotions, select advertising and attendance at trade shows. Our direct sales force and senior management work with customers around the world. The production of lamp and display products incorporating LED chips is concentrated among a relatively small number of LED packaging manufacturers. Our sales and marketing team is primarily based in our Durham, North Carolina facility with additional sales support offices in Hong Kong and Tokyo, Japan.

Supported by our Japan office, Sumitomo is our exclusive distribution partner for nitride LED chip products and SiC wafers in Japan. We also use distributors to market our LED products in Hong Kong, China, Taiwan and South Korea in coordination with our sales support office in Hong Kong. We use a separate network of sales representatives to market our RF and microwave devices in North America, Europe, Asia and Japan. We have also started to build a network of sales representatives in Europe and Asia to market our SiC power devices in selected areas.

We sell SiC crystal materials for use in gemstone applications directly to C&C under an exclusive supply agreement.

Customers

During fiscal 2003, revenues from Sumitomo (which represent sales to approximately 20 Japanese LED customers as well as 60 additional wafer customers) accounted for 24% of our total revenue. Sumitomo imports, handles orders and distributes our products and manages our accounts receivable for our Japanese customer base. For fiscal 2003, three of our top ten end customers were located in Japan and their sales, as well as sales to our other Japanese customers, are reported as sales to Sumitomo. Cree Japan’s sales and engineering group is actively involved with Sumitomo in the sales process to accounts in Japan. Our relationship with our end customers in Japan is critical to our future success. Sales to Osram Opto Semiconductors GmbH (Osram) and Agilent Technologies (Malaysia) Sdn Bhd, (Agilent) were 21% and 10%, of revenue, respectively.

Sumitomo, Osram and Agilent were our only customers that comprised 10% or more of our revenue for fiscal 2003. Revenue from the U.S. Government, representing funding from several agencies, made up 12%

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of total revenue for fiscal 2003. As our U.S. Government contracts are with multiple agencies, the U.S. Government does not act as a single customer, and we do not regard it as such. Our purchase agreement with Osram expires in September 2003, and we are currently negotiating a new purchase agreement with Osram. The loss of Osram, Agilent or any of Sumitomo’s large customers could have a material adverse effect on the Company. During fiscal 2002, revenues from three customers, Osram, Spectrian, and Sumitomo were 19%, 16% and 14%, of total revenue, respectively. Revenue from the U.S. Government, representing funding from several agencies, made up 12% of total revenue for fiscal 2002. During fiscal 2001, revenues from three customers, Osram, Sumitomo and Spectrian, were 25%, 22% and 11%, of total revenue, respectively. Prior to fiscal 2003, sales to Spectrian were 99% of Cree Microwave’s revenue. We continue to pursue new customers for our Cree Microwave business and have had some recent success on small unit volumes. Due to long design qualification cycles that are typical to this industry, revenue reported at our Cree Microwave segment may remain low for several quarters.

For further financial information about foreign and domestic sales, please see Note 2, “Summary of Significant Accounting Policies and Other Matters” to our consolidated financial statements included in Item 8 of this report.

Backlog

As of June 29, 2003, we had a backlog of approximately $68.0 million consisting of approximately $24.4 million of product orders and $43.6 million under research contracts signed with the U.S. Government, for which a portion of the contracted funds have not yet been appropriated. As of June 30, 2002, we had backlog of approximately $138.7 million consisting of approximately $86.9 million of product orders and $51.8 million under research contracts signed with the U.S. Government, for which a portion of the contracted funds have not yet been appropriated. Our backlog could be adversely affected if the U.S. Government exercises its rights to terminate the government contracts or does not appropriate and allocate all of the funding contemplated by the contracts. We estimate our entire backlog could be filled during fiscal 2004, with the exception of approximately $19.6 million in U.S. Government funded contracts.

In April 2003, we signed an agreement with Sumitomo, which supplements our existing distributor agreement with Sumitomo and covers shipments through June 2004. For fiscal year 2004, Sumitomo’s current advance purchase commitment is approximately $100 million, subject to adjustment and cancellation provisions and end customer demand. Sumitomo may vary its commitment under certain circumstances, and, therefore, we only account for eight-weeks of purchase orders from Sumitomo as firm backlog. The orders cover demand for our products in Japan and represent sales to over 20 LED packagers including Stanley Electronics, Citizen Electronics, Sharp Corporation and Rohm, Inc. In addition, we are currently negotiating a new contract with Osram, since the present contract expires at the end of September 2003. In addition, Agilent orders have short lead times and therefore not a significant component of our reported backlog.

Sources of Raw Materials

We depend on a limited number of suppliers for certain raw materials, components and equipment used in our products, including certain key materials and equipment used in our crystal growth, wafering, polishing, epitaxial deposition, device fabrication and device assembly processes. We generally purchase these limited source items pursuant to purchase orders and have limited guaranteed supply arrangements with our suppliers.

Competition

Our success depends on our ability to keep pace with the rapidly evolving technology standards of the industries that we serve. These industries are characterized by rapid technological change, frequent introduction of new products, short product life cycles, and changes in end-user and customer requirements. If we are unable to keep pace with the rapidly changing technology standards, or competitors could invent

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new technologies, industry standards or end user or customer requirements that could have potential to replace or provide lower cost or high performance alternatives to our existing or future products. The evolving nature of these industries may render our existing or future products obsolete, noncompetitive or unmarketable. Any of these developments could have an adverse effect on our business, results of operations and financial conditions.

Blue, Green and Near-UV LEDs

The primary competition for our LED chip products comes from companies that manufacture and or sell nitride-based LED chips. We consider Nichia Corporation (Nichia) and Toyoda Gosei Co. Ltd. (Toyoda), to be our competitors. Nichia primarily sells packaged LEDs and most often competes directly with our chip customers. Toyoda sells both packaged LEDs and LED chips. These companies currently market LED products made using nitride materials on sapphire substrates. In addition, in recent years a number of other Asian-based companies have begun the production of blue, green and UV LEDs, on sapphire substrates and are becoming more significant competitors. These new competitors sell chip level products and have had success in securing new business over the last few years, especially in the keypad backlight market for mobile appliances. These competitors compete with us on pricing in the standard to mid-brightness range of products. We believe our approach to manufacturing blue, green and UV LEDs using SiC substrates enables us to also offer a cost-effective chip design as compared to our competitors who primarily use sapphire as their substrate. SiC materials are conductive and as a result, allow us to make vertical devices with a top and bottom contact to conduct electrical flow. Sapphire materials are insulating and therefore devices made from these materials require two contacts on one side to conduct electrical flow. The SiC single top contact device allows us to utilize less chip area for electrical contact generally resulting in a smaller chip size and thus more potential die per wafer than sapphire devices, which may allow our devices to be manufactured for a lower cost.

Our customers’ generally purchase nitride LEDs based on the combination of the lowest price for a certain level of brightness, for their intended application. At times other factors such as chip size, forward voltage, ESD resistance or device stability also can be competitive factors. In addition to being a large customer of our LED chips, Osram, which licensed certain LED technology from us in 1995, currently is producing LEDs using nitride materials on SiC substrates for use in their packages. Lumileds sells high power packaged LEDs that compete with our target customers for power chip devices for solid state illumination markets and selectively sell some chip products in the market.

SiC Materials Products

The market for SiC wafers also is becoming more competitive, as other companies in recent years have begun to offer SiC wafer products or have announced plans to do so, including Sterling Semiconductor, which is now operated by Dow Corning, II-VI, Sixon, Nippon Steel and other manufacturers. To our knowledge, none of these competitors currently offer SiC wafers that are being used for device production. We sell SiC wafers to Osram and Infineon, which compete with us in the LED and power diode markets, respectively. We are not aware of any other company who produces SiC materials for use in gemstones although we believe there are some companies pursuing research and development in this area.

SiC-based Power Devices

Our SiC-based power devices compete with similar devices offered by Infineon. There are also a number of other companies developing SiC based power devices. Our products also compete with existing silicon-based power devices offered by a variety of manufacturers.

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RF and Microwave Transistors

Currently, there are no companies offering products that compete directly with the Cree Segment’s SiC MESFET products and MMIC foundry service although a few companies have products under development. Although there are no direct competitors, there is competition from existing silicon and GaAs based products. We do not currently offer GaN microwave devices, but we are working to develop these products. In the GaN microwave area, there are a number of companies working to develop these products.

The markets served by Cree Microwave’s LDMOS and bipolar products are highly competitive. Currently Motorola dominates this marketplace, which we believe is due to the performance and pricing of its products in comparison to our products and others currently available in the market.

Near-UV Laser Diodes

We currently do not offer any laser products commercially. The major competitors in the near UV laser market are Nichia and Sony and a number of other companies have announced development activities in this area. The market for blue laser products is just beginning to emerge. In addition to our development efforts, there are also a number of companies working on developing near UV laser diodes.

Patents and Proprietary Rights

We seek to protect our proprietary technology by applying for patents where appropriate and in other cases by preserving the technology and related know-how and information as trade secrets. We have also from time to time acquired, through license grants or assignments, rights to patents on inventions originally developed by others. As of August 26, 2003, we owned or held exclusive rights licensed under a total of 207 issued U.S. patents, subject in some cases to nonexclusive license rights held by third parties. These patents expire between 2007 and 2021. Thirty-three of these patents are jointly owned with a third party. Thirty-one of these patents relate primarily to our Cree Microwave segment. In addition, we own or hold exclusive license rights under corresponding patents and patent applications in various foreign countries.

Among the patent licenses we hold are exclusive licenses granted by North Carolina State University, or NCSU, to U.S. and corresponding foreign patents and patent applications that relate to SiC materials and device technology and to GaN growth technology. These licenses include rights under patents and patent applications relating to processes for growing single crystal SiC and low defect GaN materials. The licenses are worldwide, exclusive licenses to manufacture, use and sell products and processes covered by the claims of patents issued on applications filed by NCSU relating to the licensed inventions. The U.S. Government holds non-exclusive licenses from us to use for government purposes for certain of our inventions that were developed under contracts with them. The licenses relating to the growth of bulk single crystal SiC and to other SiC materials and device technology are fully-paid, while the licenses relating to growth of low defect GaN materials require us to pay NCSU royalties on sales of products made using the licensed processes.

The patents that we have licensed from NCSU relating to bulk SiC growth expire beginning in 2007, and we may face increased competition in the market for SiC materials as these patents expire. In addition, in the event our licenses to the U.S. patents owned by NCSU relating to SiC growth were to be terminated under the terms of our license agreement, we could potentially be enjoined from practicing the patented process. In that event the business of our entire Cree segment could be disrupted since the segment is critically dependent on our ability to manufacture bulk single crystal SiC material. Similarly, if our license to the patents relating to growth of low defect GaN materials were to be terminated, it could have a material adverse effect on our ability to produce GaN-based laser diodes or other future products we expect to manufacture using the patented processes.

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We also have entered into license agreements with the licensing agencies of other universities, and with other companies, under which we have obtained exclusive or non-exclusive rights to practice inventions claimed in various patents and applications issued or pending in the U.S. and other foreign countries. We do not believe the financial obligations under any of these agreements, or the loss of the licensed rights under any of these agreements, would have a material adverse effect on our business, financial condition or results of operation. These license agreements include a patent cross-license agreement covering gallium nitride-based optoelectronic technology that we entered into with Nichia Corporation in November 2002 in connection with a settlement of patent and related litigation then pending between the parties in the United States and Japan. These license agreements also include license rights granted to us by the Trustees of Boston University, or Boston University, under certain U.S. patents and corresponding foreign patents and patent applications which relate to the manufacture of certain GaN-based structures on sapphire and other substrates. The license agreement with Boston University grants us an exclusive, worldwide royalty-bearing license under these patents and patent applications, subject to royalty payments and other obligations under the license agreement. As described in Item 3, “Legal Proceedings,” Cree and Boston University are parties to pending litigation in which they have alleged that AXT, Inc. is infringing one of the licensed patents. Termination of the license to this patent by Boston University would end our right to assert the patent against future infringements.

For proprietary technology that is not patented or otherwise published, we seek to protect the technology and related know-how and information as trade secrets and to maintain it in confidence through appropriate non-disclosure agreements with employees and others to whom the information is disclosed. There can be no assurance that these agreements will provide meaningful protection against unauthorized disclosure or use of our confidential information or that our proprietary technology and know-how will not otherwise become known or independently discovered by others. We also rely upon other intellectual property rights such as trademarks and copyright where appropriate.

Environmental Regulation

We are subject to a variety of federal, state and local provisions enacted or adopted regulating the discharge of materials into the environment or otherwise relating to the protection of the environment. These include statutory and regulatory provisions under which we are responsible for the management of hazardous materials we use and the disposition of hazardous wastes resulting from our manufacturing processes. Failure to comply with such provisions, whether intentional or inadvertent, could result in fines and other liabilities to the government or third parties, injunctions requiring us to suspend or curtail operations or other remedies, and could have a material adverse effect on our business.

Employees

As of June 29, 2003, we employed 1,121 people, including 865 in manufacturing operations, 168 in research and development and 88 in sales and general administration. None of our employees are represented by a labor union or subject to collective bargaining agreements.

Available Information

We maintain a website at the address www.cree.com. We are not including the information contained on our website as a part of, or incorporating it by reference into, this Annual Report on Form 10-K. We make available free of charge through our website our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q and Current Reports on Form 8-K, and amendments to these reports, as soon as reasonably practicable after we electronically file such material with, or furnish such material to, the Securities and Exchange Commission. These reports may be accessed by following the link under “News and Investors—SEC Filings” on our website.

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Certain Business Risks and Uncertainties

Described below are various risks and uncertainties that may affect our business. These risks and uncertainties are not the only ones we face. Additional risks and uncertainties not presently known to us, that we currently deem immaterial or that are similar to those faced by other companies in our industry or business in general may also affect our business. If any of the risks described below actually occurs, our business, financial condition or results of future operations could be materially and adversely affected.

Our operating results and margins may fluctuate significantly.

Although we experienced significant revenue and earnings growth in the past year, we may not be able to sustain such growth or maintain our margins, and we may experience significant fluctuations in our revenue, earnings and margins in the future. For example, historically, the prices of our LEDs have declined based on market trends. We attempt to maintain our margins by constantly developing improved or new products which command higher prices or by lowering the cost of our LEDs. If we are unable to do so, our margins will decline. Our operating results and margins may vary significantly in the future due to many factors, including the following:

These or other factors could adversely affect our future operating results and margins. If our future operating results or margins are below the expectations of stock market analysts or our investors, our stock price may decline.

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If we experience poor production yields, our margins could decline and our operating results may suffer.

Our SiC material products and our LED, power and RF device products are manufactured using technologies that are highly complex. We manufacture our SiC wafer products from bulk SiC crystals, and we use these SiC wafers to manufacture our LED products and our SiC-based RF and power semiconductors. Our Cree Microwave subsidiary manufactures its RF semiconductors on silicon wafers purchased from others. During our manufacturing process, each wafer is processed to contain numerous “die,” which are the individual semiconductor devices, and the RF power devices are further processed by incorporating them into a package for sale as a packaged component. The number of usable crystals, wafers, die and packaged components that result from our production processes can fluctuate as a result of many factors, including but not limited to the following:

We refer to the proportion of usable product produced at each manufacturing step relative to the gross number that could be constructed from the materials used as our manufacturing yield. Since many of our manufacturing costs are fixed, if our yields decrease, our margins could decline and our operating results would be adversely affected. In the past, we have experienced difficulties in achieving acceptable yields on new products, which has adversely affected our operating results. We may experience similar problems in the future and we cannot predict when they may occur or their severity. In some instances, we may offer products for future delivery at prices based on planned yield improvements. Reduced yields or failure to achieve planned yield improvements could significantly affect our future margins and operating results.

Litigation and SEC matters could adversely affect our operating results and financial condition.

On June 12, 2003, Eric Hunter, and his wife, Jocelyn Hunter filed a lawsuit in United States District Court for the Middle District of North Carolina in Greensboro, North Carolina naming us and Neal Hunter, Eric Hunter’s brother and our current chairman, as defendants. The complaint alleged claims for defamation and harassment, as well as violations of employment and federal securities laws related to transactions with C&C, and other matters. In addition, between June 16 and August 18, 2003, nineteen purported class action lawsuits were filed in the United States District Court for the Middle District of North Carolina by alleged purchasers of our common stock. The lawsuits name us, certain of our officers and current or former directors as defendants. These complaints allege, among other things, violations of federal securities laws, including violations of Section 10(b) of the Securities Exchange Act of 1934, as amended, and Rule 10b-5. In addition, among other claims, one or more of the complaints allege that we made certain false and misleading statements in connection with our acquisition of the UltraRF division of Spectrian, our supply agreement with Spectrian, our investment in World Theater, Inc. and our agreements with C&C. These cases are still in their early stages, and we intend to defend them vigorously.

Defending against existing and potential securities and class action litigation will likely require significant attention and resources and, regardless of the outcome, result in significant legal expenses, which will adversely affect our results unless covered by insurance or recovered from third parties. If our defenses are ultimately unsuccessful, or if we are unable to achieve a favorable resolution, we could be liable for damage awards that could materially adversely effect our results of operations and financial condition.

In addition, the Securities and Exchange Commission (SEC) in July 2003 initiated an informal inquiry of us and requested us voluntarily to provide certain information. We are cooperating voluntarily with this

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informal inquiry and have provided the SEC with written responses and documents. If the SEC elects to pursue a formal investigation of us, responding to any such investigation could require significant diversion of management’s attention and resources in the future as well as significant legal expense. In addition, if the SEC elects to pursue an enforcement action against us, the defense against this type of action could be costly and require additional management resources. If we were unsuccessful in defending against any potential action that may arise, we may face civil or criminal penalties or fines that would materially adversely affect results of operations and financial condition.

Special Committee Investigation.

On June 14, 2003, our board of directors created a special committee, comprised of independent directors Dr. Robert J. Potter and Mr. William J. O’Meara. The scope of the special committee’s investigation encompasses allegations of corporate wrong doing made by the Hunters in court filings or otherwise brought to our attention by the Hunters. The board of directors granted the special committee the authority to: (i) retain and consult with independent and qualified legal counsel or other experts or advisers to participate and assist in such investigation, and to direct payment of corporate funds to compensate legal counsel and other experts and advisors; (ii) have full access to any and all books, records and files of Cree and any independent auditors heretofore utilized by Cree, and the opportunity to interview and question the directors, any employees and officers of Cree, either past or present; (iii) consult with any other independent specialists in appropriate fields of expertise or such other persons as may be deemed necessary or advisable in conducting an objective and informed investigation; and (iv) employ such other persons as may be necessary for the proper conduct of such investigation. Should the Special Committee conclude that corporate wrong doing has occurred, our business results of operations and financial conditions could be materially adversely affected.

Our business and our ability to produce our products may be impaired by claims we infringe intellectual property of others.

Vigorous protection and pursuit of intellectual property rights characterize the semiconductor industry. These traits have resulted in significant and often protracted and expensive litigation. Litigation to determine the validity of patents or claims by third parties of infringement of patents or other intellectual property rights could result in significant expense and divert the efforts of our technical personnel and management, even if the litigation results in a determination favorable to us. In the event of an adverse result in such litigation, we could be required to:

There can be no assurance that third parties will not attempt to assert infringement claims against us with respect to our current or future products. From time to time we receive correspondence asserting that our products or processes are or may be infringing patents or other intellectual property rights of others. Our practice is to investigate such claims to determine whether the assertions have merit and, if so, we take appropriate steps to seek to obtain a license or to avoid the infringement. However, we cannot predict whether past or future assertions of infringement may result in litigation or the extent to which such assertions may require us to seek a license under the rights asserted. We also cannot determine whether a license will be available or that we would find the terms of any license offered acceptable or commercially reasonable. Failure to obtain a necessary license could cause us to incur substantial liabilities and costs and to suspend the manufacture of products. In addition, if adverse results in litigation made it necessary for us to

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seek a license or to develop non-infringing products or processes, there is no assurance we would be successful in developing such products or processes or in negotiating licenses upon reasonable terms or at all. Our results of operations, financial condition and business could be adversely affected if such problems were not resolved in a timely manner.

There are limitations on our ability to protect our intellectual property.

Our intellectual property position is based in part on patents owned by us and patents exclusively licensed to us by North Carolina State University, Boston University and others. The licensed patents include patents relating to the SiC crystal growth process that is central to our SiC materials and device business. We intend to continue to file patent applications in the future, where appropriate, and to pursue such applications with U.S. and foreign patent authorities. However, we cannot be sure that patents will be issued on such applications or that our existing or future patents will not be successfully contested by third parties. Also, since issuance of a valid patent does not prevent other companies from using alternative, non-infringing technology, we cannot be sure that any of our patents (or patents issued to others and licensed to us) will provide significant commercial protection, especially as new competitors enter the market.

In addition to patent protection, we also rely on trade secrets and other non-patented proprietary information relating to our product development and manufacturing activities. We try to protect this information through appropriate efforts to maintain its secrecy, including requiring employees and third parties to sign confidentiality agreements. We cannot be sure that these efforts will be successful or that the confidentiality agreements will not be breached. We also can not be sure that we would have adequate remedies for any breach of such agreements or other misappropriation of our trade secrets, or that our trade secrets and proprietary know-how will not otherwise become known or be independently discovered by others.

Where necessary, we may initiate litigation to enforce our patent or other intellectual property rights. For example, on June 10, 2003, our Cree Lighting subsidiary and the Trustees of Boston University filed a patent infringement action against AXT, Inc. seeking enforcement of a patent relating to semiconductor devices manufactured using a GaN-based buffer technology. Any such litigation may require us to spend a substantial amount of time and money and could distract management from our day-to-day operations. Moreover, there is no assurance that we will be successful in any such litigation.