Intermolecular, Inc.
INTERMOLECULAR INC (Form: 10-Q, Received: 11/07/2013 16:23:39)
Table of Contents

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q  
(Mark One)
x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2013  
Or  
o       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 001-35348  
Intermolecular, Inc.
(Exact Name of Registrant as Specified in its Charter)
Delaware
 
20-1616267
(State or Other Jurisdiction of
Incorporation or Organization)
 
(I.R.S. Employer
Identification No.)
 
 
 
3011 N. First Street
San Jose, California
 
95134
(Address of Principal Executive Offices)
 
(Zip Code)
(408) 582-5700
(Registrant’s Telephone Number, Including Area Code)
N/A
(Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report)
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  o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x   No  o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer  o
 
Accelerated filer  x
 
 
 
Non-accelerated filer  o
 
Smaller reporting company  o
(Do not check if a smaller reporting company)
 
 

 Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes  o   No  x
Shares outstanding of the registrant’s common stock:
Class
 
Outstanding as of November 4, 2013
Common stock, $0.001 par value
 
46,105,067
 


Table of Contents

INTERMOLECULAR, INC.  
FORM 10-Q FOR THE QUARTER ENDED SEPTEMBER 30, 2013
TABLE OF CONTENTS
 
 
Page
 
 
 
 
 
 
 
 
 
 
 
 
 

2

Table of Contents

PART I — FINANCIAL INFORMATION
 
ITEM 1. FINANCIAL STATEMENTS
INTERMOLECULAR, INC. AND SUBSIDIARIES
Condensed Consolidated Balance Sheets
(In thousands, except share and per share data)
(Unaudited)
 
September 30, 2013
 
December 31, 2012
ASSETS
 

 
 

Current assets:
 

 
 

Cash and cash equivalents
$
74,266

 
$
78,283

Short-term investments
250

 

Accounts receivable, net of allowance for doubtful accounts of $0 as of September 30, 2013 and $170 as of December 31, 2012
9,565

 
7,294

Accounts receivable, due from related parties
817

 
1,036

Inventory, current portion
1,782

 
1,631

Prepaid expenses and other current assets
1,161

 
1,361

Total current assets
87,841

 
89,605

Inventory, net of current portion
5,096

 
3,160

Property and equipment, net
27,380

 
24,058

Intangible assets, net
7,311

 
6,671

Other assets
164

 
191

Total assets
$
127,792

 
$
123,685

LIABILITIES AND STOCKHOLDERS’ EQUITY
 

 
 

Current liabilities:
 

 
 

Accounts payable
$
3,780

 
$
971

Accrued liabilities
5,102

 
3,386

Accrued compensation and employee benefits
3,742

 
3,397

Deferred revenue
1,446

 
2,301

Related party deferred revenue
1,262

 
829

Note payable
25,000

 
26,514

Total current liabilities
40,332

 
37,398

Deferred rent, net of current portion
304

 
624

Other long-term liabilities

 
146

Total liabilities
40,636

 
38,168

Commitments and contingencies (note 5)


 


Stockholders’ equity:
 

 
 

Preferred stock, $0.001 par value, 5,000,000 shares authorized, no shares issued and outstanding as of September 30, 2013 and December 31, 2012

 

Common stock, par value $0.001 per share—200,000,000 shares authorized; 45,926,545 and 44,046,970 shares issued and outstanding as of September 30, 2013 and December 31, 2012, respectively
46

 
44

Additional paid-in capital
192,816

 
186,778

Accumulated deficit
(105,706
)
 
(101,305
)
Total stockholders’ equity
87,156

 
85,517

Total liabilities and stockholders’ equity
$
127,792

 
$
123,685

 
See accompanying notes to unaudited condensed consolidated financial statements

3

Table of Contents

INTERMOLECULAR, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Operations
(In thousands, except share and per share data)
(Unaudited)
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2013
 
2012
 
2013
 
2012
Revenue:
 

 
 

 
 

 
 

Collaborative development program and services revenue
$
11,156

 
$
12,481

 
$
34,858

 
$
35,836

Product revenue
2,748

 
760

 
5,852

 
3,495

Licensing and royalty revenue
3,844

 
3,248

 
11,079

 
10,053

Total revenue
17,748

 
16,489

 
51,789

 
49,384

Cost of revenue:
 

 
 

 
 

 
 

Cost of collaborative development program and services revenue
7,545

 
6,595

 
21,283

 
20,031

Cost of product revenue
1,452

 
554

 
2,585

 
1,635

Cost of licensing and royalty revenue
67

 
55

 
179

 
200

Total cost of revenue
9,064

 
7,204

 
24,047

 
21,866

Gross profit
8,684

 
9,285

 
27,742

 
27,518

Operating expenses:
 

 
 

 
 

 
 

Research and development
6,107

 
5,174

 
17,727

 
16,002

Sales and marketing
1,544

 
1,322

 
4,759

 
3,834

General and administrative
3,008

 
2,650

 
9,042

 
8,190

Total operating expenses
10,659

 
9,146

 
31,528

 
28,026

(Loss) income from operations
(1,975
)
 
139

 
(3,786
)
 
(508
)
Other income (expense):
 

 
 

 
 

 
 

Interest expense, net
(168
)
 
(255
)
 
(649
)
 
(754
)
Other (expense) income, net
(2
)
 
10

 
66

 
16

Total other income (expense), net
(170
)
 
(245
)
 
(583
)
 
(738
)
Loss before provision for income taxes
(2,145
)
 
(106
)
 
(4,369
)
 
(1,246
)
Provision for income taxes
26

 
6

 
32

 
12

Net loss
$
(2,171
)
 
$
(112
)
 
$
(4,401
)
 
$
(1,258
)
Net loss per share of common stock, basic and diluted
$
(0.05
)
 
$
(0.00
)
 
$
(0.10
)
 
$
(0.03
)
Weighted-average number of shares used in computing net loss per share of common stock, basic and diluted
45,191,514

 
43,278,588

 
44,657,529

 
42,725,466

Related Party Transactions
The Condensed Consolidated Statements of Operations shown above include the following related party transactions:
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2013
 
2012
 
2013
 
2012
Revenue:
 

 
 

 
 

 
 

Collaborative development program and services revenue
$
1,792

 
$
3,529

 
$
5,604

 
$
9,277

Product revenue

 
760

 

 
2,139

Licensing and royalty revenue
1,358

 
1,768

 
4,082

 
5,332

Total revenue
$
3,150

 
$
6,057

 
$
9,686

 
$
16,748

Cost of Revenue:
 

 
 

 
 
 
 
Cost of collaborative development program and services revenue
$
1

 
$
10

 
$
1

 
$
40

Total cost of revenue
$
1

 
$
10

 
$
1

 
$
40

See accompanying notes to unaudited condensed consolidated financial statements

4

Table of Contents

INTERMOLECULAR, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Comprehensive Loss
(In thousands)
(Unaudited)

 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2013
 
2012
 
2013
 
2012
Loss for the period
$
(2,171
)
 
$
(112
)
 
$
(4,401
)
 
$
(1,258
)
Other comprehensive loss

 

 

 

Comprehensive loss for the period, net of income tax
$
(2,171
)
 
$
(112
)
 
$
(4,401
)
 
$
(1,258
)

See accompanying notes to unaudited condensed consolidated financial statements


5

Table of Contents

INTERMOLECULAR, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows
(In thousands)
(Unaudited)  
 
Nine Months Ended September 30,
 
2013
 
2012
Cash flows from operating activities:
 

 
 

Net loss
$
(4,401
)
 
$
(1,258
)
Adjustments to reconcile net loss to net cash provided by operating activities:
 

 
 

Depreciation and amortization
6,951

 
5,865

Stock-based compensation
4,088

 
2,687

Impairment of long-lived assets

 
949

Loss on disposal of property and equipment
9

 

Changes in operating assets and liabilities:
 

 
 

Prepaid expenses and other assets
244

 
912

Inventory
(1,694
)
 
(1,233
)
Accounts receivable
(2,052
)
 
5,526

Accounts payable
2,057

 
(364
)
Accrued and other liabilities
1,199

 
(580
)
Deferred revenue
(855
)
 
(1,313
)
Related party deferred revenue
433

 
(8,401
)
Net cash provided by operating activities
5,979

 
2,790

Cash flows from investing activities:
 

 
 

Purchase of short-term investments
(1,001
)
 
(2,201
)
Redemption of short-term investments
751

 
500

Purchase of property and equipment
(9,054
)
 
(3,760
)
Purchased and capitalized intangible assets
(1,113
)
 
(776
)
Net cash used in investing activities
(10,417
)
 
(6,237
)
Cash flows from financing activities:
 

 
 

Proceeds from debt
25,000

 

Payment of debt
(26,514
)
 
(573
)
Proceeds from exercise of common stock options
1,935

 
1,733

Net cash provided by financing activities
421

 
1,160

Net decrease in cash and cash equivalents
(4,017
)
 
(2,287
)
Cash and cash equivalents at beginning of period
78,283

 
81,002

Cash and cash equivalents at end of period
$
74,266

 
$
78,715

 
 
 
 
Supplemental disclosure of cash flow information:
 
 
 

Cash paid for interest
$
618

 
$
927

Cash paid for income taxes, net of refunds received
$
8

 
$
42

Noncash investing activities:
 
 
 
Transfer of property and equipment to inventory
$
393

 
$

 
See accompanying notes to unaudited condensed consolidated financial statements

6

Table of Contents

INTERMOLECULAR, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
(Unaudited)
1. Summary of Significant Accounting Policies
Basis of Presentation
The accompanying condensed consolidated financial statements of Intermolecular, Inc. and subsidiaries (the "Company") have been prepared without audit in accordance with accounting principles generally accepted in the United States of America ("GAAP") for interim financial information, the instructions to Form 10-Q and Article 10 of Regulation S-X of the Securities and Exchange Commission ("SEC"). Accordingly, certain information and disclosures normally included in complete financial statements prepared in accordance with GAAP have been condensed or omitted. The information in this report should be read in conjunction with the Company’s audited consolidated financial statements and notes thereto included in its Annual Report on Form 10-K for the fiscal year ended December 31, 2012, as filed with the SEC on March 4, 2013.
In the opinion of management, the accompanying unaudited condensed consolidated financial statements reflect all adjustments (consisting only of normal recurring adjustments) necessary to present fairly the Company’s financial position, results of operations and cash flows for the interim periods presented. The operating results for the three and nine months ended September 30, 2013 are not necessarily indicative of the results that may be expected for any other future interim period or full year. The condensed consolidated balance sheet as of December 31, 2012 is derived from the audited consolidated financial statements as of the year then ended. 
Use of Estimates  
The preparation of the accompanying condensed consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions about future events. These estimates and the underlying assumptions affect the amounts of assets and liabilities reported, disclosures about contingent assets and liabilities, and reported amounts of revenue and expenses. Management uses estimates and judgments in determining recognition of revenues, valuations of accounts receivable, inventories, intangible assets, debt, capital stock, warrants and assumptions used in the calculation of income taxes and stock-based compensation, among others. These estimates and assumptions are based on management’s best estimates and judgment. Management evaluates its estimates and assumptions on an ongoing basis using historical experience and other factors and adjusts such estimates and assumptions when facts and circumstances dictate. As future events and their effects cannot be determined with precision, actual results could differ significantly from these estimates. 
Concentration of Credit Risk  
Financial instruments that potentially subject the Company to concentration of credit risk consist of cash, cash equivalents, short-term investments and accounts receivable. The Company’s cash, cash equivalents and short-term investments consist of demand deposits, money market accounts and certificates of deposit maintained with high quality financial institutions. The Company's accounts receivable consist of non-interest bearing balances due from credit-worthy customers.
Cash and Cash Equivalents
The Company considers all highly liquid investments purchased with a remaining maturity of three months or less to be cash equivalents. The Company’s cash equivalents are comprised of money market funds and are maintained with high quality financial institutions.
Short-Term Investments
The Company considers all highly liquid investments purchased with a maturity between three and twelve months to be short-term investments. The Company has short-term investments consisting of certificates of deposit maintained with high quality credit institutions. The carrying value of these investments approximates their fair value due to the short term of their maturities. 
Inventory
Inventories are stated at the lower of cost or market value, with cost determined on an average cost basis. Current inventories consist of work-in-process for products that are expected to be sold in the next twelve months. Noncurrent inventories consist of raw materials in the amount of $4.3 million and $2.4 million as of September 30, 2013 and December 31, 2012 , respectively, and work-in-process for products that are not expected to be sold during the next twelve months in the amount of $0.8 million as of September 30, 2013 and December 31, 2012 . Inventories in excess of salable amounts and spare parts inventories that are considered obsolete are recorded as a cost of revenue in the period in which they occur. The Company did not experience any material inventory impairments during the three and nine months ended September 30, 2013 and 2012 .
    

7


Impairment of Long-Lived Assets
The Company evaluates its long-lived assets, which consist of property and equipment and intangible assets, for indicators of possible impairment when events or changes in circumstances indicate the carrying amount of an asset may not be recoverable. Impairment exists if the carrying amounts of such assets exceed the estimates of future net undiscounted cash flows expected to be generated by such assets. Should impairment exist, the impairment loss would be measured based on the excess carrying value of the asset over the estimated fair value of the asset. The Company had no impairment of long-lived assets during the three and nine months ended September 30, 2013 . During the nine months ended September 30, 2012 , the Company recorded impairment expenses in the amount of $0.9 million related to retired assets previously supporting a customer collaborative development program and platform prototypes for new application development.
Revenue Recognition
The Company derives its revenue from three principal sources: collaborative development programs and other services; product sales; and technology licensing and royalty fees. Revenue is recognized when all of the following criteria are met:
• Persuasive evidence of an arrangement exists;
• Delivery has occurred;
• The fee is fixed or determinable; and
• Collectability of the fee is probable.

Persuasive evidence of the arrangement represents a written contract signed by both the Company and the customer, or a customer purchase order. The Company assesses whether a price is fixed or determinable by, among other things, reviewing
contractual terms and conditions related to payment terms. The Company assesses collectability based on factors such as the
customer's creditworthiness and past collection history, if applicable. If collection is not probable, revenue recognition is deferred until receipt of payment.
Collaborative development programs and other services —The Company enters into collaborative development programs ("CDPs") and other research and development service agreements with customers under which the Company conducts research and development activities jointly with the customer. The agreements specify minimum levels of research effort required to be performed by the Company. Payments received under the agreements are not refundable if the research effort is not successful. The Company retains rights to certain elements of technology developed in the course of its performance, which the customer has an option to license in the future under the terms defined in the agreement. Most arrangements with customers have fixed monthly fees and requirements to provide regular reporting of research and development activities performed and revenue is recognized in a manner consistent with the fixed monthly fee. Payments received prior to performance are deferred and recognized as revenue when earned over future performance periods. 
The Company considers arrangements that include specifically identified, dedicated equipment to contain a lease provision, as these arrangements convey the right to the customer to use specific equipment and provide the ability to the customer to direct the use of the equipment as well as control more than a minor amount of the output of the equipment. To date the Company has determined these arrangements to contain operating leases, with a lease term that corresponds to the term of the CDP arrangement. The amount of revenue allocated for the lease element is based on its relative fair value, but the impact of the allocation does not change the amount of revenue recognized for the total arrangement as the lease term is consistent with the CDP term. Operating lease income recorded in CDP and services revenue during the nine months ended September 30, 2013 and 2012 was $5.6 million and $7.3 million , respectively.
Future minimum operating lease payments associated with CDP arrangements that contain operating leases were $1.9 million and $8.4 million as of September 30, 2013 and December 31, 2012 , respectively. 
Product maintenance and support services - Included in collaborative development programs and other services revenue, these services entitle customers to receive product updates and enhancements or technical support and maintenance, depending on the offering. The related revenue is recognized ratably over the period the services are delivered. 
Product revenue - The Company recognizes revenue from the sale of products once delivery has occurred (title and risk of loss have passed to the customer), and customer acceptance, if required, has been achieved.
Licensing and royalty revenue - The Company recognizes revenue for licenses to intellectual property when earned pursuant to the terms of the agreements. Time-based license revenue is recognized ratably over the license term. Licensing and royalty revenue that becomes triggered by specific customer actions, such as exercise of a license option or by sales volume, is recognized when it occurs based on royalty reports or other information received from the licensee. Minimum and prepaid royalties and license fees are recognized ratably over the related periods. Revenue on the sale of intellectual property is recognized in full when title transfers if there are no remaining deliverables related to the intellectual property purchase.

8


Multiple-element arrangements - Certain of the Company’s customer arrangements involve the delivery or performance of multiple products, services or licenses. Product sale arrangements include product maintenance and support. Collaborative development programs and other research and development services include licenses of technology and may also include sales of products.
The Company evaluates whether a delivered element has value to the customer without the remaining undelivered elements by determining whether the delivered element could be sold by the Company, or resold by the customer, on a stand- alone basis. The Company concluded that all of its products and services deliverables have value to the customers on a stand-alone basis, as all these deliverables have been or could be sold and used by customers on a stand-alone basis. Intellectual property license arrangements have value on a stand-alone basis if the customer could purchase and use them without the remaining elements of the arrangement. For transactions entered into prior to January 1, 2011, the Company assessed whether there is objective and reliable evidence of fair values of all undelivered elements. Fair values of such elements are determined by reference to the Company-specific objective evidence, such as pricing of these elements when sold separately, substantive renewal prices for product maintenance and support and time-based licenses, or other available evidence. If the fair value of any undelivered elements in a multiple-element arrangement cannot be objectively determined, revenue is deferred until all elements are delivered, or until fair value can objectively be determined for any remaining undelivered elements. However, in situations where the undelivered elements are software-related hardware elements, the Company will recognize revenue under a proportional performance model when fair value for the hardware elements is not available, if the undelivered hardware elements are substantially similar products. If product maintenance and support and time-based licenses are the only undelivered elements without objective and reliable evidence of fair value, all revenue from the arrangement is amortized over the longer of the product maintenance and support term or license period. For purposes of classification in the consolidated statements of operations, revenue is allocated between collaborative development programs and services revenue, product revenue and licensing and royalty revenue based on objective and reliable evidence of fair value for any elements for which it
exists or based on the relative stated invoice amount for elements for which objective and reliable evidence of fair value does not exist.
For all transactions entered into after December 31, 2010, the Company recognizes revenue using estimated selling prices of the delivered goods and services based on a hierarchy of methods as required by GAAP. The Company uses vendor-specific objective evidence of selling price ("VSOE") for determination of estimated selling price of elements in each arrangement if available, and since third-party evidence ("TPE") is not available for those elements where vendor-specific objective evidence of selling price cannot be determined, the Company evaluates factors to determine its estimated selling prices ("ESP") for all other elements. In multiple-element arrangements where hardware and software are sold as part of the solution, revenue is allocated to the hardware and software as a group using the relative selling prices of each of the deliverables in the arrangement based upon the aforementioned selling price hierarchy. 
Deferred Revenue
Deferred revenue represents amounts collected from customers for which the related revenue has not been recognized, because one or more of the revenue recognition criteria have not been met, net of the associated costs. The current portion of deferred revenue represents the amount that is expected to be recognized as revenue within one year from the balance sheet date. When deferred revenues are recognized as revenues, the associated deferred costs are also recognized as cost of revenues.
Accounts Receivable and Allowance for Doubtful Accounts

Trade accounts receivable are recorded at invoiced amounts and unbilled contractually obligated amounts. Trade accounts receivable are presented net of allowances for doubtful accounts, if applicable, and do not bear interest. The allowance for doubtful accounts is based on the Company's assessment of the collectability of its customer accounts. The Company reviews the allowance by considering certain factors such as historical experience, industry data, credit quality, age of balances and current economic conditions that may affect customers' ability to pay.
Concentration of Revenue and Accounts Receivable
Significant customers are those that represent more than 10% of the Company’s total revenue or accounts receivable. For each significant customer, including related parties, revenue as a percentage of total revenue and accounts receivable as a percentage of total accounts receivable are as follows:

9


 
Revenue
 
Accounts Receivable
 
Three Months Ended
 
Nine Months Ended
 
As of
 
As of 
 
September 30,
 
September 30,
 
September 30,
 
December 31,
 
2013
 
2012
 
2013
 
2012
 
2013
 
2012
Customer A
12
%
 
30
%
 
12
%
 
27
%
 
*

 
*

Customer B
11
%
 
27
%
 
18
%
 
29
%
 
14
%
 
25
%
Customer C (1)
*

 
14
%
 
12
%
 
14
%
 
%
 
*

Customer D
*

 
*

 
*

 
*

 
*

 
12
%
Customer E
*

 
*

 
14
%
 
*

 
*

 
40
%
Customer F (1)
18
%
 
%
 
*

 
%
 
24
%
 
%
Customer G
*

 
%
 
*

 
*

 
*

 
*

Customer H
15
%
 
%
 
*

 
%
 
31
%
 
%
 
 
*   less than 10%
(1) Customer C was acquired by Customer F as of July 31, 2013. Revenue and accounts receivable attributed to Customers C and F are combined under Customer F for periods after July 31, 2013.

Share-Based Compensation
The Company applies the fair value recognition and measurement provisions of ASC 718 Compensation — Stock Compensation. Stock-based compensation is recorded at fair value as of the grant date, determined using the Black-Scholes option-pricing model, and recognized as an expense over the employee’s requisite service period (generally the vesting period), which the Company has elected to amortize on a straight-line basis.
The Company accounts for stock options issued to nonemployees based on the fair value of the options determined using the Black-Scholes option-pricing model. The fair value of stock options granted to nonemployees is remeasured each reporting period as the stock options vest and the resulting change in value, if any, is recognized in the Company’s consolidated statements of operations during the period the related services are rendered.
Recent Accounting Pronouncements  
In September 2011, the FASB issued an update to ASC 350 Intangibles-Goodwill and Other (“ASC 350”): Testing Goodwill for Impairment. The update gives an entity an option to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If, after assessing the totality of events or circumstances, an entity determines it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, then performing the two-step impairment test is unnecessary. An entity has the option to bypass the qualitative assessment for any reporting unit in any period and proceed directly to performing the first step of the two-step goodwill impairment test. An entity may resume performing the qualitative assessment in any subsequent period. Under the amendments, an entity no longer is permitted to carry forward its detailed calculation of a reporting unit's fair value from a prior year as previously permitted by ASC 350. The Company adopted this update to ASC 350 in the first quarter of 2013 without any impact on its financial position, results of operations or cash flows.
2. Fair Value of Financial Instruments
The Company measures and reports its cash equivalents and short-term investments at fair value on a recurring basis. The Company does not have any financial liabilities that are measured and reported at fair value. The following tables set forth the fair value of the Company’s cash equivalents and short-term investments by level within the fair value hierarchy (in thousands):

10


 
As of September 30, 2013
 
Fair Value
 
Level I
 
Level II
 
Level III
Assets:
 
 
 
 
 
 
 
Money market funds
$
63,518

 
$
63,518

 
$

 
$

Certificates of deposit
250

 

 
250

 

Total assets measured at fair value
$
63,768

 
$
63,518

 
$
250

 
$

 
As of December 31, 2012
 
Fair Value
 
Level I
 
Level II
 
Level III
Assets:
 
 
 
 
 
 
 
Money market funds
$
70,488

 
$
70,488

 
$

 
$

Total assets measured at fair value
$
70,488

 
$
70,488

 
$

 
$


3. Property and Equipment
Property and equipment consist of the following (in thousands):
 
As of
 
As of
 
September 30, 2013
 
December 31, 2012
Lab equipment and machinery
$
47,371

 
$
38,667

Leasehold improvements
4,073

 
2,873

Computer equipment and software
3,499

 
3,467

Furniture and fixtures
176

 
160

Construction in progress
5,454

 
5,964

Total property and equipment
60,573

 
51,131

Less accumulated depreciation
(33,193
)
 
(27,073
)
Property and equipment, net
$
27,380

 
$
24,058


On May 31, 2013, the Company entered into a loan and security agreement ("Loan Agreement") with Silicon Valley Bank ("SVB") pursuant to which SVB made available to the Company loans under a revolving line to refinance existing indebtedness (including the repayment of all remaining principal and accrued interest under the secured promissory note that the Company issued to Symyx Technologies, Inc. ("Symyx") in November 2011) and for working capital and general business purposes, in a principal amount of up to $26.5 million . Upon repayment, the Symyx note was terminated and Symyx released all security interests and other liens held as security in connection with the Symyx note. Under the Loan Agreement, and as of September 30, 2013 , SVB held a security interest in substantially all of the Company's assets, excluding all intellectual property. As of December 31, 2012 all tangible property and equipment was pledged as collateral against the note payable issued in connection with the closing of the asset purchase transaction with Symyx.
The following table presents depreciation expense included in the Condensed Consolidated Statement of Operations and includes amortization of leasehold improvements (in thousands): 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2013
 
2012
 
2013
 
2012
Depreciation expense
$
2,249

 
$
1,868

 
$
6,493

 
$
5,433

 
The Company maintained dedicated equipment to support contractual customer capacity requirements as part of certain collaborative development programs that are classified as lab equipment and machinery and had a net book value of $1.9 million and $5.9 million as of September 30, 2013 and December 31, 2012 , respectively.

11


4. Intangible Assets
Intangible assets consist of the following (in thousands):
 
As of
 
As of
 
September 30, 2013
 
December 31, 2012
Patents issued
$
4,517

 
$
3,932

Patents pending
3,899

 
3,386

Trademarks
40

 
40

Total intangible assets
8,456

 
7,358

Less patent amortization
(1,145
)
 
(687
)
Intangible assets, net
$
7,311

 
$
6,671


Amortization commences upon patent issuance. The useful life of the patents, once approved, will not exceed 20 years , and will depend on the nature of the patent. The average estimated amortization period of our current portfolio is approximately 17 years from the date of patent issuance. The average estimated remaining amortization period of patents acquired as part of the Symyx asset purchase transaction is approximately 4 years .
The following table presents patent amortization expense included in the Condensed Consolidated Statement of Operations (in thousands):
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2013
 
2012
 
2013
 
2012
Amortization expense
$
156

 
$
145

 
$
458

 
$
432

 
5. Commitments and Contingencies
Leases
The Company entered into an operating lease agreement in May 2010 that expires in May 2015. Rent expense is being recognized on a straight-line basis over the lease term.
The following table presents rent expense included in the Condensed Consolidated Statement of Operations (in thousands):
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2013
 
2012
 
2013
 
2012
Rent expense
$
324

 
$
324

 
$
972

 
$
972


Future commitments and obligations under this operating lease to be satisfied as they become due over the term are as follows (in thousands):
As of September 30, 2013:
 

Three months ending December 31, 2013
$
416

The years ending December 31,
 

2014
1,707

2015
728

Total
$
2,851


During 2013 , the Company has made payments in the amount of $1.2 million related to this operating lease.


12


Symyx Asset Purchase and Note Payable
In connection with the consummation of the Symyx asset purchase transaction in November 2011, the Company issued Symyx a secured promissory note in a principal amount equal to $27.3 million with a term of 24 months and an interest rate equal to 4% . The note was payable in quarterly installments, each in an amount equal to the greater of $0.5 million that quarter or the amount of accrued interest, with a balloon payment at maturity, if applicable. The note was also pre-payable by the Company at any time without penalty or premium, and was secured by tangible personal property, excluding intellectual property. On May 31, 2013, the Company used $25.0 million of the net proceeds from a revolving line with Silicon Valley Bank ("SVB") and $1.5 million of cash to retire and repay all remaining principal and accrued interest upon the note. Over the life of the Symyx note the Company paid a total of $29.0 million , of which approximately $1.6 million related to interest expense.
The following table presents payments made during the three and nine months ended September 30, 2013 in connection with the note payable to Symyx (in thousands):
 
Three Months Ended September 30, 2013
 
Nine Months Ended September 30, 2013
 
Principal
 
Interest
 
Total
 
Principal
 
Interest
 
Total
Symyx payments
$

 
$

 
$

 
$
26,516

 
$
437

 
$
26,953


Silicon Valley Bank Loan Agreement
On May 31, 2013, the Company entered into a loan and security agreement (“Loan Agreement”) with SVB pursuant to which SVB made available to the Company loans under a revolving line to refinance existing indebtedness (including the repayment of the Symyx note) and for working capital and general business purposes, in a principal amount of up to $26.5 million . Under the Loan Agreement, SVB funded an initial credit extension in the principal amount of $25 million on May 31, 2013 and agreed to fund, subject to customary conditions, additional credit extensions under the revolving line on or prior to November 30, 2013. The Loan Agreement has a financial covenant that requires the Company to maintain a certain level of liquidity, and as of September 30, 2013 , the Company was compliant with the terms of that loan covenant. Prior to November 30, 2013, the Company has the option to convert all or any part of the outstanding advances under the revolving line into a term loan. This option to convert the revolving advances into a term loan can only be used once. The revolving line advances bear interest at a floating rate equal to the greater of 2.75% or the prime rate (customarily defined) minus 0.50% . The term loan would bear interest at a fixed rate equal to 3.25% .

The Company is obligated to pay interest on the revolving line credit extensions on a monthly basis and is obligated to pay all outstanding principal and unpaid interest on credit extensions under the revolving line on November 30, 2013. The following table presents payments made during the three and nine months ended September 30, 2013 for interest owed under the terms of the Loan Agreement (in thousands):
 
Three Months Ended September 30, 2013
 
Nine Months Ended September 30, 2013
 
Principal
 
Interest
 
Total
 
Principal
 
Interest
 
Total
SVB payments
$

 
$
176

 
$
176

 
$

 
$
178

 
$
178


For any amount converted into a term loan prior to November 30, 2013, the Company is obligated to pay interest at the applicable rate and $0.5 million of principal on a quarterly basis. The term loan would mature three years from the first day of the month after conversion occurs, but no later than November 30, 2016, and the Company would be obligated to pay all outstanding principal and accrued and unpaid interest on that date. At the Company's option, the Company may prepay the outstanding principal balance of the term loan in full or in part, subject to a pre-payment fee of 0.25% of the outstanding principal balance of the term loan if the term loan is outstanding for less than one year. In the event of a termination of the revolving line for any reason before November 30, 2013, including the repayment of the loan upon any prepayment, the Company is obligated to pay a final payment fee equal to 0.25% of the outstanding revolving advance being repaid.
Litigation
On August 23, 2013, the Company received a copy of a complaint from the California Division of Labor Standards and Enforcement ("DLSE") filed by an employee in the Company’s research and development group claiming that the employee is owed back pay due to an incorrect classification as an exempt employee for overtime purposes. The Company commenced a review of the employee's claim as well as a review of the Company’s policies regarding classification of employees for overtime purposes. The Company has also agreed to enter mediation with the attorney who represents the

13


employee that filed the claim with the DLSE as well as at least ten other employees who are similarly situated. While the Company is committed to reaching a reasonable resolution through mediation, the Company believes it has meritorious defenses to the claims and intends to vigorously defend against any of them in this regard. Nevertheless, as of September 30, 2013, the Company accrued its best estimate of the amount of probable loss associated with the matter and classified the resulting expense as research and development in its Condensed Consolidated Statements of Operations. While the Company cannot predict the outcome of this matter, or of any legal or administrative proceedings related to this matter that have commenced or may be commenced in the future, the Company believes the matter will not have a material adverse effect on its business, operating results, financial condition or cash flows.
6. Stockholders’ Equity
Stock-Based Compensation
The fair value of the employee stock options granted during the period was estimated on the respective grant date using a Black-Scholes option-pricing model with the following weighted-average assumptions: 
 
Three Months Ended
 
Nine Months Ended
 
September 30,
 
September 30,
 
2013
 
2012
 
2013
 
2012
Expected term (in years)
6.0

 
6.0

 
6.0

 
6.0

Risk-free interest rate
1.7
%
 
0.9
%
 
1.2
%
 
1.2
%
Expected volatility
59
%
 
60
%
 
60
%
 
60
%
Expected dividend rate
%
 
%
 
%
 
%

Stock-based compensation expense, net of estimated forfeitures, was included in the following line items on the Condensed Consolidated Statements of Operations (in thousands):
 
Three Months Ended
 
Nine Months Ended
 
September 30,
 
September 30,
 
2013
 
2012
 
2013
 
2012
Cost of revenue
$
379

 
$
250

 
$
1,151

 
$
780

Research and development
285

 
212

 
969

 
642

Sales and marketing
302

 
199

 
859

 
550

General and administrative
358

 
272

 
1,109

 
715

Total stock-based compensation
$
1,324

 
$
933

 
$
4,088

 
$
2,687


The following table presents stock-based compensation expense, net of estimated forfeitures, by grant type (in thousands):
 
Three Months Ended
 
Nine Months Ended
 
September 30,
 
September 30,
 
2013
 
2012
 
2013
 
2012
Stock options
$
943

 
$
851

 
$
2,911

 
$
2,489

Restricted stock awards and restricted stock units (RSUs)
381

 
82

 
1,177

 
198

Total stock-based compensation
$
1,324

 
$
933

 
$
4,088

 
$
2,687


The following table presents unrecognized compensation expense, net of estimated forfeitures, related to the Company’s equity compensation plans as of September 30, 2013 , which is expected to be recognized over the following weighted-average periods, (in thousands, except for weighted-average period): 

14


 
Unrecognized
Compensation
Expense
 
Weighted-
Average Period
(in years)
Stock options
$
6,953

 
2.6
RSUs
$
4,269

 
3.1
 
The following table presents details on grants made by the Company for the following periods: 
 
Nine Months Ended
 
Nine Months Ended
 
September 30, 2013
 
September 30, 2012
 
Shares Granted
 
Weighted-
Average Grant
Date Fair Value
 
Shares Granted
 
Weighted-
Average Grant
Date Fair Value
Stock options
1,132,970

 
$
4.72

 
1,192,679

 
$
4.57

RSUs
699,000

 
$
8.97

 
274,070

 
$
6.48


The total intrinsic value of stock options exercised for the nine months ended September 30, 2013 and 2012 was $10.1 million and $6.9 million , respectively.
RSUs that vested during the nine months ended September 30, 2013 had fair values of $0.5 million as of the vesting date. No RSUs vested during nine months ended September 30, 2012.
Common Stock Warrants
As of September 30, 2013 and December 31, 2012 the Company had 912,368 outstanding warrants to purchase shares of common stock. Of these outstanding warrants, 90,000 were exercisable as of September 30, 2013 and December 31, 2012 . During the three months ended September 30, 2013, the Company modified warrants to purchase 822,368 shares of common stock held by certain customers to allow for the cashless "net exercise" of the warrants at the customers' option. The modification did not change the exercise price or any other terms of the warrants.
Common Stock  
As of September 30, 2013 and December 31, 2012 , the Company had reserved shares of common stock for issuance as follows:
 
September 30, 2013
 
December 31, 2012
Number of stock options outstanding
6,451,590

 
7,426,417

Number of RSUs outstanding
778,924

 
254,863

Shares available for future grant
5,798,815

 
5,001,956

Number of warrants outstanding
912,368

 
912,368

Total shares reserved
13,941,697

 
13,595,604

 
7. Net Loss per Share of Common Stock
The following table sets forth the computation of the Company’s basic and diluted net loss per share of common stock during the three and nine months ended September 30, 2013 and 2012 (in thousands, except for share and per share amounts):
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2013
 
2012
 
2013
 
2012
Net loss attributable to common stockholders
$
(2,171
)
 
$
(112
)
 
$
(4,401
)
 
$
(1,258
)
Shares used in computing net loss per share of common stock, basic and diluted
45,191,514

 
43,278,588

 
44,657,529

 
42,725,466

Net loss per share of common stock, basic and diluted
$
(0.05
)
 
$
(0.00
)
 
$
(0.10
)
 
$
(0.03
)


15


The following outstanding shares of common stock equivalents were excluded from the computation of diluted net loss per share of common stock for the periods presented because including them would have been antidilutive:
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2013
 
2012
 
2013
 
2012
Stock options to purchase common stock
6,451,590

 
7,763,639

 
6,451,590

 
7,763,639

RSUs
778,924

 
256,513

 
778,924

 
256,513

Common stock subject to repurchase

 
7,500

 

 
7,500

Common stock warrants
912,368

 
912,368

 
912,368

 
912,368

8. Income Taxes
Income tax expense for the nine months ended September 30, 2013 was $32,000 or 0.7% on a pre-tax loss of $4.4 million . The difference between the Company's effective tax rate and the federal statutory rate of 35% is primarily attributable to the differential in foreign taxes, non-deductible stock-based compensation expense, other currently non-deductible items and movement in its valuation allowance. The Company maintained a valuation allowance as of September 30, 2013 against all of its deferred tax assets.
 
The Company intends to maintain a full valuation allowance until sufficient positive evidence exists to support its reduction.
9. Related Party Transactions
In March 2013, the Company amended the CDP agreement that it had entered into in March 2010 with a related party and that it and the related party had amended in March 2012. Under the amended agreement, the two companies will work together to conduct research and development and other activities. Depending on the output of the research and development, the primary rightholder will be the Company or the other party. However, if the other party is not the primary rightholder, it will be able to license the developed technology from the Company. The other party’s vice chairman of the board of directors is a director of the Company and is also a managing member of a significant shareholder of the Company. As of September 30, 2013 , this shareholder was a beneficial owner of approximately 9.3% of the Company’s common stock. As of September 30, 2013 and December 31, 2012 the Company had accounts receivable in the amount of $0.1 million and $0.4 million , respectively, and had a deferred revenue balance in the amount of $0 and $0.1 million , respectively, related to the amended agreement. The following table presents related party revenue included in the Condensed Consolidated Statement of Operations from this amended agreement (in thousands): 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2013
 
2012
 
2013
 
2012
Related party revenue
$
1,030

 
$
1,050

 
$
3,347

 
$
3,439


In November 2006, the Company entered into an Alliance Agreement with a related party that was a beneficial owner of approximately 8.4% of the Company’s common stock as of September 30, 2013 . The other party and the Company each have an independent board member that serves on both companies’ boards of directors. Under the agreement, the two companies will work together to conduct research and development and other activities with respect to materials and high productivity combinatorial technology for use in semiconductor applications. Depending on the output of the research and development, the primary rightholder could be either company. However, the party that is not the primary rightholder will be assigned the right to use the output property. Under the agreement, the other party will pay the Company fees for services and both parties may provide royalties to the other for licensed technology sold to third parties. Since November 2006, the agreement has been amended numerous times with the last amendment signed in April 2013. As of September 30, 2013 and December 31, 2012 the Company had accounts receivable in the amount of $0.7 million and $0.6 million , respectively, and had a deferred revenue balance in the amount of $1.3 million and $0.7 million , respectively, related to the amended agreement. The following table presents related party revenue and cost of revenue included in the Condensed Consolidated Statement of Operations from the amended agreement (in thousands):
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2013
 
2012
 
2013
 
2012
Related party revenue
$
2,120

 
$
5,007

 
$
6,339

 
$
13,309

Related cost of revenue
$
1

 
$
10

 
$
1

 
$
40


16


10. Information about Geographic Areas
Revenue
Revenue by geography is based on the billing address of the customer. The following table sets forth revenue by geographic area (in thousands):
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2013
 
2012
 
2013
 
2012
United States
$
10,172

 
$
12,889

 
$
35,016

 
$
37,288

Japan
3,694

 
3,321

 
11,501

 
10,203

APAC other
1,071

 
243

 
2,352

 
1,795

Europe and Middle East
2,811

 
36

 
2,920

 
98

Total
$
17,748

 
$
16,489

 
$
51,789

 
$
49,384


Long-Lived Assets  
Substantially all of the Company’s long-lived assets are located in the U.S. An insignificant amount of long-lived assets reside in the Company’s foreign subsidiaries and branches in Hong Kong, Japan and Taiwan.
11. Subsequent Event
On October 16, 2013, the Company and SBC&D Co. (the “Lessor”) entered into a first amendment (the "First Amendment") to the Original Lease Agreement (as defined below) for the Company's facility at 3011 N. First Street, San Jose, California.
The First Amendment amends the original lease agreement dated May 11, 2010 (“Original Lease Agreement”) between the Company and Novellus Systems, Inc. (the "Landlord"), contingent upon the Lessor acquiring title to the facility from Landlord (such date, the “Effective Date”), expected to occur in December 2013 pursuant to a purchase agreement dated October 10, 2013 between Lessor and Landlord. The Original Lease Agreement is scheduled to expire on May 31, 2015.
The amendment provides for (i) extension of the term of the lease for a period of approximately one hundred thirty-nine ( 139 ) months from the Effective Date, (ii) elimination of the early termination option contained within the Original Lease Agreement and (iii) elimination of the cap with respect to the payments the Company makes for the operating costs of the facility or Lessor’s obligation to provide certain other utilities to the facility. The First Amendment will maintain the rental rate of the Original Lease Agreement through February 2016 and will increase the monthly basic rent to $196,000 effective March 1, 2016 and automatically increase 2.5% each year thereafter through the end of the extended term of the lease. In addition, the First Amendment would provide the Company with four months of free rent and a tenant improvement allowance of $1.0 million in the aggregate in equal installments over the course of the ten months after the Effective Date to be used for the modification, refurbishment, construction or installation of improvements to the facility.


17


ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Our Management’s Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") is provided in addition to the accompanying consolidated condensed financial statements and notes to assist readers in understanding our results of operations, financial condition, and cash flows. Our MD&A is organized as follows:
Overview . Discussion of our business and overall analysis of financial and other highlights affecting the Company in order to provide context for the remainder of MD&A.
Strategy . Our overall strategy.
Basis of Presentation . A summary of the primary elements of our financial results.
Critical Accounting Estimates . Accounting estimates that we believe are most important to understanding the assumptions and judgments incorporated in our reported financial results and forecasts.
Results of Operations . An analysis of our financial results comparing the three and nine months ended September 30, 2013 to the three and nine months ended September 30, 2012 .
Liquidity and Capital Resources . An analysis of changes in our balance sheets and cash flows, and discussion of our financial condition and potential sources of liquidity.
The following discussion and analysis should be read in conjunction with our condensed consolidated financial statements and related notes included elsewhere in this Quarterly Report on Form 10-Q (“Form 10-Q”) and in our Annual Report on Form 10-K (the “2012 Form 10-K”) and subsequent quarterly reports on Form 10-Q, as filed with the Securities and Exchange Commission. This Form 10-Q contains forward-looking statements that involve risks and uncertainties, as well as assumptions that, if they never materialize or prove incorrect, could cause our results to differ materially from those expressed or implied by such forward-looking statements. The statements contained in this Form 10-Q that are not purely historical are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Forward-looking statements are often identified by the use of words such as, but not limited to, “may,” “will,” “expect,” “believe,” “anticipate,” “intend,” “could,” “should,” “estimate,” or “continue,” and similar expressions or variations intended to identify forward-looking statements. These statements are based on the beliefs and assumptions of our management based on information currently available to management. Such forward-looking statements are subject to risks, uncertainties and other important factors that could cause actual results and the timing of certain events to differ materially from future results expressed or implied by such forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those identified below, and those discussed in the section titled “Risk Factors” in Part II, Item 1A of this Form 10-Q and in our 2012 Form 10-K and subsequent quarterly reports on Form 10-Q. Furthermore, such forward-looking statements speak only as of the date of this Form 10-Q. Except as required by law, we undertake no obligation to update any forward-looking statements to reflect events or circumstances after the date of such statements. 
Overview
We have pioneered a proprietary approach to accelerate research and development, innovation and time-to-market for the semiconductor and clean energy industries. Through paid collaborative development programs ("CDPs") with our customers, we develop proprietary technology and intellectual property ("IP") for our customers focused on advanced materials, processes, integration and device architectures. This technology enables our customers to bring optimized, high-volume manufacturing-ready integrated devices to market faster and with less risk than conventional approaches to research and development ("R&D"). We provide our customers with proprietary technology through various fee arrangements and grant them rights to associated IP, primarily through royalty-bearing licenses. Through paid CDPs and our own development, we have established a portfolio of greater than 1,000 patents and patent applications. Our proprietary approach is broadly applicable to high-volume integrated device markets, which include the markets for semiconductors, flat glass coatings and glass-based devices, solar cells, light-emitting diodes ("LEDs"), flat-panel displays, advanced batteries and other energy efficiency applications.
We were founded in 2004 and are headquartered in San Jose, California. Our total revenue increased to $17.7 million and $51.8 million for the three and nine months ended September 30, 2013 from $16.5 million and $49.4 million for the three and nine months ended September 30, 2012 . Our net loss increased to $2.2 million for the three months ended September 30, 2013 , from a net loss of $0.1 million for the three months ended September 30, 2012 and increased to a net loss of $4.4 million during the nine months ended September 30, 2013 from a net loss of $1.3 million during the nine months ended September 30, 2012 . Since inception, we have incurred net losses leading to an accumulated deficit of $105.7 million as of September 30, 2013 .


18

Table of Contents

Strategy
Our mission is to drive our customers' success by transforming R&D and accelerating innovation in markets that derive competitive advantage from the interaction of materials science, processes, integration and device architecture. We currently target high-volume semiconductor and high-growth emerging clean energy markets, including DRAM, stand-alone non-volatile memory, embedded memory, complex logic, flat glass coatings and glass-based devices, solar cells, LEDs, displays and energy-efficiency technologies. Within these broad markets, we target customers that have track records of technological innovation, deploy significant resources and are pursuing technical advancements that are critical to their success and strategy, including ATMI, Elpida (a wholly owned subsidiary of Micron Technology), Epistar, First Solar, GLOBALFOUNDRIES, Guardian Industries, Micron Technology, SanDisk, Taiwan Semiconductor Manufacturing Company (“TSMC”) and Toshiba. ATMI and Elpida have commenced shipping products incorporating technology developed through our CDPs and pay us licensing and royalty fees. To date, we have received the majority of our revenue from customers in DRAM, stand-alone non-volatile memory, complex logic, solar cells, and energy-efficiency applications in flat glass coatings and glass-based devices, and we have not yet received a material amount of revenue from customers in embedded memory, LEDs, displays and other energy-efficiency technologies.
Basis of Presentation
How We Generate Revenue  
Our customer engagement process generates revenue in three ways: CDP and services revenue; product revenue; and licensing and royalty revenue. CDPs are our primary engagement model with customers and are structured to result in licensing and/or royalty revenue. When we initially engage with a customer, we generate revenue from micro-CDPs, CDPs and licensing of our high productivity combinatorial (“HPC”) platform. Our micro-CDPs are smaller, customer-paid programs that require significantly less investment from our team but allow us to demonstrate the capabilities of our HPC platform to a customer without requiring a customer to commit to a multi-year agreement. We use these micro-CDPs to demonstrate the capabilities and value of our HPC platform to these new customers, with the objective of engaging with these customers in a full CDP. When technology developed through CDPs is incorporated in commercialized products, we generate licensing and/or royalty revenue. In certain cases, we sell HPC processing tools to our customers who pay a recurring license fee to operate those tools with our combinatorial processing capabilities.
CDP and services revenue -  CDP revenue may include payments for full time equivalent employees, milestone payments, subscription payments for dedicated and shared workflow tools used in the CDP and reimbursed payments for consumables and outside services from third parties. Individual CDPs typically range from one to three years. Services revenue outside of CDPs is substantially comprised of support and maintenance fees and extended warranty agreements. CDP and services revenue is recognized in a manner consistent with activities performed.
Product revenue - Product revenue consists of sales of our workflow hardware and embedded software. In support of our business strategy, we selectively sell our proprietary tools to increase opportunities for CDPs and licensing fees and royalties. As our other revenue streams increase we expect our product revenue to decrease as a percentage of our overall revenue. Product revenue has been recognized upon shipment since January 1, 2011. Product sales that originated prior to January 1, 2011 were generally recognized on a straight-line basis over the maintenance period once delivery occurred (title and risk of loss passed to the customer), and customer acceptance, if required, was achieved.
Licensing and royalty revenue - Licensing and royalty revenue consists of licensing fees and royalties for granting our customers rights to our proprietary technology and IP. Specifically, this includes licensing the HPC capabilities of our workflows, licensing our informatics and analysis software, and licensing fees and royalties on products that incorporate technology developed through our CDPs. In certain instances, minimum license fees and royalties may be guaranteed by customer contracts and are recognized as revenue ratably over the related periods. In the last three years, licensing and royalty revenue has generally been the fastest growing element of our revenue. Over the long term, we expect licensing and royalty revenue to be an increasing and significant component of our revenue.
Cost of Revenue
Our cost of revenue is variable and depends on the product mix and type of revenue earned in each period relating to our customer programs. As products are commercialized that incorporate technology developed through our CDPs, we expect our cost of revenue to decrease as a percentage of total revenue when licensing and royalty revenue become an increasing component of our revenue. As a result of our asset purchase transaction with Symyx Technologies, Inc. ("Symyx") in 2011, the amortization of acquired patents is being recorded in cost of revenue.


19

Table of Contents

Cost of CDP and services revenue - Our cost of CDP and services revenue is primarily comprised of salaries and other personnel-related expenses (including stock-based compensation) for our collaborative research and development scientists, engineers and development fab process operations employees. Additionally, our cost of revenue includes costs of wafers, targets, materials, program-related supplies, third-party professional fees and depreciation of equipment used in CDPs.
Cost of product revenue -  Our cost of product revenue primarily includes our cost of products sold and will fluctuate based on the type of product and configuration sold. Cost of product revenue has been recognized upon product shipment since January 1, 2011. For product sales that originated prior to January 1, 2011, our cost of product revenue was recognized in a similar manner as the corresponding product revenue and was generally recognized on a straight-line basis over the maintenance period. The variability in cost of product revenue as a percentage of revenue is related to the quantity and configuration of products sold during the period and the corresponding maintenance period over which product revenue and cost of product revenue is being recognized.
Cost of licensing and royalty revenue -  Our cost of licensing and royalty revenue is primarily comprised of the amortization of acquired patents and licensing obligations.
Research and Development
Our R&D expenses consist of costs incurred for development and continuous improvement of our HPC platform, expansion of software capabilities and application research and development that are not associated with customer programs. R&D costs include personnel-related expenses (including stock-based compensation expenses) for our technical staff as well as consultant costs, parts and prototypes, wafers, chemicals, supply costs, facilities costs, utilities costs related to laboratories and offices occupied by technical staff, depreciation on equipment used by technical staff, and outside services, such as machining and third-party R&D costs. Overhead costs that are not allocated to a customer program are recognized as expenses within R&D. We expect our R&D expenses will continue to increase for the foreseeable future as we continue to devote substantial internal resources to develop and improve our HPC platform and extend the applicability of our platform to a broader set of applications within the industries we serve.
Sales and Marketing
Our sales and marketing expenses consist primarily of personnel-related costs (including stock-based compensation) for our sales and marketing employees, as well as payments of commissions to our sales employees, facility costs and professional expenses. Professional expenses consist of external website and marketing communication consulting costs and market research. We expect that our sales and marketing expenses will continue to increase for the foreseeable future as we increase the number of our sales and marketing employees to support the growth in our business and as we incur increasing external marketing communication costs.
General and Administrative
General and administrative expenses consist primarily of personnel-related costs (including stock-based compensation) as well as professional services and facilities costs related to our executive, finance, legal, human resources, management information systems and information technology functions. Professional services consist of outside accounting, information technology, consulting and legal costs. We also incur significant accounting and legal costs related to compliance with rules and regulations enacted by the Securities and Exchange Commission, including the costs maintaining compliance with Section 404 of the Sarbanes-Oxley Act, as well as insurance, investor relations and other costs associated with being a public company. In addition to these expenses, we expect that our general and administrative expenses will continue to increase for the foreseeable future.
Interest Expense, net
Interest expense historically consisted of interest accrued on our note payable to Symyx in connection with the Symyx asset purchase transaction that closed in November 2011, which was paid in full in May 2013 with a line of credit from Silicon Valley Bank. Interest expense after May 2013 consists primarily of interest accrued on our line of credit with Silicon Valley Bank. Interest income represents interest earned on our cash, cash equivalents and short-term investments. We expect interest income will vary each reporting period depending on our average investment balances during the period and market interest rates.
Critical Accounting Estimates
Our consolidated financial statements have been prepared in conformity with generally accepted accounting principles in the United States and include our accounts and the accounts of our wholly-owned subsidiaries. The preparation of our consolidated financial statements requires our management to make estimates, assumptions and judgments that affect the reported amounts of assets and liabilities and disclosures for contingent assets and liabilities as of the date of the financial

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statements, and the reported amounts of revenue and expenses during the applicable periods. Management bases its estimates, assumptions and judgments on historical experience and on various other factors that management believed were reasonable under the circumstances. Different assumptions and judgments would change the estimates used in the preparation of our consolidated financial statements which, in turn, could change the results from those reported. Our management evaluates its estimates, assumptions and judgments on an ongoing basis.
There have been no material changes in the matters for which we make critical accounting estimates in the preparation of our condensed consolidated financial statements during the three and nine months ended September 30, 2013 as compared to those disclosed in our 2012 Form 10-K. For further information on our critical and other significant accounting policies, see our 2012 Form 10-K.
Recent Accounting Pronouncements
There are no recent accounting pronouncements that have not yet been adopted that are expected to have any impact on our financial position, results of operations or cash flows.
Results of Operations
Comparison of the Three and Nine Months Ended September 30, 2013 and 2012
 
Three Months Ended September 30,
 
 
 
 
 
Nine Months Ended September 30,
 
 
 
 
 
2013
 
2012
 
$ Change
 
% Change
 
2013
 
2012
 
$ Change
 
% Change
 
(in thousands)
 
 
 
 
 
(in thousands)
 
 
 
 
Revenue:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Collaborative development program and services revenue
$
11,156

 
$
12,481

 
$
(1,325
)
 
(11
)%
 
$
34,858

 
$
35,836

 
$
(978
)
 
(3
)%
Product revenue
2,748

 
760

 
1,988

 
262
 %
 
5,852

 
3,495

 
2,357

 
67
 %
Licensing and royalty revenue
3,844

 
3,248

 
596

 
18
 %
 
11,079

 
10,053

 
1,026

 
10
 %
Total revenue
17,748

 
16,489

 
1,259

 
8
 %
 
51,789

 
49,384

 
2,405

 
5
 %
Cost of revenue:
9,064

 
7,204

 
1,860

 
26
 %
 
24,047

 
21,866

 
2,181

 
10
 %
Gross profit
8,684

 
9,285

 
(601
)
 
(6
)%
 
27,742

 
27,518

 
224

 
1
 %
Operating expenses:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Research and development
6,107

 
5,174

 
933

 
18
 %
 
17,727

 
16,002

 
1,725

 
11
 %
Sales and marketing
1,544

 
1,322

 
222

 
17
 %
 
4,759

 
3,834

 
925

 
24
 %
General and administrative
3,008

 
2,650

 
358

 
14
 %
 
9,042

 
8,190

 
852

 
10
 %
Total operating expenses
10,659

 
9,146

 
1,513

 
17
 %
 
31,528

 
28,026

 
3,502

 
12
 %
(Loss) income from operations
(1,975
)
 
139

 
(2,114
)
 
 
 
(3,786
)
 
(508
)
 
(3,278
)
 
 
Other income (expense):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Interest expense, net
(168
)
 
(255
)
 
87

 
 
 
(649
)
 
(754
)
 
105

 
 
Other (expense) income, net
(2
)
 
10

 
(12
)
 
 
 
66

 
16

 
50

 
 
Total other income (expense), net
(170
)
 
(245
)
 
75

 
 
 
(583
)
 
(738
)
 
155

 
 
Loss before provision for income taxes
(2,145
)
 
(106
)
 
(2,039
)
 
 
 
(4,369
)
 
(1,246
)
 
(3,123
)
 
 
Provision for income taxes
26

 
6

 
20

 
 
 
32

 
12

 
20

 
 
Net loss
$
(2,171
)
 
$
(112
)
 
$
(2,059
)
 
 
 
$
(4,401
)
 
$
(1,258
)
 
$
(3,143
)
 
 

Revenue

Our revenue increased by $1.3 million, or 8%, to $17.7 million during the three months ended September 30, 2013 from $16.5 million during the three months ended September 30, 2012 due to increases in product revenue and licensing and royalty revenue offset by a decrease in CDP and services revenue.

Our revenue increased by $2.4 million, or 5%, to $51.8 million during the nine months ended September 30, 2013 from $49.4 million during the nine months ended September 30, 2012 due to increases in product revenue and licensing and royalty revenue offset by a decrease in CDP and services revenue.

CDP and services revenue decreased by $1.3 million, or 11%, to $11.2 million during the three months ended September 30, 2013 from $12.5 million during the three months ended September 30, 2012. This decrease was primarily

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attributable to a $5.2 million decrease in revenue due to the realignment of the CDP with GLOBALFOUNDRIES and the scheduled completion of certain other CDPs, offset with $3.1 million in revenue derived from new customer engagements, including a government service contract, and by a $0.7 million increase in revenue from the expansion of existing customer engagements. Of the growth from new customer engagements, $2.9 million in revenue was derived from three CDPs.

CDP and services revenue decreased by $1.0 million, or 3%, to $34.9 million during the nine months ended September 30, 2013 from $35.8 million during the nine months ended September 30, 2012. This decrease was primarily attributable to a $9.4 million decrease in revenue due to the realignment of the CDP with GLOBALFOUNDRIES and the scheduled completion of certain other CDPs, offset with $5.3 million in revenue derived from new customer engagements, including a government service contract, and by a $3.1 million increase in revenue from the expansion of existing customer engagements. Of the growth from new customer engagements, $5.0 million in revenue was derived from three CDPs.

Product revenue increased by $2.0 million, or 262%, to $2.7 million during the three months ended September 30, 2013 from $0.8 million during the three months ended September 30, 2012. This increase was attributable to the sale of elements of a product workflow and embedded software.

Product revenue increased by $2.4 million, or 67%, to $5.9 million during the nine months ended September 30, 2013 from $3.5 million during the nine months ended September 30, 2012. This increase was attributable to the sale of elements of product workflows and embedded software.
    
Licensing and royalty revenue increased by $0.6 million, or 18%, to $3.8 million during the three months ended September 30, 2013 from $3.2 million during the three months ended September 30, 2012. This increase was primarily attributable to an increase in minimum license fees for the sales of products subject to licensing fees and royalties as guaranteed by customer contracts offset by a scheduled reduction in minimum license fee revenues.

Licensing and royalty revenue increased by $1.0 million, or 10%, to $11.1 million during the nine months ended September 30, 2013 from $10.1 million during the nine months ended September 30, 2012. This increase was primarily attributable to an increase in minimum license fees for the sales of products subject to licensing fees and royalties as guaranteed by customer contracts offset by a scheduled reduction in minimum license fee revenues.

The following table presents revenue by geographic region (based on invoiced locations) during the three and nine months ended September 30, 2013 and 2012 in dollars (in thousands) and as a percentage of revenue for the periods presented:
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2013
 
2012
 
2013
 
2012
 
Revenues
 
% of Revenues
 
Revenues
 
% of Revenues
 
Revenues
 
% of Revenues
 
Revenues
 
% of Revenues
 
(in thousands)
 
 
 
(in thousands)
 
 
 
(in thousands)
 
 
 
(in thousands)
 
 
United States
$
10,172

 
57
%
 
$
12,889

 
79
%
 
$
35,016

 
67
%
 
$
37,288

 
75
%
Japan
3,694

 
21
%
 
3,321

 
20
%
 
11,501

 
22
%
 
10,203

 
21
%
APAC other
1,071

 
6
%
 
243

 
1
%
 
2,352

 
5
%
 
1,795

 
4
%
Europe and Middle East
2,811

 
16
%
 
36

 
%
 
2,920

 
6
%
 
98

 
%
Total
$
17,748

 
100
%
 
$
16,489

 
100
%
 
$
51,789

 
100
%
 
$
49,384

 
100
%

Cost of Revenue

Cost of revenue increased by $1.9 million, or 26%, to $9.1 million during the three months ended September 30, 2013 from $7.2 million during the three months ended September 30, 2012. This change is primarily attributable to a $0.9 million increase in direct product cost consistent with the increase in product revenue from the three months ended September 30, 2012, as well as an increase in CDP and services cost of revenue from new and ongoing customer engagements, which resulted in a $1.0 million increase in direct labor, materials and other costs associated with these programs.

Cost of revenue increased by $2.2 million, or 10%, to $24.0 million during the nine months ended September 30, 2013 from $21.9 million during the nine months ended September 30, 2012. This change is primarily attributable to a $1.0 million increase in direct product cost consistent with the increase in product revenue from the nine months ended September 30, 2012,

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as well as an increase in CDP and services cost of revenue from new and ongoing customer engagements, which resulted in a $1.3 million increase in direct labor, materials and other costs associated with these programs.

Gross Margin

Our gross profit as a percentage of net revenues, or gross margin, has been and will continue to be affected by a variety of factors, including the mix of CDP and services revenue, product revenue, and licensing and royalty revenue recognized during the period. We achieve a higher gross margin on licensing and royalty revenue as compared to CDP and services and product revenue.

Gross margin for the three months ended September 30, 2013 was 48.9% compared to 56.3% for the three months ended September 30, 2012. This decrease is primarily attributable to the realignment of our CDP with GLOBALFOUNDRIES and the timing of cost reductions relative to the decrease in corresponding revenue. To the extent that we are successful in growing our revenue and increasing licensing and royalty revenue as a percentage of revenue we expect our gross margins to increase as a percentage of total revenue.

Gross margin for the nine months ended September 30, 2013 was 53.6% compared to 55.7% for the nine months ended September 30, 2012. This decrease is primarily attributable to the realignment of our CDP with GLOBALFOUNDRIES and the timing of cost reductions relative to the decrease in corresponding revenue. To the extent that we are successful in growing our revenue and increasing licensing and royalty revenue as a percentage of revenue we expect our gross margins to increase as a percentage of total revenue.

Research and Development

Research and development expenses increased by $0.9 million, or 18%, to $6.1 million during the three months ended September 30, 2013 from $5.2 million during the three months ended September 30, 2012. This increase is primarily attributable to $1.0 million in higher personnel costs related to nonrecurring adjustment in employee compensation, and to a lesser extent increased headcount and higher stock-based compensation expense. Research and development expense included stock-based compensation of $0.3 million and $0.2 million during the three months ended September 30, 2013 and 2012, respectively.

Research and development expenses increased by $1.7 million, or 11%, to $17.7 million during the nine months ended September 30, 2013 from $16.0 million during the nine months ended September 30, 2012. The change is primarily attributable to $1.8 million in higher personnel costs related to nonrecurring adjustment in employee compensation, and to a lesser extent increased headcount and higher stock-based compensation expense and $0.4 million in engineering parts and other expenses associated with new application development. These costs are partially offset by a $0.5 million decrease in depreciation expense due to an asset impairment expense related to the retirement of assets previously supporting new application development during the nine months ended September 30, 2012. Research and development expense included stock-based compensation of $1.0 million and $0.6 million during the nine months ended September 30, 2013 and 2012, respectively.

Sales and Marketing

Sales and marketing expenses increased by $0.2 million, or 17%, to $1.5 million during the three months ended September 30, 2013 from $1.3 million during the three months ended September 30, 2012. The change is primarily due to higher personnel costs related to increased wages, stock-based compensation and other related benefits. Sales and marketing expense included stock-based compensation of $0.3 million and $0.2 million during the three months ended September 30, 2013 and 2012, respectively.

Sales and marketing expenses increased by $0.9 million, or 24%, to $4.8 million during the nine months ended September 30, 2013 from $3.8 million during the nine months ended September 30, 2012. The change is primarily due to higher personnel costs related to increased wages, stock-based compensation and other related benefits. Sales and marketing expense included stock-based compensation of $0.9 million and $0.6 million during the nine months ended September 30, 2013 and 2012, respectively.

General and Administrative

General and administrative expenses increased by $0.4 million, or 14%, to $3.0 million during the three months ended September 30, 2013 from $2.7 million during the three months ended September 30, 2012. This increase is primarily attributable to $0.3 million in higher personnel costs related to increased wages, stock-based compensation and other related

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benefits. General and administrative expense included stock-based compensation of $0.4 million and $0.3 million during the three months ended September 30, 2013 and 2012, respectively.

General and administrative expenses increased by $0.9 million, or 10%, to $9.0 million during the nine months ended September 30, 2013 from $8.2 million during the nine months ended September 30, 2012. This increase is primarily attributable to $1.0 million in higher personnel costs related to increased headcount, wages, stock-based compensation and other related benefits. These costs are partially offset by a $0.1 million decrease in professional fees and other administrative expenses. General and administrative expense included stock-based compensation of $1.1 million and $0.7 million during the nine months ended September 30, 2013 and 2012, respectively.

(Loss) Income from Operations

Our operating loss increased by $2.1 million, from an operating income of $0.1 million during the three months ended September 30, 2012 to an operating loss of $2.0 million during the three months ended September 30, 2013. Our operating expenses increased by $1.5 million to $10.7 million during the three months ended September 30, 2013 from $9.1 million during the three months ended September 30, 2012. We expect our operating expenses to continue to increase as we expand and invest in our business, making investments in both personnel and capital resources leading to increased depreciation expense. We are focused on our long-term plan to successfully grow our revenue, increasing licensing and royalty revenue as a percentage of our total revenue, and have expenses increase at a slower rate over time than our revenue, thereby increasing income from operations in the future.

Our operating loss increased by $3.3 million, to an operating loss of $3.8 million during the nine months ended September 30, 2013 from an operating loss of $0.5 million during the nine months ended September 30, 2012. Our operating expenses increased by $3.5 million to $31.5 million during the nine months ended September 30, 2013 from $28.0 million during the nine months ended September 30, 2012. We expect our operating expenses to continue to increase as we expand and invest in our business, making investments in both personnel and capital resources leading to increased depreciation expense. We are focused on our long-term plan to successfully grow our revenue, increasing licensing and royalty revenue as a percentage of our total revenue, and have expenses increase at a slower rate over time than our revenue, thereby increasing income from operations in the future.

Interest Expense, net

On May 31, 2013, we entered into a loan and security agreement with Silicon Valley Bank (“SVB”) and repaid the remaining principal and accrued interest under the secured promissory note that we issued to Symyx in November 2011.

Interest expense, net decreased by $0.1 million to $0.2 million during the three months ended September 30, 2013 from $0.3 million during the three months ended September 30, 2012 and is primarily comprised of interest expense associated with our credit facility with SVB for the three months ended September 30, 2013 and primarily comprised of interest expense associated with our note payable to Symyx for the three months ended September 30, 2012.

Interest expense, net decreased by $0.1 million to $0.6 million during the nine months ended September 30, 2013 from $0.8 million during the nine months ended September 30, 2012 and is primarily comprised of interest expense associated with our note payable to Symyx and to a lesser extent interest on our credit facility with SVB.

Other (Expense) Income, net

Other (expense) income, net for the three and nine months ended September 30, 2013 and 2012 consists of municipal development grant proceeds and foreign exchange gains and losses that were not significant during these periods.

Provision for Income Taxes

Provision for income taxes during the three and nine months ended September 30, 2013 and 2012 consisted of income taxes on our foreign entities and were not significant during these periods.

Net Loss

Our net loss increased by $2.1 million, to a net loss of $2.2 million during the three months ended September 30, 2013 from a net loss of $0.1 million during the three months ended September 30, 2012. The difference between operating (loss)

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income and net loss during the three months ended September 30, 2013 and 2012 was primarily related to interest expense associated with our credit facility with SVB in 2013 and note payable to Symyx in 2012.

Our net loss increased by $3.1 million, to a net loss of $4.4 million during the nine months ended September 30, 2013 from a net loss of $1.3 million during the nine months ended September 30, 2012. The difference between operating loss and net loss during the nine months ended September 30, 2013 and 2012 was primarily related to interest expense associated with our note payable to Symyx and to a lesser extent interest on our credit facility with SVB.

Liquidity and Capital Resources
Since inception, we have substantially financed our operations through private and public sale of equity securities and, to a lesser extent, cash flow from operations. As of September 30, 2013 , we had $74.5 million of cash, cash equivalents and short-term investments, $47.5 million of net working capital, and debt outstanding of $25.0 million .
On May 31, 2013, we entered into a loan and security agreement (“Loan Agreement”) with SVB pursuant to which SVB made available to us loans under a revolving line to refinance existing indebtedness (including the repayment of the Symyx note) and for working capital and general business purposes, in a principal amount of up to $26.5 million. Under the Loan Agreement, SVB funded an initial credit extension in the principal amount of $25.0 million on May 31, 2013 and agreed to fund, subject to customary conditions, additional credit extensions under the revolving line on or prior to November 30, 2013. Prior to November 30, 2013, we have the option to convert all or any part of the outstanding advances under the revolving line into a three year term loan. Our option to convert the revolving advances into a term loan can only be used once. The revolving line advances bear interest at a floating rate equal to the greater of 2.75% or the prime rate (customarily defined) minus 0.50%. The term loan would bear interest at a fixed rate equal to 3.25%.

In connection with our entry into the Loan Agreement, on May 31, 2013, we used $25.0 million of the net proceeds from the new revolving line and $1.5 million of cash to retire and repay all remaining principal and accrued interest upon the Symyx note, the balance of which was required to be repaid by November 2013. Upon repayment, the Symyx note was terminated and Symyx released all security interests and other liens held as security in connection with the note. Pursuant to the terms of the Symyx note, we were permitted to prepay the note at any time without penalty or premium. Accordingly, there were no early termination penalties or other penalties associated with the termination of the Symyx note.
We are obligated to pay interest on the revolving line credit extensions on a monthly basis and are obligated to pay all outstanding principal and unpaid interest on credit extensions under the revolving line on November 30, 2013. During the three and nine months ended September 30, 2013 , we paid SVB $176,000 and $178,000 , respectively, of interest for the amounts drawn under the Loan Agreement during such period. For any amount converted into a term loan prior to November 30, 2013, we are obligated to pay interest at the applicable rate and $0.5 million of principal on a quarterly basis. The term loan would mature three years from the first day of the month after conversion occurs, but no later than November 30, 2016, and we would be obligated to pay all outstanding principal and accrued and unpaid interest on that date. At our option, we may prepay the outstanding principal balance of the term loan in full or in part, subject to a pre-payment fee of 0.25% of the outstanding principal balance of the term loan if the term loan is outstanding for less than one year. In the event of a termination of the revolving line for any reason before November 30, 2013, including the repayment of the loan upon any prepayment, we are obligated to pay a final payment fee equal to 0.25% of the outstanding revolving advance being repaid.
To date, we have incurred significant losses. During the nine months ended September 30, 2013 and 2012, we incurred net losses of $4.4 million and $1.3 million , respectively. As of September 30, 2013 , our accumulated deficit was $105.7 million .
We believe that we have the financial resources needed to meet business requirements for the next 12 months. Our future capital requirements will depend on many factors, including our rate of revenue growth, expansion of our sales and marketing activities and overhead expenses, the timing and extent of our spending to support our R&D efforts and our ability to expand CDPs in the semiconductor and clean energy industries, whether we are successful in obtaining payments from customers, the financial stability of our customers, whether we can enter into additional collaborations in our target industries, the progress and scope of collaborative R&D projects performed by us and our customers, the effect of any acquisitions of other businesses or technologies that we may make in the future, the filing, prosecution and enforcement of patent claims, how much we need to develop or enhance our solutions or HPC platform and any necessary responses to competitive pressures. To the extent that existing cash and cash equivalents, short-term investments, and cash from operations are insufficient to fund our operations and repay our outstanding debt when it may become due, we may need to raise additional funds through public or private equity or debt financing. We may also seek to invest in or acquire complementary businesses, applications or technologies, any of which could also require us to seek additional equity or debt financing. Additional funds may not be available on terms favorable to us or at all. We maintain almost all of our cash in the United States and therefore are not subject to restrictions or tax obligations as we access the cash.

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Cash Flows
The following summary of our cash flows for the periods indicated has been derived from our condensed consolidated financial statements included elsewhere in this filing (in thousands):
 
Nine Months Ended September 30,
 
2013
 
2012
Net cash provided by operating activities
$
5,979

 
$
2,790

Net cash used in investing activities
$
(10,417
)
 
$
(6,237
)
Net cash provided by financing activities
$
421

 
$
1,160


Cash Flows from Operating Activities
We experienced positive cash flows from operating activities during the nine months ended September 30, 2013 and 2012 of $6.0 million and $2.8 million , respectively.
Net cash provided by operating activities during the nine months ended September 30, 2013 of $6.0 million reflects a net loss of $4.4 million and non-cash charges of $7.0 million for depreciation and amortization and $4.1 million for stock-based compensation. Depreciation and amortization increased by $1.1 million from the year ago period due to a larger fixed asset install base and stock-based compensation increased by $1.4 million from the year ago period due to grants of options and restricted stock. Net operating assets and liabilities cash flow decreased by $0.7 million primarily due to a $2.1 million increase in accounts receivable as a result of timing of collections and realignment of our CDP with GLOBALFOUNDRIES and an increase in inventory of $1.7 million primarily related to procurement of components of workflow elements to be used in future builds. Deferred revenue decreased by $0.4 million due to earn out of existing deferred revenue balances. Accounts payable and accrued and other liabilities contributed $3.3 million to operating cash flow due to timing of invoices. During the nine months ended September 30, 2012 we impaired $0.9 million of long-lived assets and we did not have similar impairments during the nine months ended September 30, 2013 .
Cash Flows from Investing Activities
Our investing activities consist primarily of purchases and maturities of short-term investments, capital expenditures to purchase property and equipment and our investments in intangible assets relating to our patents and trademarks. In the future, we expect we will continue to make significant capital expenditures to support our expanding operations and incur costs to protect our investment in our developed technology and IP.
During the nine months ended September 30, 2013 , cash used in investing activities was $10.4 million primarily as a result of $9.1 million in capital expenditures and $1.1 million in capitalized patent and trademark costs. We also purchased $1.0 million in certificates of deposit classified as short-term investments and had $0.8 million in certificates of deposit mature during that period.
Cash Flows from Financing Activities
To date, we have financed our operations primarily with proceeds from the sale of our redeemable convertible preferred stock and proceeds received from our initial public offering. During the nine months ended September 30, 2013 we entered into a Loan Agreement with SVB to refinance existing indebtedness under the secured promissory note that we issued to Symyx in November 2011.
During the nine months ended September 30, 2013 , cash provided by financing activities of $0.4 million was primarily related to positive cash flow related to the issuance of common stock as a result of option exercises in the amount of $1.9 million , which was offset by cash used in financing activities from refinancing our note payable to Symyx. We paid the principal of our note payable to Symyx in the amount of $26.5 million offset by the initial credit extension in the principal amount of $25.0 million from the SVB credit facility.
Contractual Obligations and Commitments
The following summarizes our contractual obligations as of September 30, 2013 (in thousands):

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Payments Due by Period
 
Total
 
Less Than
One Year
 
1 - 3 Years
 
3 - 5 Years
 
More Than
5 Years
 
(in thousands)
Operating lease obligations
$
2,851

 
$
416

 
$
2,435

 
$

 
$

Credit facility
25,000

 
25,000

 

 

 

Contractual interest payments on credit facility
172

 
172

 

 

 

Purchase obligations(1)
2,793

 
2,793

 

 

 

Total
$
30,816

 
$
28,381

 
$
2,435

 
$

 
$

(1) Purchase obligations consist of firm, non-cancelable agreements to purchase property and equipment and inventory related items.

Operating lease agreements represent our obligations to make payments under our non-cancelable lease agreement for our facility in San Jose, California. During the nine months ended September 30, 2013 , we made regular lease payments of $1.2 million under this operating lease agreement.
On October 16, 2013, the Company and SBC&D Co. (the “Lessor”) entered into an amendment to the original lease agreement for our facility at 3011 N. First Street, San Jose, California. The amendment provides for an extension of the term of the lease for a period of approximately one hundred thirty-nine (139) months from the effective date, which is contingent upon Lessor acquiring title to the facility. If Lessor successfully acquires title to the facility in December 2013, as expected, our additional obligations, beyond the original termination date of May 2015, under the amended lease are expected to be approximately $24.4 million.
On May 31, 2013, we entered into the Loan Agreement with SVB pursuant to which SVB made available to us loans under a revolving line to refinance existing indebtedness (including the repayment of the promissory note that we issued to Symyx in November 2011) and for working capital and general business purposes, in a principal amount of up to $26.5 million. Upon repayment, the Symyx note was terminated and Symyx released all security interests and other liens held as security in connection with the Symyx note. Under the Loan Agreement, SVB funded an initial credit extension in the principal amount of $25.0 million on May 31, 2013 and agreed to fund, subject to customary conditions, additional credit extensions under the revolving line on or prior to November 30, 2013. Prior to November 30, 2013, we have the option to convert all or any part of the outstanding advances under the revolving line into a term loan. Our option to convert the revolving advances into a term loan can only be used once. The revolving line advances bear interest at a floating rate equal to the greater of 2.75% or the prime rate (customarily defined) minus 0.50%. The term loan would bear interest at a fixed rate equal to 3.25%. As of September 30, 2013 , the revolving line bears interest at 2.75% and the amount outstanding was $25.0 million.
We are obligated to pay interest on the revolving line credit extensions on a monthly basis and are obligated to pay all outstanding principal and unpaid interest on credit extensions under the revolving line on November 30, 2013. For any amount converted into a term loan prior to November 30, 2013, we are obligated to pay interest at the applicable rate and $0.5 million of principal on a quarterly basis. The term loan would mature three years from the first day of the month after conversion occurs, but no later than November 30, 2016, and we would be obligated to pay all outstanding principal and accrued and unpaid interest on that date. At our option, we may prepay the outstanding principal balance of the term loan in full or in part, subject to a pre-payment fee of 0.25% of the outstanding principal balance of the term loan if the term loan is outstanding for less than one year. In the event of a termination of the revolving line for any reason before November 30, 2013, including the repayment of the loan upon any prepayment, we are obligated to pay a final payment fee equal to 0.25% of the outstanding revolving advance being repaid.
Off-Balance Sheet Arrangements
As of September 30, 2013 , we did not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which are established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes.
  ITEM 3.   QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to market risks in the ordinary course of our business. Market risk represents the risk of loss that may impact our financial position due to adverse changes in financial market prices and rates. Our market risk exposure is primarily a result of fluctuations in interest rates and foreign currency exchange rates. We do not hold or issue financial instruments for trading purposes.

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Interest Rate Sensitivity
Our exposure to market risk for changes in interest rates relates primarily to our investment portfolio and our outstanding debt obligations. Our cash, cash equivalents and short-term investment accounts as of September 30, 2013 totaled $74.5 million , consisting of $74.3 million in cash and money market funds with maturities of less than three months from the date of purchase and $0.3 million in certificates of deposit with maturities of less than twelve months from the date of purchase. Our primary exposure to market risk is interest income sensitivity, which is affected by changes in the general level of the interest rates in the United States. However, because of the short-term nature of the instruments in our portfolio, a sudden change in market interest rates would not be expected to have a material impact on our consolidated financial condition or our results of operation.
Our exposure to market risk also relates to the increase or decrease in the amount of interest expense we must pay on any outstanding debt instruments, primarily certain borrowings under our credit facility with SVB. The revolving line advances bear interest at a floating rate equal to the greater of 2.75% or the prime rate (customarily defined) minus 0.50%. As of September 30, 2013 , the revolving line bears interest at 2.75% and the amount outstanding was $25.0 million. A hypothetical 1.00% basis point increase in the interest rate for a one year period on the amount outstanding at September 30, 2013 would result in an annual interest expense increase of approximately $250,000. Upon conversion of all or any part of the outstanding advances under the revolving line into a term loan pursuant to the Loan Agreement, the interest rate on our debt obligations with SVB would bear interest at a fixed rate equal to 3.25%. If converted, the fixed rate structure would mean that we would not have any further exposure to changes in our interest expense as a result of changes in rates. However, in the event we enter into other long-term debt arrangements, we could be subject to fluctuations in interest rates which could have a material impact on our future financial condition and results of operation. In addition, the Loan Agreement also includes several potential events of default such as payment default, material adverse change conditions and insolvency conditions that could cause interest to be charged at the rate that is otherwise applicable plus 5.0%. As of September 30, 2013 , we were in compliance with the covenants in the Loan Agreement. If we are ever unable to meet the covenants in the Loan Agreement, we could also be required to renegotiate the terms of credit under the Loan Agreement, including the interest rate, and there can be no assurance that any renegotiated terms of credit would not materially impact our earnings.
 
Foreign Currency Exchange Risk
As we expand internationally, our consolidated results of operations and cash flows will become increasingly subject to fluctuations due to changes in foreign currency exchange rates. Our revenue is denominated in U.S. dollars. Our expenses are generally denominated in the currencies in which our operations are located, which is primarily in the United States, with an insignificant portion of expenses incurred in our wholly-owned subsidiaries in Hong Kong and Japan and our wholly-owned branch in Taiwan in their local currencies. The effect of a hypothetical 10% change in foreign currency exchange rates applicable to our business would not have a material impact on our consolidated financial statements. To date, we have not entered into any material foreign currency hedging contracts although we may do so in the future.
ITEM 4. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
Our management, with the participation of our Chief Executive Officer and our Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures as of September 30, 2013 . The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), means controls and other procedures of a company that are designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure. Based on the evaluation of our disclosure controls and procedures as of September 30, 2013 , our Chief Executive Officer and Chief Financial Officer concluded that, as of such date, our disclosure controls and procedures were effective at the reasonable assurance level.
Changes in Internal Control over Financial Reporting
There were no changes to our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the period covered by this report that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
Inherent Limitations on Effectiveness of Controls

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Our management, including our Chief Executive Officer and Chief Financial Officer, believes that our disclosure controls and procedures and internal control over financial reporting are designed to provide reasonable assurance of achieving their objectives and are effective at the reasonable assurance level. However, our management does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent all errors and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected. These inherent limitations include the realities that judgments in decision making can be faulty, and that breakdowns can occur because of a simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people or by management override of the controls. The design of any system of controls also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, controls may become inadequate because of changes in conditions, or the degree of compliance with policies or procedures may deteriorate. Because of the inherent limitations in a cost effective control system, misstatements due to error or fraud may occur and not be detected.

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PART II — OTHER INFORMATION  

ITEM 1. LEGAL PROCEEDINGS
On August 23, 2013, we received a copy of a complaint from the California Division of Labor Standards and Enforcement ("DLSE") filed by an employee in the company’s research and development group claiming that the employee is owed back pay due to an incorrect classification as an exempt employee for overtime purposes. We have commenced a review of the employee's claim as well as a review of our policies regarding classification of employees for overtime purposes. We have also agreed to enter mediation with the attorney who represents the employee that filed the claim with the DLSE as well as at least ten other employees who are similarly situated. While we are committed to reach a reasonable resolution through mediation, we believe we have meritorious defenses to the claims and intend to vigorously defend against any them in this regard. While we cannot predict the outcome of this matter, or of any legal or administrative proceedings related to this matter that have commenced or may be commenced in the future, we believe the matter will not have a material adverse effect on our business, operating results, financial condition or cash flows. Nevertheless, as of September 30, 2013, the Company accrued its best estimate of the expense associated with the matter.
From time to time, we may become involved in other legal proceedings and claims arising in the ordinary course of our business, including but not limited to legal proceedings and claims brought by employees or former employees relating to working conditions or other issues. We are not currently a party to any legal proceedings the outcome of which, if determined adversely to us, we believe would individually or in the aggregate have a material adverse effect on our business, operating results, financial condition or cash flows.
ITEM 1A.                 RISK FACTORS
We describe our business risk factors below. This description includes any material changes to and supersedes the description of the risk factors disclosed in Part I, Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2012 as filed with the Securities and Exchange Commission on March 4, 2013 ("2012 Form 10-K") and our Quarterly Report on Form 10-Q for the second quarter of 2013. You should carefully consider the risks described below together with the other information set forth in this Form 10-Q, which could materially affect our business, financial condition or future results. The risks described below are not the only risks facing our company. Risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition and operating results.
We have marked with an asterisk (*) those risks described below that reflect material substantive changes from the risks described under “Risk Factors” included in our Quarterly Report on Form 10-Q for the second quarter of 2013.
Risks Related to Our Business, Financial Condition and Results of Operations

We have a limited operating history, which makes it difficult for investors to evaluate our current business and future prospects.*

We do not have a long history of operating results on which you can base your evaluation of our business. We are still proving our business model, and we have not yet demonstrated our ability to generate significant revenue, particularly licensing and royalty revenue which represented 21% of total revenue in the nine months ended September 30, 2013 and 24%, 27% and 19% in fiscal years 2012, 2011 and 2010, respectively. As a result, it may be difficult for analysts and investors to evaluate our future prospects. If we do not generate significant licensing and royalty revenue, we may never achieve sustained profitability. Furthermore, because of our limited operating history and because the semiconductor and clean energy industries are rapidly evolving, we have limited experience in analyzing and understanding the trends that may emerge and affect our business. If we are unable to obtain significant licensing and royalty revenue from products that use or incorporate technology developed under our collaborative development programs ("CDPs"), our financial condition and results of operations would be materially and adversely affected.

Our operating results may fluctuate from quarter to quarter, which may make it difficult to predict our future performance.*

Our revenue, expenses and operating results have fluctuated, and may in the future continue to fluctuate significantly from quarter to quarter due to a number of factors, many of which are outside our control. Factors that may contribute to these fluctuations include the following, as well as other factors described elsewhere in this Form 10-Q:

our dependence on a limited number of customers;

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the length of our sales cycles for CDPs, which makes it difficult to predict the timing of new or expanded CDPs;

the length of our development cycles for CDPs, which makes it difficult to predict the timeframe in which technology developed under CDPs will be available for commercialization;

fluctuations in the volume and prices of products manufactured and sold by our customers that use or incorporate technology developed under our CDPs ("CDP Products") and that generate licensing and royalty revenue for us;

our revenue mix, which may vary from quarter to quarter as (i) we enter into new CDPs and related customer arrangements; (ii) existing CDPs, particularly for significant customers, are completed, extended, or undergo a change in scope; (iii) licensing arrangements take effect; (iv) we enter into product sale transactions and/or (v) we enter into IP sale transactions;

the highly cyclical nature of and price volatility in the semiconductor industry;

the financial stability of any of our customers;

the timing and extent to which we enter into new CDPs or complete, extend the duration, expand the scope or reduce the duration or scope of existing CDPs;

one-time offsets to revenue associated with the vesting of contingent warrants issued to two of our customers that are currently outstanding;

non-cash charges relating to stock-based compensation, amortization of intangible assets and impairment expenses related to inventory and long-lived assets;

any involvement in significant litigation, and in particular intellectual property litigation;

any payments resulting from our intellectual property indemnification policies and obligations;

any need for significant additional capital to finance our business;

any delay in shipments caused by shortages of components used or incorporated in products sold into the market, design errors, manufacturing problems, or difficulties or delays gaining required export licenses for such products;

warranty claims, product recalls and product liability for our HPC tools and for CDP Products; and

business interruptions such as earthquakes and other natural disasters.

You should not rely on quarter-to-quarter comparisons to predict our future performance. Unfavorable changes in any of these or other factors may adversely affect our business, financial condition and results of operations.

We have incurred operating losses since our inception and may not be able to achieve or maintain sustained profitability.*

We have generated net losses each year since our inception, including $4.4 million in the nine months ended September 30, 2013 , and $0.8 million, $30.0 million and $1.8 million for the fiscal years ended December 31, 2012, 2011 and 2010, respectively. Our accumulated deficit as of September 30, 2013 was $105.7 million . We will need to significantly increase revenue and operating margins (through greater licensing revenue and other mechanisms) to achieve sustained profitability, which we may not be able to accomplish.

Our ability to achieve and maintain profitability will depend, in large part, on our success in addressing the following four challenges, as well as the other risk factors in this Item 1A:

We may be unable to achieve broad customer acceptance of our HPC platform and approach as an alternative to conventional research and development activities.

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Historically, semiconductor companies have conducted R&D activities internally using conventional research methods, and they have vigorously protected the confidentiality of their R&D activities. In order for us to increase revenue, we must convince these companies that our technology and capabilities justify collaborating with us on their basic R&D programs. A significant cultural transition is required for a customer's internal R&D team to embrace us as a collaborative partner. This contributes to the long sales cycles we experience, and may require us to make significant investments in the expansion of our sales and marketing efforts. We must also convince potential customers in the clean energy industry that our HPC platform and approach are useful tools in an emerging industry. We cannot assure you we will achieve the levels of customer acceptance necessary for us to maintain and grow a profitable business. Failure to achieve the necessary customer acceptance to extend or add current or new customer relationships would adversely affect our revenue and profitability.

We may be unable to successfully collaborate with all of our customers to achieve the technological innovations sought by our customers.

Even if we achieve sufficient levels of customer acceptance of our HPC platform as an effective tool for R&D, we will not achieve significant revenue or profitability from a CDP if a project to which we have devoted technology and significant resources fails to produce any measurable success or value to our customers in the form of differentiated technology and intellectual property. CDPs are extremely complex and time-consuming to implement and costly to maintain. We rely to some degree on the efforts and resources of the customer. Differences of opinion over the implementation and management of the program may occur, which could lead to material delays and/or a failure to achieve the successful development of technology. In addition, there are a limited number of CDPs to which we can commit our resources at any given time. For a variety of reasons, including but not limited to insufficient R&D budgets of our customers or us, we may fail to achieve the technological innovations sought by our customers in a reasonable amount of time or at all. We do not know whether our customers will have sufficient resources to maintain or increase the level of investment in R&D required for a successful CDP. If a customer reduces the scope of its CDP with us, it will result in a greater concentration of risk of success being placed upon the remaining scope of our engagement, and we cannot guarantee that the remaining scope of the engagement will lead to a successful result. If a CDP does not generate sufficient revenue to recover the upfront costs and cash we invested in the CDP, this would adversely affect our results of operations.

Our customers may not be successful in commercializing products that use or incorporate technology and IP developed under our CDPs with them.

If we are successful in developing valuable technology for our customers, they still face significant challenges in commercializing products that use or incorporate such technology. The markets for products related to our engagements are intensely competitive and are characterized by rapid technological change. These changes result in frequent product introductions, short product life cycles and the necessity of continually increasing product capabilities. We cannot assure you that our customers will dedicate the resources necessary to successfully execute their business strategies for these products. Our customers are not contractually obligated to us to make or sell any CDP Products. They may not have the financial strength to cost-effectively manufacture the CDP Products at high volume and in quantities sufficient to meet demand, or the competitiveness to price, market and sell the CDP Products in intensely competitive markets. They may experience delays in shipments caused by shortages of components incorporated in the CDP Products, design errors or other manufacturing problems associated with the CDP Products. A decline in demand or average selling prices in the end markets for CDP Products could result in declining sales revenue for our customers and could adversely affect our business and results of operations. Any failure of a customer to achieve market success for CDP Products could also negatively affect such customer's willingness to work with us on other collaborations and could more generally harm our reputation and business prospects. Even if a customer is able to successfully commercialize a CDP Product, there may be a significant delay before we receive any licensing or royalty revenue due to the complexities inherent in production and manufacturing in our customers' target markets.

Existing and potential customers may be resistant to paying license and royalty fees; and we may face challenges in monitoring and enforcing royalty agreements with existing customers.

Our royalty-bearing licenses with our customers lay the framework for ongoing royalty revenue from CDP Products. Although our R&D activities under CDPs generate revenue for us, in order to achieve profitability we must be able to structure, negotiate and enforce agreements for the calculation and payment of higher-margin

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license and royalty revenue. Unless we adequately demonstrate the value of our platform to our customers and potential customers, we may face resistance to structuring royalty arrangements in the future that are acceptable to us, or our customers and our potential customers may not agree to enter into royalty-bearing licenses with us at all.

If we are able to negotiate appropriate agreements, we will need to rely on our customers to make those payments on a timely basis. Licensing and royalty revenue we may receive in the future may be based on sales of CDP Products. In order to accurately report our financial results on a timely basis, we will need to receive timely, complete and accurate information from our customers regarding their sales and resulting payments they owe us. If the information that we receive is not accurate, we may not receive the full amount of revenue to which we are entitled under these arrangements on a timely basis, which could result in adjustments to our financial results in a future period. Although we typically have audit rights with these parties, performing this type of audit could be harmful to our collaborative relationships, expensive and time-consuming and may not be sufficient to reveal any discrepancies in a timeframe consistent with our financial reporting requirements.

If a project to which we have devoted technology and significant resources fails to produce any measurable success or value to our customer in the form of differentiated technology and intellectual property that our customer can successfully commercialize, we may not earn licensing and royalty revenue sufficient to recover our upfront investment in the CDP, which could adversely affect our revenue and profitability.

In some cases, the revenue we receive from our customers during the development stage is not sufficient for us to fully recover our costs and cash invested in HPC platforms dedicated to customer engagements, and our business model relies on licensing and royalty revenue based on the sales by our customers in the end-markets of CDP Products. Our CDPs involve complex R&D, and our ability to develop the differentiated technology and intellectual property sought by our customers is inherently uncertain and difficult to predict. If a project fails to produce any measurable value to a customer, or if we are otherwise not successful in maintaining and managing a CDP, we may not receive sufficient amounts of licensing and royalty revenue to recover our upfront investment in the CDP.

We depend on a limited number of customers, and a loss of any of them, or a significant reduction in revenue from any of them, would adversely affect our business, financial condition and results of operations.*

Our customer base is highly concentrated. Revenue has historically come from a few customers, and we expect that revenue from a relatively small number of customers will continue to account for a high percentage of our revenue for the foreseeable future. Our three largest customers accounted for 44% of revenue in the nine months ended September 30, 2013 , and 67% and 64% of our revenue in the fiscal years ended December 31, 2012 and 2011, respectively. Our largest customer accounted for 18% , 28% and 29% of our revenue in each of these periods, respectively. Our concentration of customers is somewhat a reflection of the concentrated nature of manufacturers in the DRAM, flash memory and complex logic markets, and our revenue is and may continue to be heavily reliant on key high-volume customers. In addition, as with any of our customers, our profitability and success are dependent, in part, upon the receipt of licensing and royalty revenue on the sale of CDP Products by our customers, and we cannot control the timing of customer product introductions or their success or failure in the marketplace. The loss of any of these customers or a decrease or delay in the manufacturing or sales volumes of the CDP Products, or their failure to pay amounts due to us or renew or extend their existing relationships with us, and the related impact on our future anticipated licensing and royalty revenue, would materially and adversely affect our business, financial condition and results of operations, and we may not be able to replace the business from these customers.

As an example, in April 2013 our customer GLOBALFOUNDRIES, Inc. ("GLOBALFOUNDRIES") reduced the scope of its CDP with us to address its highest priority applications. Accordingly, we have experienced a reduction in the scope of R&D activities and associated CDP revenue, which has adversely affected our business, financial condition and results of operations in the most recent fiscal quarter, and may continue to do so into the future. In addition, our customer Elpida Memory, Inc. ("Elpida") filed for protection under the Corporate Reorganization Act in Japan in February 2012, and was subsequently acquired by Micron Technology, Inc. (“Micron”), a leading provider of memory chips, in July, 2013. Future filings for bankruptcy protection by existing customers or further consolidation among existing or potential customers may increase our dependence on a limited number of customers, which would subject us to additional risk for the reasons set forth above.

Our sales cycles are long, and we commit significant resources to a project before we have any commitment that a potential customer may agree to use our platform or service. One or more failures to enter into a CDP after we have devoted significant resources to a project could adversely affect our business, financial condition and results of

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operations.

Our sales efforts require us to educate our potential customers about the benefits of our solutions, which often requires significant time and expense, including a significant amount of our senior management's time and effort. Our sales cycles to date have typically ranged from 9 to 24 months and may be even longer in the future. Furthermore, we need to target those individuals within a customer's organization who have overall responsibility for the profitability of their products. These individuals tend to be senior management or executive officers. We may face difficulty identifying and establishing contact with these individuals. In addition, our customers' technology and product pipelines are highly confidential and they may choose to withhold certain information from us during the sales cycle to protect their own proprietary technology. Our ability to implement our HPC platform and methodology is heavily dependent upon the information provided to us by our customers. If our customers reveal the complexities of their specifications after we enter into a CDP with them, that complexity may cause delays unanticipated at the time we entered into the program. During our sales cycles, we incur significant expenses and, in many cases, may begin to build new systems, configure, modify, expand or customize existing systems, develop software and design workflows to meet our customers' requirements prior to obtaining contractual commitments, without any assurance of resulting revenue. Where a potential customer engagement requires a new dedicated HPC platform, we may invest in new capacity ahead of a customer commitment. Our cycles to build, configure, modify, expand or customize the HPC platform to date have ranged from three to nine months and may be even longer in the future. Investment of time and expense in a particular customer engagement that does not ultimately result in material revenue will adversely affect our revenue and other results of operations. Other factors impacting the length of our sales cycles include, but are not limited to, the following:

the limited number of customers that are appropriate sales targets for our platform and that are willing to enter into licensing agreements with us;

our ability to enter into CDPs with customers who are or will become market leaders in larger, growing market segments;

our customers' budgetary constraints and internal review procedures that must be completed to begin collaboration with us, including but not limited to those customers whose R&D expenditure and product purchasing decisions are impacted by potential delays in or cancellation of funding by governmental agencies; and

the significant cultural transition required for a customer's internal R&D team to embrace us as a collaborative partner.

Semiconductor industry technology is rapidly changing. If we are unable to anticipate trends in technology development and introduce new technologies reflecting the latest innovations, it could adversely affect our business, financial condition and results of operations.

Our customers expect us to be continuously innovative in their sectors and expect that the technology developed under our CDPs will help them develop new products that keep pace with or push the limits of technological innovation. We rely heavily on the judgment of our management and advisers to anticipate the technology trends in the semiconductor industry and we must continually devote significant engineering resources to keep up with the rapidly growing and evolving varieties of semiconductor architecture, materials, applications, processes and equipment used in semiconductor design and manufacturing. In particular, we must be prepared for the cost, technical complexity and timing of a proposed industry transition from 300mm to 450mm wafers.

These innovations are inherently complex and require long development cycles. If we are not able to accurately predict industry changes, or if we are unable to adapt our HPC platform to meet our customers' needs on a timely basis, our existing solutions will be rendered obsolete and our existing and potential customers may choose to develop their own solutions internally as an alternative to ours. If we lose customers, it could have a material adverse impact on our results of operations.

The semiconductor industry is highly cyclical, subject to significant downturns, price volatility, and other dynamics that make the industry very unpredictable. These factors can have a material adverse impact on our business both directly, and indirectly through the impact on our customers in the industry.

The semiconductor industry is highly cyclical and has been subject to significant economic downturns at various times, characterized by diminished product demand, accelerated erosion of average selling prices and production overcapacity.

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The semiconductor industry also periodically experiences increased demand and production capacity constraints. The timing and length of these cycles is extremely difficult to predict, which makes it challenging for us to forecast our operating results, make business decisions and identify risks that may affect our business, financial condition and results of operations. In addition, the semiconductor industry has historically experienced price volatility. Because the substantial majority of our revenue comes from customers in semiconductor industry, we may experience significant fluctuations in operating results due to the cyclicality and price volatility of the industry.

The industry has also been affected in recent years by uncertainty in the credit markets. For example, pressures in the DRAM sector caused financial difficulties for our customer, Elpida, before it was acquired by Micron. In addition, future uncertainty may cause sudden changes in our customers' manufacturing capacity requirements and spending, which depend in part on capacity utilization, demand for products using or incorporating our technology by consumers, inventory levels relative to demand, and access to affordable capital.

Industry consolidation (including but not limited to consolidation of semiconductor manufacturing towards foundries and large-scale manufacturers, and the subsequent concentration of research and innovation in manufacturing process development) has increased in recent years, and we may continue to see consolidation in the future. This will likely result in a smaller number of companies, but more large companies with greater financial resources - companies that may be less likely to become our customers than smaller companies with more limited R&D resources. Furthermore, if any of our existing customers is acquired, the acquiror may not continue to engage in a CDP with us or may choose to focus its product development and commercialization on technologies not covered by our CDP.

The clean energy industry in general is in a very early stage of development, and the solar industry may experience economic challenges. As a result, we may not earn significant revenue from our initiatives in this industry for an extended period.

The clean energy industry is comprised of several sectors including energy-efficient glass, solar cells, light emitting diodes ("LEDs"), flat-panel displays, advanced batteries and other energy-efficiency technologies. Most sectors of the clean energy industry are in the very early stages of development. Many of the associated technologies have not yet achieved commercial viability in comparison to available alternatives, and may never achieve widespread market adoption. Many of the associated technologies will require substantial investments of capital to achieve scale, which may not be available on attractive terms, if at all. Certain technologies may depend on government subsidies to be commercially viable, and those subsidies may not be available from federal and state governments facing increasing financial constraints. If sectors of the clean energy industry take an extended period to achieve market acceptance, and to garner significant revenue, we may not earn material revenue from our initiatives in this area until market acceptance, if ever. Furthermore, it may be difficult for us to predict which clean energy companies and which technologies may become market leaders, and we may invest time and resources in collaborations with companies who are ultimately unsuccessful in the clean energy industry, which could adversely affect our operating results.
    
The solar industry may again experience a challenging environment as it has in the recent past. The demand for solar products is also influenced by macroeconomic factors such as global economic conditions, including the ongoing debt crisis in Europe. A global economic downturn that affects the availability of financing can slow enterprise solar projects; it can also affect individual customers, who may be reluctant to assume high up-front costs and will have more difficulty getting access to capital to cover those costs. Any negative market and industry trends in the clean energy industry, including the solar industry could materially and adversely affect our existing and potential customers in the solar segment and ultimately have a negative impact on our clean energy business.

If a project to which we have devoted technology and significant resources fails to produce any measurable success or value to our customers in the form of differentiated technology and intellectual property that they may use in their products, we may not receive meaningful amounts of, or any, licensing and royalty revenue. In this case, we may not recover the upfront costs and cash invested in the CDP, which could adversely affect our results of operations. In addition, even if we successfully develop differentiated technology and intellectual property under a CDP that our customer is ab