ACM Research, Inc. 10-K

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following discussion and analysis should be read in conjunction with the audited consolidated financial statements and related notes included in this report. In addition to historical information, the following discussion contains forward-looking statements that involves risks, uncertainties and assumptions. See “Forward-Looking Statements and Statistical Data” at page 3 of this report. Please read “Item 1A. Risk Factors” for a discussion of factors that could cause our actual results to differ materially from our expectations Overview We supply advanced, innovative capital equipment developed for the global semiconductor industry. Fabricators of advanced integrated circuits, or chips, can use our wet-cleaning and other front-end processing tools in numerous steps to improve product yield, even at increasingly advanced process nodes. We have designed these tools for use in fabricating foundry, logic and memory chips, including dynamic random-access memory, or DRAM, 3D NAND-flash memory chips, and compound semiconductor chips. We also develop, manufacture and sell a range of advanced packaging tools to wafer assembly and packaging customers. We are focused on building a strategic portfolio of intellectual property to support and protect our key innovations. Our tools have been developed using our key proprietary technologies: ● Space Alternated Phase Shift, or SAPS, technology for flat and patterned wafer surfaces , which employs alternating phases of megasonic waves to deliver megasonic energy in a highly uniform manner on a microscopic level; ● Timely Energized Bubble Oscillation, or TEBO, technology for patterned wafer surfaces at advanced process nodes , which provides effective, damage-free cleaning for 2D and 3D patterned wafers with fine feature sizes; ● Tahoe technology for cost and environmental savings , which delivers high cleaning performance using significantly less sulfuric acid and hydrogen peroxide than is typically consumed by conventional high-temperature single-wafer cleaning tools; and ● Electro-Chemical Plating, or ECP, technology for advanced metal plating , which includes Ultra ECP ap, or Advanced Packaging, technology for back-end assembly processes, Ultra ECP 3d for through-silicon-via, or tsv, and Ultra ECP map, or Multi-Anode Partial Plating, technology for front-end wafer fabrication processes. We conduct a substantial majority of our product development, manufacturing, support and services in the PRC, with additional product development and subsystem production in South Korea. Substantially all of our tools are built to order at our manufacturing facilities in the Pudong region of Shanghai, which facilities now encompass a total of 236,000 square feet of floor space for production capacity, with 100,000 square feet having been added in 2021. In May 2020 ACM Shanghai, through its wholly owned subsidiary Shengwei Research (Shanghai), Inc., entered into an agreement for a land use right in the Lingang region of Shanghai. In July 2020 Shengwei Research (Shanghai), Inc. began a multi-year construction project for a new 1,000,000 square foot development and production center. that will incorporate state-of-the-art manufacturing systems and automation technologies, and will provide the floor space to support significantly increased production capacity and related research and development activities. See “Item 2. Properties” of Part I of this report. Our experience has shown that chip manufacturers in the PRC and throughout Asia demand equipment meeting their specific technical requirements and prefer building relationships with local suppliers. We will continue to seek to leverage our local presence to address the growing market for semiconductor manufacturing equipment in the region by working closely with regional chip manufacturers to understand their specific requirements, encourage them to adopt our SAPS, TEBO, Tahoe, ECP, furnace and other technologies, and enable us to design innovative products and solutions to address their needs. 55 Table of Contents STAR Market Listing and IPO On November 18, 2021, ACM’s operating subsidiary ACM Shanghai completed: • a listing, which we refer to as the STAR Listing, of shares of ACM Shanghai on the Shanghai Stock Exchange’s Sci-Tech innovAtion boaRd, known as the STAR Market; and • a concurrent initial public offering, which we refer to as the STAR IPO, of ACM Shanghai shares in the PRC, at a pre-offering valuation of not less than RMB 5.15 billion ($747.1 million). Following the completion of the STAR IPO, ACM Shanghai’s began trading on the STAR Market under the stock code 688082. In the STAR IPO, ACM Shanghai issued 43,355,753 shares, representing ten percent of the total 433,557,100 shares outstanding after the STAR IPO. The shares were issued at a public offering price of RMB 85.00 per share, and the proceeds of the STAR IPO totaled approximately $545.5 million, net of fees and expenses. Upon completion of the STAR IPO, ACM owned approximately 82.5% of the outstanding ACM Shanghai shares. The net proceeds of the STAR IPO are expected to be used to fund: • the land lease for, and construction of, ACM Shanghai’s proposed development and production center in the Lingang region of Shanghai; • product development to upgrade and expand our process equipment targeted at more advanced process nodes, including technical improvement and development of TEBO megasonic cleaning equipment, Tahoe single wafer wet bench combined cleaning equipment, front-end brush scrubbing equipment, auto bench and backside cleaning equipment, electroplating equipment, stress free polish equipment, vertical furnace equipment, and additional new products to expand our product portfolio; and • working capital. We believe the STAR Listing will help us scale our business in mainland PRC, as we continue to seek to broaden our markets in Europe, Japan, South Korea, Taiwan and the United States. Our global headquarters will continue to be located in Fremont, California, and we are committed to maintaining the listing of Class A common stock on the Nasdaq Global Market. COVID–19 Pandemic Following its initial outbreak in December 2019, COVID–19, or the coronavirus, spread across the PRC, the United States and globally. The COVID–19 pandemic has affected our business and operating results since the first quarter of 2020. Since that time, our personnel have been largely unable to travel between our offices in the United States and our facilities in the PRC has been and will likely continue to be restricted, which has and may continue to impact our ability to effectively operate our company and to oversee our operations. The COVID–19 situation continues to evolve, and it is impossible for us to predict the effect and ultimate impact of the COVID–19 pandemic on our business operations and results. We continue to monitor the impact of the COVID-19 pandemic on all aspects of our business, including our operations, customers, suppliers and projects. While the ongoing regulatory measures instituted or recommended in response to COVID–19 are expected to be temporary, the duration of the business disruptions, and related financial impact, of the pandemic cannot be estimated at this time. For an explanation of some of the risks we potentially face, please read carefully the information provided under “Item 1A. Risk Factors—Risks Related to the COVID–19 Pandemic,” of part I of this report. The following summary reflects our expectations and estimates based on information known to us as of the date of this filing: 56 Table of Contents • Operations : We conduct substantially all of our product development, manufacturing, support and services in the PRC, and those activities have been directly impacted by the COVID–19 pandemic and related restrictions on transportation and public appearances. Currently substantially all of our staff have returned to work at both of our Shanghai facilities. To date we have not experienced absenteeism of management or other key employees, other than certain of our executive officers being delayed in traveling back to the PRC when working from our California office. Our corporate headquarters are located in Alameda County in the San Francisco Bay Area and are the subject of a number of state and county public health directives and orders. These actions have not negatively impacted our business to date, however, because of the limited number of employees at our headquarters and the nature of the work they generally perform. • Customers: Our customers’ business operations have been, and are continuing to be, subject to business interruptions arising from the COVID–19 pandemic. Historically a majority of our revenue has been derived from customers located in the PRC and surrounding areas that have been impacted by COVID–19. Two customers that accounted for 48.9% of our revenue in 2021 are based in the PRC, and three customers that accounted for 75.8% of our revenue in 2020, and 73.8% of our revenue in 2019 are based in the PRC and South Korea. One of those customers, Yangtze Memory Technologies Co., Ltd. — which accounted for 20.2% of our 2021 revenue, 26.8% of our 2020 revenue, and 27.5% of our 2019 revenue — is based in Wuhan. While Yangtze Memory Technologies Co., Ltd. and other key customers continued to operate their fabrication facilities without interruption during and after the first quarter of 2020, have been forced to restrict access of service personnel and deliveries to and from their facilities. We have experienced longer and in some cases more costly shipping expenses in the delivery of tools to certain customers. • Suppliers : Our global supply chain includes components sourced from the PRC, Japan, Taiwan, the United States and Europe. While, to date, we have not experienced material issues with our supply chain, supply chain constraints have intensified due to COVID-19, contributing to global shortages in the supply of semiconductors and other materials used in the production of our own tools. As with our customers, we continue to be in close contact with our key suppliers to help ensure we are able to identify any potential supply issues that may arise. • Projects : Our strategy includes a number of plans to support the growth of our core business, including ACM Shanghai’s acquisition of a land use right in the Lingang area of Shanghai where we began construction of a new research and development center and factory in July 2020. The extent to which COVID–19 impacts these projects will depend on future developments that are highly uncertain, but to date, the timing of these ongoing projects has not been delayed or significantly disrupted by COVID–19 or related government measures. Key Components of Results of Operations Revenue We develop, manufacture and sell innovative capital equipment to the global semiconductor industry. Because we sell tools to a small number of customers and we customize those tools to fulfill the customers’ specific requirements, our revenue generation fluctuates, depending on the length of the sales, development and evaluation phases: ● Sales and Development. During the sale process we may, depending on a prospective customer’s specifications and requirements, need to perform additional research, development and testing to establish that a tool can meet the prospective customer’s requirements. We then host an in-house demonstration of the customized tool prototype. Sales cycles for orders that require limited customization and do not require that we develop new technology usually take from 6 to 12 months, while the product life cycle, including the initial design, demonstration and final assembly phases, for orders requiring development and testing of new technologies can take as long as 2 to 4 years. As we expand our customer base, we expect to gain more repeat purchase orders for tools that we have already developed and tested, which will reduce the need for a demonstration phase and shorten the development cycle. ● Evaluation Periods. When a chip manufacturer proposes to purchase a particular type of tool from us for the first time, we offer the manufacturer an opportunity to evaluate the tool for a period that can extend for 24 months or longer. In some cases, we do not receive any payment on first-time purchases until the tool is accepted. As a result, we may spend more than $2.0 million to produce a tool without receiving payment for more than 24 months or, if the tool is not accepted, without receiving any payment. Please see “Item 1A. Risk Factors—Risks Related to Our Business and Our Industry—We may incur significant expenses long before we can recognize revenue from new products, if at all, due to the costs and length of research, development, manufacturing and customer evaluation process cycles.” 57 Table of Contents ● Purchase Orders. In accordance with industry practice, sales of our tools are made pursuant to purchase orders. Each purchase order from a customer for one of our tools contains specific technical requirements intended to ensure, among other things, that the tool will be compatible with the customer’s manufacturing process line. Until a purchase order is received, we do not have a binding purchase commitment. Some of our customers to date have provided us with non-binding one- to two-year forecasts of their anticipated demands, and we expect future customers to furnish similar non-binding forecasts for planning purposes. Any of those forecasts would be subject to change, however, by the customer at any time, without notice to us. ● Fulfillment. We seek to obtain a purchase order for a tool from three to four months in advance of the expected delivery date. Depending upon the nature of a customer’s specifications, the lead time for production of a tool generally will extend from two to four months. The lead-time can be more than six months, however, and in some cases we may need to begin producing a tool based on a customer’s non-binding forecast, rather than waiting to receive a binding purchase order. We expect our sales prices generally to range from $0.5 million to more than $5 million for our production tools. The sales price of a particular tool will vary depending upon the required specifications. We have designed equipment models using a modular configuration that we customize to meet customers’ technical specifications. For example, our Ultra C models for SAPS, TEBO and Tahoe solutions use common modular configurations that enable us to create a wet-cleaning tool meeting a customer’s specific requirements, while using pre-existing designs for chamber, electrical, chemical delivery and other modules. Because of the relatively large purchase prices of our tools, customers generally pay in installments. For a customer’s repeat purchase of a particular type of tool, the specific payment terms are negotiated in connection with acceptance milestones of a purchase order. Based on our limited experience with repeat sales of our tools, we expect that we will receive an initial payment upon delivery of a tool in connection with a repeat purchase, with the balance being paid once the tool has been tested and accepted by the customer. Our sales arrangements for repeat purchases do not include a general right of return. Based on our market experience, we believe that implementation of our equipment by one of our selected leading companies will attract and encourage other manufacturers to evaluate our equipment, because the leading company’s implementation will serve as validation of our equipment and will enable the other manufacturers to shorten their evaluation processes. We placed our first SAPS-based tool in 2009 as a prototype. We worked closely with the customer for two years in debugging and modifying the tool, and the customer then spent two more years of qualification and running pilot production before beginning volume manufacturing. We expect that the period from new product introduction to high volume manufacturing will be three years or less in the future. Please see “Item 1A. Risk Factors—Business—We depend on a small number of customers for a substantial portion of our revenue, and the loss of, or a significant reduction in orders from, one or more of our major customers could have a material adverse effect on our revenue and operating results. There are also a limited number of potential customers for our products.” Substantially all of our sales in 2021, 2020 and 2019 were to customers located in Asia, and we anticipate that a substantial majority of our revenue will continue to come from customers located in this region for the near future. We have increased our sales efforts to penetrate the markets in North America and Western Europe. We utilize the guidance set forth in Accounting Standards Update, or ASU, No. 2014-09, Revenue from Contracts with Customers (Topic 606) , of the Financial Accounting Standards Board, or FASB, regarding the recognition, presentation and disclosure of revenue in our financial statements as described below under “—Critical Accounting Estimates—Revenue Recognition.” We offer extended maintenance service contracts to provide services such as trouble-shooting or fine-tuning tools, and installing spare parts, following expiration of applicable initial standard assurance type warranty coverage periods, which for sales to date have extended from 12 to 36 months as described under “—Critical Accounting Estimates—Warranty.” A limited number of the single-wafer wet cleaning tools we have sold to date are no longer covered by their initial warranties. In 2021, 2020 and 2019, we received payments for parts and labor for service activities provided from time to time, but as of December 31, 2021 we had not yet entered into extended maintenance service contracts with respect to the substantial majority of tools for which initial warranty coverage had expired. We expect to enter into extended maintenance service contracts with customers as additional initial warranties expire, but we do not expect revenue from extended maintenance service contracts to represent a material portion of our revenue in the future. 58 Table of Contents The loss or delay of one or more large sale transactions in a quarter could impact our results of operations for that quarter and any future quarters for which revenue from that transaction is lost or delayed, as described under “Item 1A. Risk Factors—Risks Related to Our Business and Our Industry—Our quarterly operating results can be difficult to predict and can fluctuate substantially, which could result in volatility in the price of Class A common stock.” It is difficult to predict accurately when, or even if, we can complete a sale of a tool to a potential customer or to increase sales to any existing customer. Our tool demand forecasts are based on multiple assumptions, including non-binding forecasts received from customers years in advance, each of which may introduce error into our estimates. Difficulties in forecasting demand for our tools make it difficult for us to project future operating results and may lead to periodic inventory shortages or excess spending on inventory or on tools that may not be purchased, as further described in “Item 1A. Risk Factors—Risks Related to Our Business and Our Industry—Difficulties in forecasting demand for our tools may lead to periodic inventory shortages or excess spending on inventory items that may not be used.” Cost of Revenue Cost of revenue for capital equipment consists primarily of: ● direct costs, which consist principally of costs of tool components and subassemblies purchased from third-party vendors; ● compensation of personnel associated with our manufacturing operations, including stock-based compensation; ● depreciation of manufacturing equipment; ● amortization of costs of software used for manufacturing purposes; ● other expenses attributable to our manufacturing department; and ● allocated overhead for rent and utilities. We are not party to any long-term purchasing agreements with suppliers. Please see “Item 1A. Risk Factors—Risks Related to Our Business and Our Industry—Our customers do not enter into long-term purchase commitments, and they may decrease, cancel or delay their projected purchases at any time.” As our customer base and tool installations continue to grow, we will need to hire additional manufacturing personnel. The rates at which we add customers and install tools will affect the level and time of this spending. In addition, because we often import components and spare parts from the United States, we have experienced, and expect to continue to experience, the effect of the dollar’s growth on our cost of revenue. Gross Margin Our gross margin was 44.2% in 2021, 44.4% in 2020, and 47.1% in 2019. Gross margin varies from period to period, primarily related to the level of utilization and the timing and mix of purchase orders. We expect gross margin to range between 40% and 45% for the foreseeable future, with direct manufacturing costs approximating 50% to 55% of revenue and overhead costs totaling approximately 5% of revenue. We seek to maintain our gross margin by continuing to develop proprietary technologies that avoid pricing pressure for our wet cleaning equipment. We actively manage our operations through principles of operational excellence designed to ensure continuing improvement in the efficiency and quality of our manufacturing operations by, for example, implementing factory constraint management and change control and inventory management systems. In addition, our purchasing department actively seeks to identify and negotiate supply contracts with improved pricing to reduce cost of revenue. 59 Table of Contents A significant portion of our raw materials are denominated in the RMB, while the majority of our purchase orders are denominated in U.S. dollars. As a result, currency exchange rates may have a significant effect on our gross margin. Operating Expenses We have experienced, and expect to continue to experience, growth in the absolute dollar amount of our operating expenses, as we invest to support the anticipated growth of our customer base and the continued development of proprietary technologies. Sales and Marketing Sales and marketing expense accounted for 10.3% of our revenue in 2021, 10.7% of our revenue in 2020, and 11.1% of our revenue in 2019. Sales and marketing expense consists primarily of: ● compensation of personnel associated with pre- and after-sales support and other sales and marketing activities, including stock-based compensation; ● sales commissions paid to independent sales representatives; ● fees paid to sales consultants; ● cost of trade shows; ● travel and entertainment; and ● allocated overhead for rent and utilities. Sales and marketing expense can be significant and may fluctuate, in part because of the resource-intensive nature of our sales efforts and the length and variability of our sales cycle. The length of our sales cycle, from initial contact with a customer to the execution of a purchase order, is generally 6 to 24 months. During the sales cycle, we expend significant time and money on sales and marketing activities, including educating customers about our tools, participating in extended tool evaluations and configuring our tools to customer-specific needs. Sales and marketing expense in a given period can be particularly affected by the increase in travel and entertainment expenses associated with the finalization of purchase orders or the installation of tools. We expect that, for the foreseeable future, sales and marketing expense will increase in absolute dollars, as we continue to invest in sales and marketing by hiring additional employees and expanding marketing programs in existing or new markets. We must invest in sales and marketing processes in order to develop and maintain close relationships with customers. We are making dollar-based investments in dollars in order to support growth of our customer base in the United States, and the relative strength of the dollar could have a significant effect on our sales and marketing expense. Research and Development Research and development expense accounted for 13.2% of our revenue in 2021, 12.2% of our revenue in 2020 and 12.0% of our revenue in 2019. Research and development expense relates to the development of new products and processes and encompasses our research, development and customer support activities. Research and development expense consists primarily of: ● compensation of personnel associated with our research and development activities, including stock-based compensation; ● costs of components and other research and development supplies; ● travel expense associated with customer support; 60 Table of Contents ● amortization of costs of software used for research and development purposes; and ● allocated overhead for rent and utilities. Some of our research and development has been funded by grants from the PRC government, as described in “—PRC Government Research and Development Funding” below. We expect that, for the foreseeable future, research and development expense will increase in absolute dollars and will increase to a higher percentage of revenue than incurred in 2021, as we continue to invest in research and development to advance our technologies. We intend to continue to invest in research and development to support and enhance our cleaning, plating, advanced packaging, furnace and future product offerings to build and maintain our technology leadership position. General and Administrative General and administrative expense accounted for 5.9% of our revenue in 2021, 7.8% of our revenue in 2020, and 7.5% of our revenue in 2019. General and administrative expense consists primarily of: ● compensation of executive, accounting and finance, human resources, information technology, and other administrative personnel, including stock-based compensation; ● professional fees, including accounting and legal fees; ● other corporate expenses; and ● allocated overhead for rent and utilities. We expect that, for the foreseeable future, general and administrative expense will increase in absolute dollars, as we incur additional costs associated with growing our business and operating as a public company. Stock-Based Compensation Expense We grant stock options to employees and non-employee consultants and directors, and we account for those stock-based awards in accordance with ASC Topic 718, Compensation—Stock Compensation . ● Stock-based awards granted to employees and non-employees are measured at the fair value of the awards on the grant date and are recognized as expenses either (a) immediately on grant, if no vesting conditions are required, or (b) using the graded vesting method, net of estimated forfeitures, over the requisite service period. The fair value of stock options is determined using the Black-Scholes valuation model. Stock-based compensation expense, when recognized, is charged to cost of revenue or to the category of operating expense corresponding to the service function of the employee or non-employee. ● We also grant discounts to employees when they subscribe for the new shares of ACM Shanghai, and we account for those stock-based awards in accordance with Accounting Standards Codification, or ASC, Topic 718, Compensation—Stock Compensation 61 Table of Contents Cost of revenue and operating expenses during the periods presented below have included stock-based compensation as follows: Year Ended December 31, 2021 2020 2019 Stock-Based Compensation Expense: Cost of revenue $ 397 $ 175 $ 250 Sales and marketing expense 1,802 1,199 328 Research and development expense 1,115 763 1,093 General and administrative expense 1,803 3,491 1,901 $ 5,117 $ 5,628 $ 3,572 We recognized stock-based compensation expense to employees of $5.0 million in 2021, $5.2 million in 2020 and $2.3 million in 2019. As of December 31, 2021 and 2020, we had $9.5 million and $8.7 million, respectively, of unrecognized employee stock-based compensation expense, net of estimated forfeitures, related to unvested ACM stock-based awards. These are expected to be recognized over a weighted-average period of 1.61 years and 1.89 years, respectively. As of December 31, 2021 and 2020, we had an additional $0.5 million and $0.8 million, respectively of unrecognized employee stock-based compensation expense, net of estimated forfeitures, related to unvested ACM Shanghai stock-based awards. We recognized stock-based compensation expense to non-employees of $0.1 million in 2021, $0.4 million in 2020, and $1.3 million in 2019. PRC Government Research and Development Funding ACM Shanghai has received seven special government grants. The first grant, which was awarded in 2008, relates to the development and commercialization of 65nm to 45nm stress-free polishing technology. The second grant was awarded in 2009 to fund interest expense on short-term borrowings. The third grant was made in 2014 and relates to the development of electro copper-plating technology. The fourth grant was made in June 2018 and related to development of polytetrafluoroethylene. The fifth grant was made in 2020, and relates to the development of Tahoe single bench cleaning technologies. As of December 31, 2021, the fourth and fifth grants had been fully utilized. The sixth grant was made in 2020, and relates to the development of other cleaning technologies. The seventh grant was made in 2021, and relates to the development of the R&D and production center in the Lin-gang Special Area of Shanghai. These governmental authorities provide significant funding, although ACM Shanghai and ACM Shengwei is also required to invest certain amounts in the projects. The governmental grants contain certain operating conditions, and we are required to go through a government due diligence process once the project is complete. The grants therefore are recorded as long-term liabilities upon receipt, although we are not required to return any funds ACM Shanghai receives. Grant amounts are recognized in our statements of operations and comprehensive income as follows: ● Government subsidies relating to current expenses are recorded as reductions of those expenses in the periods in which the current expenses are recorded. For the years ended December 31, 2021, 2020 and 2019, related government subsidies recognized as reductions of relevant expenses in the consolidated statements of operations and comprehensive income were $11.3 million, $2.7 million , and $3.2 million, respectively. ● Government subsidies related to depreciable assets are credited to income over the useful lives of the related assets for which the grant was received. For the years ended December 31, 2021, 2020 and 2019, related government subsidies recognized as other income in the consolidated statements of operations and comprehensive income were $200,000, $149,000, and $147,000, respectively. 62 Table of Contents Unearned government subsidies received are deferred for recognition and recorded as other long-term liabilities (see note 13 in the Notes to Consolidated Financial Statements included herein under “Item 8. Financial Statements and Supplementary Data.”) in the balance sheet until the criteria for such recognition are satisfied. Net Income Attributable to Non-Controlling Interests and Redeemable Non-Controlling Interests As described above under “STAR Market Listing and IPO”, in 2019, ACM Shanghai sold a total number of shares representing 8.3% of its outstanding ACM Shanghai shares, after which ACM Research held the remaining 91.7% of ACM Shanghai’s outstanding shares. In 2021 ACM Shanghai sold a total number shares representing an additional 10% of its outstanding ACM Shanghai shares in its STAR IPO, after which ACM Research held the remaining 82.5% of ACM Shanghai’s outstanding shares. During the second quarter of 2020, the redemption feature of the private placement funding terminated and the aggregate proceeds of the funding were reclassified from redeemable non-controlling interests to non-controlling interests. As a result, we reflect, as net income attributable to non-controlling interests and redeemable non-controlling interests, the portion of our net income allocable to the minority holders of ACM Shanghai shares. How We Evaluate Our Operations We present information below with respect to four measures of financial performance: ● We define “shipments” of tools to include (a) a “repeat” delivery to a customer of a type of tool that the customer has previously accepted, for which we recognize revenue upon delivery, and (b) a “first-time” delivery of a “first tool” to a customer on an approval basis, for which we may recognize revenue in the future if contractual conditions are met, or if a purchase order is received. ● We define “adjusted EBITDA” as our net income excluding interest expense (net), income tax benefit (expense), depreciation and amortization, and stock-based compensation. We define adjusted EBITDA to also exclude restructuring costs, although we have not incurred any such costs to date. ● We define “free cash flow” as net cash provided by operating activities less purchases of property and equipment (net of proceeds from disposals) and of intangible assets. ● We define “adjusted operating income (loss)” as our income (loss) from operations excluding stock-based compensation. These financial measures are not based on any standardized methodologies prescribed by accounting principles generally accepted in the United States, or GAAP, and are not necessarily comparable to similarly titled measures presented by other companies. We have presented shipments, adjusted EBITDA, free cash flow and adjusted operating income (loss) because they are key measures used by our management and board of directors to understand and evaluate our operating performance, to establish budgets and to develop operational goals for managing our business. We believe that these financial measures help identify underlying trends in our business that could otherwise be masked by the effect of the expenses that we exclude. In particular, we believe that the exclusion of the expenses eliminated in calculating adjusted EBITDA and adjusted operating income (loss) can provide useful measures for period-to-period comparisons of our core operating performance and that the exclusion of property and equipment purchases from operating cash flow can provide a usual means to gauge our capability to generate cash. Accordingly, we believe that these financial measures provide useful information to investors and others in understanding and evaluating our operating results, enhancing the overall understanding of our past performance and future prospects, and allowing for greater transparency with respect to key financial metrics used by our management in its financial and operational decision-making. Shipments, adjusted EBITDA, free cash flow and adjusted operating income (loss) are not prepared in accordance with GAAP, and should not be considered in isolation of, or as an alternative to, measures prepared in accordance with GAAP. 63 Table of Contents Shipments Shipments consist of two components: ● a shipment to a customer of a type of tool that the customer has previously accepted, for which we recognize revenue when the tool is delivered; and ● a shipment to a customer of a type of tool that the customer is receiving and evaluating for the first time, in each case a “first tool,” for which we may recognize revenue at a later date, subject to the customer’s acceptance of the tool upon the tool’s satisfaction of applicable contractual requirements or subject to the costumer’s subsequent discretionary commitment to purchase the tool. “First tool” shipments can be made to either an existing customer that has not previously accepted that specific type of tool in the past ─ for example, a delivery of a SAPS V tool to a customer that previously had received only SAPS II tools ─ or to a new customer that has never purchased any tool from us. Shipments totaled $372 million in 2021, $182 million for 2020, and $115 million for 2019. The dollar amount attributed to a “first tool” shipment is equal to the consideration we expect to receive if any and all contractual requirements are satisfied and the customer accepts the tool, or if the customer subsequently determines in its discretion to purchase the tool. There are a number of limitations related to the use of shipments in evaluating our business, including that customers have significant, or in some cases total, discretion in determining whether to accept or purchase our tools after evaluation and their decision not to accept or purchase delivered tools is likely to result in our inability to recognize revenue from the delivered tools. Adjusted EBITDA There are a number of limitations related to the use of adjusted EBITDA rather than net income (loss), which is the nearest GAAP equivalent. Some of these limitations are: ● adjusted EBITDA excludes depreciation and amortization and, although these are non-cash expenses, the assets being depreciated or amortized may have to be replaced in the future; ● we exclude stock-based compensation expense from adjusted EBITDA and adjusted operating income (loss), although (a) it has been, and will continue to be for the foreseeable future, a significant recurring expense for our business and an important part of our compensation strategy and (b) if we did not pay out a portion of our compensation in the form of stock-based compensation, the cash salary expense included in operating expenses would be higher, which would affect our cash position; ● the expenses and other items that we exclude in our calculation of adjusted EBITDA may differ from the expenses and other items, if any, that other companies may exclude from adjusted EBITDA when they report their operating results; ● adjusted EBITDA does not reflect changes in, or cash requirements for, working capital needs; ● adjusted EBITDA does not reflect interest expense, or the requirements necessary to service interest or principal payments on debt; ● adjusted EBITDA does not reflect income tax expense (benefit) or the cash requirements to pay taxes; ● adjusted EBITDA does not reflect historical cash expenditures or future requirements for capital expenditures or contractual commitments; 64 Table of Contents ● although depreciation and amortization charges are non-cash charges, the assets being depreciated and amortized will often have to be replaced in the future, and adjusted EBITDA does not reflect any cash requirements for such replacements; and ● adjusted EBITDA includes expense reductions and non-operating other income attributable to PRC governmental grants, which may mask the effect of underlying developments in net income, including trends in current expenses and interest expense, and free cash flow includes the PRC governmental grants, the amount and timing of which can be difficult to predict and are outside our control. The following table reconciles net income, the most directly comparable GAAP financial measure, to adjusted EBITDA: Year Ended December 31, 2021 2020 2019 (in thousands) Adjusted EBITDA Data: Net Income $ 42,921 $ 21,677 $ 19,458 Interest expense, net 260 85 412 Income tax expense (benefit) 134 (2,382 ) (518 ) Depreciation and amortization 2,353 1,055 788 Stock based compensation 5,117 5,628 3,572 Change in fair value of financial liability - 11,964 - Unrealized gain on trading securities (607 ) (12,574 ) - Adjusted EBITDA $ 50,178 $ 25,453 $ 23,712 Adjusted EBITDA was $50.2 million in 2021, as compared to $25.5 million in 2020 and $23.7 million in 2019. The increase of $24.7 million from 2020 to 2021 reflected increases of $21.2 million in net income, $12.0 million in unrealized gain on trading securities, $2.5 million change due to income tax expense as compared to income tax benefit, $1.3 million in depreciation and amortization, and $0.2 million in interest expense, net, offset by a decrease of $12.0 million in change in fair value of financial liability. The increase of $1.7 million from 2019 to 2020 reflected an increase of $2.2 million in net income, and an increase of $2.1 million of stock-based compensation, partially offset by a $1.9 million higher income tax benefit and the offsetting impact of change in fair value of financial liability and unrealized gain on trading securities. We do not exclude from adjusted EBITDA expense reductions and non-operating other income attributable to PRC governmental grants because we consider and incorporate the expected amounts and timing of those grants in incurring expenses and capital expenditures. If we did not receive the grants, our cash expenses therefore would be lower, and our cash position would not be affected, to the extent we have accurately anticipated the amounts of the grants. For additional information regarding our PRC grants, please see “—Key Components of Results of Operations—PRC Government Research and Development Funding.” 65 Table of Contents Free Cash Flow The following table reconciles net cash provided by (used in) operating activities, the most directly comparable GAAP financial measure, to free cash flow: Year Ended December 31, 2021 2020 2019 (in thousands) Free Cash Flow Data: Net cash used in (provided by) in operating activities $ (40,093 ) $ (13,547 ) $ 9,403 Purchase property and equipment (9,153 ) (5,211 ) (971 ) Purchase of intangible assets (559 ) (324 ) (154 ) Purchase of land-use-right - (9,744 ) - Prepayment for property - (40,206 ) - Purchase of trading securities - (15,020 ) - Free cash flow $ (49,805 ) $ (84,052 ) $ 8,278 Free cash flow used in operating activities in 2021 decreased by $34.2 million as compared to 2020, due no prepayment for property, no purchase of trading securities, and no purchase of land-use rights in 2021, versus a prepayment of $40.2 million, purchase of trading securities of $15.0 million and purchase of land-use right of $9.7 million in 2020, offset by an increase of $26.5 million in net cash used in operating activities and an increase of $4.2 million in purchase of property and equipment and intangible assets. Free cash flow in 2020 declined by $92.3 million as compared to 2019, due to a prepayment for property of $40.2 million, a net decline of $23.0 million of cash from operations, $15.0 million purchase of trading securities, $9.7 million purchase of land-use right, and a $4.2 million increase in purchase of property and equipment and intangible assets. Consistent with our methodology for calculating adjusted EBITDA, we do not adjust free cash flow for the effects of PRC government subsidies, because we take those subsidies into account in incurring expenses and capital expenditures. Adjusted Operating Income Adjusted operating income excludes stock-based compensation from income (loss) from operations. Although stock-based compensation is an important aspect of the compensation of our employees and executives, determining the fair value of certain of the stock-based instruments we utilize involves a high degree of judgment and estimation and the expense recorded may bear little resemblance to the actual value realized upon the vesting or future exercise of the related stock-based awards. Furthermore, unlike cash compensation, the value of stock options, which is an element of our ongoing stock-based compensation expense, is determined using a complex formula that incorporates factors, such as market volatility, that are beyond our control. Management believes it is useful to exclude stock-based compensation in order to better understand the long-term performance of our core business and to facilitate comparison of our results to those of peer companies. The use of non-GAAP financial measures excluding stock-based compensation has limitations, however. If we did not pay out a portion of our compensation in the form of stock-based compensation, the cash salary expense included in operating expenses would be higher and our cash holdings would be less. The following tables reflect the exclusion of stock-based compensation, or SBC, from line items comprising income (loss) from operations: ` Year Ended December 31, 2021 2020 2019 Actual (GAAP) SBC Adjusted (Non- GAAP) Actual (GAAP) SBC Adjusted (Non-GAAP) Actual (GAAP) SBC Adjusted (Non-GAAP) (in thousands) Revenue $ 259,751 $ - $ 259,751 $ 156,624 $ - $ 156,624 $ 107,524 $ - $ 107,524 Cost of revenue (144,895 ) (397 ) (144,498 ) (87,025 ) (175 ) (86,850 ) (56,870 ) (250 ) (56,620 ) Gross profit 114,856 (397 ) 115,253 69,599 (175 ) 69,774 50,654 (250 ) 50,904 Operating expenses: Sales and marketing (26,733 ) (1,802 ) (24,931 ) (16,773 ) (1,199 ) (15,574 ) (11,902 ) (328 ) (11,574 ) Research and development (34,207 ) (1,115 ) (33,092 ) (19,119 ) (763 ) (18,356 ) (12,900 ) (1,093 ) (11,807 ) General and administrative (15,214 ) (1,803 ) (13,411 ) (12,215 ) (3,491 ) (8,724 ) (8,061 ) (1,901 ) (6,160 ) Income (loss) from operations 38,702 (5,117 ) 43,819 21,492 (5,628 ) 27,120 17,791 (3,572 ) 21,363 Adjusted operating income in 2021, as compared to 2020 reflected and increase in operating income of $17.2 million and a decrease in stock-based compensation of $0.5 million. Adjusted operating income in 2020, as compared to 2019 reflected increases in operating income of $3.7 million and stock-based compensation of $2.0 million. 66 Table of Contents Critical Accounting Policies and Estimates In preparing our consolidated financial statements in conformity with GAAP, we make assumptions, judgments and estimates in applying our accounting policies that can have a significant impact on our revenue, operating income and net income, as well as on the value of certain assets and liabilities on our consolidated balance sheets. We base our assumptions, judgments and estimates on historical experience and various other factors that we believe to be reasonable under the circumstances. At least quarterly, we evaluate our assumptions, judgments and estimates and make changes as deemed necessary. Actual results could differ materially from these estimates under different assumptions or conditions. We believe that the assumptions, judgments and estimates involved in the accounting for the following accounting policies have the greatest potential impact on our consolidated financial statement, and we therefore consider these to be our critical accounting estimates. For information on our significant accounting policies, see Note 2 in the notes to consolidated financial statements. Revenue Recognition We derive revenue principally from the sale of semiconductor capital equipment. Revenue from contracts with customers is recognized using the following five steps pursuant to the ASC Topic 606 , Revenue from Contracts with Customers: 1. identify the contract(s) with a customer; 2. identify the performance obligations in the contract; 3. determine the transaction price; 4. allocate the transaction price to the performance obligations in the contract; and 5. recognize revenue when (or as) the entity satisfies a performance obligation. A contract contains a promise (or promises) to transfer goods or services to a customer. A performance obligation is a promise (or a group of promises) that is distinct. The transaction price is the amount of consideration a company expects to be entitled from a customer in exchange for providing the goods or services. The unit of account for revenue recognition is a performance obligation (a good or service). A contract may contain one or more performance obligations. Performance obligations are accounted for separately if they are distinct. A good or service is distinct if the customer can benefit from the good or service either on its own or together with other resources that are readily available to the customer, and the good or service is distinct in the context of the contract. Otherwise performance obligations are combined with other promised goods or services until we identify a bundle of goods or services that is distinct. Promises in contracts which do not result in the transfer of a good or service are not performance obligations, as well as those promises that are administrative in nature, or are immaterial in the context of the contract. We have addressed whether various goods and services promised to the customer represent distinct performance obligations. We applied the guidance of ASC Topic 606-10-25-16 through 18 in order to verify which promises should be assessed for classification as distinct performance obligations. Our contracts with customers include more than one performance obligation. For example, the delivery of a piece of equipment generally includes the promise to install the equipment in the customer’s facility. Our performance obligations in connection with a sale of equipment generally include production, delivery and installation, together with the provision of a warranty. 67 Table of Contents The transaction price is allocated to all the separate performance obligations in an arrangement. It reflects the amount of consideration to which we expect to be entitled in exchange for transferring goods or services, which may include an estimate of variable consideration to the extent that it is probable of not being subject to significant reversals in the future based on our experience with similar arrangements. The transaction price excludes amounts collected on behalf of third parties, such as sales taxes. This is done on a relative selling price basis using standalone selling prices, or SSP. The SSP represents the price at which we would sell that good or service on a standalone basis at the inception of the contract. Given the requirement for establishing SSP for all performance obligations, if the SSP is directly observable through standalone sales, then such sales should be considered in the establishment of the SSP for the performance obligation. All of our products were sold in stand-alone arrangements, we do not have observable SSPs for most performance obligations as they are not regularly sold on a standalone basis. Production, delivery and installation of a product, together with provision of a warranty, are a single unit of accounting. We recognize revenue when we satisfy each performance obligation by transferring control of the promised goods or services to the customer. Goods or services can transfer at a point in time (upon the acceptance of the products or upon the arrival at the destination as stipulated in the shipment terms) in a sale arrangement. In general, we recognize revenue when a tool has been demonstrated to meet the customer’s predetermined specifications and is accepted by the customer. If terms of the sale provide for a lapsing customer acceptance period, we recognize revenue as of the earlier of the expiration of the lapsing acceptance period and customer acceptance. In the following circumstances, however, we recognize revenue upon shipment or delivery, when legal title to the tool is passed to a customer as follows: ● when the customer has previously accepted the same tool with the same specifications and we can objectively demonstrate that the tool meets all of the required acceptance criteria; ● when the sales contract or purchase order contains no acceptance agreement or lapsing acceptance provision and we can objectively demonstrate that the tool meets all of the required acceptance criteria; ● when the customer withholds acceptance due to issues unrelated to product performance, in which case revenue is recognized when the system is performing as intended and meets predetermined specifications; or ● when our sales arrangements do not include a general right of return. We offer post-warranty period services, which consist principally of the installation and replacement of parts and small-scale modifications to the equipment. The related revenue and costs of revenue are recognized when parts have been delivered and installed, risk of loss has passed to the customer, and collection is probable. We do not expect revenue from extended maintenance service contracts to represent a material portion of its revenue in the future. We incur costs related to the acquisition of its contracts with customers in the form of sales commissions. Sales commissions are paid to third party representatives and distributors. Contractual agreements with these parties outline commission structures and rates to be paid. Generally speaking, the contracts are all individual procurement decisions by the customers and are not for significant periods of time, nor do they include renewal provisions. As such, all contracts have an economic life of significantly less than a year. Accordingly, we expense sales commissions when incurred. These costs are recorded within sales and marketing expenses. We do not incur any costs to fulfill the contracts with customers that are not already reported in compliance with another applicable standard (for example, inventory or plant, property and equipment). Stock-Based Compensation We account for grants of stock options based on their grant date fair value and recognize compensation expense over the vesting periods. We estimate the fair value of the stock options granted with service period-based condition at the date of grant using the Black-Scholes option pricing model. We estimate the fair value of the stock options granted with market-based condition at the date of grant using the Monte Carlo simulation model. For options granted with a service period based condition, stock-based compensation expense represents the cost of the grant date fair value of employee stock option grants recognized over the requisite service period of the awards (usually the vesting period) on a straight-line basis, net of estimated forfeitures. We estimate the fair value of these stock option grants using the Black-Scholes option pricing model, which requires the input of subjective assumptions, including (a) the risk-free interest rate, (b) the expected volatility of our stock, (c) the expected term of the award and (d) the expected dividend yield. 68 Table of Contents ● We use the market closing price for the Class A common stock as reported on the Nasdaq Global Market to determine the fair value of the Class A common stock. ● The risk-free interest rates for periods within the expected life of the option are based on the yields of zero-coupon U.S. Treasury securities. ● Due to a lack of company-specific historical and implied volatility data, we have based our estimate of expected volatility on the historical volatility of a group of similar companies that are publicly traded. For these analyses, we have selected companies with comparable characteristics to ours including enterprise value, risk profile, position within the industry, and with historical share price information sufficient to meet the expected life of the stock-based awards. We compute the historical volatility data using the daily closing prices for the selected companies’ shares during the equivalent period of the calculated expected term of our stock-based awards. We will continue to apply this process until a sufficient amount of historical information regarding the volatility of our own stock price becomes available. ● The expected term represents the period of time that options are expected to be outstanding. The expected term of stock options is based on the average between the vesting period and the contractual term for each grant according to Staff Accounting Bulletin No. 110. ● The expected dividend yield is assumed to be 0%, based on the fact that we have never paid cash dividends and have no present intention to pay cash dividends. Inventory Inventories consist of finished goods, raw materials, work-in-process and consumable materials. Finished goods are comprised of direct materials, direct labor, depreciation and manufacturing overhead. Inventory is stated at the lower of cost and net recognizable value of the inventory at December 31, 2021 and 2020. The cost of a general inventory item is determined using the weighted average method. The cost of an inventory item purchased specifically for a customized tool is determined using the specific identification method. Market value is determined as the lower of replacement cost and net realizable value, which is the estimated selling price, in the ordinary course of business, less estimated costs to complete or dispose. We assess the recoverability of all inventories quarterly to determine if any adjustments are required. We write down excess or obsolete tool-related inventory based on management’s analysis of inventory levels and forecasted 12-month demand and technological obsolescence and spare parts inventory based on forecasted usage. These factors are affected by market and economic conditions, technology changes, new product introductions and changes in strategic direction, and they require estimates that may include uncertain elements. Actual demand may differ from forecasted demand, and those differences may have a material effect on recorded inventory values. We had an inventory reserve of $1.2 million at December 31, 2021, and $1.1 million at December 31, 2020. Our manufacturing overhead standards for product costs are calculated assuming full absorption of forecasted spending over projected volumes, adjusted for excess capacity. Abnormal inventory costs such as costs of idle facilities, excess freight and handling costs, and spoilage are recognized as current period charges. Allowance for Doubtful Accounts Accounts receivable are reflected in our consolidated balance sheets at their estimated collectible amounts. A substantial majority of our accounts receivable are derived from sales to large multinational semiconductor manufacturers in Asia. We follow the allowance method of recognizing uncollectible accounts receivable, pursuant to which we regularly assess our ability to collect outstanding customer invoices and make estimates of the collectability of accounts receivable. We provide an allowance for doubtful accounts when we determine that the collection of an outstanding customer receivable is not probable. The allowance for doubtful accounts is reviewed on a quarterly basis to assess the adequacy of the allowance. We take into consideration (a) accounts receivable and historical bad debts experience, (b) any circumstances of which we are aware of a customer’s inability to meet its financial obligations, (c) changes in our customer payment history, and (d) our judgments as to prevailing economic conditions in the industry and the impact of those conditions on our customers. If circumstances change, such that the financial conditions of our customers are adversely affected and they are unable to meet their financial obligations to us, we may need to record additional allowances, which would result in a reduction of our net income. No allowance for doubtful accounts was considered necessary at December 31, 2021 or 2020. 69 Table of Contents Valuation of Long-Lived Assets Long-lived assets are evaluated for impairment whenever events or changes in circumstance indicate that the carrying value of an asset may not be fully recoverable or that the useful life is shorter than we had originally estimated. When these events or changes occur, we evaluate the impairment of the long-lived assets by comparing the carrying value of the assets to an estimate of future undiscounted cash flows expected to be generated from the use of the assets and their eventual disposition. If the sum of the expected future undiscounted cash flow is less than the carrying value of the assets, we recognize an impairment loss based on the excess of the carrying value over the fair value. No impairment charge was recognized in 2021 and 2020. Income Taxes Income taxes are accounted for using the liability method. Under this method, deferred income tax assets and liabilities are recognized for the future tax consequences attributable to temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred income tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which these temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance would be provided for the deferred tax assets if it is more likely than not that the related benefit will not be realized. On a quarterly basis, we provide income tax provisions based upon an estimated annual effective income tax rate. The effective tax rate is highly dependent upon the geographic composition of worldwide earnings, tax regulations governing each region, availability of tax credits and the effectiveness of our tax planning strategies. We carefully monitor the changes in many factors and adjust our effective income tax rate on a timely basis. If actual results differ from these estimates, this could have a material effect on our financial condition and results of operations. We maintained a partial valuation allowance as of December 31, 2021 with respect to certain net deferred tax assets based on our estimates of recoverability. We determined that the partial valuation allowance was appropriate given our historical operating losses and uncertainty with respect to our ability to generate profits from our business model sufficient to take advantage of the deferred tax assets in all applicable tax jurisdictions. The calculation of our tax liabilities involves dealing with uncertainties in the application of complex tax regulations. In accordance with the authoritative guidance on accounting for uncertainty in income taxes, we recognize liabilities for uncertain tax positions based on the two-step process. The first step is to evaluate the tax position for recognition by determining if the weight of available evidence indicates that it is more likely than not that the position will be sustained in audit, including resolution of related appeals or litigation processes, if any. The second step is to measure the tax benefit as the largest amount that is more than fifty-percent likely of being realized upon ultimate settlement. We reevaluate these uncertain tax positions on a quarterly basis. This evaluation is based on factors including changes in facts or circumstances, changes in tax law, effectively settled issues under audit and new audit activity. Any change in these factors could result in the recognition of a tax benefit or an additional charge to the tax provision. Interest and penalties related to uncertain tax positions are recorded in the provision for income tax expense on the consolidated statements of operations. 70 Table of Contents Warranty We have provided standard assurance type warranty coverage on our tools for 12 to 36 months, covering labor and parts necessary to repair a tool during the warranty period. We account for the estimated warranty cost as sales and marketing expense at the time revenue is recognized. Warranty obligations are affected by historical failure rates and associated replacement costs. Utilizing historical warranty cost records, we calculate a rate of warranty expenses to revenue to determine the estimated warranty charge. We update these estimated charges on a regular basis. The actual product performance and field expense profiles may differ, and in those cases we adjust our warranty accruals accordingly. As of December 31, 2021 and 2020, we had accrued $6.6 million and $4.0 million, respectively, in liability contingency for potential warranty claims. Financial Liability Carried at Fair Value As described in note 15 in the Notes to Consolidated Financial Statements, in preparation for the STAR IPO we entered into two agreements with Shengxin (Shanghai) Management Consulting Limited Partnership, or SMC, relating to outstanding obligations for which we had agreed to deliver certain consideration. We accounted for this consideration as a financial liability and applied fair value option methodology to measure the consideration in accordance with ASC 825-10-15-4a. On July 29, 2020 we entered into an amended agreement with SMC under which, in settlement of the financial liability, we issued to SMC a warrant to purchase shares of Class A common stock. The financial liability was remeasured to fair value as of July 29, 2020 and was retired upon issuance of the warrant. The warrant was initially measured at fair value at the issuance date and classified as equity permanently in accordance with ASC Topic 815, Derivatives and Hedging . Estimates related to this item required significant judgment, and a change in the estimates could have a material effect on our results of operations during the periods involved. Recent Accounting Pronouncements For a discussion of recent accounting pronouncements impacting our company, see note 2 in the Notes to Consolidated Financial Statements included herein under “Item 8. Financial Statements and Supplementary Data.” Results of Operations The following table sets forth our results of operations for the periods presented, as percentages of revenue. 71 Table of Contents Year Ended December 31, 2021 2020 2019 Revenue 100.0 % 100.0 % 100.0 % Cost of revenue 55.8 55.6 52.9 Gross margin 44.2 44.4 47.1 Operating expenses: Sales and marketing 10.3 10.7 11.1 Research and development 13.2 12.2 12.0 General and administrative 5.9 7.8 7.5 Total operating expenses, net 29.4 30.7 30.6 Income from operations 14.8 13.7 16.5 Interest income (expense), net (0.1 ) (0.1 ) (0.4 ) Change in fair value of financial liability - (7.6 ) - Unrealized gain on trading securities 0.2 8.0 - Other income (expense), net (0.2 ) (2.2 ) 1.3 Equity income in net income of affiliates 1.8 0.4 0.2 Income before income taxes 16.5 12.3 17.6 Income tax benefit (expense) (0.1 ) 1.5 0.5 Net income 16.4 13.8 18.1 Less: Net income attributable to non-controlling interests and redeemable non-controlling interests 2.0 1.8 0.4 Net income attributable to ACM Research, Inc. 14.4 % 12.0 % 17.7 % Comparison of Year Ended December 31, 2021, 2020 and 2019 Revenue Year Ended December 31, 2021 2020 2019 Single Wafer Cleaning, Tahoe and Semi-Critical Cleaning Equipment $ 189,208 $ 131,248 90,501 ECP (front-end and packaging), Furnace and Other Technologies 33,210 13,343 6,900 Advanced Packaging (excluding ECP), Services & Spares 37,333 12,033 10,124 Total Revenue By Product Category $ 259,751 $ 156,624 107,524 Wet cleaning and other front-end processing tools $ 202,268 $ 136,317 90,935 Advanced packaging, other processing tools, services and spares 57,483 20,307 16,590 Total Revenue Front-end and Back-End $ 259,751 $ 156,624 107,524 Year Ended December 31, 2021 2020 2019 Mainland China $ 258,615 $ 154,359 103,467 Other Regions 1,136 2,265 4,057 $ 259,751 $ 156,624 107,524 Revenue for 2021 compared to 2020 increased by $103.1 million. The increase was due to a $66.0 million increase in revenue from wet cleaning and other front-end processing tools, and a $37.2 million increase in revenue from advanced packaging, other processing tools, services and spares. Revenue for 2020 compared to 2019 increased by $49.1 million. The increase was due to a $45.4 million increase in revenue from wet cleaning and other front-end processing tools, and a $3.7 million increase in revenue from advanced packaging and other processing tools, services and spares. 72 Table of Contents Cost of Revenue and Gross Margin Year Ended December 31, 2021 2020 2019 % Change 2021 v 2020 % Change 2020 v 2019 (in thousands) Cost of revenue $ 144,895 $ 87,025 $ 56,870 66.5 % 53.0 % Gross profit 114,856 69,599 50,654 65.0 % 37.4 % Gross margin 44.2 % 44.4 % 47.1 % -0.2 -2.67 Cost of revenue increased $57.9 million, and gross profit increased $45.3 million, for 2021 compared to 2020, reflecting the growth in sales. Gross margin decreased by 22 basis points, primarily due to differences in product mix in 2021 versus 2020. Cost of revenue increased $30.1 million, and gross profit increased $18.9 million, for 2020 compared to 2019, reflecting the growth in sales at lower gross margin levels. Gross margin decreased by 267 basis points, primarily due to differences in product mix in 2020 versus 2019. Operating Expenses Year Ended December 31, 2021 2020 2019 % Change 2021 v 2020 % Change 2020 v 2019 (in thousands) Sales and marketing expense $ 26,733 $ 16,773 $ 11,902 59.4 % 40.9 % Research and development expense 34,207 19,119 12,900 78.9 % 48.2 % General and administrative expense 15,214 12,215 8,061 24.6 % 51.5 % Total operating expenses $ 76,154 $ 48,107 $ 32,863 58.3 % 46.4 % Sales and marketing expense increased by $10.0 million for 2021 as compared to 2020, primarily due to an increase in services costs including travel and warranty support, employee payroll and benefits, stock-based compensation, and sales commissions. Sales and marketing expense increased by $4.9 million for 2020 as compared to 2019, primarily due to an increase in employee count, salaries, stock-based compensation, and sales commissions. Research and development expense increased $15.1 million for 2021 as compared to 2020, primarily due to an increase in employee payroll and benefits, cost of components and other research and development supplies, travel, and other related expenses. Research and development expense represented 13.2% and 12.2% of our revenue in 2021 and 2020, respectively. Without reduction by grant amounts received from PRC governmental authorities (see “—Key Components of Results of Operations—PRC Government Research and Development Funding”), gross research and development expense totaled $45.5 million, or 17.5% of revenue, in 2021 and $21.2 million, or 13.6% of revenue, in 2020. Research and development expense increased $6.2 million for 2020 as compared to 2019, primarily due to an increase in employee count, salaries and research and development parts. Research and development expense represented 12.2% and 12.0% of our revenue in 2020 and 2019, respectively. Without reduction by grant amounts received from PRC governmental authorities (see “—Key Components of Results of Operations—PRC Government Research and Development Funding”), gross research and development expense totaled $21.2 million, or 13.6% of revenue, in 2020 and $16.1 million, or 14.9% of revenue, in 2019. General and administrative expense increased $3.0 million for 2021 as compared to 2020, primarily due to increased employee payroll and benefits, and an increase in legal, payroll tax and other fees. General and administrative expense increased $4.2 million for 2020 as compared to 2019, primarily due to an increase in stock-based compensation, increased employee count, and an increase in legal, payroll tax and other fees. 73 Table of Contents Change in fair value of financial liability and trading securities Year Ended December 31, 2021 2020 2019 % Change 2021 v 2020 % Change 2020 v 2019 (in thousands) Unrealized gain on trading securities 607 12,574 - -95.2 % NM Change in fair value of financial liability and trading securities - (11,964 ) - NM NM Unrealized gain on trading securities was $0.6 million for 2021 as compared to $12.6 million for 2021 and nil for 2019, due to an increase in the market value of securities purchased from the original cost basis in July of 2020 to the closing price on December 31, 2021 and 2020, respectively as described in note 16. Change in fair value of financial liability was nil for 2021 as compared to ($12.0) million for 2020 and nil for 2019. The change in 2020 was due to the non-cash, non-operating expense related to transactions as described in note 15. Other Income and Expenses Year Ended December 31, 2021 2020 2019 % Change 2021 v 2020 % Change 2020 v 2019 (in thousands) Interest Income $ 505 $ 897 $ 333 -43.7 % 169.4 % Interest Expense (765 ) (982 ) (745 ) -22.1 % 31.8 % Interest Income (expense), net $ (260 ) $ (85 ) $ (412 ) 205.9 % -79.4 % Other income (expense), net $ (631 ) $ (3,377 ) $ 1,393 -81.3 % -342.4 % Interest income (expense), net, consists of interest incurred from outstanding short-term and long-term borrowings, offset by interest earned on net cash balances. Interest income (expense), net, increased to ($260,000) in 2021 from ($85,000) in 2020, principally as a result of reduced interest income from lower interest rates on reduced cash balances, partly offset by reduced interest expenses incurred from short-term and long-term bank loans. Interest income (expense), net, decreased to ($85,000) in 2020 from ($412,000) in 2019, principally as a result of increased interest income earned from higher cash balances, partly offset by increased interest expenses incurred from higher short term bank loans. Other income (expense), net primarily reflects (a) gains or losses recognized from the effect of exchange rates on our foreign currency-denominated asset and liability balances and (b) depreciation of assets acquired with government subsidies, as described under “—Key Components of Results of Operations—PRC Government Research and Development Funding” above. Our other income (expense), net was ($0.6 million) in 2021 due primarily to losses due to the effect of exchange rate fluctuations, ($3.4 million) million in 2020 due primarily to losses due to the effect of exchange rate fluctuations, and other income (expense), net of $1.4 million in 2019 due primarily to gains due to the effect of exchange rate fluctuations. 74 Table of Contents Income Tax Benefit (Expense) The following presents components of income tax benefit (expense) for the indicated periods: Year Ended December 31, 2021 2020 2019 (in thousands) Current: U.S. federal $ (91 ) $ (61 ) - U.S. state (2 ) (2 ) - Foreign (2,195 ) (2,014 ) (3,176 ) Total current tax expense (2,288 ) (2,077 ) (3,176 ) Deferred: U.S. federal 2,089 7,325 3,728 U.S. state - - - Foreign 65 (2,866 ) (34 ) Total deferred tax benefit 2,154 4,459 3,694 Total income tax benefit (expense) $ (134 ) $ 2,382 $ 518 As we collect and prepare necessary data, and interpret the guidance issued by the U.S. Treasury Department, the Internal Revenue Service, and other standard-setting bodies, we may make adjustments to the provisional amounts. Those adjustments may materially affect our provision for income taxes and effective tax rate in the period in which the adjustments are made. There were no adjustments made in 2021. Our effective tax rate differs from statutory rates of 21% for U.S. federal income tax purposes and 12.5% to 25% for PRC income tax purposes due to the effects of the valuation allowance and certain permanent differences as it pertains to book-tax differences in the value of client equity securities received for services. Our three PRC subsidiaries, ACM Shanghai, ACM Wuxi, and ACM Shengwei, are liable for PRC corporate income taxes at the rates of 12.5%, 25%, and 25%, respectively. Pursuant to the Corporate Income Tax Law of the PRC, our PRC subsidiaries generally would be liable for PRC corporate income taxes as a rate of 25%. According to Guoshuihan 2009 No. 203, an entity certified as an “advanced and new technology enterprise” is entitled to a preferential income tax rate of 12.5%. ACM Shanghai was certified as an “advanced and new technology enterprise” in 2012, in 2016, and again in 2018, with an effective period of three years. We file income tax returns in the United States and state and foreign jurisdictions. Those federal, state and foreign income tax returns are under the statute of limitations subject to tax examinations for 1999 through 2020. To the extent we have tax attribute carryforwards, the tax years in which the attribute was generated may still be adjusted upon examination by the Internal Revenue Service or state or foreign tax authorities to the extent utilized in a future period. Net Income Attributable to Non-Controlling Interests and Redeemable Non-Controlling Interests Year Ended December 31, 2021 2020 2019 (in thousands) Net income attributable to non-controlling interests and redeemable non-controlling interests $ 5,607 $ 6,858 $ 483 As described above under “STAR Market Listing and IPO”, in 2019, ACM Shanghai sold a total number of shares representing 8.3% of its outstanding ACM Shanghai shares, after which ACM Research held the remaining 91.7% of ACM Shanghai’s outstanding shares. In 2021 ACM Shanghai sold a total number shares representing an additional 10% of its outstanding ACM Shanghai shares in its STAR IPO, after which ACM Research held the remaining 82.5% of ACM Shanghai’s outstanding shares. During the second quarter of 2020, the redemption feature of the private placement funding terminated and the aggregate proceeds of the funding were reclassified from redeemable non-controlling interests to non-controlling interests. As a result, we reflect, as net income attributable to non-controlling interests and redeemable non-controlling interests, the portion of our net income allocable to the minority holders of ACM Shanghai shares. 75 Table of Contents Liquidity and Capital Resources During 2021, we funded our technology development and operations principally through our beginning cash balance and short-term borrowings by ACM Shanghai from local financial institutions. We believe our existing cash and cash equivalents, including proceeds from the STAR IPO, our cash flow from operating activities, and short-term bank borrowings by ACM Shanghai will be sufficient to meet our anticipated cash needs for at least the next twelve months. We do not expect that our anticipated cash needs for the next twelve months will require our receipt of any PRC government subsidies. Our future working capital needs will depend on many factors, including the rate of our business and revenue growth, the payment schedules of our customers, and the timing of investment in our research and development as well as sales and marketing. To the extent our cash and cash equivalents, cash flow from operating activities and short-term bank borrowings are insufficient to fund our future activities in accordance with our strategic plan, we may determine to raise additional funds through public or private debt or equity financings or additional bank credit arrangements. We also may need to raise additional funds in the event we determine in the future to effect one or more acquisitions of businesses, technologies and products. If additional funding is necessary or desirable, we may not be able to obtain bank credit arrangements or to affect an equity or debt financing on terms acceptable to us or at all. As of December 31, 2021 and 2020, we did not have any significant off-balance sheet arrangements, as defined in Item 303(a)(4)(ii) of Regulation S-K of the Securities and Exchange Commission. In 2020 ACM Shanghai, through its wholly owned subsidiary Shengwei Research (Shanghai), Inc., entered into a Grant Contract for State-owned Construction Land Use Right in Shanghai City (Category of R&D Headquarters and Industrial Projects), or the Grant Agreement, with the China (Shanghai) Pilot Free Trade Zone Lin-gang Special Area Administration. Shengwei Research (Shanghai), Inc. obtained rights to use approximately 43,000 square meters (10.6 acres) of land in the Lingang Heavy Equipment Industrial Zone of Lin-gang Special Area of China (Shanghai) Pilot Free Trade Zone for a period of fifty years, commencing on the date of delivery of the land in July 2020, which we refer to as the Delivery Date. In exchange for its land use rights, Shengwei Research (Shanghai), Inc. paid aggregate grant fees of RMB 61.7 million ($9.5 million), and a performance deposit of RMB 12.3 million ($1.9 million), which is equal to 20% of the aggregate grant fees, to secure its achievement of the following performance milestones: • the start of construction within 6 months after the Delivery Date (60% of the performance deposit); • the completion of construction within 30 months after the Delivery Date (20% of the performance deposit); and • the start of production within 42 months after the Delivery Date (20% of the performance deposit). Upon satisfaction of a milestone, the portion of the performance deposit attributable to that milestone will be repayable to Shengwei Research (Shanghai), Inc. within ten business days. If the achievement of any of the above milestones is delayed or abandoned, Shengwei Research (Shanghai), Inc. may be subject to additional penalties and may lose its rights to both the use of the granted land and any partially completed facilities on that land. Covenants in the Grant Agreement require that, among other things, Shengwei Research (Shanghai), Inc. will be required to pay liquidated damages in the event that (a) it does not make a total investment (including the costs of construction, fixtures, equipment and grant fees) of at least RMB 450.0 million ($63.4 million) or (b) within six years after the Delivery Date, we do not (i) generate a minimum specified amount of annual sales of products manufactured on the granted land or (ii) pay to the PRC at least RMB 157.6 million ($22.2 million) in annual total taxes (including value-added taxes, corporate income tax, personal income taxes, urban maintenance and construction taxes, education surcharges, stamp taxes, and vehicle and shipping taxes) as a result of operations in connection with the granted land. 76 Table of Contents Sources of Funds Equity and Equity-related Securities. During the year ended December 31, 2021, we received proceeds of $545.5 million from the issuance of STAR IPO shares (as described above under “—STAR Market Listing and IPO”), proceeds of $3.4 million from sales of Class A common stock pursuant to option exercises, and proceeds of $1.8 million pursuant to a warrant exercise for shares of Class A common stock. Short-Term and Long-Term Loan Proceeds and Facilities. During the year ended December 31, 2021, we decreased our total borrowings by $10.7 million by reducing net short term borrowing to $9.6 million as compared to $26.1 million in 2020, and by increasing our long-term borrowing to $25.4 (including current portion of long-term borrowing) million as compared to $19.6 in 2020. We have short-term and long-term borrowings with five banks as follows: Lender Agreement Date Maturity Date Annual Interest Rate Maximum Borrowing Amount(1) Amount Outstanding at December 31, 2021 (in thousands) Bank of Shanghai Pudong Branch June 2021 June 2022 2.70 % RMB100,000 RMB29,439 $ 15,680 $ 4,616 China Everbright Bank July 2021 October 2022 1.95 % RMB150,000 RMB21,731 $ 23,520 $ 3,407 Bank of Communications October 2021 October 2022 3.85 % RMB60,000 RMB10,000 $ 9,408 $ 1,568 China Merchants Bank November 2020 Repayable by installments and the last installments repayble in November 2030 4.65 % RMB128,500 RMB117,281 $ 20,149 $ 18,390 Bank of China June 2021 Repayable by installments and the last installments repayble in June 2024 2.60 % RMB10,000 RMB9,500 $ 1,568 $ 1,490 Bank of China September, 2021 Repayable by installments and the last installments repayble in September 2021 2.60 % RMB35,000 RMB35,000 $ 5,487 $ 5,487 $ 75,812 $ 34,958 (1) Converted from RMB to dollars as of December 31, 2021. All of the amounts owing under the line of credit of Bank of Shanghai, Pudong Branch is guaranteed by CleanChip Technologies LTD, a wholly owned subsidiary of ACM Shanghai. Government Research and Development Grants. As described under “—Key Components of Results of Operations—PRC Government Research and Development Funding,” ACM Shanghai and its subsidiaries has received research and development grants from local and central PRC governmental authorities. ACM Shanghai and its subsidiaries received cash payments of $5.2 million related to such grants in 2021, as compared to $6.2 million related to such grants in 2020. Not all grant amounts are received in the year in which a grant is awarded. Because of the nature and terms of the grants, the amounts and timing of payments under the grants are difficult to predict and vary from period to period. In addition, we expect to apply for additional grants when available in the future, but the grant application process can extend for a significant period of time and we cannot predict whether, or when, we will determine to apply for any such grants. 77 Table of Contents Working Capital. The following table sets forth selected working capital information: December 31, 2021 (in thousands) Cash and cash equivalents $ 563,067 Accounts receivable, less allowance for doubtful amounts 105,553 Inventory 218,116 Working capital $ 886,736 Our cash and cash equivalents at December 31, 2021 were unrestricted and held for working capital purposes. ACM Shanghai, our only direct PRC subsidiary, is, however, subject to PRC restrictions on distributions to equity holders. We currently intend for ACM Shanghai to retain all available funds any future earnings for use in the operation of its business and do not anticipate its paying any cash dividends. We have not entered into, and do not expect to enter into, investments for trading or speculative purposes. Our accounts receivable balance fluctuates from period to period, which affects our cash flow from operating activities. Fluctuations vary depending on cash collections, client mix, and the timing of shipment and acceptance of our tools. We have never declared or paid cash dividends on our capital stock. We intend to retain all available funds and any future earnings to support the operation of and to finance the growth and development of our business and do not anticipate paying any cash dividends in the foreseeable future. Uses of Funds Cash Flow used in Operating Activities. Our operations used cash flow of $40.1 million during the year ended December 31, 2021. Our cash flow from operating activities is influenced by (a) the level of net income, (b) the amount of cash we invest in personnel and technology development to support anticipated future growth in our business, (c) the number of first tools or ‘demo’ tools delivered to customers for evaluation, (d) increases in the number of customers using our products, and (e) the amount and timing of payments by customers. Capital Expenditures. We incurred $9.7 million in capital expenditures during the year ended 2021, versus $5.5 million in million capital expenditures in 2020.