What changed in this filing

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Item 2. Management’s Discussion and Analysis

2021-01-28 compared with 2020-10-29 · 123 added, 138 removed, 226 unchanged (54% of the section changed)

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Historical results and percentage relationships among any amounts in the financial statements are not necessarily indicative of trends in operating results for any future periods.

(Cree, we, our, or us) is an innovator of wide bandgap semiconductors, focused on silicon carbide and gallium nitride materials, devices for power and radio-frequency (RF) applications and specialty lighting-class light emitting diode (LED) products.

Our silicon carbide and gallium nitride (GaN) materials and devices are targeted for applications such as transportation, power supplies, inverters and wireless systems.

(Cree, we, our, or us) is an innovator of wide bandgap semiconductors, focused on silicon carbide and gallium nitride (GaN) materials, and devices for power and radio-frequency (RF) applications.

Our silicon carbide and gallium nitride materials and devices are targeted for applications such as transportation, power supplies, inverters and wireless systems.

In addition, we are an innovator of specialty lighting-class light emitting diode (LED) products.

Our LEDs are targeted for use in indoor and outdoor lighting, electronic signs and signals and video displays.

We operate in two reportable segments:

• Wolfspeed , which consists of silicon carbide and GaN materials, power devices and RF devices based on wide bandgap semiconductor materials and silicon.

As discussed more fully in "Business Outlook", on October 18, 2020, we entered into a definitive agreement to sell certain assets and subsidiaries comprising our former LED Products segment (the LED Business) to SMART Global Holdings, Inc.

(SGH) and its wholly owned newly-created acquisition subsidiary (collectively with SGH, SMART) for up to $300 million, including fixed upfront and deferred payments and contingent consideration (the LED Business Divestiture).

We will retain certain assets used in and pre-closing liabilities associated with the LED Products segment.

Following the LED Business Divestiture, we will operate solely through our Wolfspeed business.

The LED Business Divestiture represents a strategic shift that will have a major effect on our operations and financial results.

As a result, we have classified the results and cash flows of the LED Products segment as discontinued operations in our consolidated statements of operations and consolidated statements of cash flows for all periods presented.

Additionally, the related assets and liabilities associated with the discontinued operations are classified as held for sale in the consolidated balance sheets.

Unless otherwise noted, discussion within this Quarterly Report to the consolidated financial statements relates to our continuing operations.

Our continuing operations consist of the Wolfspeed business, which includes silicon carbide and GaN materials, power devices and RF devices based on wide bandgap semiconductor materials and silicon.

Our materials products and power devices are used in electric vehicles, motor drives, power supplies, solar and transportation applications.

Our materials products and RF devices are used in military communications, radar, satellite and telecommunication applications.

• LED Products , which consists of LED chips and LED components.

Our LED products enable our customers to develop and market LED-based products for lighting, video screens, automotive and specialty lighting applications.

The majority of our products are manufactured at our production facilities located in North Carolina, California, Arkansas and China.

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For further information about our consolidated revenue and earnings, please see our consolidated financial statements included in Item 1 of this Quarterly Report.

As discussed more fully in "Business Outlook", on October 18, 2020, we entered into a definitive agreement to sell certain assets and subsidiaries comprising our LED Products segment (the LED Business) to SMART Global Holdings, Inc.

(SGH) and its wholly owned subsidiary Chili Acquisition, Inc.

(collectively with SGH, SMART) for up to $300 million, including fixed upfront and deferred payments and contingent consideration (the LED Business Divestiture).

We will retain certain assets used in and pre-closing liabilities associated with the LED Products segment.

Following the LED Business Divestiture, we will operate solely in our Wolfspeed segment.

Industry Dynamics and Trends

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Competition in the industries we serve is intense.

Many companies have made significant investments in product development and production equipment.

Many companies have made significant investments in product development, production equipment and production facilities.

Product pricing pressures exist as market participants often undertake pricing strategies to gain or protect market share, increase the utilization of their production capacity and open new applications in the power, RF and LED markets we serve.

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To enforce or protect intellectual property rights, litigation or threatened litigation is common.

Overview of the three months ended September 27, 2020

Financial results for the three months ended September 27, 2020 include the impacts of a $105.7 million goodwill impairment charge associated with our determination as of September 27, 2020 that it was more likely than not that we would sell all or a portion of the assets comprising the LED Products segment below carrying value.

The following is a summary of our financial results for the three months ended September 27, 2020:

• Revenue decreased to $216.6 million for the three months ended September 27, 2020 from $242.8 million for the three months ended September 29, 2019.

• Gross profit decreased to $54.0 million for the three months ended September 27, 2020 from $74.2 million for the three months ended September 29, 2019.

Gross margin was 24.9% for the three months ended September 27, 2020 and 30.6% for the three months ended September 29, 2019.

• Operating loss was $170.0 million for the three months ended September 27, 2020 compared to $38.9 million for the three months ended September 29, 2019.

• Diluted loss per share was $1.68 for the three months ended September 27, 2020 compared to $0.35 for the three months ended September 29, 2019.

• Combined cash, cash equivalents and short-term investments was $1,138.5 million at September 27, 2020 and $1,251.7 million at June 28, 2020.

• Cash provided by operating activities was $0.4 million for the three months ended September 27, 2020 compared to cash used in operating activities of $20.0 million for the three months ended September 29, 2019.

• Purchases of property and equipment were $114.0 million for the three months ended September 27, 2020 compared to $42.0 million for the three months ended September 29, 2019.

Overview of the six months ended December 27, 2020

The following is a summary of our financial results for the six months ended December 27, 2020:

• Revenue decreased to $242.5 million for the six months ended December 27, 2020 from $248.4 million for the six months ended December 29, 2019.

• Gross profit decreased to $76.8 million for the six months ended December 27, 2020 from $88.1 million for the six months ended December 29, 2019.

Gross margin was 31.7% for the six months ended December 27, 2020 and 35.5% for the six months ended December 29, 2019.

• Operating loss was $119.8 million for the six months ended December 27, 2020 compared to $105.6 million for the six months ended December 29, 2019.

• Diluted loss per share from continuing operations was $1.18 for the six months ended December 27, 2020 compared to $0.90 for the six months ended December 29, 2019.

• Combined cash, cash equivalents and short-term investments was $968.7 million at December 27, 2020 and $1,239.7 million at June 28, 2020.

• Cash used in operating activities from continuing operations was $32.1 million for the six months ended December 27, 2020 compared to $39.6 million for the six months ended December 29, 2019.

• Purchases of property and equipment were $257.5 million for the six months ended December 27, 2020 compared to $100.3 million for the six months ended December 29, 2019.

Business Outlook

We believe we are uniquely positioned as an innovator in the global semiconductor industry.

The strength of our balance sheet and ability to generate cash provides us the ability to invest in our business, as indicated by our planned construction of a state-of-the-art, automated 200mm capable silicon carbide fabrication facility and a large materials factory to expand our silicon carbide capacity, each of which was announced in May 2019.

The strength of our balance sheet provides us the ability to invest in our business, as indicated by our planned construction of a state-of-the-art, automated 200mm silicon carbide fabrication facility and a large materials factory to expand our silicon carbide capacity, each of which was announced in May 2019.

In September 2019, we announced our intention to build the new fabrication facility in Marcy, New York to complement the factory expansion already underway at our U.S.

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This transaction positions us with a sharpened strategic focus to lead the semiconductor industry transition from silicon to silicon carbide and further strengthens our financial position, which we target to support continued investments to capitalize on multi-decade growth opportunities across electrical vehicles (EVs), 5G and industrial applications.

We are focused on investing in the Wolfspeed business to expand the scale, further develop the technologies, and accelerate the growth opportunities of silicon carbide materials, silicon carbide power devices and modules, and GaN and silicon RF devices.

We are focused on investing in our Wolfspeed business to expand the scale, further develop the technologies, and accelerate the growth opportunities of silicon carbide materials, silicon carbide power devices and modules, and GaN and silicon RF devices.

We believe these efforts will support our goals of delivering higher revenue and shareholder returns over time.

In addition, we are focused on improving the number of usable items in a production cycle (yield) as our manufacturing technologies become more complex.

Despite increased complexities in our manufacturing process, we believe we are in a position to improve yield levels to support our future growth.

Despite increased complexities in our manufacturing process, we believe we are in a position to improve yield levels to support our future growth, particularly as we transition to our new fabrication facility in Marcy, New York.

In regards to COVID-19, our manufacturing facilities in the United States are currently operating as essential businesses.

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Results of Operations

Selected consolidated statements of operations data for the three months ended September 27, 2020 and September 29, 2019 is as follows:

Three months ended

September 27, 2020 September 29, 2019

Selected consolidated statements of operations data for the three and six months ended December 27, 2020 and December 29, 2019 is as follows:

Three months ended Six months ended

December 27, 2020 December 29, 2019 December 27, 2020 December 29, 2019

(in millions of U.S.

Dollars, except share data) Amount % of Revenue Amount % of Revenue

Dollars, except share data) Amount % of Revenue Amount % of Revenue Amount % of Revenue Amount % of Revenue

Revenue, net $127.0 100.0 % $120.7 100.0 % $242.5 100.0 % $248.4 100.0 %

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Amortization or impairment of acquisition-related intangibles 3.6 2.8 3.6 3.0 7.2 3.0 7.2 2.9

(Gain) loss on disposal or impairment of other assets (0.2) (0.1) 1.0 0.4

Goodwill impairment 105.7 48.8 — —

Loss on disposal or impairment of other assets 0.4 0.3 0.8 0.7 0.7 0.3 1.6 0.6

Other operating expense 2.6 2.0 10.9 9.0 11.2 4.6 17.0 6.8

Operating (loss) income (170.0) (78.5) (38.9) (16.0)

Non-operating expense (income), net 14.0 6.5 (1.6) (0.7)

Operating loss (57.6) (45.4) (63.4) (52.5) (119.8) (49.4) (105.6) (42.5)

Non-operating (income) expense, net (3.1) (2.4) (5.0) (4.1) 10.8 4.5 (6.6) (2.7)

Loss before income taxes (54.5) (42.9) (58.4) (48.4) (130.6) (53.9) (99.0) (39.9)

Income tax expense 0.1 — 0.5 0.2

Income tax benefit (0.2) (0.2) (0.5) (0.4) (1.0) (0.4) (1.8) (0.7)

Net loss from continuing operations ($54.3) (42.8) ($57.9) (48.0) ($129.6) (53.4) ($97.2) (39.1)

Net (loss) income from discontinued operations (28.4) (22.4) 3.9 3.2 (137.2) (56.6) 5.4 2.2

Net loss (82.7) (65.1) (54.0) (44.7) (266.8) (110.0) (91.8) (37.0)

Net income attributable to non-controlling interest 0.3 0.1 — —

Net income from discontinued operations attributable to noncontrolling interest 0.3 0.2 0.3 0.2 0.6 0.2 0.3 0.1

Net loss attributable to controlling interest ($83.0) (65.4) ($54.3) (45.0) ($267.4) (110.3) ($92.1) (37.1)

Basic and diluted loss per share

Continuing operations ($0.49) ($0.54) ($1.18) ($0.90)

Net loss attributable to controlling interest ($0.75) ($0.50) ($2.42) ($0.86)

Revenue was comprised of the following:

Three months ended

Three months ended Six months ended

(in millions of U.S.

Dollars) September 27, 2020 September 29, 2019 Change

Wolfspeed revenue $115.5 $127.7 ($12.2) (10) %

Percent of revenue 53 % 53 %

LED Products revenue 101.1 115.1 (14.0) (12) %

Percent of revenue 47 % 47 %

Total revenue $216.6 $242.8 ($26.2) (11) %

Wolfspeed Segment Revenue

The decrease in Wolfspeed segment revenue was primarily due to supply and demand factors relating to the COVID-19 pandemic, the ongoing trade dispute between the United States and China, which has led some customers to adjust their materials-related supply chain to other suppliers and the timing of shipments to certain customers.

LED Products Segment Revenue

The decrease in LED Products segment revenue was primarily due to decreases in demand related to COVID-19 and factory capacity restrictions.

Dollars) December 27, 2020 December 29, 2019 Change December 27, 2020 December 29, 2019 Change

Revenue $127.0 $120.7 $6.3 5 % $242.5 $248.4 ($5.9) (2) %

Revenue for the three months ended December 27, 2020 compared to the three months ended December 29, 2019 increased due to increases in the demand for power and RF devices.

Revenue for the six months ended December 27, 2020 compared to the six months ended December 29, 2019 decreased due to supply and demand factors relating to the COVID-19 pandemic and lower RF demand in China offset by increased demand and production capacity for our power applications.

Gross Profit and Gross Margin

Gross profit and gross margin were as follows:

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(in millions of U.S.

Dollars) September 27, 2020 September 29, 2019 Change

Wolfspeed gross profit $42.3 $59.0 ($16.7) (28) %

Wolfspeed gross margin 36.6 % 46.2 %

LED Products gross profit 22.4 22.1 0.3 1 %

LED Products gross margin 22.2 % 19.2 %

Unallocated costs (1)

(10.7) (6.9) (3.8) (55) %

Consolidated gross profit $54.0 $74.2 ($20.2) (27) %

Consolidated gross margin 24.9 % 30.6 %

(1) Unallocated costs for the three months ended September 27, 2020 include $0.9 million in incremental manufacturing costs relating to COVID-19.

Wolfspeed Segment Gross Profit and Gross Margin

The decreases in Wolfspeed segment gross profit and gross margin are primarily due to higher costs, customer mix and impacts from decreased revenue.

LED Products Segment Gross Profit and Gross Margin

The increases in LED Products segment gross profit and gross margin are primarily due to more favorable product and customer mix, offset by impacts from decreased revenue.

Unallocated Costs

Unallocated costs primarily consist of manufacturing employees' stock-based compensation, expenses for annual incentive plans, and matching contributions under our 401(k) plan.

These costs were not allocated to the reportable segments' gross profit because our CODM does not review them regularly when evaluating segment performance and allocating resources.

For the first quarter of fiscal 2021, unallocated costs also include incremental costs relating to operating our manufacturing operations during the COVID-19 pandemic.

These incremental costs are primarily comprised of increased cleaning costs, cleaning supplies and protective equipment, as well as the costs from implementing preventative safety measures, including increased wellness checks and time off policies.

Unallocated costs increased primarily due to incremental operational costs as a result of operating our manufacturing operations during the COVID-19 pandemic and underutilization charges related to transitioning certain LED Products operations to Wolfspeed operations as part of our factory optimization efforts.

Additionally, increased stock based compensation was offset by a decrease in annual incentive expense.

Dollars) December 27, 2020 December 29, 2019 Change December 27, 2020 December 29, 2019 Change

Gross profit $41.3 $35.6 $5.7 16 % $76.8 $88.1 ($11.3) (13) %

Gross margin 32.5 % 29.5 % 31.7 % 35.5 %

Gross Profit and Gross Margin

The increase in gross profit and gross margin for the three months ended December 27, 2020 compared to the three months ended December 29, 2019 are primarily due to increased revenues in the current period and the impact of higher inventory reserves related to product originally manufactured for Huawei Technologies Co., Ltd.

and its affiliates (collectively, "Huawei") in the prior period that the Company was prevented from selling to Huawei, partially offset by unfavorable product mix shift.

The decrease in gross profit and gross margin for the six months ended December 27, 2020 compared to the six months ended December 29, 2019 are primarily due unfavorable product mix shift, partially offset by the impact of higher inventory reserves related to product originally manufactured for Huawei in the prior period that the Company was prevented from selling to Huawei.

Research and Development

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These costs consisted primarily of employee salaries and related compensation costs, occupancy costs, consulting costs and the cost of development equipment and supplies.

Research and development costs also include developing supporting technologies for our planned expansion to a new silicon carbide fabrication facility in Marcy, New York.

Research and development expenses were as follows:

Three months ended

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(in millions of U.S.

Dollars) September 27, 2020 September 29, 2019 Change

Dollars) December 27, 2020 December 29, 2019 Change December 27, 2020 December 29, 2019 Change

Research and development $45.5 $38.7 $6.8 18 % $86.7 $73.9 $12.8 17 %

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Sales, general and administrative expenses were as follows:

Three months ended

Three months ended Six months ended

(in millions of U.S.

Dollars) September 27, 2020 September 29, 2019 Change

Dollars) December 27, 2020 December 29, 2019 Change December 27, 2020 December 29, 2019 Change

Sales, general and administrative $46.8 $45.0 $1.8 4 % $90.8 $94.0 ($3.2) (3) %

Percent of revenue 37 % 37 % 37 % 38 %

The decrease in sales, general and administrative expenses is primarily due to decreases in stock based compensation, as stock based compensation expense for the three months ended September 29, 2019 included certain adjustments relating to former executives’ awards.

Additionally, our travel costs decreased as a result of the COVID-19 pandemic and we incurred lower legal fees in the current quarter, partially offset by increased information technology costs.

The increase in sales, general and administrative expenses for the three months ended December 27, 2020 compared to December 29, 2019 was primarily due to higher professional service fees and increased information technology costs.

The decrease in sales, general and administrative expenses for the six months ended December 27, 2020 compared to December 29, 2019 was primarily due decreases in stock-based compensation expense, in part due to the impact of modifications to existing equity awards in the prior period.

Additionally, our travel costs decreased as a result of the COVID-19 pandemic.

Amortization or Impairment of Acquisition-Related Intangibles

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Amortization of intangible assets related to our acquisitions was as follows:

Three months ended

Three months ended Six months ended

(in millions of U.S.

Dollars) September 27, 2020 September 29, 2019 Change

Dollars) December 27, 2020 December 29, 2019 Change December 27, 2020 December 29, 2019 Change

Customer relationships $1.6 $1.6 $— — % $3.1 $3.1 $— — %

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Amortization of acquisition-related intangible assets stayed consistent due to the absence of acquisition-related intangible activity between the periods, as well as no impairments.

Amortization of acquisition-related intangibles relate to operations under our Wolfspeed segment.

Loss on Disposal and Impairment of Other Assets

Loss on Disposal or Impairment of Other Assets

We operate a capital-intensive business.

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Loss on disposal or impairment of other assets were as follows:

Three months ended

Three months ended Six months ended

(in millions of U.S.

Dollars) September 27, 2020 September 29, 2019 Change

(Gain) loss on disposal or impairment of other assets ($0.2) $1.0 ($1.2) (120) %

Gain on disposal or impairment of other assets for the three months ended September 27, 2020 primarily relates to proceeds from asset sales offset by write-offs of impaired or abandoned patents.

Loss on disposal or impairment of other assets for the three months ended September 29, 2019 primarily relates to write-offs of impaired or abandoned patents.

Goodwill Impairment

We review goodwill for impairment whenever events or circumstances indicate potential impairment.

In the first quarter of fiscal 2021, we determined we would more likely than not sell all or a portion of the assets comprising the LED Products segment below carrying value.

As a result of this triggering event, we recorded an impairment to goodwill of $105.7 million as of September 27, 2020.

As of September 27, 2020, we had not met the held-for-sale criteria.

No goodwill impairment was made as of September 29, 2019.

Dollars) December 27, 2020 December 29, 2019 Change December 27, 2020 December 29, 2019 Change

Loss on disposal or impairment of other assets $0.4 $0.8 ($0.4) (50) % $0.7 $1.6 ($0.9) (56) %

Loss on disposal or impairment of other assets primarily relate to proceeds from asset sales offset by write-offs of fixed asset projects, as well as the write-offs of impaired or abandoned patents.

Other Operating Expense

Other operating expense was as follows:

Three months ended

Three months ended Six months ended

(in millions of U.S.

Dollars) September 27, 2020 September 29, 2019 Change

Dollars) December 27, 2020 December 29, 2019 Change December 27, 2020 December 29, 2019 Change

Factory optimization restructuring $1.3 $1.2 $0.1 8 % $2.9 $2.4 $0.5 21 %

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Factory optimization start-up costs are additional start-up costs as part of our factory optimization efforts, which began in the fourth quarter of fiscal 2019.

These efforts are focused on expanding our production footprint to support expected growth in the Wolfspeed segment.

Other operating expense increased primarily from increased project costs related to the LED Business Divestiture and a corporate restructuring event in the first quarter of fiscal 2021.

Non-Operating Expense (Income), net

Non-operating expense (income), net was comprised of the following:

Three months ended

These efforts are focused on expanding our production footprint to support expected growth in the Wolfspeed business.

The decreases in other operating expense was primarily due to decreased project and transaction costs, driven by higher continuing operations project and transaction activity in the prior period.

Non-Operating (Income) Expense, net

Non-operating (income) expense, net was comprised of the following:

Three months ended Six months ended

(in millions of U.S.

Dollars) September 27, 2020 September 29, 2019 Change

Loss (gain) on equity investment, net $3.4 ($3.5) $6.9 (197) %

Dollars) December 27, 2020 December 29, 2019 Change December 27, 2020 December 29, 2019 Change

Gain on sale of investments, net ($0.2) ($0.1) ($0.1) 100 % ($0.2) ($0.1) ($0.1) 100 %

Gain on equity investment, net ($10.4) ($6.4) ($4.0) 63 % ($7.0) ($9.9) $2.9 (29) %

Foreign currency loss, net (2.2) (1.3) (0.9) 69 % (2.4) (1.2) (1.2) 100 %

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Other, net — (0.2) 0.2 (100) % 0.3 (0.3) 0.6 (200) %

Non-operating expense (income), net $14.0 ($1.6) $15.6 (975) %

Loss (gain) on equity investment, net .

The loss on equity investment for the three months ended September 27, 2020 was due to the decrease in fair value of our Lextar Electronics Corporation (Lextar) investment.

Lextar’s stock is publicly traded on the Taiwan Stock Exchange and its share price decreased from 19.90 New Taiwanese Dollars (TWD) per share at June 28, 2020 to 18.70 TWD at September 27, 2020.

The gain on equity investment for the three months ended September 29, 2019 was due to Lextar’s share price increasing from 14.75 TWD per share at June 30, 2019 to 16.05 TWD at September 29, 2019.

Non-operating (income) expense, net ($3.1) ($5.0) $1.9 (38) % $10.8 ($6.6) $17.4 (264) %

Gain on equity investment, net .

The gain on equity investment for the three and six months ended December 27, 2020 was due to changes in fair value of our Lextar Electronics Corporation (Lextar) investment.

During the six months ended December 27, 2020, Lextar’s stock was publicly traded on the Taiwan Stock Exchange and its share price decreased from 19.90 New Taiwanese Dollars (TWD) per share at June 28, 2020 to 18.70 TWD at September 27, 2020 before increasing to 22.25 TWD at December 27, 2020.

The gain on equity investment for the three and six months ended December 29, 2019 was due to Lextar’s share price increasing from 14.75 TWD per share at June 30, 2019 to 16.05 TWD at September 29, 2019 and to 18.40 TWD at December 29, 2019.

This volatile stock price trend may continue in the future given the risks inherent in Lextar’s business and trends affecting the Taiwan and global equity markets.

We have a 16% common stock ownership interest in Lextar and utilize the fair value option in accounting for the ownership interest.

As of December, 27, 2020, we had a 16% common stock ownership interest in Lextar and utilize the fair value option in accounting for the ownership interest.

In June 2020, Lextar announced a plan to restructure under a holding company with EPISTAR Corporation (EPISTAR) via a share swap.

As approved by the shareholders of Lextar and EPISTAR at the meetings held on August 7, 2020, we will receive 0.275 shares of common stock of the holding company, to be named ENNOSTAR Inc.

(ENNOSTAR), for each share for Lextar common stock once the share swap is effected (currently scheduled for January 6, 2021), representing in the aggregate an approximately 3.3% common stock ownership interest in ENNOSTAR.

The shares of ENNOSTAR will be listed on the Taiwan Stock Exchange.

Effective January 6, 2021, we received 0.275 shares of common stock of the holding company named ENNOSTAR Inc.

(ENNOSTAR) for each of our shares of Lextar common stock, representing in the aggregate an approximately 3.3% common stock ownership interest in ENNOSTAR.

The shares of ENNOSTAR are listed on the Taiwan Stock Exchange.

Any future stock price changes will be recorded as further gains or losses on equity investment based on the increase or decrease, respectively, in the fair value of the investment during the applicable fiscal period.

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Foreign currency loss, net.

Foreign currency loss (gain), net, primarily consists of remeasurement adjustments resulting from our Lextar investment and from our international subsidiaries.

Foreign currency loss, net, primarily consists of remeasurement adjustments resulting from our Lextar investment and from our international subsidiaries.

Interest income.

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Interest expense, net of capitalized interest .

The increase in interest expense was primarily due to the addition of our 1.75% convertible senior notes due May 1, 2026 (2026 Notes), which were sold on April 21, 2020.

Income tax expense

Income tax expense and our effective tax rate was as follows:

Three months ended

The increase in interest expense was primarily due to the addition of our 1.75% convertible senior notes due May 1, 2026 (2026 Notes), which were sold on April 21, 2020, partially offset by the partial repurchase of our 0.875% convertible senior notes due September 1, 2023 (2023 Notes) soon after the sale of the 2026 Notes.

Income tax benefit

Income tax benefit and our effective tax rate was as follows:

Three months ended Six months ended

(in millions of U.S.

Dollars) September 27, 2020 September 29, 2019 Change

Income tax expense $0.1 $0.5 ($0.4) (80) %

Dollars) December 27, 2020 December 29, 2019 Change December 27, 2020 December 29, 2019 Change

Income tax benefit ($0.2) ($0.5) $0.3 (60) % ($1.0) ($1.8) $0.8 (44) %

Effective tax rate — % 1 % 1 % 2 %

Our effective tax rate remained steady due to relatively consistent year-to-date income in jurisdictions where we do not recognize a full valuation allowance.

The change in our effective tax rate for the three and six months ended December 27, 2020 remained steady due to relatively consistent year-to-date income in jurisdictions where we do not recognize a full valuation allowance.

In general, the variation between our effective income tax rate and the U.S.

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and Luxembourg, (ii) projected income for the full year derived from international locations with differing tax rates than the U.S., and (iii) projected tax credits generated.

Net (loss) income from discontinued operations

As discussed above, we have classified the results of our former LED Products segment as discontinued operations in our consolidated statements of operations for all periods presented.

We ceased recording depreciation and amortization of long-lived assets of the LED Products business upon classification as discontinued operations in October 2020.

Net loss from discontinued operations was $28.4 million and $137.2 million for the three and six months ended December 27, 2020, respectively.

Net income from discontinued operations was $3.9 million and $5.4 million for the three and six months ended December 29, 2019.

Liquidity and Capital Resources

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Additionally, on April 21, 2020, we issued and sold a total of $575.0 million aggregate principal amount of 2026 Notes, as discussed in Note 9, “Long-term Debt,” in our consolidated financial statements included in Part I, Item 1 of this Quarterly Report.

The total net proceeds of the 2026 Notes was $561.4 million, of which we used $144.3 million to repurchase $150.2 million aggregate principal amount of our 0.875% convertible senior notes due September 1, 2023 (the 2023 Notes).

The total net proceeds of the 2026 Notes was $561.4 million, of which we used $144.3 million to repurchase $150.2 million aggregate principal amount of our 2023 Notes.

We expect to use the remainder of the net proceeds for general corporate purposes.

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From time to time, we evaluate strategic opportunities, including potential acquisitions, joint ventures, divestitures, spin-offs or investments in complementary businesses, and we have continued to make such evaluations.

For example, we recently entered into a definitive agreement with SMART regarding the LED Business Divestiture, which, when completed, will provide us with $50 million in up front payments, a $125 million unsecured promissory note due in August 2023 and the potential of up to $125 million in contingent consideration.

For example, we recently entered into a definitive agreement with SMART regarding the LED Business Divestiture, which, when completed, will provide us with $50 million in upfront payments, a $125 million unsecured promissory note due in August 2023 and the potential of up to $125 million in contingent consideration.

We may also access capital markets through the issuance of debt or additional shares of common stock, which we may use in connection with the acquisition of complementary businesses or other significant assets or for other strategic opportunities or general corporate purposes.

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To the extent our suppliers continue to be materially and adversely impacted by COVID-19, this could reduce the availability, or result in delays, of materials or supplies to or from us, which in turn could materially interrupt our business operations.

Our liquidity and capital resources primarily depend on our cash flows from operations and our working capital.

Our liquidity and capital resources primarily depend on our cash flows from continuing operations and our working capital.

The significant components of our working capital are liquid assets such as cash and cash equivalents, short-term investments, accounts receivable and inventories reduced by trade accounts payable.

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Three months ended

September 27, 2020 June 28, 2020 Change

December 27, 2020 June 28, 2020 Change

Days of sales outstanding (a)

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DSI is based on ending inventory and cost of revenue, net for the quarter then ended.

DSI is calculated by dividing ending inventory by average cost of revenue, net per day for the respective 90-day period.

DSI is calculated by dividing ending inventory (excluding inventory related to a future Wafer Supply and Fabrication Services Agreement to be entered into in connection with the LED Business Divestiture (the "Wafer Supply Agreement")) by average cost of revenue, net per day for the respective 90-day period.

c) Days in accounts payable (DPO) measures the average number of days our payables remain outstanding before payment.

DPO is based on ending accounts payable and cost of revenue, net for the quarter then ended.

DPO is calculated by dividing ending accounts payable and accrued expenses (less accrued salaries and wages) by the average cost of revenue, net per day for the respective 90-day period.

The decrease in our cash conversion cycle was primarily driven by increased accounts payable balances relating to investment at our future silicon carbide fabrication facility in New York.

As of September 27, 2020, we had unrealized losses on our short-term investments of $0.1 million.

All of our short-term investments had investment grade ratings, and any such investments that were in an unrealized loss position at September 27, 2020 were in such position due to interest rate changes, sector credit rating changes, company-specific rating changes or negative market conditions surrounding the COVID-19 outbreak.

Due to the significant amount of capital expenditures associated with our future silicon carbide fabrication facility in New York, we exclude accounts payable related to capital expenditures in connection with the facility.

DPO is calculated by dividing ending accounts payable and accrued expenses (less accrued salaries and wages and accounts payable balances related to our future silicon carbide fabrication facility in New York) by the average cost of revenue, net per day for the respective 90-day period.

The increase in our cash conversion cycle was primarily driven by increased inventory balances as we expand production.

As of December 27, 2020, we had unrealized losses on our short-term investments of less than $0.1 million.

All of our short-term investments had investment grade ratings, and any such investments that were in an unrealized loss position at December 27, 2020 were in such position due to interest rate changes, sector credit rating changes, company-specific rating changes or negative market conditions surrounding the COVID-19 outbreak.

We evaluate our short-term investments for expected credit losses.

We believe we are able to and we intend to hold each of the investments held with an unrealized loss as of September 27, 2020 until the investments fully recover in market value.

No allowance for credit losses was recorded as of September 27, 2020.

We believe we are able to and we intend to hold each of the investments held with an unrealized loss as of December 27, 2020 until the investments fully recover in market value.

No allowance for credit losses was recorded as of December 27, 2020.

In summary, our cash flows were as follows:

Three months ended

September 27, 2020 September 29, 2019 Change

Cash provided by (used in) operating activities $0.4 ($20.0) $20.4 (102) %

Six months ended

December 27, 2020 December 29, 2019 Change

Cash used in operating activities ($25.9) ($11.8) ($14.1) 119 %

Cash used in investing activities (49.8) (120.5) 70.7 59 %

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Cash Flows from Operating Activities

Net cash provided by operating activities increased primarily due to improved working capital.

Net cash used in operating activities increased primarily due to decreased working capital in the current period.

Total cash provided by operating activities includes $6.2 million and $27.8 million of cash provided by operating activities from discontinued operations for the six months ended December 27, 2020 and December 29, 2019.

Cash Flows from Investing Activities

Our investing activities primarily relate to short-term investment transactions, purchases of property and equipment and payments for patents and licensing rights.

Cash used in investing activities decreased primarily due to increased net proceeds from short-term investments of $108.5 million offset by an increase in property and equipment purchases of $72.0 million.

For fiscal 2021, we target approximately $400.0 million of net capital investment, which is primarily related to capacity and infrastructure projects to support our Wolfspeed segment longer-term growth and strategic priorities.

Cash used in investing activities decreased primarily due to increased net proceeds from short-term investments of $227.7 million partially offset by an increase in property and equipment purchases of $157.2 million.

For fiscal 2021, we target approximately $550.0 million of net capital investment, which is primarily related to capacity and infrastructure projects to support our Wolfspeed business longer-term growth and strategic priorities.

This target is highly dependent on the timing and overall progress on the construction of our new silicon carbide fabrication facility in New York and is net of expected reimbursements from Empire State Development under a Grant Disbursement Agreement (GDA).

For more details on the GDA, see Note 13, "Commitments and Contingencies," to our unaudited consolidated financial statements in Part I, Item 1 of this Quarterly Report.

Total cash used in investing activities includes $2.7 million and $0.4 million of cash provided by investing activities from discontinued operations for the six months ended December 27, 2020 and December 29, 2019.

Cash Flows from Financing Activities

For the three months ended September 27, 2020, our financing activities primarily consisted of net proceeds of $3.7 million from issuances of common stock pursuant to the exercise of employee stock options.

For the three months ended September 29, 2019, our financing activities consisted of net proceeds of $5.4 million from issuances of common stock pursuant to the exercise of employee stock options.

For the six months ended December 27, 2020, our financing activities primarily consisted of net proceeds of $15.2 million from issuances of common stock pursuant to the exercise of employee stock options.

For the six months ended December 29, 2019, our financing activities consisted of net proceeds of $14.6 million from issuances of common stock pursuant to the exercise of employee stock options.

Off-Balance Sheet Arrangements

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Accordingly, our liquidity and capital resources are not subject to off-balance sheet risks from unconsolidated entities.

As of September 27, 2020, we did not have any off-balance sheet arrangements, as defined in Item 303(a)(4)(ii) of SEC Regulation S-K.

As of December 27, 2020, we did not have any off-balance sheet arrangements, as defined in Item 303(a)(4)(ii) of SEC Regulation S-K.

Critical Accounting Policies and Estimates

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Pooling criteria is evaluated each period to ensure the risk profile for each pool is consistent with the prior period.

If a receivable does not fit into defined risk pool, it is evaluated for expected credit losses on an individual basis.

If a receivable does not fit into a defined risk pool, it is evaluated for expected credit losses on an individual basis.

Each risk pool is assigned an expected credit loss rate (if any), which is calculated by considering historical write offs, current market conditions, forecast data and other qualitative data.

Expected credit losses are recorded each period by applying the expected credit loss rates to the total balance of each defined risk pool.

For information our other critical accounting policies and estimates, see the “Critical Accounting Policies and Estimates” section of “Item 7.

For information on our other critical accounting policies and estimates, see the “Critical Accounting Policies and Estimates” section of “Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our Annual Report on Form 10-K for the fiscal year ended June 28, 2020.

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Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-Q

Item 2. Management’s Discussion and Analysis