Quarterly Report (10-q)

Date : 02/20/2020 @ 8:52PM
Source : Edgar (US Regulatory)
Stock : Applied Materials Inc (AMAT)
Quote : 47.56  1.41 (3.06%) @ 12:42AM
After Hours
Last Trade
Last $ 47.50 ▼ -0.06 (-0.13%)

Quarterly Report (10-q)

APPLIED MATERIALS INC 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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
(Mark One)

☑ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended January 26, 2020
or

☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from                    to                 
Commission File Number 000-06920
Applied Materials, Inc.
(Exact name of registrant as specified in its charter) 
Delaware 94-1655526
(State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification No.)
3050 Bowers Avenue
P.O. Box 58039
Santa Clara, California 95052-8039
(Address of principal executive offices)

(408) 727-5555
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class Trading Symbol Name of Each Exchange on Which Registered
Common Stock, par value $.01 per share AMAT The NASDAQ Stock Market LLC
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes          No  
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).    Yes          No  
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. 
Large accelerated filer Accelerated filer 
Non-accelerated filer Smaller reporting company
Emerging growth company
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes          No  
Number of shares outstanding of the issuer’s common stock as of January 26, 2020: 918,305,114




APPLIED MATERIALS, INC.
FORM 10-Q FOR THE QUARTERLY PERIOD ENDED JANUARY 26, 2020
TABLE OF CONTENTS
 
    Page
PART I. FINANCIAL INFORMATION
Item 1:
3
3
4
5
6
7
8
Item 2:
32
Item 3:
49
Item 4:
49
PART II. OTHER INFORMATION
Item 1:
50
Item 1A:
51
Item 2:
63
Item 6:
64
65



PART I. FINANCIAL INFORMATION

Item 1.    Financial Statements

APPLIED MATERIALS, INC.
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(In millions, except per share amounts)
Three Months Ended   
January 26,
2020
January 27,
2019
(Unaudited)
Net sales $ 4,162    $ 3,753   
Cost of products sold 2,304    2,088   
Gross profit 1,858    1,665   
Operating expenses:
Research, development and engineering 552    516   
Marketing and selling 135    131   
General and administrative 129    110   
Total operating expenses 816    757   
Income from operations 1,042    908   
Interest expense 59    60   
Interest and other income, net 22    40   
Income before income taxes 1,005    888   
Provision for income taxes 113    117   
Net income $ 892    $ 771   
Earnings per share:
Basic $ 0.97    $ 0.81   
Diluted $ 0.96    $ 0.80   
Weighted average number of shares:
Basic 916    957   
Diluted 927    965   
See accompanying Notes to Consolidated Condensed Financial Statements.

3

APPLIED MATERIALS, INC.
CONSOLIDATED CONDENSED STATEMENTS OF COMPREHENSIVE INCOME
(In millions)
Three Months Ended
January 26,
2020
January 27,
2019
(Unaudited)
Net income $ 892    $ 771   
Other comprehensive income (loss), net of tax:
Change in unrealized gain (loss) on available-for-sale investments    
Change in unrealized net loss on derivative instruments (10)   (17)  
Other comprehensive income (loss), net of tax (8)   (12)  
Comprehensive income $ 884    $ 759   
See accompanying Notes to Consolidated Condensed Financial Statements.
4

APPLIED MATERIALS, INC.
CONSOLIDATED CONDENSED BALANCE SHEETS
(In millions)
January 26,
2020
October 27,
2019
 
ASSETS
Current assets:
Cash and cash equivalents $ 3,424    $ 3,129   
Short-term investments 536    489   
Accounts receivable, net 2,679    2,533   
Inventories 3,472    3,474   
Other current assets 658    581   
Total current assets 10,769    10,206   
Long-term investments 1,713    1,703   
Property, plant and equipment, net 1,555    1,529   
Goodwill 3,399    3,399   
Purchased technology and other intangible assets, net 142    156   
Deferred income taxes and other assets 2,189    2,031   
Total assets $ 19,767    $ 19,024   
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Current portion of long-term debt $ 600    $ 600   
Accounts payable and accrued expenses 2,569    2,511   
Contract liabilities 1,400    1,336   
Total current liabilities 4,569    4,447   
Income taxes payable 1,298    1,275   
Long-term debt 4,714    4,713   
Other liabilities 526    375   
Total liabilities 11,107    10,810   
Stockholders’ equity:
Common stock    
Additional paid-in capital 7,550    7,595   
Retained earnings 25,085    24,386   
Treasury stock (23,796)   (23,596)  
Accumulated other comprehensive loss (188)   (180)  
Total stockholders’ equity 8,660    8,214   
Total liabilities and stockholders’ equity $ 19,767    $ 19,024   
Amounts as of January 26, 2020 are unaudited. Amounts as of October 27, 2019 are derived from the October 27, 2019 audited consolidated financial statements.
See accompanying Notes to Consolidated Condensed Financial Statements.
5

APPLIED MATERIALS, INC
CONSOLIDATED CONDENSED STATEMENTS OF STOCKHOLDERS’ EQUITY
(In millions)

Common Stock Additional
Paid-In
Capital
Retained
Earnings
Treasury Stock Accumulated
Other
Comprehensive
Income (Loss)
Total
Three Months Ended January 26, 2020 Shares Amount Shares Amount
(Unaudited)
Balance as of October 27, 2019 916    $   $ 7,595    $ 24,386    1,079    $ (23,596)   $ (180)   $ 8,214   
Net income —    —    —    892    —    —    —    892   
Other comprehensive income (loss), net of tax —    —    —    —    —    —    (8)   (8)  
Dividends declared ($0.21 per common share)
—    —    —    (193)   —    —    —    (193)  
Share-based compensation —    —    93    —    —    —    —    93   
Issuance under stock plans   —    (138)   —    —    —    —    (138)  
Common stock repurchases (3)   —    —    —      (200)   —    (200)  
Balance as of January 26, 2020 919    $   $ 7,550    $ 25,085    1,082    $ (23,796)   $ (188)   $ 8,660   


Common Stock Additional
Paid-In
Capital
Retained
Earnings
Treasury Stock Accumulated
Other
Comprehensive
Income (Loss)
Total
Three Months Ended January 27, 2019 Shares Amount Shares Amount
(Unaudited)
Balance as of October 28, 2018 967    $ 10    $ 7,274    $ 20,880    1,019    $ (21,194)   $ (125)   $ 6,845   
Adoption of new accounting standards (a) —    —    —    1,570    —    —    (17)   1,553   
Net income —    —    —    771    —    —    —    771   
Other comprehensive income (loss), net of tax —    —    —    —    —    —    (12)   (12)  
Dividends declared ($0.20 per common share)
—    —    —    (189)   —    —    —    (189)  
Share-based compensation —    —    65    —    —    —    —    65   
Issuance under stock plans   —    (74)   —    —    —    —    (74)  
Common stock repurchases (22)   (1)   —    —    22    (749)   —    (750)  
Balance as of January 27, 2019 949    $   $ 7,265    $ 23,032    1,041    $ (21,943)   $ (154)   $ 8,209   

(a) - Represents the reclassification adjustment related to the adoption of Accounting Standard Update (ASU) 2016-01 Financial Instruments-Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities and ASU 2016-16 Income Tax (Topic 740): Intra-Entity Transfers of Assets Other Than Inventory.
See accompanying Notes to Consolidated Condensed Financial Statements.


6

APPLIED MATERIALS, INC.
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(In millions)
Three Months Ended   
January 26,
2020
January 27,
2019
(Unaudited)
Cash flows from operating activities:
Net income $ 892    $ 771   
Adjustments required to reconcile net income to cash provided by operating activities:
Depreciation and amortization 94    88   
Share-based compensation 93    65   
Deferred income taxes 30    41   
Other 15     
Changes in operating assets and liabilities:
Accounts receivable (146)   (121)  
Inventories   18   
Other current and non-current assets (99)   76   
Accounts payable and accrued expenses (6)   (313)  
Contract liabilities 64    155   
Income taxes payable 23    41   
Other liabilities 25    12   
Cash provided by operating activities 987    834   
Cash flows from investing activities:
Capital expenditures (102)   (133)  
Proceeds from sales and maturities of investments 368    464   
Purchases of investments (428)   (397)  
Cash used in investing activities (162)   (66)  
Cash flows from financing activities:
Proceeds from common stock issuances 15    —   
Common stock repurchases (200)   (750)  
Tax withholding payments for vested equity awards (153)   (74)  
Payments of dividends to stockholders (192)   (192)  
Cash used in financing activities (530)   (1,016)  
Increase (decrease) in cash and cash equivalents 295    (248)  
Cash and cash equivalents — beginning of period 3,129    3,440   
Cash and cash equivalents — end of period $ 3,424    $ 3,192   
Supplemental cash flow information:
Cash payments for income taxes $ 82    $ 34   
Cash refunds from income taxes $   $  
Cash payments for interest $ 34    $ 34   

See accompanying Notes to Consolidated Condensed Financial Statements.

7

Note 1    Basis of Presentation
Basis of Presentation
In the opinion of management, the unaudited interim consolidated condensed financial statements of Applied Materials, Inc. and its subsidiaries (Applied or the Company) included herein have been prepared on a basis consistent with the October 27, 2019 audited consolidated financial statements and include all material adjustments, consisting of normal recurring adjustments, necessary to fairly present the information set forth therein. These unaudited interim consolidated condensed financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in Applied’s Annual Report on Form 10-K for the fiscal year ended October 27, 2019 (2019 Form 10-K). Applied’s results of operations for the three months ended January 26, 2020 are not necessarily indicative of future operating results. Applied’s fiscal year ends on the last Sunday in October of each year. Fiscal 2020 and 2019 contain 52 weeks each, and the first three months of fiscal 2020 and 2019 each contained 13 weeks.
Use of Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make judgments, estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ materially from those estimates. On an ongoing basis, Applied evaluates its estimates, including those related to standalone selling price (SSP) related to revenue recognition, accounts receivable and sales allowances, fair values of financial instruments, inventories, intangible assets and goodwill, useful lives of intangible assets and property and equipment, fair values of share-based awards, and income taxes, among others. Applied bases its estimates on historical experience and on various other assumptions that are believed to be reasonable, the results of which form the basis for making judgments about the carrying values of assets and liabilities.
Revenue Recognition from Contracts with Customers
Applied recognizes revenue when promised goods or services are transferred to a customer in an amount that reflects the consideration to which Applied expects to be entitled in exchange for those goods or services. Applied determines revenue recognition through the following five steps; (1) identification of the contract(s) with customers, (2) identification of the performance obligations in the contract, (3) determination of the transaction price, (4) allocation of the transaction price to the performance obligations in the contract, and (5) recognition of revenue when, or as, a performance obligation is satisfied.
Identifying the contract(s) with customers. Applied sells manufacturing equipment, services, and spare parts directly to its customers in the semiconductor, display, and related industries. The Company generally considers written documentation including, but not limited to, signed purchase orders, master agreements, and sales orders as contracts provided that collection is probable. Collectability is assessed based on the customer’s creditworthiness determined by reviewing the customer’s published credit and financial information, historical payment experience, as well as other relevant factors.
Identifying the performance obligations. Applied’s performance obligations include delivery of manufacturing equipment, service agreements, spare parts, installation, extended warranty and training. Applied’s service agreements are considered one performance obligation and may include multiple goods and services that Applied provides to the customer to deliver against a performance metric. Judgment is used to determine whether multiple promised goods or services in a contract should be accounted for separately or as a group.
Determine the transaction price. The transaction price for Applied’s contracts with customers may include fixed and variable consideration. Applied includes variable consideration in the transaction price to the extent that it is probable that a significant reversal of revenue will not occur when the uncertainty associated with the variable consideration is subsequently resolved.
Allocate the transaction price to the performance obligations. A contract’s transaction price is allocated to each distinct performance obligation identified within the contract. Applied generally estimates the standalone selling price of a distinct performance obligation based on historical cost plus an appropriate margin. For contracts with multiple performance obligations, Applied allocates the contract’s transaction price to each performance obligation using the relative standalone selling price of each distinct good or service in the contract.
Recognizing the revenue as performance obligations are satisfied. Applied recognizes revenue from equipment and spares parts at a point in time when Applied has satisfied its performance obligation by transferring control of the goods to the customer which typically occurs at shipment or delivery. Revenue from service agreements is recognized over time, typically within 12 months, as customers receive the benefits of services.
8


APPLIED MATERIALS, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - (Continued)


The incremental costs to obtain a contract are not material.
Payment Terms. Payment terms vary by contract. Generally, the majority of payments are due within a certain number of days from shipment of goods or performance of service. The remainder is typically due upon customer technical acceptance. Applied typically receives deposits on future deliverables from customers in the Display and Adjacent Markets segment and, in certain instances, may also receive deposits from customers in the Applied Global Services segment. Applied’s payment terms do not generally contain a significant financing component.
Recent Accounting Pronouncements
Accounting Standards Adopted
Leases. In February 2016, the Financial Accounting Standard Board (FASB) issued authoritative guidance for lease accounting, which requires lessees to recognize lease assets and liabilities on the balance sheet for certain lease arrangements that are classified as operating leases under the previous standard, and to provide for enhanced disclosures. Applied adopted this guidance in the first quarter of fiscal 2020 using the modified retrospective transition method which required applying the new standard as of the beginning of the period of adoption with no adjustment to comparative prior periods. Applied elected the package of practical expedients permitted under the transition guidance, which allow Applied not to reassess whether a contract contains a lease, initial direct costs and lease classification for leases existing prior to adoption. Applied also elected to combine the lease and non-lease components as a single lease component and not to use hindsight in determining the lease term. Upon adoption, Applied recognized right-of-use assets of $160 million, net of deferred rent of $4 million and lease liabilities of $164 million.
Derivatives and Hedging. In August 2017, the FASB issued authoritative guidance that modifies the recognition and presentation of hedge accounting to better align an entity’s risk management strategies and financial reporting for hedging relationships. The authoritative guidance expands the application of hedge accounting for non-financial and financial risk components and eases certain hedge effectiveness assessment requirements. Applied adopted this guidance in the first quarter of fiscal 2020 under the modified retrospective approach. The cumulative effect adjustment for the elimination of the ineffectiveness was not material to Applied's condensed consolidated financial statements. The presentation and disclosure have been amended on a prospective basis, as required by this update.
Receivables: Nonrefundable Fees and Other Costs. In March 2017, the FASB issued authoritative guidance that will shorten the amortization period for certain callable debt securities held at a premium to the earliest call date to more closely align with expectations incorporated in market pricing. Applied adopted this guidance in the first quarter of fiscal 2020 on a modified retrospective basis. The adoption of this guidance did not have a significant impact on Applied's consolidated financial statements.
Accounting Standards Not Yet Adopted
Simplifying the Accounting for Income Taxes: In December 2019, the FASB issued an accounting standard update to simplify the accounting for income taxes (Topic 740). This amendment removes certain exceptions and improves consistent application of accounting principles for certain areas in Topic 740. This authoritative guidance will be effective for Applied in the first quarter of fiscal 2022, with early adoption permitted. Applied is currently evaluating the effect of this new guidance on Applied’s consolidated financial statements.
Retirement Benefits: Changes to the Disclosure Requirements for Defined Benefit and other Postretirement Plans. In August 2018, the FASB issued authoritative guidance that adds, removes, and clarifies disclosure requirements for defined benefit and other postretirement plans. This authoritative guidance will be effective for Applied in fiscal 2021 on a retrospective basis, with early adoption permitted. Applied is currently evaluating the effect of this new guidance on Applied’s consolidated financial statements.
Goodwill Impairment. In January 2017, the FASB issued authoritative guidance that simplifies the process required to test goodwill for impairment. The authoritative guidance will be effective for Applied in the first quarter of fiscal 2021. Early adoption is permitted. The adoption of this guidance is not expected to have a significant impact on Applied’s consolidated financial statements.
Financial Instruments: Credit Losses. In June 2016, the FASB issued authoritative guidance that modifies the impairment model for certain financial assets by requiring use of an expected loss methodology, which will result in more timely recognition of credit losses. The authoritative guidance will be effective for Applied in the first quarter of fiscal 2021. Early adoption was permitted beginning in the first quarter of fiscal 2020. Applied is currently evaluating the effect of this new guidance on Applied’s consolidated financial statements.
9


APPLIED MATERIALS, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - (Continued)


Note 2      Earnings Per Share
Basic earnings per share is determined using the weighted average number of common shares outstanding during the period. Diluted earnings per share is determined using the weighted average number of common shares and potential common shares (representing the dilutive effect of stock options, restricted stock units, and employee stock purchase plan shares) outstanding during the period. Applied’s net income has not been adjusted for any period presented for purposes of computing basic or diluted earnings per share due to the Company’s non-complex capital structure.
 
Three Months Ended
January 26,
2020
January 27,
2019
  (In millions, except per share amounts)
Numerator:
Net income $ 892    $ 771   
Denominator:
Weighted average common shares outstanding 916    957   
Effect of weighted dilutive stock options, restricted stock units and employee stock purchase plan shares 11     
Denominator for diluted earnings per share 927    965   
Basic earnings per share $ 0.97    $ 0.81   
Diluted earnings per share $ 0.96    $ 0.80   
Potentially weighted dilutive securities —     
Potentially weighted dilutive securities attributable to outstanding stock options and restricted stock units are excluded from the calculation of diluted earnings per share where the combined exercise price and average unamortized fair value are greater than the average market price of Applied common stock, and therefore their inclusion would be anti-dilutive.
10


APPLIED MATERIALS, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - (Continued)


Note 3      Cash, Cash Equivalents and Investments
Summary of Cash, Cash Equivalents and Investments
The following tables summarize Applied’s cash, cash equivalents and investments:
 
January 26, 2020 Cost Gross
Unrealized
Gains
Gross
Unrealized
Losses
Estimated
Fair Value
  (In millions)
Cash $ 1,370    $ —    $ —    $ 1,370   
Cash equivalents:
Money market funds 1,644    —    —    1,644   
U.S. Treasury and agency securities   —    —     
Municipal securities   —    —     
Commercial paper, corporate bonds and medium-term notes 407    —    —    407   
Total Cash equivalents 2,054    —    —    2,054   
Total Cash and Cash equivalents $ 3,424    $ —    $ —    $ 3,424   
Short-term and long-term investments:
U.S. Treasury and agency securities $ 330    $   $ —    $ 332   
Non-U.S. government securities*   —    —     
Municipal securities 397      —    402   
Commercial paper, corporate bonds and medium-term notes 698      —    703   
Asset-backed and mortgage-backed securities 648      —    652   
Total fixed income securities 2,077    16    —    2,093   
Publicly traded equity securities   39      44   
Equity investments in privately-held companies 106    10      112   
Total equity investments 114    49      156   
Total short-term and long-term investments $ 2,191    $ 65    $   $ 2,249   
Total Cash, Cash equivalents and Investments $ 5,615    $ 65    $   $ 5,673   
 _________________________
* Includes agency debt securities guaranteed by Canada.
11


APPLIED MATERIALS, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - (Continued)


October 27, 2019 Cost Gross
Unrealized
Gains
Gross
Unrealized
Losses
Estimated
Fair Value
  (In millions)
Cash $ 1,071    $ —    $ —    $ 1,071   
Cash equivalents:
Money market funds 1,677    —    —    1,677   
U.S. Treasury and agency securities   —    —     
Commercial paper, corporate bonds and medium-term notes 377    —    —    377   
Total Cash equivalents 2,058    —    —    2,058   
Total Cash and Cash equivalents $ 3,129    $ —    $ —    $ 3,129   
Short-term and long-term investments:
U.S. Treasury and agency securities $ 336    $   $ —    $ 337   
Non-U.S. government securities* 10    —    —    10   
Municipal securities 402      —    406   
Commercial paper, corporate bonds and medium-term notes 642      —    647   
Asset-backed and mortgage-backed securities 631      —    635   
Total fixed income securities 2,021    14    —    2,035   
Publicly traded equity securities   40      45   
Equity investments in privately-held companies 105    10      112   
Total equity investments 113    50      157   
Total short-term and long-term investments $ 2,134    $ 64    $   $ 2,192   
Total Cash, Cash equivalents and Investments $ 5,263    $ 64    $   $ 5,321   
 _________________________
* Includes agency debt securities guaranteed by Canada.
 
Maturities of Investments
The following table summarizes the contractual maturities of Applied’s investments as of January 26, 2020:
 
Cost Estimated
Fair Value
  (In millions)
Due in one year or less $ 477    $ 478   
Due after one through five years 953    964   
No single maturity date** 761    807   
Total $ 2,191    $ 2,249   
 _________________________
** Securities with no single maturity date include publicly-traded and privately-held equity securities and asset-backed and mortgage-backed securities. 

Gains and Losses on Investments
During the three months ended January 26, 2020 and January 27, 2019 gross realized gains and losses on investments were not material.
As of January 26, 2020, and October 27, 2019, gross unrealized losses related to Applied’s debt investment portfolio were not material. Applied regularly reviews its debt investment portfolio to identify and evaluate investments that have indications of possible impairment. Factors considered in determining whether an unrealized loss is considered to be temporary, or other-than-temporary and therefore impaired, include: the length of time and extent to which fair value has been lower than the cost basis; the financial condition, credit quality and near-term prospects of the investee; and whether it is more likely than not that Applied will be required to sell the security prior to recovery.
12


APPLIED MATERIALS, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - (Continued)


Applied determined that the gross unrealized losses on its marketable fixed-income securities as of January 26, 2020 and January 27, 2019 were temporary in nature and therefore it did not recognize any impairment of its marketable fixed-income securities during the three months ended January 26, 2020 or January 27, 2019. Impairment charges on equity investments in privately-held companies during the three months ended January 26, 2020 and January 27, 2019 were not material. These impairment charges are included in interest and other income, net in the Consolidated Condensed Statement of Operations.
The components of gain (loss) on equity investments for the three months ended January 26, 2020 and January 27, 2019 were as follows:
Three Months Ended
January 26, 2020 January 27, 2019
  (In millions)
Publicly traded equity securities
Unrealized gain $   $  
Unrealized loss (3)   (2)  
Gain on sales —     
Equity investments in privately-held companies
Unrealized gain —     
Unrealized loss (1)   (1)  
Gain on sales —     
Loss on sales or impairment (2)   —   
Total gain on equity investments, net $ (4)   $ 12   


Note 4       Fair Value Measurements
Applied’s financial assets are measured and recorded at fair value on a recurring basis, except for equity investments in privately-held companies. These equity investments are generally accounted for under the measurement alternative, defined as cost, less impairments, adjusted for subsequent observable price changes and are periodically assessed for impairment when events or circumstances indicate that a decline in value may have occurred. Applied’s nonfinancial assets, such as goodwill, intangible assets, and property, plant and equipment, are recorded at cost and are assessed for impairment whenever events or changes in circumstances indicate that the carrying value of an asset may not be recoverable.
Fair Value Hierarchy
Applied uses the following fair value hierarchy, which prioritizes the inputs to valuation techniques used to measure fair value into three levels and bases the categorization within the hierarchy upon the lowest level of input that is available and significant to the fair value measurement:
 
Level 1 — Quoted prices in active markets for identical assets or liabilities;
Level 2 — Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities; and
Level 3 — Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.
Applied’s investments consist primarily of debt securities that are classified as available-for-sale and recorded at their fair values. In determining the fair value of investments, Applied uses pricing information from pricing services that value securities based on quoted market prices and models that utilize observable market inputs. In the event a fair value estimate is unavailable from a pricing service, Applied generally obtains non-binding price quotes from brokers. Applied then reviews the information provided by the pricing services or brokers to determine the fair value of its short-term and long-term investments. In addition, to validate pricing information obtained from pricing services, Applied periodically performs supplemental analysis on a sample of securities. Applied reviews any significant unanticipated differences identified through this analysis to determine the appropriate fair value. As of January 26, 2020, substantially all of Applied’s available-for-sale, short-term and long-term investments were recognized at fair value that was determined based upon observable inputs.
13


APPLIED MATERIALS, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - (Continued)


Applied’s equity investments with readily determinable values consist of publicly traded equity securities. These investments are measured at fair value using quoted prices for identical assets in an active market and the changes in fair value of these equity investments are recognized in the consolidated statements of operations.
Investments with remaining effective maturities of 12 months or less from the balance sheet date are classified as short-term investments. Investments with remaining effective maturities of more than 12 months from the balance sheet date are classified as long-term investments.

Assets Measured at Fair Value on a Recurring Basis
Financial assets (excluding cash balances) measured at fair value on a recurring basis are summarized below:
 
  January 26, 2020 October 27, 2019
  Level 1 Level 2 Total Level 1 Level 2 Total
  (In millions)
Assets:
Available-for-sale debt security investments
Money market funds $ 1,644    $ —    $ 1,644    $ 1,677    $ —    $ 1,677   
U.S. Treasury and agency securities 318    16    334    323    18    341   
Non-U.S. government securities —        —    10    10   
Municipal securities —    403    403    —    406    406   
Commercial paper, corporate bonds and medium-term notes —    1,110    1,110    —    1,024    1,024   
Asset-backed and mortgage-backed securities —    652    652    —    635    635   
Total available-for-sale debt security investments $ 1,962    $ 2,185    $ 4,147    2,000    2,093    4,093   
Equity investments with readily determinable values
Publicly traded equity securities $ 44    $ —    $ 44    45    —    45   
Total equity investments with readily determinable values $ 44    $ —    $ 44    $ 45    $ —    $ 45   
Total $ 2,006    $ 2,185    $ 4,191    $ 2,045    $ 2,093    $ 4,138   
Applied did not have any financial assets measured at fair value on a recurring basis within Level 3 fair value measurements as of January 26, 2020 or October 27, 2019.
Assets and Liabilities without Readily Determinable Values Measured on a Non-recurring Basis
Applied’s equity investments without readily determinable values consist of equity investments in privately-held companies. Applied elected the measurement alternative, defined as cost, less impairments, adjusted for subsequent observable price changes on a prospective basis for certain equity investments without readily determinable fair values and is required to account for any subsequent observable changes in fair value within the statements of operations. These investments are periodically assessed for impairment when an event or circumstance indicates that a decline in value may have occurred. Impairment charges on equity investments in privately-held companies during the three months ended January 26, 2020 and January 27, 2019 were not material.
Other
The carrying amounts of Applied’s financial instruments, including cash and cash equivalents, accounts receivable, notes payable - short term, and accounts payable and accrued expenses, approximate fair value due to their short maturities. As of January 26, 2020, the aggregate principal amount of long-term debt was $4.8 billion, and the estimated fair value was $5.6 billion. As of October 27, 2019, the aggregate principal amount of long-term debt was $4.8 billion, and the estimated fair value was $5.5 billion. The estimated fair value of long-term debt is determined by Level 2 inputs and is based primarily on quoted market prices for the same or similar issues. See Note 11 of the Notes to the Consolidated Condensed Financial Statements for further detail of existing debt.
14


APPLIED MATERIALS, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - (Continued)


Note 5       Derivative Instruments and Hedging Activities
Derivative Financial Instruments
Applied conducts business in a number of foreign countries, with certain transactions denominated in local currencies, such as the Japanese yen, euro, Israeli shekel and Taiwanese dollar. Applied uses derivative financial instruments, such as forward exchange contracts and currency option contracts, to hedge certain forecasted foreign currency denominated transactions expected to occur typically within the next 24 months. The purpose of Applied’s foreign currency management is to mitigate the effect of exchange rate fluctuations on certain foreign currency denominated revenues, costs and eventual cash flows. The terms of currency instruments used for hedging purposes are generally consistent with the timing of the transactions being hedged.
Applied does not use derivative financial instruments for trading or speculative purposes. Derivative instruments and hedging activities, including foreign currency exchange and interest rate contracts, are recognized on the balance sheet at fair value. Changes in the fair value of derivatives that do not qualify for hedge treatment, as well as the ineffective portion of any hedges, are recognized currently in earnings. All of Applied’s derivative financial instruments are recorded at their fair value in other current assets or in accounts payable and accrued expenses. 
Hedges related to anticipated transactions are designated and documented at the inception of the hedge as cash flow hedges and foreign exchange derivatives are typically entered into once per month. Cash flow hedges are evaluated for effectiveness quarterly. The effective portion of the gain or loss on these hedges is reported as a component of AOCI in stockholders’ equity and is reclassified into earnings when the hedged transaction affects earnings. The majority of the after-tax net income or loss related to foreign exchange derivative instruments included in AOCI as of January 26, 2020 is expected to be reclassified into earnings within 12 months. Prior to adopting the new accounting guidance for hedge accounting, changes in the fair value of currency forward exchange and option contracts due to changes in time value were excluded from the assessment of effectiveness. Subsequent to the adoption of the new accounting guidance, only changes in the fair value of option contracts due to changes in time value were excluded from the assessment of effectiveness. The initial value of this excluded component is amortized on a straight-line basis over the life of the hedging instrument and recognized in the financial statement line item to which the hedge relates. Both ineffective hedge amounts and hedge components excluded from the assessment of effectiveness are recognized in earnings. If the transaction being hedged is no longer probable to occur, or if a portion of any derivative is deemed to be ineffective, Applied promptly recognizes the gain or loss on the associated financial instrument in earnings. The amount recognized due to discontinuance of cash flow hedges that were probable not to occur by the end of the originally specified time period was not significant for the three months ended January 26, 2020 and January 27, 2019.
Additionally, forward exchange contracts are generally used to hedge certain foreign currency denominated assets or liabilities. These derivatives are typically entered into once per month and are not designated for hedge accounting treatment. Accordingly, changes in the fair value of these hedges are recorded in earnings to offset the changes in the fair value of the assets or liabilities being hedged.
The fair values of foreign exchange derivative instruments as of January 26, 2020 and October 27, 2019 were not material.
The gain (loss) on derivatives in cash flow hedging relationships recognized in AOCI for derivatives designated as hedging instruments for the indicated periods were as follows:
Three Months Ended
January 26,
2020
January 27,
2019
(In millions)
Derivatives in Cash Flow Hedging Relationships:
Foreign exchange contracts $   $ (16)  
Interest rate contracts (18)   —   
Total $ (11)   $ (16)  

15


APPLIED MATERIALS, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - (Continued)


The effects of derivative instruments and hedging activities on the Consolidated Condensed Statements of Operations were as follows:


Three Months Ended   
January 26, 2020 January 27, 2019
Derivatives in Cash Flow Hedging Relationships    Derivatives in Cash Flow Hedging Relationships   
Total Amount Presented in the Condensed Consolidated Statement of Operations in which the Effects of Cash Flow Hedges are Recorded    Amount of Gain or (Loss)
Reclassified
from AOCI into
Income
  Amounts of Gain (Loss) Excluded from Effectiveness Testing
Recognized in
Income
  Total Amount Presented in the Condensed Consolidated Statement of Operations in which the Effects of Cash Flow Hedges are Recorded    Amount of Gain or (Loss)
Reclassified
from AOCI into
Income
  Amounts of Gain (Loss) Excluded from Effectiveness Testing
Recognized in
Income
 
(In millions)  
Foreign Exchange Contracts:
Net Sales $ 4,162    $ (1)   $   $ 3,753    $ —    $ —   
Cost of products sold $ 2,304      —    $ 2,088    12     
Research, development and engineering $ 552      —    $ 516    —    —   
General and administrative $ 129    —    —    $ 110    (5)   (1)  
Interest Rate Contracts:
Interest expense $ 59    (1)   —    $ 60    —    —   
$   $   $   $  


    Amount of Gain or (Loss) 
Recognized in Income
 
Three Months Ended   
Location of Gain or
(Loss) Recognized
in Income
  January 26, 2020 January 27,
2019
  (In millions)  
Derivatives Not Designated as Hedging Instruments   
Foreign exchange contracts    General and administrative    $ —    $ (10)  
Foreign exchange contracts    Interest and other income, net   —   
Total    $   $ (10)  

Credit Risk Contingent Features
If Applied’s credit rating were to fall below investment grade, it would be in violation of credit risk contingent provisions of the derivative instruments discussed above, and certain counterparties to the derivative instruments could request immediate payment on derivative instruments in net liability positions. The aggregate fair value of all derivative instruments with credit-risk related contingent features that were in a net liability position was immaterial as of January 26, 2020.
Entering into derivative contracts with banks exposes Applied to credit-related losses in the event of the banks’ nonperformance. However, Applied’s exposure is not considered significant.

16


APPLIED MATERIALS, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - (Continued)


Note 6      Accounts Receivable, Net
Applied has agreements with various financial institutions to sell accounts receivable and discount promissory notes from selected customers. Applied sells its accounts receivable without recourse. Applied, from time to time, also discounts letters of credit issued by customers through various financial institutions. The discounting of letters of credit depends on many factors, including the willingness of financial institutions to discount the letters of credit and the cost of such arrangements.
Applied sold $206 million and $464 million of accounts receivable during the three months ended January 26, 2020 and January 27, 2019, respectively. Applied did not discount letters of credit issued by customers or discount promissory notes during the three months ended January 26, 2020 and January 27, 2019. Financing charges on the sale of receivables and discounting of letters of credit are included in interest expense in the accompanying Consolidated Condensed Statements of Operations and were not material for all periods presented.
Accounts receivable are presented net of allowance for doubtful accounts of $30 million as of January 26, 2020 and October 27, 2019. Applied sells its products principally to manufacturers within the semiconductor and display industries. While Applied believes that its allowance for doubtful accounts is adequate and represents its best estimate as of January 26, 2020, it continues to closely monitor customer liquidity and industry and economic conditions, which may result in changes to Applied’s estimates.
Note 7      Contract Balances
Contract assets primarily result from receivables for goods transferred to customers where payment is conditional upon technical sign off and not just the passage of time. Contract liabilities consist of unsatisfied performance obligations related to advance payments received and billings in excess of revenue recognized. Applied’s contract assets and liabilities are reported in a net position on a contract-by-contract basis at the end of each reporting period.
Contract assets are generally classified as current and are included in Other Current Assets in the Consolidated Condensed Balance Sheets. Contract liabilities are classified as current or non-current based on the timing of when performance obligations will be satisfied and associated revenue is expected to be recognized.
Contract balances at the end of each reporting period were as follows:
January 26, 2020 October 27, 2019
(In millions)
Contract assets $ 136    $ 108   
Contract liabilities $ 1,400    $ 1,336   
The increase in contract assets during the three months ended January 26, 2020, was primarily due to goods transferred to customers where payment was conditional upon technical sign off, offset by the reclassification of contract assets to net accounts receivable upon meeting conditions to the right to payment.
During the three months ended January 26, 2020, Applied recognized revenue of approximately $601 million related to contract liabilities at October 27, 2019. This reduction in contract liabilities was offset by new billings for products and services for which there were unsatisfied performance obligations to customers and revenue had not yet been recognized as of January 26, 2020.
There were no impairment losses recognized on Applied’s accounts receivables and contract assets during both the three months ended January 26, 2020 and January 27, 2019.
As of January 26, 2020, the amount of remaining unsatisfied performance obligations on contracts with an original estimated duration of one year or more was approximately $772 million, of which approximately 62% is expected to be recognized within 12 months and the remainder is expected to recognized within the following 24 months thereafter.
Applied has elected the available practical expedient to exclude the value of unsatisfied performance obligations for contracts with an original expected duration of one year or less.

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APPLIED MATERIALS, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - (Continued)


Note 8      Balance Sheet Detail
 
January 26,
2020
October 27,
2019
  (In millions)
Inventories
Customer service spares $ 1,203    $ 1,245   
Raw materials 818    802   
Work-in-process 619    575   
Finished goods 832    852   
$ 3,472    $ 3,474   
 
Included in finished goods inventory are $6 million as of January 26, 2020, and $13 million as of October 27, 2019, of newly-introduced systems at customer locations where the sales transaction did not meet Applied’s revenue recognition criteria as set forth in Note 1. Finished goods inventory includes $309 million and $318 million of evaluation inventory as of January 26, 2020 and October 27, 2019, respectively.
January 26,
2020
October 27,
2019
  (In millions)
Other Current Assets
Prepaid income taxes and income taxes receivable $ 117    $ 96   
Prepaid expenses and other 541    485   
$ 658    $ 581   

Useful Life January 26,
2020
October 27,
2019
  (In years) (In millions)
Property, Plant and Equipment, Net
Land and improvements $ 256    $ 254   
Buildings and improvements
3-30
1,611    1,590   
Demonstration and manufacturing equipment
3-5
1,524    1,505   
Furniture, fixtures and other equipment
3-5
619    602   
Construction in progress 152    120   
Gross property, plant and equipment 4,162    4,071   
Accumulated depreciation (2,607)   (2,542)  
$ 1,555    $ 1,529   

January 26,
2020
October 27,
2019
  (In millions)
Deferred Income Taxes and Other Assets
Non-current deferred income taxes and income taxes receivable $ 1,746    $ 1,766   
Operating lease right-of-use assets 156    —   
Other assets 287    265   
$ 2,189    $ 2,031   



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APPLIED MATERIALS, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - (Continued)


January 26,
2020
October 27,
2019
  (In millions)
Accounts Payable and Accrued Expenses
Accounts payable $ 1,043    $ 958   
Compensation and employee benefits 452    559   
Warranty 196    196   
Dividends payable 193    192   
Income taxes payable 159    160   
Other accrued taxes 56    55   
Interest payable 59    38   
Operating lease liabilities, current 44    —   
Other 367    353   
$ 2,569    $ 2,511   
 
 
January 26,
2020
October 27,
2019
  (In millions)
Other Liabilities
Defined and postretirement benefit plans $ 214    $ 212   
Operating lease liabilities, non-current 116    —   
Other 196    163   
$ 526    $ 375   

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