BUSINESS COMBINATION

6 Months Ended

Mar. 31, 2020

On the Acquisition Date, the Company completed its acquisition of 100% of the outstanding stock of KMG, which was a publicly-held company headquartered in Fort Worth, Texas. KMG specialized in producing, processing, and distributing electronic chemicals for the semiconductor industry and performance materials for the pipeline and adjacent industries, and industrial wood preservation industry. We acquired KMG to extend and strengthen our position as one of the leading suppliers of consumable materials to the semiconductor industry and to expand our portfolio with the addition of KMG’s performance materials businesses, which we believe enables us to become a leading global provider of performance materials to pipeline operators. The purchase consideration was $1,513,235, including consideration transferred of $1,536,452, less cash acquired of $23,217. The consideration was comprised of cash consideration to KMG common stockholders and equity award holders, stock consideration to KMG common stockholders and equity award holders, and cash consideration in the form of the retirement of KMG’s preexisting debt obligations. Under the terms of the definitive agreement to acquire KMG, each share of KMG common stock was converted into the right to receive $55.65 in cash and 0.2000 of a share of Cabot Microelectronics common stock. As a result, we issued 3,237,005 shares of our common stock to KMG’s common stockholders, with a stock price of $102.27 on the Acquisition Date. In connection with the Acquisition, we entered into a credit agreement which provided a seven-year, $1,065.0 million term loan facility. Refer to Note 10 of this Report on Form 10-Q for additional information. See below for a summary of the different components that comprise the total consideration.


	Amount
Total cash consideration paid for KMG outstanding common stock and equity awards	$	900,756
Cash provided to payoff KMG debt	304,648
Total cash consideration paid	1,205,404
Fair value of Cabot Microelectronics common stock issued for KMG outstanding common stock and equity awards	331,048
Total consideration transferred	$	1,536,452

The following table summarizes the allocation of fair values of assets acquired and liabilities assumed as of the Acquisition Date.


	Amount
Cash	$	23,217
Accounts receivable	63,950
Inventories	68,087
Prepaid expenses and other current assets	14,694
Property, plant and equipment	147,170
Intangible assets	844,800
Other long-term assets	5,805
Accounts payable	(28,835)
Accrued expenses and other current liabilities	(44,216)
Deferred income taxes liabilities	(156,474)
Other long-term liabilities	(15,080)
Total identifiable net assets acquired	923,118
Goodwill	613,334
Total consideration transferred	$	1,536,452

The Acquisition was accounted for using the acquisition method of accounting. Tangible and identifiable intangible assets acquired and liabilities assumed are recorded at fair value as of the Acquisition Date. We believe that the information we used provides a reasonable basis for estimating the fair value of assets acquired and liabilities assumed. The Company finalized the purchase price allocation during the fourth quarter of fiscal 2019. During the first quarter of fiscal 2020, the Company made adjustments to the purchase price allocation to correct immaterial errors.

The fair values of identifiable assets and liabilities acquired were developed with the assistance of a third-party valuation firm. The fair value of acquired property, plant and equipment is primarily valued at its “value-in-use.” The fair value of acquired identifiable intangible assets was determined using the “income approach” on an individual asset basis. The key assumptions used in the calculation of the discounted cash flows include projected revenue, operating expenses, discount rates terminal growth rates, and customer attrition rates. The valuations and the underlying assumptions have been deemed reasonable by the Company’s management. There are inherent uncertainties and management judgment required in these determinations.

The following table sets forth the components of identifiable intangible assets acquired and their estimated useful lives as of the Acquisition Date:


	Fair Value		Estimated Useful Life (years)
Customer relationships - Flowchem	$	315,000	20
Customer relationships - Electronic chemicals	280,000		19
Customer relationships - all other	109,000		15-16
Technology and know-how	85,500		9-11
Trade name - Flowchem	46,000		Indefinite
Trade name - all other	7,000		1-15
EPA product registration rights	2,300		15
Total intangible assets	$	844,800

Customer relationships represent the estimated fair value of the underlying relationships and agreements with KMG’s customers, and are being amortized on an accelerated basis in order for the expense to most accurately match the periods of highest cash flows attributable to the identified relationships. Technology and know-how represent the estimated fair value of KMG’s technology, processes and knowledge regarding its product offerings, and are being amortized on a straight-line basis. Trade names represent the estimated fair value of the brand and name recognition associated with the marketing of KMG’s product offerings and are being amortized on a straight-line basis, except for the Flowchem trade name, which we believe has an indefinite life. The intangible assets subject to amortization have a weighted average useful life of 17.9 years. For intangible assets related to the wood treatment business, the remaining useful lives were limited to the end of the calendar year 2021.

As discussed in our Annual Report on Form 10-K for the fiscal year ended September 30, 2019, the Company recognized asset impairment charges of $67,372, net for the wood treatment asset group due to triggering events that occurred in the fourth quarter of fiscal 2019. The Company continues to monitor the wood treatment asset group for indicators of long-lived asset or goodwill impairment. As the Company approaches the announced closure date of the facilities and there are lower estimated future cash flows, there is a potential for further impairments of long-lived assets and goodwill absent a sale of the business. While the timing and amounts of any further impairments are unknown, they could be material to the Company’s Consolidated Balance Sheets and to the Consolidated Statements of Income, but they will not affect the Company’s reported Net cash provided by operating activities. Refer to Note 10 of "Notes to the Consolidated Financial Statements" included in Item 8 of Part II of our Annual Report on Form 10-K for the fiscal year ended September 30, 2019 for additional information.

The excess of consideration transferred over the fair value of net assets acquired was recorded as goodwill, and is not deductible for income tax purposes. The goodwill is primarily attributable to anticipated revenue growth from the combined company product portfolio, expected synergies of the combined company, and the assembled workforce of KMG. The allocation of goodwill to each of the Electronic Materials and Performance Materials segments as a result of the Acquisition was $259,859 and $353,475, respectively.

For the three and six months ended March 31, 2020, we recorded $2,285 and $5,050, respectively, in Acquisition and integration-related expenses, including professional fees and retention costs. These items are included within Selling, general and administrative in the Consolidated Statements of Income.

KMG’s results of operations have been included in our unaudited Consolidated Statements of Income and Consolidated Statements of Comprehensive Income (Loss) from the Acquisition Date. Net sales of the acquired KMG businesses for the three and six months ended March 31, 2020 were $137,996 and $271,429, respectively. KMG’s Net income for the three and six months ended March 31, 2020 were $16,604 and $31,290, respectively, which include Acquisition-related costs of $117 and $323, respectively. Further, additional amortization and depreciation expense associated with recording KMG’s net assets at fair value decreased KMG’s Net income post-Acquisition.

The following unaudited supplemental pro forma information summarizes the combined results of operations for Cabot Microelectronics and KMG as if the Acquisition had occurred on October 1, 2017.


	Three Months Ended March 31, 2019		Six Months Ended March 31, 2019
Revenue	$	265,391	$	549,147
Net income	26,871		64,473
Earnings per share - basic	0.93		2.23
Earnings per share - diluted	0.91		2.19

The following costs are included in the three and six months ended March 31, 2019:

•Non-recurring transaction costs of $621 and $1,436, respectively.

•Non-recurring transaction-related employee costs, such as accelerated stock compensation expense, retention and severance expense of $51 and $154, respectively.

The historical financial information has been adjusted by applying the Company’s accounting policies and giving effect to the pro forma adjustments, which consist of (i) amortization expense associated with identified intangible assets; (ii) depreciation of fixed asset step-up (for pre-Acquisition periods only); (iii) accretion of inventory step-up value; (iv) the elimination of Interest expense on pre-Acquisition KMG debt and replacement of Interest expense related to the Acquisition-related financing; (v) transaction-related costs; (vi) accelerated share-based compensation expense (pre-Acquisition periods only); (vii) retention and severance expense incurred as a direct result of the Acquisition; and (viii) an adjustment to tax-effect the aforementioned unaudited pro forma adjustments using an estimated weighted-average effective income tax rate of each entity and the jurisdictions to which the above adjustments relate. The pro forma consolidated results are not necessarily indicative of what the consolidated results actually would have been had the Acquisition been completed on October 1, 2017. The pro forma consolidated results do not purport to project future results of combined operations, nor do they reflect the expected realization of any revenue or cost synergies associated with the Acquisition.

Quarter over quarter and year over year numbers may not always roll forward when comparing to prior period pro forma reported results. Variances can be attributed to: changes in Purchase Price Allocation values and useful lives, differences in the allocation between Cost of sales and Selling, general and administrative expenses, transaction expenses that had not been incurred, tax rate assumptions and interest rate calculations.