10-Q

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

QUARTERLY REPORT UNDER SECTION 13 OR 15 (d)
OF
THE SECURITIES EXCHANGE ACT OF 1934

For the Quarter Ended July 3, 2005
Commission File Number 0-16852

KOMAG, INCORPORATED

(Registrant)

Incorporated in the State of Delaware
I.R.S. Employer Identification Number 94-2914864
1710 Automation Parkway, San Jose, California 95131
Telephone: (408) 576-2000

     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 þ No o

     Indicate by check mark whether the Registrant is an accelerated filer (as defined in Exchange Act rule 12b-2). Yes þ No o

     Indicate by check mark whether the Registrant has filed all reports required to be filed by Section 12, 13, or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court. Yes þ No o

     On July 3, 2005, 29,824,929 shares of the Registrant’s common stock, $0.01 par value, were issued and outstanding.

INDEX
KOMAG, INCORPORATED

	Page No.
PART I. FINANCIAL INFORMATION
Item 1. Condensed Consolidated Financial Statements (Unaudited)
Condensed Consolidated Statements of Income — three and six months ended July 3, 2005 and July 4, 2004		4
Condensed Consolidated Balance Sheets — July 3, 2005 and January 2, 2005		5
Condensed Consolidated Statements of Cash Flows — six months ended July 3, 2005 and July 4, 2004		6
Notes to Condensed Consolidated Financial Statements (Unaudited)		7-14
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations		15-38
Item 3. Quantitative and Qualitative Disclosures about Market Risk		39
Item 4. Controls and Procedures		39
PART II. OTHER INFORMATION
Item 1. Legal Proceedings		40
Item 2. Unregistered Sales of Equity Securities		40
Item 3. Defaults Upon Senior Securities		40
Item 4. Submission of Matters to a Vote of Security Holders		41
Item 5. Other Information		41
Item 6. Exhibits		42
SIGNATURES		43
EXHIBIT 10.1
EXHIBIT 31.1
EXHIBIT 31.2
EXHIBIT 32

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FORWARD-LOOKING INFORMATION

     This report contains forward-looking statements within the meaning of the U.S. federal securities laws that involve risks and uncertainties. Certain statements contained in this report are not purely historical including, without limitation, statements regarding our expectations, beliefs, intentions, anticipations, commitments, or strategies regarding the future that are forward-looking. These statements include those discussed in Item 2, Management’s Discussion and Analysis of Financial Condition and Results of Operations, including “Results of Operations,” “Critical Accounting Policies,” and “Liquidity and Capital Resources,” and elsewhere in this report. These statements include statements concerning projected revenues, international revenues, expenses, gross profit, income, product development, and market acceptance of our products.

     In this report, the words “may,” “could,” “would,” “might,” “will,” “should,” “plan,” forecast,” “anticipate,” “believe,” “expect,” “intend,” “estimate,” “predict,” “potential,” “continue,” “future,” “moving toward” or the negative of these terms or other similar expressions also identify forward-looking statements. Our actual results could differ materially from those forward-looking statements contained in this report as a result of a number of risk factors, including, but not limited to, those set forth in the section entitled “Risk Factors” and elsewhere in this report. You should carefully consider these risks, in addition to the other information in this report and in our other filings with the Securities and Exchange Commission. All forward-looking statements and reasons why results may differ included in this report are made as of the date of this report, and we assume no obligation to update any such forward-looking statement or reason why such results might differ.

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PART I. FINANCIAL INFORMATION

ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

KOMAG, INCORPORATED

CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share amounts)

	Three Months Ended						Six Months Ended
	July 3, 2005			July 4, 2004			July 3, 2005			July 4, 2004
Net sales	$	172,740		$	101,139		$	313,015		$	224,724
Cost of sales		124,660			79,510			229,872			166,166
Gross profit		48,080			21,629			83,143			58,558
Operating expenses:
Research, development, and engineering		12,834			9,043			23,989			20,665
Selling, general, and administrative		5,787			3,908			11,322			9,262
Gain on disposal of assets		(1,360	)		(210	)		(1,749	)		(400	)
		17,261			12,741			33,562			29,527
Operating income		30,819			8,888			49,581			29,031
Other income (expense):
Interest income		1,044			228			1,794			509
Interest expense		(442	)		(445	)		(883	)		(2,307	)
Other, net		(23	)		(17	)		(51	)		(67	)
		579			(234	)		860			(1,865	)
Income before income taxes		31,398			8,654			50,441			27,166
Provision for income taxes		1,505			286			2,021			825
Net income	$	29,893		$	8,368		$	48,420		$	26,341
Basic net income per share	$	1.04		$	0.30		$	1.70		$	0.98
Diluted net income per share	$	0.92		$	0.28		$	1.51		$	0.89
Number of shares used in basic per share computations		28,834			27,526			28,549			26,892
Number of shares used in diluted per share computations		32,971			31,553			32,669			30,621

See notes to condensed consolidated financial statements.

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KOMAG, INCORPORATED

CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands)

	July 3, 2005			January 2, 2005
ASSETS
Current assets
Cash and cash equivalents	$	41,761		$	26,410
Short-term investments		104,150			77,700
Accounts receivable (less allowances of $2,268 and $1,075, respectively)		92,077			79,213
Inventories		48,299			35,815
Prepaid expenses and deposits		2,927			1,815
Total current assets		289,214			220,953
Property, plant, and equipment (net of accumulated depreciation of $117,316 and $99,065, respectively)		227,110			205,642
Other assets		3,437			4,500
	$	519,761		$	431,095
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities
Trade accounts payable	$	58,550		$	43,082
Accrued expenses and other liabilities		33,238			19,887
Total current liabilities		91,788			62,969
Long-term debt		80,500			80,500
Long-term deferred rent		1,281			—
Total liabilities		173,569			143,469
Stockholders’ equity
Common stock, $0.01 par value per share:
Authorized - 50,000 shares
Issued and outstanding - 29,825 and 28,065 shares, respectively		298			281
Additional paid-in capital		260,391			241,960
Deferred stock-based compensation		(8,393	)		(91	)
Retained earnings		93,896			45,476
Total stockholders’ equity		346,192			287,626
	$	519,761		$	431,095

See notes to condensed consolidated financial statements.

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KOMAG, INCORPORATED

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)

	Six Months Ended
	July 3, 2005			July 4, 2004
Operating Activities
Net income	$	48,420		$	26,341
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization of property, plant, and equipment		20,747			18,448
Tax adjustment to additional paid-in capital		1,651			—
Amortization and adjustments of intangible assets		986			1,617
Stock-based compensation		2,526			370
Deferred rent		1,281			—
Non-cash interest charges		77			359
Gain on disposal of assets		(1,749	)		(400	)
Changes in operating assets and liabilities:
Accounts receivable, net		(12,864	)		(6,365	)
Inventories		(12,484	)		(8,569	)
Prepaid expenses and deposits		(1,112	)		435
Trade accounts payable		12,460			(1,050	)
Accrued expenses and other liabilities		13,351			(6,758	)
Net cash provided by operating activities		73,290			24,428
Investing Activities
Acquisition of property, plant, and equipment		(40,520	)		(39,222	)
Purchases of short-term investments		(138,900	)		(74,000	)
Proceeds from short-term investments		112,450			67,850
Proceeds from disposal of property, plant, and equipment		3,062			843
Other		—			(262	)
Net cash used in investing activities		(63,908	)		(44,791	)
Financing Activities
Payment of debt		—			(116,341	)
Proceeds from the issuance of long-term debt		—			77,419
Proceeds from sale of common stock, net of issuance costs		5,969			67,693
Net cash provided by financing activities		5,969			28,771
Increase in cash and cash equivalents		15,351			8,408
Cash and cash equivalents at beginning of period		26,410			27,208
Cash and cash equivalents at end of period	$	41,761		$	35,616

See notes to condensed consolidated financial statements

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KOMAG, INCORPORATED

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
JULY 3, 2005

Note 1. Basis of Presentation and Summary of Significant Accounting Policies

     The accompanying unaudited condensed consolidated financial statements include the accounts of Komag, Incorporated, a Delaware corporation (the Company), and its wholly-owned subsidiaries. These financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America. While the financial information furnished is unaudited, in the opinion of management, all normal recurring adjustments considered necessary for a fair presentation of the condensed consolidated financial position, operating results, and cash flows for the periods presented, have been included. Operating results for the six months ended July 3, 2005, are not necessarily indicative of the results that may be expected for the year ending January 1, 2006. The accompanying unaudited condensed consolidated financial statements should be read in conjunction with the Company’s consolidated financial statements for the year ended January 2, 2005, which are included in the Company’s Annual Report on Form 10-K.

     Use of Estimates in the Preparation of Financial Statements: The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amount of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

     Fiscal Year: The Company uses a 52-53 week fiscal year ending on the Sunday closest to December 31. The Company’s 2005 fiscal year will include 52 weeks. Accordingly, the Company’s three-month and six-month reporting periods ended July 3, 2005, included 13 weeks and 26 weeks, respectively. Because the Company’s 2004 fiscal year included 53 weeks, its three-month and six-month reporting periods ended July 4, 2004, included 13 weeks and 27 weeks, respectively.

     Reclassification: Certain amounts in fiscal 2004 as reported on the Condensed Consolidated Balance Sheet and Condensed Consolidated Statements of Cash Flows have been reclassified to conform to the current year presentation. The Company reclassified $77.7 million in auction rate securities from cash and cash equivalents to short-term investments on the condensed Consolidated Balance Sheet as of January 2, 2005. The Company also reclassified $49.0 million and $42.9 million in auction rate securities from cash and cash equivalents to short-term investments as of July 4, 2004 and December 28, 2003, respectively, which decreased cash flows from investing activities by $6.1 million in the condensed consolidated cash flows for the six months ended July 4, 2004. The reclassification to short-term investments is based on the latest interpretation of cash equivalents pursuant to Financial Accounting Standards Board (FASB) Statement of Financial Accounting Standards (SFAS) No. 95, Statement of Cash Flows.

     Cash and Cash Equivalents: The Company considers as a cash equivalent any bank deposit, money market investments and any highly-liquid investment that mature within three months of its

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purchase date.

     Short-Term Investments: The Company invests its excess cash in high-quality, short-term debt instruments and auction rate preferred securities (which the Company rolls over every three months or less). Interest and dividends on the investments are included in interest income. The cost of the Company’s investments approximates fair value.

     Inventories: Inventories are stated at the lower of cost (first-in, first-out method) or market, and consist of the following (in thousands):

	July 3, 2005		January 2, 2005
Raw materials	$	31,562	$	20,647
Work in process		7,965		7,785
Finished goods		8,772		7,383
	$	48,299	$	35,815

     Stock-Based Compensation: The Company uses the intrinsic value method to account for employee stock-based compensation. The intrinsic value method is in accordance with the recognition and measurement principles of Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees. Accordingly, compensation cost is recorded on the date of grant to the extent that the fair value of the underlying share of common stock exceeds the exercise price for a stock option or the purchase price for a share of common stock.

     In accordance with SFAS No. 123, Accounting for Stock-Based Compensation (SFAS 123), and SFAS No. 148, Accounting for Stock-Based Compensation — Transition and Disclosure — an Amendment of SFAS 123, the Company provides pro forma disclosure of the effect on net income and earnings per share had the fair value method, as prescribed by SFAS 123, been used.

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     The following table reflects the effect on the Company’s net income and income per share had the fair value method been applied to all outstanding and unvested awards. The table is in thousands, except per share data.

	Three Months Ended						Six Months Ended
	July 3, 2005			July 4, 2004			July 3, 2005			July 4, 2004
Net income, as reported	$	29,893		$	8,368		$	48,420		$	26,341
Add: Stock-based employee compensation expense included in reported net income, net of related tax effects		1,685			135			2,526			370
Deduct: Stock-based compensation expense determined under the fair value method for all awards, net of related tax effects		(2,350	)		(925	)		(3,916	)		(1,912	)
Pro forma net income	$	29,228		$	7,578		$	47,030		$	24,799
Net income per share:
Basic — as reported	$	1.04		$	0.30		$	1.70		$	0.98
Diluted — as reported	$	0.92		$	0.28		$	1.51		$	0.89
Basic — pro forma	$	1.01		$	0.28		$	1.65		$	0.92
Diluted — pro forma	$	0.90		$	0.25		$	1.47		$	0.84

     For pro forma disclosure purposes, the Company used the Black-Scholes option pricing model to estimate the fair value of each option and stock purchase right grant on the date of grant.

     The Company used the following assumptions to estimate the fair value of option grants in the first and second quarters of 2005 and 2004: risk-free interest rates of 4.04% and 3.64%, respectively, for 2005, and 2.46% and 3.70%, respectively, for 2004; volatility factors of the expected market price of the Company’s common stock of 71.83% and 70.67%, respectively, for 2005, and 82.6% and 82.7%, respectively, for 2004; and a weighted-average expected option life of 4.0 years. The weighted-average fair value of options granted during the first and second quarters of 2005 and 2004 was $11.43 and $13.04, respectively, for 2005, and $11.58 and $8.34, respectively, for 2004.

     The Company used the following assumptions to estimate the fair value of employee purchase rights under the Amended and Restated 2002 Employee Stock Purchase Plan (ESPP) for the first quarter of 2005 and the first and second quarters of 2004: risk-free interest rates of 1.68% for 2005, and 1.00% and 1.49%, respectively, for 2004; volatility factors of 50.8% for 2005, and 73.5% and 70.9%, respectively, for 2004: and weighted-average expected purchase rights lives of six months. The ESPP was terminated, and the last purchase period was in February 2005. Therefore, no common stock was issued under the ESPP in the second quarter of 2005.

     Because the Company does not pay dividends, there was no dividend yield included in the pro forma disclosure calculation.

     In December 2004, the FASB issued SFAS No. 123R, Share-Based Payment (SFAS 123R). SFAS 123R is a revision of SFAS 123, which addresses financial accounting and reporting for costs associated with stock-based compensation. SFAS 123 addresses all forms of share-based payment (SBP) awards, including shares issued under employee stock purchase plans, stock options, restricted stock, and

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stock appreciation rights. SFAS 123R requires the Company to adopt the new accounting provisions beginning in its first quarter of 2006, and applies to all outstanding and unvested SBP awards at the Company’s adoption date. The Company is allowed to select one of two alternative transition methods — each having different reporting implications. On March 29, 2005, the Securities and Exchange Commission (SEC) issued Staff Accounting Bulletin No. 107 (SAB 107) on SFAS 123R to assist preparers by simplifying some of the implementation challenges of SFAS 123R. The Company has not completed its evaluation or determined the impact of adopting SFAS 123R. However, we expect the adoption to have a significant impact on our net income and net income per share.

     Computation of Net Income Per Share: The Company determines net income per share in accordance with SFAS No. 128, Earnings per Share.

     Basic net income per common share is computed by dividing income available to common stockholders by the weighted-average number of shares of common stock outstanding during the period. Diluted net income per share is computed by dividing income available to common stockholders by the weighted-average number of shares and dilutive potential shares of common stock outstanding during the period. The dilutive effect of outstanding options and stock purchase rights is reflected in diluted net income per share by application of the treasury stock method.

     The following table sets forth the computation of net income per share. The table is in thousands, except per share amounts.

	Three Months Ended				Six Months Ended
	July 3, 2005		July 4, 2004		July 3, 2005		July 4, 2004
Numerator for basic net income per share:
Net income as reported	$	29,893	$	8,368	$	48,420	$	26,341
Numerator for diluted net income per share:
Net income as reported	$	29,893	$	8,368	$	48,420	$	26,341
Interest adjustment related to contigently convertible debt		442		445		883		773
	$	30,335	$	8,813	$	49,303	$	27,114
Denominator for basic income per share:
Weighted average shares		28,834		27,526		28,549		26,892
Denominator for diluted income per share:
Weighted average shares		28,834		27,526		28,549		26,892
Effect of dilutive securities:
Contingently convertible shares under convertible debt		3,049		3,049		3,049		2,565
Stock options		598		442		560		550
Warrants		303		331		395		408
Stock purchase rights		187		205		116		206
		32,971		31,553		32,669		30,621
Basic net income per share	$	1.04	$	0.30	$	1.70	$	0.98
Diluted net income per share	$	0.92	$	0.28	$	1.51	$	0.89

     Incremental common shares attributable to outstanding common stock options (assuming proceeds would be used to purchase treasury stock) of zero and 15,661 for the three-month and six-month periods

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ended July 3, 2005, respectively, and 329,323 and 201,989 for the three- month and six-month periods ended July 4, 2004, respectively, were not included in the diluted net income per share computation because the effect would have been anti-dilutive.

     In January 2004, the Company issued $80.5 million of 2.0% Convertible Subordinated Notes (the Notes). The Notes are convertible, under certain circumstances, into shares of the Company’s common stock at an initial conversion price of $26.40, or approximately 3,049,000 shares. In October 2004, the Emerging Issues Task Force (EITF) reached a consensus on Issue No. 04-08, Accounting Issues Related to Certain Features of Contingently Convertible Debt and the Effect on Diluted Earnings per Share. This consensus, which became effective in the fourth quarter of 2004, requires the Company to include these additional shares in its calculation of diluted earnings per share as of the date of issuance of the Notes (the first quarter of 2004). Accordingly, these shares have been included in the Company’s diluted earnings per share calculations for the first and second quarters of 2005 and 2004. Therefore, diluted net income per share has been adjusted for the three-month and six-month periods ended July 4, 2004, to $0.28 and $0.89, respectively, from $0.29 and $0.94, respectively.

     Recent Accounting Pronouncements: In December 2003, the FASB issued FASB Interpretation No. 46 (revised December 2003), Consolidation of Variable Interest Entities (FIN 46R), which addresses how a business enterprise should evaluate whether it has a controlling financial interest in an entity through means other than voting rights and accordingly should consolidate the entity. FIN 46R replaces FASB Interpretation No. 46, Consolidation of Variable Interest Entities (VIE), which was issued in January 2003. The Company is required to apply FIN 46R to variable interests in VIEs created after December 31, 2003. For variable interests in VIEs created before January 1, 2004, the Interpretation has been applied beginning on January 1, 2005. For any VIEs that must be consolidated under FIN 46R that were created before January 1, 2004, the assets, liabilities and non-controlling interests of the VIE initially would be measured at their carrying amounts with any difference between the net amount added to the balance sheet and any previously recognized interest being recognized as the cumulative effect of an accounting change. If determining the carrying amounts is not practicable, fair value at the date FIN 46R first applies may be used to measure the assets, liabilities and non-controlling interest of the VIE. The Company’s adoption of FIN 46R had no impact on its consolidated financial statements.

     In December 2004, the FASB issued SFAS No. 151 (SFAS 151), Inventory Costs. SFAS 151 clarifies the accounting for inventory when there are abnormal amounts of idle facility expense, freight, handling costs, and wasted materials. Under existing generally accepted accounting principles, items such as idle facility expense, excessive spoilage, double freight, and re-handling costs may be “so abnormal” as to require treatment as current period charges rather than recorded as adjustments to the value of the inventory. SFAS 151 requires that those items be recognized as current-period charges regardless of whether they meet the criterion of “so abnormal.” In addition, this Statement requires that allocation of fixed production overheads to the costs of conversion be based on the normal capacity of the production facilities. The provisions of this Statement shall be effective for inventory costs incurred during fiscal years beginning after June 15, 2005. Earlier application is permitted for inventory costs incurred during fiscal years beginning after the date this Statement is issued. The adoption of SFAS 151 is not expected to have a material effect on the Company’s financial position or results of operations.

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     In May 2005, the FASB issued SFAS No. 154, Accounting Changes and Error Corrections. SFAS No. 154 is a replacement of APB No. 20 and FASB Statement No. 3. SFAS No. 154 provides guidance on the accounting for and reporting of accounting changes and error corrections. It establishes retrospective application as the required method for reporting a change in accounting principle. SFAS No. 154 provides guidance for determining whether retrospective application of a change in accounting principle is impracticable and for reporting a change when retrospective application is impracticable. The reporting of a correction of an error by restating previously issued financial statements is also addressed by SFAS No. 154. SFAS No. 154 is effective for accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005. The Company will adopt this pronouncement beginning in fiscal year 2006.

Note 2. Concentration of Customer, Supplier, and Geographic Risk

     The following table reflects the percentage of the Company’s revenue by major customer:

	Three Months Ended						Six Months Ended
	July 3, 2005			July 4, 2004			July 3, 2005			July 4, 2004
Maxtor Corporation		30	%		50	%		32	%		48	%
Hitachi Global Storage Technologies		25	%		30	%		25	%		25	%
Seagate Technology		21	%		8	%		18	%		8	%
Western Digital Corporation		19	%		6	%		19	%		14	%

     The Company relies on a limited number of suppliers for some of the materials and equipment used in its manufacturing processes, including aluminum blanks, aluminum substrates, nickel plating solutions, polishing and texturing supplies, and sputtering target materials. Kobe Steel, Ltd. is the Company’s sole supplier of aluminum blanks, which is a fundamental component in producing disks. The Company also relies on a single supplier, Heraeus Incorporated, for a substantial quantity of its sputtering target requirements, and on OMG Fidelity, Incorporated for supplies of nickel plating solutions.

     A majority of the Company’s long-lived assets is located at its Malaysian manufacturing facilities. These assets totaled $212.4 million as of July 3, 2005, and $190.0 million as of January 2, 2005. The majority of the Company’s sales are for product delivered to manufacturing facilities located in Asia.

Note 3. Income Taxes

     The Company’s estimated annual effective income tax rate for 2005 is 4.0% and reflects income tax expenses related to the Company’s U.S. and international operations. The Company’s estimated annual effective tax rate for 2004 was approximately 3.0%.

     The Company’s Malaysian manufacturing facilities are covered by tax holidays with varying expiration dates. In July 2005, the Malaysian government agreed to reset the expiration dates of the various tax holidays to December 2006 and approved a new, 10-year tax holiday covering all of our Malaysian operations. The new tax holiday commences in January 2007 and expires in December 2016.

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     In the first quarter and second quarter of 2005 and the first quarter of 2004, the Company utilized deferred tax assets generated prior to the Company’s emergence from chapter 11 bankruptcy in 2002. The Company provided a full valuation allowance against all tax assets; therefore, upon utilization of those pre-emergence deferred tax assets, the Company first reduced intangible assets and then credited additional paid-in capital for $1.7 million in 2005. Future benefits from those previously fully reserved assets will be credited to additional paid-in capital.

Note 4. Accrued Expenses and Other Liabilities

     The following table summarizes accrued expenses and other liabilities balances at July 3, 2005 and January 2, 2005 (in thousands):

	July 3, 2005		January 2, 2005
Accrued compensation and benefits	$	17,815	$	15,777
Customer advance		12,500		—
Other liabilities		2,923		4,110
	$	33,238	$	19,887

     In June 2005, the Company entered into a volume purchase agreement (VPA) with a major customer. The VPA was subsequently amended in July 2005. The VPA requires that the Company supply and the customer purchase certain specified media volumes and that the Company supply media from existing and new production capacity to meet such purchase requirements, subject to certain exceptions and grace periods. The Company’s supply obligations and the customer’s purchase obligations under the VPA are for an initial period of eighteen months after the Company has commenced full capacity production from its new capacity, subject to certain extension and renewal periods. Under the VPA, the customer is obligated to pay the Company certain advances which cover future purchases of media from the Company.

Note 5. Deferred Rent

     In December 2004, the Company signed a second amendment to its lease on its headquarter facility, which became effective in January 2005. The second amendment to the lease agreement included scheduled rent increases. The Company recognizes lease obligations with scheduled rent increases over the term of the lease on a straight-line basis in accordance with FASB Technical Bulletin 85-3 Accounting for Operating Leases with Scheduled Rent Increases. Accordingly, the total amount of base rentals over the term of the lease for the Company's headquarter facility is charged to expense on a straight-line method, with the amount of rental expense in excess of lease payments recorded as a deferred rent liability.

Note 6. Stock Purchase Rights

     In the first half of 2005, the Company issued a total of 508,610 stock purchase rights with an exercise price of $0.01. The vesting for the stock purchase rights grants is one-third at the end of each of the first three anniversaries of the date of grant, subject to the employee, non-employee board member, or consultant continuing to be a service provider of the Company on each such date. In the first half of 2005,

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the Company recorded $10.7 million of deferred stock-based compensation, which is being amortized to expense ratably over the vesting period.

Note 7. Subsequent Events

     Supply Agreements. In July 2005, the Company entered into supply agreements with two major customers. Each agreement requires the Company to supply to the customer certain specified media volumes and that the Company supply such media from existing and new production capacity, subject to certain exceptions. These agreements expire in 2008 and 2009. Under each agreement the customer is required to make certain advances covering future purchases of media from the Company. Copies of these agreements will be filed on the Company’s quarterly report for the period ending October 2, 2005.

     Employment Agreements. In August 2005, the Company entered into Executive Employment Agreements (collectively referred to as the “Agreements”) with the following executive officers: Kathleen A. Bayless, William G. Hammack, Kamran Honardoost, Kheng Huat Oung, Ray L. Martin, Peter S. Norris, Michael A. Russak, Thian Hoo Tan and Tsutomo T. Yamashita. The prior employment agreements between Komag and its executive officers expired by their terms on July 16, 2005.

     The Agreements specify base salary compensation for each officer, a term of employment of two years, benefits and certain other severance benefits described below, subject to compliance with various terms and conditions, including the execution of a release of claims. The Agreements also include non-solicitation obligations of the executive officers.

     The Agreements provide that if an executive officer’s employment terminates other than voluntarily or for “cause” prior to a “change in control” (as such terms are defined in the Agreements) or more than six months following a change in control, the executive officer will receive a severance amount equal to twelve (12) months of base salary, except that Mr. Tan will receive a severance amount equal to twenty-four (24) months of base salary. The executive officers will also receive accelerated vesting of a portion of outstanding and unvested non-qualified stock options and restricted stock.

     In addition, the Agreements provide the same severance payments referred to in the preceding paragraph, plus an additional cash severance payment based on target incentive bonus amounts and acceleration of any outstanding and unvested stock options and restricted stock, if the executive officer’s employment is terminated other than voluntarily or for cause within six months of a change of control.

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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

     The following discussion should be read in conjunction with the condensed consolidated financial statements and the accompanying notes included in Part I. Financial Information, Item 1. Condensed Consolidated Financial Statements of this report.

     The following discussion contains predictions, estimates, and other forward-looking statements that involve a number of risks and uncertainties about our business, including but not limited to: our belief that we are a leading independent supplier of disks; our belief that we have developed a deep understanding of market needs in the disk drive market; our belief that our manufacturing and technology development programs provide us with competitive advantages in maintaining and growing our market share; our belief that we have developed strong relationships with many of the leading disk drive manufacturers; our belief that our manufacturing operations, together with our experience in the industry and our economies of scale, provide us with timing and cost advantages in delivering consistently high-quality products to our customers in high volumes; our plan to continue to generate cash from our operations for the remainder of 2005; our belief that we will continue to investigate areas where we can expand our presence in the disk market; our expectation that we will continue to generate cash from operations; and our belief that the estimates and judgments made regarding future events in connection with the preparation of our financial statements are reasonable. These statements may be identified by the use of words such as “expects,” “anticipates,” “intends,” “plans,” and similar expressions. In addition, forward-looking statements include, but are not limited to, statements about our beliefs, estimates, or plans about our ability to maintain low manufacturing and operating costs and costs per unit, our ability to estimate revenues, shipping volumes, pricing pressures, returns, reserves, demand for our disks, selling, general, and administrative expenses, taxes, research, development, and engineering expenses, spending on property, plant, and equipment, expected sales of disks and the market for disk drives generally and certain customers specifically, and our beliefs regarding our liquidity needs.

     Forward-looking statements are estimates reflecting the best judgment of our senior management, and they involve a number of risks and uncertainties that could cause actual results to differ materially from those suggested by the forward-looking statements. Our business is subject to a number of risks and uncertainties. While this discussion represents our current judgment on the future direction of our business, these risks and uncertainties could cause actual results to differ materially from any future performance suggested herein. Some of the important factors that may influence possible differences are continued competitive factors, technological developments, pricing pressures, changes in customer demand, and general economic conditions, as well as those discussed in the Risk Factors section below. We undertake no obligation to update forward-looking statements to reflect events or circumstances occurring after the date of such statements. Readers should review the Risk Factors section below, as well as other documents filed from time to time by us with the SEC.

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Results of Operations

Overview

     Komag, Incorporated was incorporated in Delaware in 1983. We are headquartered in San Jose, California. All of our manufacturing facilities are in Malaysia.

     We design, manufacture, and market thin-film media (disks), which are incorporated into disk drives. Disks, such as the ones we manufacture, serve as a primary storage medium for digital data. Our net sales are driven by the level of demand for disks by disk drive manufacturers and the average selling prices of our disks. Demand for our disks is dependent on unit growth in the disk drive market, the growth of storage capacity in disk drives, which affects the number of disks needed per drive, and the number of disks our customers purchase from external suppliers. Average selling prices are dependent on overall supply and demand for disks and our product mix.

     Our business is capital-intensive and is characterized by high fixed costs, making it imperative that we sell disks in high volume. Our contribution margin per disk sold varies with changes in selling price, input material costs, and production yield. As demand for our disks increases, our total contribution margin increases, improving our financial results because we do not have to increase our fixed cost structure in proportion to increases in demand and resultant capacity utilization. Conversely, our financial results would deteriorate rapidly if the disk market were to worsen and our production volume were to decrease.

     A majority of our revenue, expense, and capital purchasing activities is transacted in U.S. dollars. However, a large portion of our payroll, certain manufacturing and operating expenses, and inventory and capital purchases is transacted in the Malaysian ringgit (ringgit). On July 21, 2005, Malaysia removed its currency peg to the U.S. dollar in favor of a managed float system. Changes in exchange rates could adversely affect the amount we spend on our payroll, certain manufacturing and operating expenses, and raw materials and capital purchases.

     Our three-month and six-month reporting periods ended July 3, 2005 included 13 weeks and 26 weeks, respectively. Because our 2004 fiscal year contained 53 weeks, our three-month and six-month reporting periods ended July 4, 2004 included 13 weeks and 27 weeks, respectively.

Net Sales

     Consolidated net sales of $172.7 million in the second quarter of 2005 were 70.8% higher compared to $101.1 million in the second quarter of 2004. Finished unit sales increased to 27.6 million in the second quarter of 2005 from 15.1 million in the second quarter of 2004. The volume increase was partially offset by a decline in the finished unit average selling price.

     Other disk sales in the second quarter of 2005 were $20.1 million, compared to $13.4 million in the second quarter of 2004.

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     Consolidated net sales in the first half of 2005 increased by $88.3 million, to $313.0 million from $224.7 million in the first half of 2004. Our sales volume increased by 45%, to 49.9 million units in the first half of 2005 from 34.3 million units in the first half of 2004. The volume increase was partially offset by a decline in the finished unit average selling price.

     Other disk sales in the first half of 2005 were $37.5 million, compared to $23.0 million in the first half of 2004.

     The finished unit shipment and other disk sales increase in the first half of 2005 compared to the same period in 2004 resulted from an overall improvement in industry conditions, which resulted in a significant increase in our customers’ demand. The decline in the finished unit average selling price in the first half of 2005 compared to the same period in 2004 primarily reflected the a higher mix of more mature product offerings in the current year period.

     In the second quarter of 2005, sales to Maxtor Corporation (Maxtor), Hitachi Global Storage Technologies (HGST), Seagate Technology (Seagate), and Western Digital Corporation (Western Digital) accounted for 30%, 25%, 21%, and 19%, respectively, of our revenue. In the second quarter of 2004, sales to Maxtor, HGST, Seagate, and Western Digital accounted for 50%, 30%, 8%, and 6% respectively, of our revenue. We expect to continue to derive a substantial portion of our sales from these customers.

     Sales of 100GB and above per platter disks increased to 20% of net sales in the second quarter of 2005, compared to 2% in the same period of 2004. The increase reflected the continued customer migration to higher storage densities.

     Finished disk shipments for desktop and consumer applications together represented 93% of our second quarter of 2005 unit shipment volume. The remaining finished disk shipments in the second quarter of 2005 were disks for high-end server (enterprise) drives.

     Overall demand remains very strong entering the traditionally seasonally strong second half of the year. As we are currently operating at full manufacturing capacity, we expect revenue in the third quarter of 2005 to be similar to the second quarter of 2005.

Gross Profit

     For the second quarter of 2005, we achieved a gross profit percentage of 27.8% compared to a gross profit percentage of 21.4% for the second quarter of 2004, a 6.4-point increase. Improved manufacturing yields and the economies of scale associated with higher sales and production volumes accounted for 10.4 point of the gross profit percentage increase in the second quarter of 2005. This was offset by a decline in the finished unit average selling price, which accounted for a 4.0-point reduction in the gross profit percentage in the second quarter of 2005.

     For the first half of 2005, we achieved a gross profit percentage of 26.6% compared to a gross profit percentage of 26.1% for the first half of 2004, a 0.5-point increase. Improved manufacturing yields

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and the economies of scale associated with higher sales and production volumes accounted for 5.2 point of the gross profit percentage increase in the first half of 2005. This was offset by a decline in the finished unit average selling prices, which accounted for a 4.7-point reduction in the gross profit percentage in the second half of 2005.

     As we are currently operating at full manufacturing capacity, we expect variable and fixed manufacturing costs per unit in the third quarter of 2005 to be similar to the second quarter of 2005, excluding fluctuations in the exchange rate for the Malaysian ringgit.

Research, Development, and Engineering Expenses

     Research, development and engineering (R&D) expenses of $12.8 million in the second quarter of 2005 were $3.8 million higher than the $9.0 million in the second quarter of 2004. The increase primarily reflected higher incentive compensation expense under the Company’s incentive compensation plans, deferred stock-based compensation expense, and higher headcount related expense.

     R&D expenses of $24.0 million in the first half of 2005 were $3.3 million higher than the $20.7 million in the first half of 2004. The increase primarily reflected higher incentive compensation expense, deferred stock-based compensation expense, and higher headcount related expense.

     We expect R&D spending in the third quarter of 2005 to remain at a similar percentage of sales as in the second quarter of 2005.

     Selling, General, and Administrative Expenses

     Selling, general and administrative (SG&A) expenses of $5.8 million in the second quarter of 2005 were $1.9 million higher compared to the $3.9 million incurred in the second quarter of 2004. The increase primarily reflected higher incentive compensation expense, higher deferred stock-based compensation expense, and higher headcount related expense.

     SG&A expenses of $11.3 million in the first half of 2005 were $2.0 million higher compared to the $9.3 million incurred in the first half of 2004. The increase primarily reflected higher incentive compensation expense, higher deferred stock-based compensation expense, and higher headcount related expense.

     We expect SG&A spending in the third quarter of 2005 to remain at a similar percentage of sales as in the second quarter of 2005.

Interest Expense

     Interest expense in the second quarter of 2005 and 2004 was $0.4 million, and reflected interest on our $80.5 million, 2% Convertible Subordinated Notes, which were issued on January 28, 2004.

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     Interest expense in the first half of 2005 was $0.9 million, and reflected interest on our 2% Convertible Subordinated Notes. Interest expense in the first half of 2004 was $2.3 million, and included $1.6 million of interest on the Senior Secured Notes and certain promissory notes, and $0.7 million of interest expense on our 2% Convertible Subordinate Notes. The Senior Secured Notes and promissory notes were redeemed in full, including accrued interest, in February 2004. There was no gain or loss on the redemption, and there were no unamortized debt issuance costs.

Income Taxes

     Our estimated annual effective income tax rate for 2005 is 4.0% and reflects tax expenses related to our U.S. and international operations. In the second quarter of 2004, our estimated annual effective income tax rate for 2004 was approximately 3.0%.

     Our manufacturing facilities, which are located in Malaysia, have been granted various tax holidays with varying expiration dates. In July 2005, the Malaysian government agreed to reset the expiration dates of the existing tax holidays to December 2006 and approved a new, 10-year tax holiday covering all of our Malaysian operations. The new tax holiday commences in January 2007 and expires in December 2016.

Critical Accounting Policies

     In the ordinary course of business, we have made a number of estimates and assumptions relating to the reporting of results of operations and financial condition in the preparation of our consolidated financial statements in conformity with accounting principles generally accepted in the United States of America. We regularly evaluate our estimates, including those related to our revenues, allowance for inventories, commitments and contingencies, income taxes, and asset impairments. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities. Actual results could differ significantly from those estimates if our assumptions are incorrect. We believe that the following discussion addresses our most critical accounting policies. These policies are most important to the portrayal of our financial condition and results and require management’s most difficult, subjective and complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain.

Allowance for Sales Returns

     We estimate our allowance for sales returns based on historical data as well as current knowledge of product quality. We have not experienced material differences between our estimated reserves for sales returns and actual results. It is possible that the failure rate on products sold could be higher than it has historically been, which could result in significant changes in future returns.

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     Since estimated sales returns are recorded as a reduction in revenues, any significant difference between our estimated and actual experience or changes in our estimate would be reflected in our reported revenues in the period we determine that difference.

     There were no significant changes from prior year estimates in the first half of 2005.

Impairment of Long-lived Assets

     Long-lived assets are evaluated for impairment whenever events or changes in circumstances indicate that these assets may be impaired or the estimated useful lives are no longer appropriate. We consider the primary indicators of impairment to include significant decreases in unit volumes, unit prices or significant increases in production costs. We review our long-lived assets for impairment based on estimated future undiscounted cash flows attributable to the assets. In the event that these cash flows are not expected to be sufficient to recover the recorded value of the assets, the assets are written down to their estimated fair values utilizing discounted estimates of future cash flows. The discount rate used is based on the estimated incremental borrowing rate at the date of the event that triggers the impairment.

     There were no impairments of long-lived assets in the first half of 2005.

Inventory Obsolescence

     Our policy is to provide for inventory obsolescence based upon an estimated obsolescence percentage applied to the inventory based on age, historical trends, and requirements to support forecasted sales. In addition, and as necessary, we may provide additional charges for future known or anticipated events.

     There were no significant changes from prior year estimates in the first half of 2005.

Liquidity and Capital Resources

     Cash, cash equivalents, and short-term investments of $145.9 million at the end of the second quarter of 2005 increased by $41.8 million from the end of the 2004 fiscal year. The increase primarily reflected a $73.3 million increase resulting from consolidated operating activities, $5.9 million in proceeds from the sale of common stock, and $3.1 million in proceeds from idle equipment sales, offset by $40.5 million of spending on property, plant, and equipment.

     On July 21, 2005, Malaysia removed its currency peg to the U.S. dollar in favor of a managed float system. As of July 22, 2005, we held approximately $48.4 million (Malaysian ringgit 183.9 million) of cash and cash equivalents that were denominated in Malaysian ringgit.

     Consolidated operating activities generated $73.3 million in cash in the first six months of 2005. The primary components of this change include the following:

• net income of $48.4 million, net of non-cash depreciation and amortization of property, plant

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and equipment of $20.7 million and other non-cash charges and gains of $4.8 million;

• an accounts receivable increase of $12.9 million primarily due to an increase in sales during the first six months of 2005 compared to the first six months of 2004;

• an inventory increase of $12.5 million;

• a prepaid expense increase of $1.1 million primarily due to the payment of insurance premiums;

• an accounts payable increase of $12.5 million related to increased inventory and higher capital spending; and

• an accrued expenses and other liabilities decrease of $13.4 million, which primarily reflected the receipt of a customer advance.

     Our total capital spending in the first six months of 2005 was $40.5 million, which included capital expenditures to increase our substrate and finished disk capacity, to improve our equipment capability for the manufacture of advanced products, and for projects designed to improve yield and productivity. There are no non-cancelable capital commitments as of July 3, 2005. For the remainder of 2005, we plan to spend approximately $163.0 million on property, plant, and equipment in order to increase our finished disk and related substrate capacity and continue to ramp new production processes. We expect to fund this capital spending with cash from operations and customer advances.

     We have $80.5 million of 2% Convertible Subordinated Notes (the Notes) outstanding. The Notes mature on February 1, 2024, bear interest at 2.0%, and require semiannual interest payments beginning on August 1, 2004. The Notes will be convertible, under certain circumstances, into shares of the Company’s common stock based on an initial effective conversion price of $26.40. Holders of the Notes may convert the Notes into shares of the Company’s common stock prior to maturity if: 1) the sale price of the Company’s common stock equals or exceeds $31.68 for at least 20 trading days in any 30 consecutive trading day period within any fiscal quarter of the Company; 2) the trading price of the Notes falls below a specified threshold prior to February 19, 2019; 3) the Notes have been called for redemption; or 4) specified corporate transactions (as described in the offering prospectus for the Notes) occur. The Company may redeem the Notes on or after February 6, 2007, at specified declining redemption premiums. Holders of the Notes may require the Company to purchase the Notes on February 1, 2011, 2014, or 2019, or upon the occurrence of a fundamental change, at a purchase price equal to 100% of the principal amount of the Notes, plus accrued and unpaid interest. There are no financial covenants, guarantees, or collateral associated with the Notes.

     We have a Malaysian ringgit 12.5 million (approximately $3.3 million) bank guarantee. There is no expiration date on the bank guarantee. No interest will be charged on the bank guarantee, but there is a commission of 0.05% on the amount of bank guarantee utilized. As of July 3, 2005, there were no liabilities outstanding related to this bank guarantee.

     We have Malaysian ringgit 6.0 million (approximately $1.6 million) stand-by letters of credit (LOC), which expire on various dates from September 30, 2005 through January 15, 2006. The LOC are secured by fixed deposits of Malaysian ringgit 6.0 million.

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     We lease our research and administrative facility in San Jose, California under an operating lease, which expires in 2014. Additionally, we lease certain equipment under operating leases. These leases expire on various dates through 2008. We have no capital leases. At July 3, 2005, our long-term debt obligations, operating lease obligations, and unconditional purchase obligations were as follows (in thousands):

	Remainder
	of
	2005		2006		2007		2008		2009		Thereafter		Total
Long-Term Debt Obligations	$	—	$	—	$	—	$	—	$	—	$	80,500	$	80,500
Operating Lease Obligations		67		2,076		2,049		2,042		3,144		16,383		25,761
Unconditional Purchase Obligations (1)		6,767		1,283		1,146		1,146		1,146		3,440		14,928
Total Contractual Cash Obligations	$	6,834	$	3,359	$	3,195	$	3,188	$	4,290	$	100,323	$	121,189

(1) Unconditional purchase obligations are defined as agreements to purchase goods or services that are enforceable and legally binding, and that specify all significant terms, including: fixed or minimum quantities to be purchased; fixed, minimum, or variable pricing provisions; and the approximate timing of the transactions. The amounts are based on our contractual commitments.

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RISK FACTORS

     These risks and uncertainties are not the only ones facing our company. Additional risks and uncertainties that we are unaware of or currently deem immaterial may also become important factors that may harm our business. If any of the following risks actually occur, or other unexpected events occur, our business, financial condition or results of operations could be materially adversely affected, the value of our stock could decline, and you may lose part or all of your investment. Further, this Form 10-Q contains forward-looking statements and actual results may differ significantly from the results contemplated by our forward-looking statements.

Risks Related to Our Business

Our business is concentrated in the disk drive market, so downturns in the disk drive manufacturing market and related markets may decrease our revenues and margins.

     The market for our products depends on economic conditions affecting the disk drive manufacturing and related markets. Our products are incorporated into disk drives manufactured by our customers for the desktop personal computer market as well as the enterprise storage systems market and electronic device market. Because of the concentration of our products in the disk drive market, which we expect to continue, our business is linked to the success of this market. The disk drive market has historically been seasonal and cyclical, and has experienced periods of oversupply and reduced production levels, resulting in significantly reduced demand for disks and pricing pressures. It is very difficult to achieve and maintain profitability and revenue growth in the disk drive industry because the average selling price of a disk drive rapidly declines over its commercial life as a result of technological enhancement and increases in supply. The effect of these cycles on suppliers has been magnified by disk drive manufacturers’ practice of ordering components, including disks, in excess of their needs during periods of rapid growth, thereby increasing the severity of the drop in the demand for components during periods of reduced growth or contraction. Accordingly, downturns in the disk drive market may cause disk drive manufacturers to delay or cancel projects, reduce their production, or reduce or cancel orders for our products. This, in turn, may lead to longer sales cycles, delays in payment and collection, pricing pressures, and unused capacity, causing us to realize lower revenues and margins and causing our operating results to suffer. For example, in the fourth quarter of fiscal year 2003, disk drive manufacturers appear to have overbuilt product, which resulted in an excess of supply of disk drives that was not fully corrected until approximately the third quarter of fiscal year 2004. Due to these factors, forecasts may not be achieved, either because expected sales do not occur or because they occur at lower prices or on terms that are less favorable to us. This increases the chances that our results could diverge from the expectations of investors and analysts, which could make our stock price more volatile.

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We are in the process of significantly increasing the scope of our manufacturing operations in Malaysia, and if we fail to successfully manage and integrate our expanding operations, we may be unable to exploit potential market opportunities, which would materially and adversely affect our business.

     We are in the process of significantly increasing the scope of our manufacturing operations in Malaysia. We are in the process of expanding our manufacturing capacity by approximately four million disks per quarter to 31 million disks per quarter, which we plan to achieve by the end of the first quarter of 2006. We expect to expand further our capacity to 40 million units per quarter by the end of 2006. We are expanding our capacity as a result of commitments we have made to certain customers pursuant to strategic supply agreements. In the event we do not increase our capacity as planned on a timely basis, we could lose significant future orders from major customers. In the event we are successful in expanding our manufacturing capacity as planned, there can be no assurance we will receive sufficient orders to utilize our additional capacity. In addition, the utilization of our expanded capacity is dependent on our obtaining sufficient operating supplies and raw materials from our limited and sole source suppliers to accommodate the increased capacity. We do not have binding commitments from these limited and sole source suppliers to provide sufficient supplies and raw materials to fully utilize the additional capacity.

     Addressing the challenges of our capacity expansion requires, and will continue to require, substantial management attention and financial resources. We expect to fund our expansion efforts with cash from operations and customer advances. In the event that our expansion efforts require additional funding, or if we have insufficient resources to fund our expansion efforts, we may need to seek additional capital, which may not be available on favorable terms, or at all. If we are unable to successfully develop and integrate our expanded manufacturing operations in Malaysia in a timely and effective manner, our business could be materially and adversely affected.

If our production capacity is underutilized, our gross margin will be adversely affected and we could sustain significant losses.

     Our business is characterized by high fixed overhead costs including expensive plant facilities and production equipment. Our per-unit costs and our gross profit are significantly affected by the number of units we produce and the amount of our production capacity that we utilize. In the third quarter of 2004, we completed the installation of additional equipment, which increased our production capacity from approximately 20 million disks a quarter to approximately 24 million disks a quarter. Our finished disk shipments were below this capacity level in the third quarter and fourth quarter of 2004. In the first six months of 2005, we increased our capacity to approximately 27 million disks a quarter. We are currently in the process of expanding our capacity by approximately four million disks a quarter to 31 million disks per quarter, which we plan to achieve by the end of the first quarter of 2006 and expect to further expand our capacity to 40 million units per quarter by the end of 2006. If we are unable to utilize our expanded capacity, we may be unable to increase or sustain our gross margins.

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     If our capacity utilization decreases for any reason, including lack of customer demand or cancellation or delay of customer orders, we could experience significantly higher unit production costs, lower margins and potentially significant losses, as occurred for several years prior to 2003. Underutilization of our production capacity could also result in equipment write-offs, restructuring charges, and employee layoffs. If our production capacity is underutilized for any reason, our financial results and our business would be severely harmed.

If future demand for our products exceeds the production capability of our existing facilities, we may be required to invest significant capital expenditures to increase capacity or else risk losing market share.

     In the third quarter of 2004, we completed the installation of additional equipment, which increased our production capacity to approximately 24 million disks a quarter. In the first six months of 2005, we increased our capacity to approximately 27 million disks per quarter, and we are currently operating at full manufacturing capacity. Based on very strong demand that currently exceeds our manufacturing capacity and expected continuing strong overall market growth, we are in the process of expanding our capacity by approximately four million disks per quarter. We expect initial incremental capacity from this expansion in the fourth quarter of 2005 and total capacity of approximately 31 million disks per quarter by the end of the first quarter of 2006. Additionally, we plan to expand further our capacity during 2006 at our current manufacturing sites in Malaysia, in an attempt to keep up with the growing demand for media. This further additional capacity is expected to be available beginning in the second quarter of 2006 with total capacity of approximately 40 million disks per quarter by the end of 2006. If demand for our products at any point in time were to exceed significantly our capacity levels, we may not be able to satisfy the increased demand. To increase further our production capacity to meet significant increases in demand for our disks beyond the expansion in process, if needed, we would be required to expand further our existing facilities, construct new facilities, or acquire entities with additional production capacities. These alternatives would require significant capital investments by us and may require us to seek additional equity or debt financing. There can be no assurance that such financing would be available to us when needed on acceptable terms, or at all. If we were unable to expand capacity on a timely basis to meet increases in demand, we could lose market opportunities for sales, and our market share could decline. Further, we cannot assure you that the increased demand for our disk products would continue for a sufficient period of time to recoup our capital investments associated with increasing our production capacity.

Our customer supply agreements with several of our major customers require us to meet certain production demands and volume goals, and if we fail to successfully perform under these agreements, we may incur substantial costs and expenses, and our business could be materially and adversely affected.

     We have entered into strategic supply agreements and arrangements with several of our major customers that require us to meet certain production demands and volume goals. Pursuant to these agreements, monies have been advanced to us to help fund the expansion of our capacity, and if we fail to meet the agreed upon volume goals, we may need to refund some of our customer advances. Even if we succeed in expanding our production capacity in a timely and effective manner as required by our

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contractual obligations, there can be no assurance that we will meet the product specifications or timetables required by our customers for delivery. In addition, forecast modifications or cancellations by our customers under our customer agreements may result in underutilization of our production capacity, which could result in equipment write-offs, restructuring charges, and employee layoffs. Moreover, certain of our customer agreements include expanded indemnification obligations. Our inability to successfully and competently perform our obligations under our agreements may cause us to incur substantial costs and expenses, and would have an adverse effect on our business, results of operations and financial condition.

We receive a large percentage of our net sales from only a few disk drive manufacturing customers, the loss of any of which would adversely affect our sales.

     We sell most of our products to a limited number of customers. Our customers are disk drive manufacturers. A relatively small number of disk drive manufacturers dominates the disk drive market. According to Dataquest, four of these manufacturers (HGST, Maxtor, Seagate, and Western Digital) accounted for approximately 80% of worldwide hard disk drive sales in 2004. Accordingly, we expect that the success of our business will continue to depend on a limited number of customers that have comparatively strong bargaining power in negotiating contracts with us.

     In the first six months of 2005, 32% of our net sales were to Maxtor, 25% were to HGST, 19% were to Western Digital, and 18% were to Seagate. In 2004, 48% of our net sales were to Maxtor, 25% were to HGST, 14% were to Western Digital, and 8% were to Seagate. If any one of our significant customers reduces its disk requirements, cancels existing orders or develops or expands capacity to produce its own disks, and we are unable to replace these orders with sales to new customers, our sales would be reduced and our business, financial condition, and operating results would suffer. Our ability to maintain strong relationships with our significant customers is essential to our future performance. Mergers, acquisitions, consolidations, or other significant transactions involving our significant customers may adversely affect our business and operating results.

Because we depend on a limited number of suppliers, if our suppliers experience capacity constraints or production failures, our production, operating results and growth potential could be harmed.

     We rely on a limited number of suppliers for some of the materials and equipment used in our manufacturing processes, including aluminum blanks, aluminum substrates, nickel plating solutions, polishing and texturing supplies, and sputtering target materials. For example, Kobe Steel, Ltd. is our sole supplier of aluminum substrate blanks, which is a fundamental component in producing our disks. Further, as a result of current increased worldwide demand, the supply of sputtering target materials is constrained, resulting in longer lead times and product allocation from certain suppliers. We rely on a single supplier, Heraeus Incorporated, for a substantial quantity of our sputtering target requirements. In addition, we also rely on OMG Fidelity, Inc. for supplies of nickel plating solutions. The supplier base has been weakened by the poor financial condition of the industry in recent years, and some suppliers have exited the business. Additionally, the increasing demand for many of these materials provides our sole-source suppliers with additional bargaining power. Our production capacity would be limited if one or more of these materials

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were to become unavailable or available in reduced quantities, or if we were unable to find alternative suppliers. If our sources of materials and supplies were limited or unavailable for a significant period of time or the costs of such materials were to increase, our production, operating results, and ability to grow our business could be adversely affected. We cannot assure you that we will be able to obtain adequate supplies of critical components in a timely and economic manner, or at all. The success of our products also depends on our ability to effectively integrate parts and components that use leading-edge technology. If we are unable to successfully manage the integration of parts obtained from third party suppliers, our business, financial condition and operating results could suffer.

Changes in the accounting treatment of stock-based awards may adversely affect our reported results of operations.

     In December 2004, the FASB issued SFAS 123R, which is a revision of SFAS 123. SFAS 123R is currently expected to be effective for Komag beginning in the first quarter of 2006. SFAS 123R requires all share-based payments to employees to be recognized in the financial statements based on their fair values and does not permit pro forma disclosure as an alternative to financial statement recognition. The adoption of the SFAS 123R fair value method may have a significant adverse impact on our reported results of operations because the stock-based compensation expense will be charged directly against our reported earnings. The impact of our adoption of SFAS 123R cannot be predicted at this time because that will depend in part on the future fair values and number of share-based payments granted in the future. However, we expect the adoption to have a significant impact on our net income and net income per share.

Price competition may force us to lower our prices, causing our gross margin to suffer.

     We face significant price competition in the disk industry, even during periods when demand is stable. High levels of competition have historically put downward pressure on unit prices. Additionally, the average selling price of disks and disk drives rapidly declines over their commercial life as a result of technological enhancements, productivity improvements and industry supply increases. We may be forced to lower our prices or add new products and features at lower prices to remain competitive, and we may otherwise be unable to introduce new products at higher prices. We cannot be assured that we will be able to compete successfully in this kind of price competitive environment. Lower prices would reduce our ability to generate sales, and our gross margin would suffer. If we fail to mitigate the effect of these pressures through increased sales volume or changing our product mix, our net sales and gross margin could be adversely affected. Price declines are also affected by any imbalances between demand and supply. For most of 2002, as in the several years prior, disk supply exceeded demand. As independent suppliers like us struggled to utilize their capacity, the excess disk supply caused average selling prices for disks to decline. Supply and demand conditions have improved since 2002, resulting in a more stable pricing environment. Supply and demand factors and industry-wide competition could adjust in the future and force disk prices down, which, in turn, would put pressure on our gross margin.

     Increasing competition could reduce the demand for our products and/or the prices of our products as a result of the introduction of technologically better and cheaper products, which could reduce our revenues. In addition, new competitors could emerge and rapidly capture market share. If we fail to

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compete successfully against current or future competitors, our business, financial condition and operating results will suffer.

Internal disk operations of disk drive manufacturers may adversely affect our ability to sell our disk products.

     Disk drive manufacturers such as HGST, Maxtor, and Seagate have large internal thin-film media manufacturing operations, and are able to produce a substantial percentage of their disk requirements. We compete directly with these internal operations when we market our products to these disk drive companies, and compete indirectly when we sell our disks to customers who must compete with vertically-integrated disk drive manufacturers. Vertically-integrated companies have the opportunity to keep their disk-making operations fully utilized, thus lowering their costs of production. This cost advantage contributes to the pressure on us and other independent disk manufacturers to sell disks at lower prices and can severely affect our profitability. Vertically-integrated companies are also able to achieve a large manufacturing scale that supports the development resources necessary to advance technology rapidly. HGST previously announced that it intends to consolidate its internal thin-film media manufacturing operations in China, which could result in decreased demand for our products by HGST or increased pricing pressure. We may not have sufficient resources or manufacturing scale to be able to compete effectively with these companies as to production costs or technology development, which would negatively impact our net sales and market share.

All of our manufacturing operations have been consolidated in Malaysia and our foreign operations and international sales subject us to additional risks inherent in doing business on an international level that make it more costly or difficult to conduct our business.

     As a result of our consolidation of manufacturing operations in Malaysia, technology developed at our U.S.-based research and development center must now be first implemented for high-volume production at our Malaysian facilities without the benefit of being implemented at a U.S. factory. Therefore, we rely heavily on electronic communications between our U.S. headquarters and our Malaysian facilities to transfer specifications and procedures, diagnose operational issues, and meet customer requirements. If our operations in Malaysia or overseas communications are disrupted for a prolonged period for any reason, including a failure in electronic communications with our U.S. operations, the manufacture and shipment of our products would be delayed, and our results of operations would suffer.

     Additionally, because a large portion of our payroll, certain manufacturing and operating expenses, and inventory and capital purchases is transacted in the Malaysian ringgit (ringgit), we are particularly sensitive to any change in the foreign currency exchange rate for the ringgit. For approximately the last seven years, the exchange rate between the ringgit and the U.S. dollar has been pegged at 3.8 ringgits to one U.S. dollar by the Malaysian government. On July 21, 2005, Malaysia removed its currency peg to the U.S. dollar in favor of a managed float system. The change in exchange rates could adversely affect the amount we spend on our payroll, certain manufacturing and operating expenses, and raw materials and capital purchases. In the first six months of 2005, our spending on payroll, manufacturing, and operating expenses, and raw materials and capital purchases that were denominated in ringgit was

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approximately $91.0 million. Additionally, in the first six months of 2005, we paid approximately $37.0 million U.S. dollars to a Malaysian supplier for raw materials purchases, based on a cost plus a percentage arrangement. This Malaysian supplier incurs certain costs that are denominated in ringgit; therefore, any change in the valuation of the ringgit could materially impact the cost per unit we pay for such raw materials.

     Furthermore, our ability to transfer funds from our Malaysian operations to the United States is subject to Malaysian rules and regulations. In 1999, the Malaysian government repealed a regulation that restricted the amount of dividends that a Malaysian company may pay to its stockholders. Had it not been repealed, this regulation would have potentially limited our ability to transfer funds to the United States from our Malaysian operations. Because a significant percentage of our revenues is generated from our Malaysian operations, we would be unable to finance our U.S.-based research and development and/or repay our U.S. debt obligations if similar regulations are enacted in the future.

     Additionally, there are a number of risks associated with conducting business outside of the United States. Our sales to Asian customers, including the foreign subsidiaries of domestic disk drive companies, account for substantially all of our net sales. While our Asian customers assemble a substantial portion of their disk drives in Asia, they subsequently sell these products throughout the world. Therefore, our high concentration of Asian sales does not accurately reflect the eventual point of consumption of the assembled disk drives. We anticipate that international sales will continue to represent the majority of our net sales, and as a result the success of our business is subject to factors affecting global markets generally.

     We are subject to these risks to a greater extent than most companies because, in addition to selling our products outside the United States, our Malaysian operations account for substantially all of our net sales. Accordingly, our operating results are subject to the risks inherent with international operations, including, but not limited to:

• compliance with changing legal and regulatory requirements of foreign jurisdictions;

• fluctuations in tariffs or other trade barriers;

• foreign currency exchange rate fluctuations;

• difficulties in staffing and managing foreign operations;

• political, social and economic instability;

• increased exposure to threats and acts of terrorism;

• exposure to taxes in multiple jurisdictions;

• local infrastructure problems or failures including but not limited to loss of power and water supply; and

• transportation delays and interruptions.

     If we do not effectively manage the risks associated with international operations and sales, our business, financial condition and operating results could suffer.

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If we are unable to perform successfully in the highly competitive and increasingly concentrated disk industry, we may not be able to maintain or gain additional market share, and our operating results would be harmed.

     The market for our products is highly competitive, and we expect competition to continue in the future. Competitors in the thin-film media industry fall primarily into two groups: Asian-based independent disk manufacturers, and captive disk manufacturers. Our major Asian-based independent competitors include Fuji Electric, Hoya, and Showa Denko (of which Trace Storage Technology became a part in mid-2004). The captive disk manufacturers who produce thin-film media internally for their own use include HGST, Maxtor, and Seagate. Many of these competitors have greater financial resources than we have, which could allow them to adjust to fluctuating market conditions better than we. Further, they may have greater technical and manufacturing resources, more extensive name recognition, more marketing power, a broader array of product lines and preferred vendor status. To the extent our competitors continue to consolidate and achieve greater economies of scale, we will face additional competitive challenges. Our competitors may also lower their product prices to gain market share, sell their products with other products to increase demand for their products, develop new technology which would significantly reduce the cost of their products, or offer more products than we do and therefore enter into agreements with customers to supply their products as part of a larger supply agreement. If we are not able to compete successfully in the future, we would not be able to gain additional market share for our products, or we may lose our existing market share, and our operating results could be harmed.

Because our products require a lengthy sales cycle with no assurance of high volume sales, we may expend significant financial and other resources without a return.

     With short product life cycles and the rapid technological change experienced in the disk drive industry, we must frequently qualify new products with our disk drive manufacturing customers, based on criteria such as quality, storage capacity, performance, and price. Qualifying disks for incorporation into new disk drive products requires us to work extensively with our customer and the customer’s other suppliers to meet product specifications. Therefore, customers often require a significant number of product presentations and demonstrations, as well as substantial interaction with our senior management, before making a purchasing decision. Accordingly, our products typically have a lengthy sales cycle, which can range from six to twelve months or longer. During this time, we may expend substantial financial resources and management time and effort, while having no assurances that a sale will result, or that disk drive programs ultimately will result in high-volume production. To the extent we expend significant resources to qualify products without realizing sales, our operations will suffer.

If our customers cancel orders, our sales could suffer and we are generally not entitled to receive cancellation penalties to offset the loss of sales revenue.

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     Our sales are generally made pursuant to purchase orders that are subject to cancellation, modification, or rescheduling without significant penalties. As a result, if a customer cancels, modifies, or reschedules an order, we may have already made expenditures that are not recoverable, and our profitability will suffer. Furthermore, if our current customers do not continue to place orders with us or if we are unable to obtain orders from new customers, our sales and operating results will suffer.

Disk drive program life cycles are short, and disk drive programs are highly customized. If we fail to respond to our customers’ demanding requirements, we will not be able to compete effectively.

     The disk industry is subject to rapid technological change, and if we are unable to anticipate and develop products and production technologies on a timely basis, our competitive position could be harmed. In general, the life cycles of disk drive programs are short. Additionally, disks must be more customized to each disk drive program. Short program life cycles and customization have increased the risk of product obsolescence, and as a result, supply chain management, including just-in-time delivery, has become a standard industry practice. In order to sustain customer relationships and sustain profitability, we must be able to develop new products and technologies in a timely fashion in order to help customers reduce their time-to-market performance, and continue to maintain operational excellence that supports high-volume manufacturing ramps and tight inventory management throughout the supply chain. Accordingly, we have invested, and intend to continue to invest heavily, in our research and development program. If we cannot respond to this rapidly changing environment or fail to meet our customers’ demanding product and qualification requirements, we will not be able to compete effectively. As a result, we would not be able to maximize the use of our production facilities, and our profitability would be negatively impacted.

If we do not keep pace with the rapid technological change in the disk drive industry, we will not be able to compete effectively, and our operating results could suffer.

     Our products primarily serve the 3 1/2-inch disk drive market where product performance, consistent quality, price, and availability are of great competitive importance. Advances in disk drive technology require continually lower flying heights and higher areal density. Until recently, areal density was roughly doubling from year-to-year and even today continues to increase rapidly, requiring significant improvement in every aspect of disk design. These advances require substantial on-going process and technology development. New process technologies, including SAF and PMR, must support cost-effective, high-volume production of disks that meet these ever-advancing customer requirements for enhanced magnetic recording performance. We may not be able to develop and implement these technologies in a timely manner in order to compete effectively against our competitors’ products or entirely new data storage technologies. In addition, we must transfer our technology from our U.S.-based research and development center to our Malaysian manufacturing operations.

     If we cannot advance our process technologies or do not successfully implement those advanced technologies in our Malaysian operations, or if technologies that we have chosen not to develop prove to be viable competitive alternatives, we would not be able to compete effectively. As a result, we would lose market share and face increased price competition from other manufacturers, and our operating results

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would suffer. Further, as we introduce more technologically advanced product offerings, they can result in lower introductory yields, which would negatively impact our gross margins.

If we fail to improve the quality of, and control contamination in our manufacturing processes, we will lose our ability to remain competitive.

     The manufacture of our products requires a tightly-controlled, multi-stage process, and the use of high-quality materials. Efficient production of our products requires utilization of advanced manufacturing techniques and clean room facilities. Disk fabrication occurs in a highly controlled, clean environment to minimize particles and other yield-limiting and quality-limiting contaminants. In spite of stringent manufacturing controls, weaknesses in process control or minute impurities in materials may cause a substantial percentage of the disks in a production lot to be defective. The success of our manufacturing operations depends, in part, on our ability to maintain process control and minimize such impurities in order to maximize yield of acceptable high-quality disks. Minor variations from specifications could have a disproportionately adverse impact on our manufacturing yields. If we are not able to continue to improve on our manufacturing processes or maintain stringent quality controls, or if contamination problems arise, we will not remain competitive, and our operating results would be harmed.

An industry trend towards glass-based applications could negatively impact our ability to remain competitive.

     Our finished disks are manufactured primarily from aluminum substrates, which are the primary substrate used in desktop PC and enterprise applications. Some disk manufacturers emphasize the use of glass as a basis for the manufacture of their disks to primarily serve the mobile PC market and certain other consumer applications. These applications are expected to achieve significant growth in the near future. To the extent glass-based applications were to achieve significant growth in the market place, we may lose market share if we were unable to move rapidly to produce glass-based disks to address the demand.

If we are not able to attract and retain key personnel, our operations could be harmed.

     Our future success depends on the continued service of our executive officers, our highly-skilled research, development, and engineering team, our manufacturing team, and our key administrative, sales and marketing, and support personnel, many of whom would be extremely difficult to replace. Acquiring and retaining talented personnel who possess the advanced skills we require has been difficult, particularly at our Malaysian manufacturing facilities where there is high growth in the marketplace We may not be able to attract, assimilate, or retain highly-qualified personnel to maintain the capabilities that are necessary to compete effectively. Further, we do not have key person life insurance on any of our key personnel. If we are unable to retain existing or hire key personnel, our business, financial condition, and operating results could be harmed.

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If we do not protect our patents and other intellectual property rights, our revenues could suffer.

     Our protection of our intellectual property is limited. It is commonplace to protect technology through patents and other forms of intellectual property rights in technically sophisticated fields. We may not receive patents for our pending or future patent applications, and any patents that we own or that are issued to us may be invalidated, circumvented or challenged. In the disk and disk drive industries, companies and individuals have initiated actions against others in the industry to enforce intellectual property rights. Although we attempt to protect our intellectual property rights through patents, copyrights, trade secrets, and other measures, we may not be able to protect adequately our technology. In addition, we may not be able to discover significant infringements of our technology or successfully enforce our rights to our technology if we discover infringing uses by others, and such infringements could have a negative impact on our ability to compete effectively. Competitors may be able to develop similar technology and also may have or may develop intellectual property rights and enforce those rights to prevent us from using such technologies, or demand royalty payments from us in return for using such technologies. Either of these events may affect our production, which could materially reduce our revenues and harm our operating results.

We may face intellectual property infringement claims that are costly to resolve, may divert our management’s attention, and may negatively impact our operations.

     We have occasionally received, and may receive in the future, communications from third parties that assert violation of intellectual property rights alleged to cover certain of our products or manufacturing processes or equipment. We evaluate on a case-by-case basis whether it would be necessary to defend against such claims or to seek licenses to the rights referred to in such communications. We may have to litigate to enforce patents issued or licensed to us, to protect trade secrets or know-how owned by us or to determine the enforceability, scope and validity of our proprietary rights and the proprietary rights of others. Enforcing or defending our proprietary rights could be expensive and might not bring us timely and effective relief. In certain cases, we may not be able to negotiate necessary licenses on commercially reasonable terms, or at all. Also, if we have to defend such claims, we could incur significant expenses and our management’s attention could be diverted from our core business. Further, we may not be able to anticipate claims by others that we infringe on their technology or successfully defend ourselves against such claims. Any litigation resulting from such claims could have a material adverse effect on our business and financial results.

Historical quarterly results may not accurately predict our performance due to a number of uncertainties and market factors, and as a result it is difficult to predict our future results.

     Our operating results historically have fluctuated significantly on both a quarterly and annual basis. We believe that our future operating results will continue to be subject to quarterly variations based on a wide variety of factors, including:

• timing of significant orders, or order cancellations;

• changes in our product mix and average selling prices;

• modified, adjusted, or rescheduled shipments;

• availability of disks versus demand for disks;

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• the cyclical nature of the disk drive industry;

• our ability to develop and implement new manufacturing process technologies;

• increases in our production and engineering costs associated with initial design and production of new product programs;

• fluctuations in exchange rates, particularly between the U.S. dollar and the Malaysian ringgit;

• the ability of our process equipment to meet more stringent future product requirements;

• our ability to introduce new products that achieve cost-effective high-volume production in a timely manner, timing of product announcements, and market acceptance of new products;

• the availability of our production capacity, and the extent to which we can use that capacity;

• changes in our manufacturing efficiencies, in particular product yields and input costs for direct materials, operating supplies and other running costs;

• prolonged disruptions of operations at any of our facilities for any reason;

• changes in the cost of or limitations on availability of labor;

• structural changes within the disk industry, including combinations, failures, and joint venture arrangements; and

• changes in tax regulations in foreign jurisdictions that could potentially reduce our tax incentives in areas such as Malaysian capital allowances, tax holidays, and exemptions on withholding tax on royalty payments made by our Malaysian operations to our subsidiary in The Netherlands.

     We cannot forecast with certainty the impact of these and other factors on our revenues and operating results in any future period. Our expense levels are based, in part, on expectations as to future revenues. Many of our expenses are relatively fixed and difficult to reduce or modify. The fixed nature of our operating expenses will magnify any adverse effect of a decrease in revenue on our operating results. Because of these and other factors, period to period comparisons of our historical results of operations are not a good predictor of our future performance. If our future operating results are below the expectations of stock market analysts, our stock price may decline. Our ability to predict demand for our products and our financial results for current and future periods may be affected by economic conditions. This may adversely affect both our ability to adjust production volumes and expenses and our ability to provide the financial markets with forward-looking information. If our revenue levels are below expectations, our operating results are likely to suffer.

If we make unprofitable acquisitions or are unable to successfully integrate future acquisitions, our business could suffer.

     We have in the past acquired, and in the future may acquire, businesses, products, equipment, or technologies that we believe will complement or expand our existing business. Acquisitions involve numerous risks, including the following:

• difficulties in integrating the operations, technologies, products and personnel of the acquired companies, especially given the specialized nature of our technology;

• diversion of management’s attention from normal daily operations of the business;

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• potential difficulties in completing projects associated with in-process research and development;

• initial dependence on unfamiliar supply chains or relatively small supply partners; and

• the potential loss of key employees of the acquired companies.

     Acquisitions may also cause us to:

• issue stock that would dilute our current stockholders’ percentage ownership;

• assume liabilities;

• record goodwill and non-amortizable intangible assets that will be subject to impairment testing and potential periodic impairment charges;

• incur amortization expenses related to certain intangible assets;

• incur large and immediate write-offs; or

• become subject to litigation.

     Mergers and acquisitions of high-technology companies are inherently risky, and no assurance can be given that any future acquisitions by us will be successful and will not materially adversely affect our business, operating results, or financial condition. The failure to manage and successfully integrate acquisitions we make could harm our business and operating results in a material way. Even if an acquired company has already developed and marketed products, there can be no assurance that product enhancements will be made in a timely fashion or that pre-acquisition due diligence will have identified all possible issues that might arise with respect to products or the integration of the company into our company.

The nature of our operations makes us susceptible to material environmental liabilities, which could result in significant compliance and clean-up expenses and adversely affect our financial condition.

     We are subject to a variety of federal, state, local, and foreign regulations relating to:

• the use, storage, discharge, and disposal of hazardous materials used during our manufacturing process;

• the treatment of water used in our manufacturing process; and

• air quality management.

     We are required to obtain necessary permits for expanding our facilities. We must also comply with new regulations on our existing operations, which may result in significant costs. Public attention has increasingly been focused on the environmental impact of manufacturing operations that use hazardous materials.

     If we fail to comply with environmental regulations or fail to obtain the necessary permits:

• we could be subject to significant penalties;

• our ability to expand or operate in California or Malaysia could be restricted;

• our ability to establish additional operations in other locations could be restricted; or

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• we could be required to obtain costly equipment or incur significant expenses to comply with environmental regulations.

     Furthermore, our manufacturing processes rely on the use of hazardous materials, and any accidental hazardous discharge could result in significant liability and clean-up expenses, which could harm our business, financial condition, and results of operations.

From time to time, we may have to defend lawsuits in connection with the operation of our business.

     We are subject to litigation in the ordinary course of our business. If we do not prevail in any lawsuit which may occur we could be subject to significant liability for damages, our patents and other proprietary rights could be invalidated, and we could be subject to injunctions preventing us from taking certain actions. If any of the above occurs, our business and financial position could be harmed.

Earthquakes or other natural or man-made disasters could disrupt our operations.

     Our U.S. facilities are located in San Jose, California. In addition, Kobe and other Japanese suppliers of our key manufacturing supplies and sputtering machines are located in areas with seismic activity. Our Malaysian operations have been subject to temporary production interruptions due to localized flooding, disruptions in the delivery of electrical power, and, on one occasion in 1997, by smoke generated by large, widespread fires in Indonesia. If any natural or man-made disasters do occur, operations could be disrupted for prolonged periods, and our business would suffer.

Terrorist attacks may adversely affect our business and operating results

     The continued threat of terrorist activity and other acts of war or hostility, including the war in Iraq, have created uncertainty in the financial and insurance markets, and have significantly increased the political, economic, and social instability in some of the geographic areas in which we operate. Acts of terrorism, either domestic or foreign, could create further uncertainties and instability. To the extent this results in disruption or delays of our manufacturing capabilities or shipments of our products, our business, operating results, and financial condition could be adversely affected.

Compliance with the rules and regulations concerning corporate governance may be costly, time-consuming, and difficult to achieve, which could harm our operating results and business.

     The Sarbanes-Oxley Act (the Act), which was signed into law in October 2002, mandates, among other things, that companies maintain rigorous corporate governance measures, and imposes comprehensive reporting and disclosure requirements. The Act also imposes increased civil and criminal penalties on a corporation, its chief executive and chief financial officers, and members of its board of directors, for securities law violations. In addition, the Nasdaq National Market, on which our common stock is traded, has adopted and is considering the adoption of additional comprehensive rules and regulations relating to corporate governance. These rules, laws, and regulations have increased the scope, complexity, and cost of our corporate governance, reporting, and disclosure practices. Because compliance

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with these rules, laws, and regulations is costly and time-consuming, our management’s attention could be diverted from managing our day-to-day business operations, and our operating expenses could increase. In addition, because of the inherent limitations in all financial control systems, it is possible that, in the future, a material weakness may be found in our internal controls over financial reporting, which could affect our ability to insure proper financial reporting.

     Further, our board members, Chief Executive Officer, and Chief Financial Officer face an increased risk of personal liability in connection with the performance of their duties. As a result, we may have difficulty attracting and retaining qualified board members and executive officers, which could harm our business.

In the future, we may need additional capital, which may not be available on favorable terms, or at all.

     Our business is capital intensive and we may need more capital in the future. Our future capital requirements will depend on many factors, including:

• the rate of our sales growth;

• the level of our profits or losses;

• the timing and extent of our spending to expand manufacturing capacity, support facilities upgrades and product development efforts;

• the timing and size of business or technology acquisitions;

• the timing of introductions of new products and enhancements to our existing products; and

• the length of product life cycles.

     If we require additional capital it is uncertain whether we will be able to obtain additional financing on favorable terms, if at all. Further, if we issue equity securities in connection with additional financing, our stockholders may experience dilution and/or the new equity securities may have rights, preferences or privileges senior to those of existing holders of common stock. If we cannot raise funds on acceptable terms, if and when needed, we may not be able to develop or enhance our products and services in a timely manner, take advantage of future opportunities or respond to competitive pressures or unanticipated requirements or may be forced to limit the number of products and services we offer, any of which could seriously harm our business.

Anti-takeover provisions in our certificate of incorporation could discourage potential acquisition proposals or delay or prevent a change of control.

     We have in place protective provisions designed to provide our board of directors with time to consider whether a hostile takeover is in our and our stockholders’ best interests. Our certificate of incorporation provides for three classes of directors. As a result, a person could not take control of the board until the third annual meeting after the closing of the takeover, since a majority of our directors will not stand for election until that third annual meeting. This provision could discourage potential acquisition proposals and could delay or prevent a change in control of the company, and also could diminish the opportunities for a holder of our common stock to participate in tender offers, including offers at a price

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above the then — current market price for our common stock. These provisions also may inhibit fluctuations in our stock price that could result from takeover attempts.

Risks Related to our Indebtedness

We are leveraged, and our debt obligations will continue to make us vulnerable to economic downturns.

     In the first quarter of 2004, we completed a public common stock offering of 4.0 million shares (of which 0.5 million were sold by selling stockholders) and a public $80.5 million Convertible Subordinated Notes offering. Debt service obligations arising from the offering of our Convertible Subordinated Notes could limit our ability to borrow more money for operations and implement our business strategy in the future. We will continue to be more leveraged than some of our competitors, which may place us at a competitive disadvantage because our interest and debt repayment requirements make us more susceptible to downturns in our business.

Our holding company structure makes us dependent on cash flow from our subsidiaries to meet our obligations.

     Most of our operations are conducted through, and most of our assets are held by, our subsidiaries. Therefore, we are dependent on the cash flow of our subsidiaries to meet our debt obligations. Our subsidiaries are separate legal entities that have no obligation to pay any amounts due under the Convertible Subordinated Notes, or to make any funds available therefore, whether by dividends, loans, or other payments. Our subsidiaries have not guaranteed the payment of the Convertible Subordinated Notes, and payments on the Convertible Subordinated Notes are required to be made only by us. Except to the extent we may ourselves be a creditor with recognized claims against our subsidiaries, subject to any limitations contained in our debt agreements, all claims of creditors and holders of preferred stock, if any, of our subsidiaries will have priority with respect to the assets of such subsidiaries over the claims of our creditors, including holders of the Convertible Subordinated Notes.

The assets of our subsidiaries may not be available to make payments on our debt obligations.

     We may not have direct access to the assets of our subsidiaries unless these assets are transferred by dividend or otherwise to us. The ability of our subsidiaries to pay dividends or otherwise transfer assets to us is subject to various restrictions, including restrictions under other agreements to which we are a party under applicable law.

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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

     The primary objective of our investment activities is to preserve principal while at the same time maximizing yields without significantly increasing risk. We invest primarily in high-quality, short-term debt instruments and auction rate preferred securities (which the Company rolls over every three months or less), which are accounted for as cash equivalents or short-term investments, depending on the period of time from the purchase date to the maturity date.

     We are exposed to foreign currency exchange rate risk. We currently do not use derivative financial instruments to hedge such risk.

     A majority of our revenue, expense, and capital purchasing activities is transacted in U.S. dollars. However, a large portion of our payroll, certain manufacturing and operating expenses, and inventory and capital purchases is transacted in the Malaysian ringgit (ringgit). For approximately the last seven years, the exchange rate between the ringgit and the U.S. dollar has been pegged at 3.8 ringgits to one U.S. dollar by the Malaysian government. On July 21, 2005, Malaysia removed its currency peg to the U.S. dollar in favor of a managed float system. Changes in exchange rates could adversely affect the amount we spend on our payroll, certain manufacturing and operating expenses, and raw materials and capital purchases. In the first six months of 2005, our spending on payroll, manufacturing and operating expenses, and raw materials and capital purchases that were denominated in ringgit was approximately $91.0 million. Additionally, we paid approximately $37.0 million U.S. dollars to a Malaysian supplier for raw materials purchases in the first six months of 2005, based on a cost plus a percentage arrangement. The Malaysian supplier incurs certain costs denominated in ringgit; therefore, any change in the valuation of the ringgit could impact the cost per unit we pay for such raw materials. As of July 22, 2005, we held approximately $48.4 million (Malaysian ringgit 183.9 million) of cash and cash equivalents that were denominated in Malaysian ringgit.

     We have $80.5 million in convertible subordinated notes outstanding. These notes bear interest at 2% and mature in February 2024. A hypothetical 100 basis point increase in interest rates would result in approximately $0.8 million of additional interest expense each year.

ITEM 4. CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

     As of July 3, 2005, our management, including our Chief Executive Officer (CEO) and Chief Financial Officer (CFO), has conducted an evaluation of the effectiveness of our disclosure controls and procedures pursuant to Rule 13a — 15(b) of the Exchange Act. Based on that evaluation, the CEO and CFO concluded that our disclosure controls and procedures are effective in ensuring that all material information required to be filed in this quarterly report has been made known to them in a timely manner.

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Internal Control over Financial Reporting

     Our internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. Internal control over financial reporting includes those policies and procedures that:

• pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company;

• provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and

• provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the company’s assets that could have a material effect on the financial statements.

     Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. In addition, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions and that the degree of compliance with the policies or procedures may deteriorate.

Changes in Internal Control Over Financial Reporting

     There has been no change in our internal control over financial reporting during our second fiscal quarter ended July 3, 2005 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

PART II. OTHER INFORMATION

ITEM 1. Legal Proceedings

     Not applicable.

ITEM 2. Unregistered Sales of Equity Securities

     Not applicable.

ITEM 3. Defaults Upon Senior Securities

     Not applicable.

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ITEM 4. Submission of Matters to a Vote of Security Holders

(a) The Company held its annual meeting of stockholders on May 11, 2005.

(b)	The meeting included a proposal to elect the following three Class III directors: Richard A. Kashnow, Thian Hoo Tan, and Dennis P. Wolf. This proposal was submitted as Item No. 1. The other directors of the Company whose term of office continued after the meeting are Paul A. Brahe, Chris A. Eyre, Kenneth R. Swimm, David G. Takata, Harry G. Van Winkle, and Michael Lee Workman.
(c)	Other items on which stockholders voted at the meeting were:

• Item No. 2 — a proposal to amend and restate the Company’s Amended and Restated 2002 Qualified Stock Plan to make certain Plan changes; and

• Item No. 3 — a proposal to ratify the appointment of KPMG LLP as the Company’s independent auditors for the fiscal year ending January 1, 2006.

(d) Shares of Common Stock voted were as follows:

			Total Vote
	Total Vote		Withheld
	For Each		From Each
	Director		Director
Item No. 1
(Election of Class III Directors)
Richard A. Kashnow		25,858,045		1,032,346
Thian Hoo Tan		25,936,449		953,942
Dennis P. Wolf		25,931,914		958,477

							Broker
	For		Against		Abstain		Non — Vote
Item No. 2
(Proposal to amend and restate the Amended and Restated 2002 Qualified Stock Plan)		18,013,136		4,805,323		8,505		4,063,427
Item No. 3
(Ratification of independent auditors)		26,801,468		82,820		6,103		—

ITEM 5. Other Information

     In August 2005, the Company entered into employment agreements with certain of its executive officers. For more information on these agreements, please refer to Note 7 of the Notes to Condensed Consolidated Financial Statements (Unaudited) included in this report on Form 10-Q. The form of executive employment agreement will be filed as an exhibit to a future filing with the Securities and Exchange Commission.

41

ITEM 6. Exhibits

10.1	Volume Purchase Agreement dated June 6, 2005 between the Company, Komag USA (Malaysia) Sdn and Western Digital Technologies, Inc. as amended by Amendment No. 1 thereto dated July 22, 2005*
31.1	Rule 13a — 14 (a) Certification of Chief Executive Officer
31.2	Rule 13a — 14 (a) Certification of Chief Financial Officer
32	Section 1350 Certification of Chief Executive Officer and Chief Financial Officer

* Confidential treatment has been requested with respect to certain portions of this exhibit. Omitted portions have been filed separately with the Securities and Exchange Commission.

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SIGNATURES

     Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

KOMAG, INCORPORATED
(Registrant)

DATE: August 5, 2005	BY:	/s/ Thian Hoo Tan
	Thian Hoo Tan
	Chief Executive Officer
DATE: August 5, 2005	BY:	/s/ Kathleen A. Bayless
	Kathleen A. Bayless
	Vice President, Chief Financial Officer

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INDEX TO EXHIBITS

Number	Description
10.1	Volume Purchase Agreement dated June 6, 2005 between the Company, Komag USA (Malaysia) Sdn and Western Digital Technologies, Inc. as amended by Amendment No. 1 thereto dated July 22, 2005*
31.1	Rule 13a — 14 (a) Certification of Chief Executive Officer
31.2	Rule 13a — 14 (a) Certification of Chief Financial Officer
32	Section 1350 Certification of Chief Executive Officer and Chief Financial Officer

* Confidential treatment has been requested with respect to certain portions of this exhibit. Omitted portions have been filed separately with the Securities and Exchange Commission.

EX-10.1

EXHIBIT 10.1

PORTIONS DENOTED WITH [***] HAVE BEEN OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION PURSUANT TO A REQUEST FOR CONFIDENTIAL TREATMENT.

VOLUME PURCHASE AGREEMENT

     This Volume Purchase Agreement (“VPA”), dated as of June 6, 2005 (the “Effective Date”), is made by and between Komag USA (Malaysia) Sdn., a Malaysia unlimited liability company (“Komag”), Komag, Incorporated, a Delaware Corporation (“Komag Inc.”), and Western Digital Technologies, Inc., a Delaware corporation (“WDC”).

BACKGROUND

     A. WDC desires to purchase, and Komag desires to sell to WDC, certain Media Products in accordance with the terms of this VPA.

     B. WDC and Komag previously executed a Volume Purchase Agreement effective as of April 8, 1999 and amendments thereto (collectively, the “Original VPA”), and the parties now desire to terminate the Original VPA and enter into a new agreement for the purchase and sale of Media under the terms and conditions provided in this VPA.

     NOW THEREFORE, for and in consideration of the covenants, conditions, and undertakings hereinafter set forth, the parties agree as follows:

ARTICLE 1: DEFINITIONS

     For the purposes of this VPA, unless the context otherwise requires, the following terms will have the respective meanings set out below and grammatical variations of such terms will have corresponding meanings:

     1.1 “AAA” has the meaning set forth in Section 6.2.1.

     1.2 “AFR” [***].

     1.3 “Affiliate” of a party means any entity that directly or indirectly controls, is under common control with, or is controlled by, such party. As used in this definition, “control” means possession, directly or indirectly, of power to direct or cause the direction of management or policies (whether through beneficial ownership of securities or other ownership interests, by contract or otherwise).

     1.4 “Change of Control” has the meaning set forth in Section 12.5.

     1.5 “Component” means a component of a WDC product.

     1.6 “Confidential Information” has the meaning set forth in Section 11.1.

     1.7 “Days” means consecutive calendar days.

PORTIONS DENOTED WITH [***] HAVE BEEN OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION PURSUANT TO A REQUEST FOR CONFIDENTIAL TREATMENT.

     1.8 “Defect” has the meaning set forth in Section 5.5.1.

     1.9 “Delivery Date” or "Scheduled Delivery Date” means the date of delivery of Products as specified in Pull Requests.

     1.10 “Disclosing Party” has the meaning set forth in Section 11.1.

     1.11 “Disentanglement” has the meaning set forth in Section 9.4.1.

     1.12 “Effective Date” has the meaning set forth in the opening paragraph of this VPA.

     1.13 “Epidemic Failure” has the meaning set forth in Section 8.4.

     1.14 “Exchange Act” has the meaning set forth in Section 12.5.

     1.15 “Exhibit” means an attachment to this VPA that is referenced in Section 2.4. Exhibits are incorporated herein by reference thereto.

     1.16 “FGI” has the meaning set forth in Section 5.1.

     1.17 “First Executive Conference” has the meaning set forth in Section 12.4.

     1.18 “Fiscal Quarter” means the fiscal quarters of WDC set forth on Exhibit A.

     1.19 “Force Majeure Event” means an act of nature, civil disruption, power outage, public enemy, government action, or freight embargo beyond the control of a party.

     1.20 “HDDs” means hard disk drives.

     1.21 “Initial Term” has the meaning set forth in Section 9.1.

     1.22 “JIT Hubs” has the meaning set forth in Section 5.3.

     1.23 “Komag Group” means Komag Inc. and all of its subsidiaries.

     1.24 “Komag Shortfall” has the meaning set forth in Section 4.3.2.

     1.25 “Komag Shortfall Remedy Trigger” has the meaning set forth in Section 4.3.3.

     1.26 “Lead Time” means, for purposes of this VPA, the minimum length of time prior to a specific Delivery Date that Komag must receive a Pull Request to ensure delivery by such date, not to exceed 8 hours.

     1.27 “Manufacturing Lot” means Product manufactured during a continuous time period of not less than [***].

2

     1.28 “Material Default” shall mean the occurrence of any of the following, provided that in the event any of the following conditions are cured within the time periods set forth therein, then no Material Default shall have occurred:

            1.28.1 Failure of Komag to deliver (subject to the conditions and requirements of Sections 4.3.2 and 6.7) in a given Fiscal Quarter the Purchase Requirements during the applicable Fiscal Quarter, or the failure of Komag to accept a valid and compliant Purchase Order in accordance with Section 5.2.2 (but subject to Section 5.5), and the failure by Komag to remedy such condition within ten (10) business days after Komag has received notice thereof (which notice must explicitly assert the existence and the nature of such condition under this Section 1.28.1);

            1.28.2 Failure of WDC (subject to the conditions and requirements of Sections 4.3 and 5.5.1) to timely issue valid and compliant Purchase Orders pursuant to Section 5.2.1(a) or WDC’s cancellation of such Purchase Orders, and the failure by WDC to cure such breach within ten (10) business days after WDC has received notice of such default (which notice must explicitly assert the existence and the nature of such condition under this Section 1.28.2);

            1.28.3 Other than (i) a failure of Komag under Section 1.28.1 above, (ii) a failure of WDC under Section 1.28.2 above and (iii) a breach of a payment obligation of WDC under Section 6.6, a material breach by either party of any obligation, covenant, or condition under this Agreement that is susceptible of cure, and the failure by the breaching party to cure such breach within thirty (30) Days after the breaching party has received notice of such default (which notice must explicitly assert the existence and the nature of such condition under this Section 1.28.3), provided that if the cure requires more than thirty (30) Days, a Material Default will be deemed to exist if the breaching party fails to (i) promptly take action to cure such breach as quickly as reasonably possible; or (ii) cure such breach within sixty (60) Days after the breaching party has received notice of such default;

            1.28.4 A failure of WDC to meet its payment obligations under Section 6.6, subject to the late payment procedures set forth in Section 6.7; or

            1.28.5 An assignment or attempted assignment in violation of Section 12.5.

     1.29 “Media” means recording disks, manufactured by any entity, as used in data storage devices.

     1.30 “Mediator” has the meaning set forth in Section 12.4.2.

     1.31 “New Capacity” means the increase in media capacity by Komag in connection with this Agreement.

     1.32 “Next Fiscal Quarter” has the meaning set forth in Section 6.1.3.

     1.33 “Offset” has the meaning set forth in Section 6.5.4.

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     1.34 “Overdue” has the meaning set forth in Section 6.6.

     1.35 “Price” or “Prices” means the amount(s) charged for Products, as specified in Section 6.1.

     1.36 “Product” means the Media manufactured by Komag.

     1.37 “Program” means a WDC product classification, currently including, for example, “Hawk” and “Buccaneer” disk drives. A Program may include various capacities, numbers of disks per drive, drive performance specifications, or drive interfaces (such as SATA or PATA).

     1.38 “Prohibited Assignee” has the meaning set forth in Section 12.5.

     1.39 “Pull Request” means a request made by WDC to Komag for delivery of Product(s) to WDC from a JIT Hub.

     1.40 “Purchase Order” means a purchase order placed by WDC or any subsidiary of WDC to Komag for Products as contemplated by this VPA.

     1.41 “Purchase Requirements^" has the meaning set forth in Section 4.1.1.

     1.42 “Receiving Party” has the meaning set forth in Section 11.1.

     1.43 “Second Term” has the meaning set forth in Section 9.1.

     1.44 “Section” means a numbered section of this VPA.

     1.45 “Specifications” means designs, drawings, prints and written descriptions, specification reviews and requirements for Products that have been developed by WDC and Komag as of the date of this VPA, or which may be developed by WDC and Komag during the term of this VPA.

     1.46 “Stop Ship Order” means a stop ship order under WDC’s established stop ship procedure as set forth in Exhibit C.

     1.47 “Tolling Period” has the meaning set forth in Section 12.2.

     1.48 “Unit” means a single Product.

     1.49 “Unit Shortfall” has the meaning set forth in Section 5.5.1.

     1.50 “VPA” means this Volume Purchase Agreement, including the Exhibits.

     1.51 “WDC Shortfall Remedy Trigger” has the meaning set forth in Section 5.5.1.2.

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ARTICLE 2: AGREEMENT STRUCTURE

     2.1 Background. Each party agrees to diligently cooperate with the other party to accomplish the objectives of this VPA.

     2.2 Agreement Components. This VPA consists of this VPA (including its Exhibits), Purchase Orders and Pull Requests. If there is a conflict among the terms and conditions of the various documents or an ambiguity created by differences therebetween, the order of precedence will be (i) this VPA (excluding its Exhibits), (ii) the Exhibits, and (iii) the Purchase Orders and Pull Requests.

     2.3 Purchase Order. Purchase Orders will be used to convey the Price and number of Units, and accordingly Purchase Orders must contain the following: Komag-designated part number, Price, Units ordered, customer name, ship to address (destination), bill to address, and Purchase Order number. The parties acknowledge that such Purchase Orders, as well as confirming documents, acknowledgments, forms, invoices and the like used in the ordinary course of business may contain other terms and conditions. The parties agree that this VPA will take precedence over any such document or other communication, representation or understanding whether oral or written and that any term or condition relating to the subject matter of this VPA that is inconsistent with this VPA (whether in contradiction to, in addition to, or that would result in any ambiguity with respect to any term or condition in this VPA) will be deemed deleted and be of no force, including, but not limited to, any term or condition purporting to supersede this VPA in whole or in part or purporting to make any offer, acceptance, term, condition or other action conditional upon acceptance of, or indicating agreement to, any inconsistent term or condition. The foregoing may not be modified or waived except by written agreement of the parties, specifically referencing this VPA, and signed by officers of both parties. The parties agree that, without limiting Section 12.1, the foregoing shall not be superseded, altered, or overridden by any provision in the Uniform Commercial Code as it may have been adopted by any competent jurisdiction.

     2.4 Exhibits. The following Exhibits are incorporated into this VPA by reference and deemed to be a part hereof:

     Exhibit A: WDC Fiscal Quarters

     Exhibit B: Current Prices and Sample Prices

     Exhibit C: Stop Ship Order Procedure

     Exhibit D: Progress Milestones

     Exhibit E: Warranty Verification and Disposition Flow Chart

     Exhibit F: Volume/Purchase Requirements

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ARTICLE 3: PRODUCT QUALIFICATION AND DEVELOPMENT

     3.1 Qualification Process. Each of the parties shall use commercially reasonable efforts to qualify and to keep qualified Komag’s Products on at least one Program at all times. Such efforts will require qualification of Products in combination with other Components (such as multiple combinations of Media and recording heads), as well as the subsequent qualification of WDC’s disk drives incorporating such combinations at each WDC customer. Subject to Section 4.3, WDC agrees that Product qualifications must include sufficient WDC Programs, Component combinations and customers to allow WDC to meet its Purchase Requirements for Products under this VPA, taking into account that a Product may fail to qualify in a Program or Components combination, or for a WDC customer, from time-to-time.

     3.2 Qualification Locations. Following the Effective Date, Komag intends to manufacture Products under this Agreement at factory locations in Penang, Malaysia.

ARTICLE 4: PRODUCT PURCHASE AND SALE COMMITMENTS

     4.1 Volume.

            4.1.1 Subject to Section 4.3, Komag agrees that it shall supply to WDC, and WDC agrees that it shall purchase from Komag, at the volumes of Product set forth in Exhibit F (the “Purchase Requirements”).

            4.1.2 In an effort to bring the New Capacity up to its operational capacity as soon as is practicable to both (a) satisfy the Purchase Requirements and (b) maximize the availability of Product for WDC beyond the Purchase Requirements for each Fiscal Quarter, Komag shall use commercially reasonable efforts and assign all commercially reasonable resources to (1) expedite the completion of the New Capacity and the qualification of Products for WDC and (2) maximize the utilization of New Capacity and existing capacity to improve yields. WDC shall cooperate in good faith with Komag and provide all commercially reasonable assistance necessary to help achieve such goals. The parties shall meet regularly to review, develop and update plans and review progress toward goals. Komag and WDC agree that it is their mutual intent that, if Komag produces any Products, other than sample Products, from the New Capacity in excess of Purchase Requirements, such excess shall be offered to WDC for purchase.

     4.2 [intentionally omitted]

     4.3 Exceptions and Qualifications to Purchase Requirements.

4.3.1 Provided that Komag remains qualified on a Program pursuant to which WDC may be able to use quantities of Products, the purchase of which would be sufficient to satisfy the Purchase Requirements of Section 4.1, then WDC must (to the extent commercially and economically reasonable) first satisfy its Purchase Requirements with purchases of Products for such Programs.

6

PORTIONS DENOTED WITH [***] HAVE BEEN OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION PURSUANT TO A REQUEST FOR CONFIDENTIAL TREATMENT.

4.3.2

If Komag (a) does not deliver the Purchase Requirements due to failure of a Product or Products to qualify for a particular Program or Programs; (b) fails to deliver the Purchase Requirements due to a Stop Ship Order where WDC reasonably and in good faith concludes after consultation with Komag that the Products do not meet the Specifications; or (c) refuses or is unable to deliver Products to satisfy duly accepted Purchase Orders in quantities equal to (i) a minimum of [***] percent [***]%) of the Purchase Requirements for each of the first two months of the then applicable Fiscal Quarter and (ii) [***] percent [***]%) of the Purchase Requirements by the end of the eleventh (11th) week of the applicable Fiscal Quarter and (iii) [***] percent [***]%) of the Purchase Requirements by the end of the last week of the applicable Fiscal Quarter; then WDC shall notify Komag of such condition and give Komag five (5) business days to remedy the condition before electing a remedy in accordance with Section 4.3.3; provided, however , in the case of clause (a), (b) and (c) of this Section 4.3.2, if the difference between actual Komag Product deliveries and the Purchase Requirements for a Fiscal Quarter (the “Komag Shortfall”) is not more than [***] percent [***]%) of the Purchase Requirements for such Fiscal Quarter, Komag may increase the Purchase Requirement for the subsequent Fiscal Quarter by a number of Units equal to the Komag Shortfall, and no breach of Section 4.1.1 shall have occurred (it being understood that if Komag fails to make up the full Komag Shortfall in the subsequent Fiscal Quarter, WDC may freely elect its remedies pursuant to Section 4.3.3 and this VPA).

4.3.3

In the event that (A) Komag does not make up the Komag Shortfall in the immediately following Fiscal Quarter, or (B) the Komag Shortfall is more than [***] percent [***]%) of the Purchase Requirements for any Fiscal Quarter (each a “Komag Shortfall Remedy Trigger”), then WDC and Komag shall meet to discuss an amicable resolution and allocation of the Purchase Requirements, which shall be set forth in writing and reference this VPA, and in the event that such resolution has not been reached within five (5) business days of WDC’s notice to Komag of the Komag Shortfall Remedy Trigger, then WDC shall then be entitled at its sole discretion to elect the following remedies:

4.3.3.1 continue under the terms of this VPA and reduce the Purchase Requirements for the relevant Fiscal Quarter and make allocations to and purchase Units from other suppliers (it being understood that WDC’s election to reduce the Purchase Requirements shall not result in a permanent reduction to such Purchase Requirements for

7

PORTIONS DENOTED WITH [***] HAVE BEEN OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION PURSUANT TO A REQUEST FOR CONFIDENTIAL TREATMENT.

	future Fiscal Quarters unless otherwise mutually agreed in writing); or
4.3.3.2	continue under the terms of this VPA and allow Komag to increase the Purchase Requirements for the subsequent Fiscal Quarter (and for that Fiscal Quarter only) by a number of Units equal to the Komag Shortfall (it being understood that if Komag fails to make up the full Komag Shortfall in the subsequent Fiscal Quarter, WDC may freely elect its remedies pursuant to this Section 4.3.3 and this VPA); or
4.3.3.3	terminate this VPA in accordance with Section 9.2; and/or
4.3.3.4	take the Offset under Section 6.5.4 below.

     4.4 Additional Demand. WDC may, but will not be obligated to, request that Komag provide Units in excess of the Purchase Requirements. Purchase Orders for such additional Units may be issued, pursuant to Section 5.2.1(b), at any time by WDC, but will be subject to acceptance by Komag in its sole discretion. Pricing and other terms for such excess Units shall be subject to good faith negotiations between the parties.

ARTICLE 5: PURCHASE OF PRODUCTS BY WDC

     5.1 Forecasts and Planning Schedules. WDC shall provide to Komag a current written forecast of demand for Products WDC expects to purchase during the first twelve (12) months of the term of this VPA, which forecast shall include the Purchase Requirements for each Fiscal Quarter and may include forecasts for additional Product needs. Thereafter during the term of this VPA, on a monthly basis, WDC shall provide an updated forecast for any quantities of such Product WDC expects to purchase in the following twelve (12) months, which forecast shall include the Purchase Requirements for each Fiscal Quarter and may include forecasts for additional product needs. The most recently issued forecast will supersede all previous forecasts. No more than five (5) business days from receipt of each of the monthly WDC forecasts, Komag shall confirm supply for a rolling three-month period (current month plus two), provided, however, that if such monthly forecast fails to include quantities for delivery in each month equal to a minimum of [***] percent [***]%) of the Purchase Requirements for each of the first two months of the then applicable Fiscal Quarter and (ii) [***] percent [***]%) of the Purchase Requirements by the end of the eleventh (11^th) week of the applicable Fiscal Quarter and (iii) [***] percent [***]%) of the Purchase Requirements by the end of the last week of the applicable Fiscal Quarter, then Komag may reject such forecast upon written notice to WDC and allow WDC five (5) business days to modify and re-issue such forecast. During the term of this VPA on a monthly basis, Komag shall provide to WDC a current written summary of the Product finished goods inventory (“FGI”) intended for WDC. This summary shall list by Komag manufacturing site and JIT Hub location the amounts and types of FGI being held by Komag for each of WDC’s Programs.

8

PORTIONS DENOTED WITH [***] HAVE BEEN OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION PURSUANT TO A REQUEST FOR CONFIDENTIAL TREATMENT.

     5.2 Issuing Purchase Orders and Pull Requests.

5.2.1	At least [***] Days before the beginning of each Fiscal Quarter, WDC (a) shall submit to Komag a Purchase Order for such Fiscal Quarter for all Units WDC must purchase pursuant to the Purchase Requirements of Section 4.1 and (b) may submit to Komag a Purchase Order for additional demand, pursuant to Section 4.4, for all Units WDC has forecasted it may require in excess of its Purchase Requirements during such Fiscal Quarter.
5.2.2	With respect to Purchase Orders issued in full compliance with Section 2.3, no more than two (2) business days after receipt of each such Purchase Order, Komag shall issue an acceptance of the Purchase Order in writing confirming the quantity and other terms thereof; provided, however, that if such Purchase Orders include quantities that are inconsistent with the Purchase Requirements or do not meet the requirements of Section 2.3, Komag shall follow the procedures and remedies set forth in Section 5.5.
5.2.3	With respect to Purchase Orders issued pursuant to clause (b) of Section 5.2.1, no more than two (2) business days after receipt of each such Purchase Order, Komag shall confirm or reject the Purchase Order in writing to WDC. Failure of Komag to accept or reject the Purchase Order in writing within such two business day period shall be deemed acceptance of such Purchase Order by Komag.
5.2.4	WDC shall transmit a Pull Request by facsimile or other agreed upon means to communicate to Komag, at the applicable JIT Hub, the part number, quantity, delivery location and Delivery Date and time of each Product required. WDC’s transmission of a Pull Request is authorization for Komag to deliver Product to WDC against the Purchase Order for the part numbers and quantities set forth in the Pull Request. Komag shall deliver Product from the applicable JIT Hub upon receipt of a Pull Request in accordance with applicable Lead Times. WDC and Komag shall, prior to the commencement of each Fiscal Quarter, establish mutually acceptable Lead Times for Pull Requests, which Lead Times shall in no event exceed eight hours.

     5.3 Komag Production and Inventory. During the term of this VPA, WDC will be issuing forecasts and Purchase Orders and Komag will be producing FGI to meet the Purchase Requirements. WDC’s forecast for a certain Fiscal Quarter is not, and should not be deemed to be, a commitment by WDC to buy a specific amount of Product in a specific period of time. Komag will use just-in-time delivery hubs located at or near WDC’s manufacturing or distribution facilities in Malaysia and Thailand (“JIT Hubs”) with respect to its obligations to provide the Purchase Requirements. Komag will: (i)

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PORTIONS DENOTED WITH [***] HAVE BEEN OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION PURSUANT TO A REQUEST FOR CONFIDENTIAL TREATMENT.

bear all costs associated with warehousing Products in the JIT Hub(s); (ii) ensure that WDC may withdraw Products from the JIT Hub(s) in accordance with the terms of this VPA; (iii) retain title to Products until they are physically delivered to WDC or its carrier upon withdrawal from the JIT Hub(s); (iv) fully insure or require the JIT Hub operator to fully insure all Products in transit to or stored at a JIT Hub against all risk of loss or damage until such time as WDC takes title to them; and (v) require that the JIT Hub operator take all steps necessary to protect all Products in a JIT Hub consistent with good commercial warehousing practice. Provided that Komag has confirmed its acceptance of a Purchase Order, Komag shall, promptly after the Effective Date and at all times during the term of this VPA, establish and maintain sufficient inventory for each Program at each JIT Hub in order to be able to deliver the Purchase Requirements in accordance with the terms of this VPA.

     5.4 End of Life. WDC shall use commercially reasonable efforts to notify Komag as soon as possible before the termination of each Program.

     5.5 Liability on Cancellation or Deficient Issuance of a Purchase Order.

5.5.1 Section 5.2.1(a) Purchase Orders.

5.5.1.1 WDC must issue a Purchase Order for Units of Product equal to the Purchase Requirements in each Fiscal Quarter pursuant to Section 5.2.1(a). In the event that WDC fails to (i) timely issue such Purchase Order, (ii) cancels such Purchase Order in writing or (iii) deficiently issues such Purchase Order (such that the aggregate number of Units requested in a given Fiscal Quarter is less than the Purchase Requirements (such shortfall in the number of Units, the “Unit Shortfall”), and each of (i), (ii) or (iii), a “Defect”), Komag may elect a remedy in accordance with Section 5.5.1.2, provided, however, that prior to taking any of the foregoing actions, Komag must (a) give WDC written notice of the Defect and give WDC a single five (5) business day period to correct such Defect and issue or re-issue such Purchase Order, and the time requirement for issuing such Purchase Order set forth in Section 5.2.1 shall be extended accordingly, and (b) if WDC’s Unit Shortfall in a given Fiscal Quarter is not greater than [***] percent [***]%) of its Purchase Requirements for that Fiscal Quarter, then WDC may increase the Purchase Requirement for the subsequent Fiscal Quarter by a number of Units equal to the Unit Shortfall, and no breach of Section 4.1.1 shall have occurred (it being understood that if WDC fails to make up the full Unit Shortfall in the subsequent Fiscal Quarter, Komag may freely elect its remedies pursuant to Section 5.5.1.2 and this VPA).

10

PORTIONS DENOTED WITH [***] HAVE BEEN OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION PURSUANT TO A REQUEST FOR CONFIDENTIAL TREATMENT.

5.5.1.2 In the event that (A) WDC fails to make up the full Unit Shortfall for a Fiscal Quarter in the following Fiscal Quarter, or (B) the Unit Shortfall in any given Fiscal Quarter is more than [***] percent [***]%) of the Purchase Requirements for such Fiscal Quarter (each a “WDC Shortfall Remedy Trigger”), then WDC and Komag shall meet to discuss an amicable resolution and allocation of the Purchase Requirements, which shall be set forth in writing and reference this VPA, and in the event that such resolution has not been reached within five (5) business days of Komag’s notice to WDC of the WDC Shortfall Remedy Trigger, then Komag shall then be entitled at its sole discretion to elect the following remedies:

5.5.1.2.1	terminate this VPA in accordance with Section 9.2; or
5.5.1.2.2	waive the breach and continue under the terms of this VPA and reduce the Purchase Requirements on a going-forward basis by the amount of the Unit Shortfall, which capacity Komag may use for any other purpose it elects, including manufacturing Products to sell to third party purchasers (it being understood that Komag’s election to reduce the Purchase Requirements shall result in a permanent reduction to such Purchase Requirements for future Fiscal Quarters unless otherwise mutually agreed in writing); or
5.5.1.2.3	waive the breach and continue under the terms of this VPA and allow WDC to increase the Purchase Requirement for the subsequent Fiscal Quarter by a number of Units equal to the Unit Shortfall (it being understood that if WDC fails to make up the full Unit Shortfall in the subsequent Fiscal Quarter, Komag may freely elect its remedies pursuant to this Section 5.5.1.2 and this VPA).

5.5.2 WDC shall not be responsible for any liabilities associated with the cancellation of any 5.2.1(a) or 5.2.1(b) Purchase Order, except for the cost of materials unique to WDC Specifications purchased by Komag that Komag cannot cancel, return to its supplier for credit, sell or divert to another use.

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ARTICLE 6: PRICE AND PAYMENT TERMS FOR PRODUCTS

6.1 Product Pricing. All Prices shall be in U.S. Dollars.

6.1.1	Current Prices. The current Unit Prices that WDC will pay for Products purchased during the first Fiscal Quarter pursuant to this VPA are in U.S. Dollars and set forth in Exhibit B (the “Prices”). The Prices for such Products are subject to adjustment following the First Quarter in accordance with Section 6.1.3.
6.1.2	[***]. In the event that WDC elects to challenge the pricing of the Products under this Section 6.1.2, the parties shall follow the procedures set forth in Section 6.2.2 below.
6.1.3	New Products. The parties agree to negotiate in good faith to set the Prices for any new Products or any development Products under any Program. Such negotiations must commence on a date beginning no later than fifty (50) Days before the beginning of the Fiscal Quarter following the then current fiscal quarter (the “Next Fiscal Quarter”) and the parties must conclude such negotiations no later than twenty (20) Days before the beginning of the Next Fiscal Quarter. Komag shall, no later than nineteen (19) Days before the beginning of the next Fiscal Quarter, notify WDC of the mutually agreed-upon Prices applicable to the Next Fiscal Quarter by means of a pricing letter. Notwithstanding the foregoing, the parties agree that the review of such Prices shall not require the parties to modify any of the non-price terms of this VPA. In the event the parties fail to conclude their negotiations by the twentieth (20th) Day preceding the Next Fiscal Quarter, each party agrees to enter into the binding dispute resolution procedures set forth in Section 6.2 and to conclude such binding dispute resolution at least five (5) Days prior to the beginning of the Next Fiscal Quarter.

6.2 Pricing Disputes.

6.2.1 In the event the parties cannot agree upon pricing as described in Section 6.1.2 or Section 6.1.3, either party may, upon written notice to the other, submit such dispute to the Chief Executive Officer of Komag and the Chief Operating Officer of WDC, or their respective designees, who shall meet to attempt to resolve the dispute by good faith negotiations. In the event the parties are unable to come to agreement upon Prices within five (5) Days after such notice is given, either party may proceed with arbitration as follows. The parties will submit the matter of pricing to binding arbitration in San Francisco, California, in accordance with the Commercial Arbitration Rules of the American Arbitration Association (“AAA”). Each party shall appoint one arbitrator, and

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the two arbitrators thus appointed will appoint a third arbitrator. The parties shall instruct the arbitrators to make a determination of pricing using the standards set forth in Section 6.1, but in no event outside of the range of the “bid” and “asked” prices established by the respective positions of the parties in the last good faith negotiations prior to referral to arbitration. The parties shall also instruct them to come to a decision within fifteen (15) Days after submission of the dispute to arbitration. During the pendency of such arbitration, the Prices in the Purchase Order for the Fiscal Quarter before the arbitration shall remain in effect, and WDC shall issue, and Komag shall accept, the Purchase Order for the applicable Fiscal Quarter with such price (it being understood that such prices will be adjusted retroactively if required in accordance with the resolution of the pricing dispute). If a price change is awarded, the party, if any, which owes a balance shall pay such balance; and in the event such party fails to pay such balance within ten (10) Days after the date of the award, interest will accrue beginning ten (10) Days after the date of the award, at the maximum rate permitted by law in California. Each party shall bear its own arbitration costs and expenses; provided, however, that the arbitrators may modify the allocation of fees, costs and expenses in the award in those cases where fairness dictates other than each party bearing its own fees, costs and expenses. The award shall be final and binding on the parties, and judgment on the award may be entered in and enforced by any court of competent jurisdiction.

6.2.2

Audit Rights. With respect to [***] Section 6.1.2, WDC may appoint an independent auditor (reasonably acceptable to Komag) to validate Komag’s records [***] and such auditor’s report may be admissible in the arbitration proceeding.

     6.3 Taxes and Duties. Unless otherwise specifically provided herein, the amount of any present or future sales, revenue, excise or other tax applicable to the Products, will be added to the Price and will be paid by WDC, or in lieu thereof WDC shall provide Komag with a tax exemption certificate acceptable to the taxing authorities. In the event Komag is required to pay any such tax, fee, or charge, at the time of sale or thereafter, WDC shall reimburse Komag therefor. Notwithstanding the foregoing, WDC will not be responsible for any taxes on Komag’s income.

     6.4 Tax Minimization. The parties acknowledge that Komag’s Malaysian manufacturing operations, including the tax holiday status of such operations, provide a path to the industry’s lowest cost structure. To ensure that both parties derive benefit from this advantageous manufacturing location, the parties shall adopt business practices (e.g. sales terms, title passage, importer of record, and warehousing practices) that

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maximize the benefits of Komag’s tax holiday position in Malaysia to the extent not inconsistent with WDC’s reasonable business objectives.

     6.5 Invoices. For shipments through Komag’s designated JIT Hub, Komag shall invoice WDC upon delivery of Product to the delivery location indicated on the Pull Request. For shipments direct to WDC, Komag will invoice upon shipment. Terms for payment of all invoices will be net [***] Days from date of invoice; after such date the amount becoming “Overdue”. In the event payment is not received by Komag within such period, Komag shall notify WDC and WDC shall make prompt payment of the amount then Overdue pursuant to Section 6.6 below. WDC will be liable for interest on any Overdue payment under any such invoice, up to the maximum legal rate in the State of California. Notwithstanding the foregoing, payment terms shall be payment in advance in the event of the bankruptcy or insolvency of WDC or in the event any proceeding is brought (a) voluntarily by WDC under the bankruptcy or insolvency laws; or (b) involuntarily against WDC under the bankruptcy or insolvency laws, and not dismissed within ninety (90) Days.

     6.6 Late Payments. If (a) WDC’s account with Komag becomes Overdue with respect to any specific invoice in any amount by more than seven (7) Days; (b) WDC fails to timely make any payment as required under Exhibit B; or (c) if WDC’s account with Komag becomes Overdue in excess of the greater of (i) [***] and (ii) [***]% of WDC’s total accounts receivable balance under this VPA by more than [***] Days; then Komag may immediately discontinue shipping Products upon [***] Days’ advance written notice to WDC and opportunity for WDC to cure within such [***] Day Period. Units that Komag does not ship in accordance with this Section 6.6 shall not count towards the Units purchased by WDC to fulfill its Purchase Requirements, until such Units are shipped by Komag. The parties agree that a senior officer designated by each party will meet to resolve any issues relating to Overdue amounts. Notwithstanding the foregoing, in the event that WDC in good faith gives Komag written notice disputing the validity or amount of an invoice, then WDC may pay the amount in dispute to Komag under protest and such amount shall not be considered Overdue or subject to Komag’s rights and remedies in this Section 6.6, and the dispute shall be subject to the dispute resolution procedures in Section 12.4.

     6.7 Right of Offset. WDC may immediately set off and recoup any amounts WDC (including its subsidiaries or Affiliates) owes Komag (including its subsidiaries and Affiliates), regardless of when payment is due, against any debt, credit or other obligation or liability payable by Komag to WDC, including the [***] Balance (regardless of whether such debt, credit, obligation or liability arose out of or relates to this VPA) (the “Offset”), and such Offset will be effective even if a receiver, custodian, trustee, examiner, liquidator or similar official has been appointed for Komag or any substantial portion of its assets, upon the occurrence of the following events:

6.7.1.1 ten (10) business days after Komag’s receipt of written notice from WDC of Komag’s Material Default, unless such failure or performance is corrected within such ten-

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	day period; or
6.7.1.2	the occurrence of any insolvency event describe in Section 9.3; or
6.7.1.3	assignment or attempted assignment in violation of Section 12.4 ; or
6.7.1.4	any termination of this VPA by Komag under Section 9.2, in which case the Offset shall occur fifteen (15) Days after such termination.

     After the Offset, in the event the [***] remains positive, Komag shall make a cash payment of the remaining [***] to WDC in a reasonable period of time not to exceed [***] Days. The rights described in this Section 6.7 are in addition to any other rights and remedies available under this VPA or applicable law.

ARTICLE 7: SHIPMENT AND DELIVERY OF PRODUCTS

     7.1 Shipment of Product. Delivery from JIT Hubs will be made DDU (i.e., the ICC standard shipping term for delivery duty unpaid), and liability for loss or damage to Products will pass to WDC upon Komag’s delivery of the Products to WDC. Delivery from Komag factory will be made EXW-Komag factory (i.e., the ICC standard shipping term for Ex Works), unless the delivery is late in which case the delivery will be made DDU. As between the parties, Komag will bear the cost for insurance relating to delivery of the Products. For deliveries within Malaysia or Thailand, Western Digital Malaysia SDN. BHD, or Western Digital (Thailand), respectively, will be the “importer of record” for GST purposes. Komag may deliver the Products in installments subject to Section 5.2. Unless otherwise agreed, all Products will be packaged and packed in accordance with Komag’s normal practices. All Product packages shall be labeled in accordance with applicable customs regulations. Komag may ship, determine freight forwarder, and provide delivery support by the method it deems most advantageous. WDC shall ensure that the freight forwarder selected by Komag may use WDC’s “Manufacturer’s Export Status” for shipments on behalf of WDC to Thailand, so long as the parties mutually agree. Transportation charges are included in the Unit Price. Komag shall deliver, upon request from WDC, appropriate import certificates for duties paid on Media purchased from Komag, imported by Komag into the United States and delivered to WDC in the United States.

     7.2 Late Delivery. Komag shall notify WDC immediately if for any reason Komag fails to comply or anticipates that it may fail to comply with the timing terms of a Pull Request (i.e., failure to meet a Delivery Date). In the event of a late delivery, without limiting the rights and remedies available to WDC under this VPA, the parties will cooperate in good faith to minimize the disruption caused to WDC by such late delivery.

     7.3 Export Regulations. WDC and Komag shall comply with all export control laws and regulations applicable to the export or re-export of Products or any related technology. The party undertaking such export or re-export shall be responsible

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for obtaining any required documents, authorizations and approvals prior to any such export or re-export.

ARTICLE 8: WARRANTIES AND INTELLECTUAL PROPERTY INFRINGEMENT

     8.1 WDC General Warranties. WDC has the corporate power and authority to own its properties and to carry on its business as now being conducted and as contemplated to be conducted. WDC is duly qualified to do business and in good standing as a foreign corporation under the laws of each jurisdiction in which the failure to be so qualified would have a material adverse effect on WDC.

     8.2 KOMAG Warranties. For a period of one year from the date of Komag’s invoice for each Unit of Product (the “Warranty Period”), Komag represents and warrants that each Unit of Product is (i) free from defects in materials or workmanship and (ii) conforms to the Specifications. Komag will, at its option, replace, or furnish credit for any Product purchased by WDC from Komag which, as determined by the parties, fails to meet the foregoing warranties. THIS WARRANTY IS IN LIEU OF ALL OTHER WARRANTIES, EXPRESS, IMPLIED OR STATUTORY INCLUDING THE WARRANTY OF MERCHANTABILITY AND THE WARRANTY OF FITNESS OR OF SUITABILITY FOR A PARTICULAR PURPOSE, AND OF ALL OTHER OBLIGATIONS OR LIABILITIES ON KOMAG’S PART, AND IT NEITHER ASSUMES NOR AUTHORIZES ANY OTHER PERSON TO ASSUME FOR KOMAG ANY OTHER LIABILITIES IN CONNECTION WITH THE SALE OF THE PRODUCTS. This provision states WDC’s exclusive and sole remedy for breach of warranty and the entire extent of Komag’s liability for defective Products, except as may otherwise be determined by the parties in accordance with Section 8.4. This provision does not extend the original warranty period of any Product which as been repaired or replaced by Komag.

     8.3 Warranty Procedure. The parties agree to use the return material authorization process described in the Warranty Verification and Disposition flow chart set forth in Exhibit E to manage and dispose of the Products returned to WDC under warranty.

     8.4 Epidemic Failure. If during the Warranty Period, (i) (x) the failure rate of a WDC HDD product rises to a level that triggers an “Excessive Defect,” “Epidemic Defect,” or “Excessive Failure” clause, or a similar clause, in a contract, agreement or Purchase Order between WDC and a WDC customer (collectively, “Epidemic Failure”) and and (y) the defect causing the HDD failures is attributable to a breach of Komag’s warranties in Section 8.2; or (ii) the AFR of the Product exceeds [***] percent [***]%); or (iii) a breach of Komag’s warranties in Section 8.2 result in a Stop Ship Order; then Komag and WDC shall meet to develop and agree upon a mutually acceptable corrective action plan, which may include, upon mutual agreement of the parties, reasonable compensation to WDC for out-of-pocket expenses actually incurred in good faith to diagnose the defect, develop tests and remedies, promptly respond to customer inquiries and complaints, promptly return and replace such defective Product at WDC’s facilities,

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at JIT Hubs, or otherwise positioned for use or consumption by WDC, replace the HDD in which the defective Product is located, and transport to a repair or returns center the HDD in which the defective Product is located. Komag agrees to promptly notify WDC if it has reason to believe that Products are likely to present a safety risk to WDC personnel or WDC’s customers or if the AFR of the Products is expected to exceed [***] percent [***]%).

     8.5 Disclaimer. THE WARRANTIES AND OBLIGATIONS OF THIS SECTION 8 WILL BE EXCLUSIVE AND IN LIEU OF ANY AND ALL OTHER WARRANTIES, EXPRESS, IMPLIED OR STATUTORY, INCLUDING BUT NOT LIMITED TO THE WARRANTIES OF MERCHANTABILITY, FITNESS FOR A PARTICULAR PURPOSE AND NONINFRINGMENT, ALL OF WHICH ARE HEREBY EXPRESSLY DISCLAIMED.

     8.6 Infringement Indemnity

           8.6.1 Indemnification by Komag. Subject to Section 8.6.2, Komag shall, at its own expense, indemnify and hold WDC (including WDC’s Affiliates and personnel) harmless from and against any expense, loss or liability resulting from any actual or alleged infringement of any patent, trademark, trade secret, copyright, mask work or other intellectual property right related to the Products, and Komag shall defend at its own expense, including attorney’s fees, any suit brought or claim against WDC alleging any such infringement, provided that WDC gives Komag prompt notice of any such suit or claim and permits Komag, through counsel of Komag’s choice, to answer the charge of infringement and defend such suit (but WDC may be represented by counsel and participate in the defense at its own expense), and WDC gives Komag all needed information, assistance and authority, at Komag’s expense, reasonably necessary for Komag to defend such suit. In the event that an infringement suit results in a judgment against WDC, Komag’s liability to WDC shall include without limitation all damages and costs awarded against WDC arising out of such claim, suit or proceeding.

           8.6.2 Exclusions. Komag will have no obligation to indemnify and hold WDC (including WDC’s Affiliates and personnel) harmless against an intellectual property infringement claim under Section 8.6.1 to the extent that: (a) such infringement is required for compliance with WDC Specifications, (b) the Product has been modified by a party other than Komag without Komag’s approval and such claim would have been avoided but for such modification, or (c) such claim arises from WDC’s combination of the Product with other products or devices, unless the Product is a component that would support liability for contributory infringement under 35 USC §271(c).

           8.6.3 Limited Remedies. If the use of a Product is enjoined, or earlier at WDC’s option if WDC reasonably believes such Product is likely to be found to infringe, Komag shall, in its sole discretion and at its own expense, either (a) procure for WDC the right to continue using, selling and/or distributing such Product; (b) replace same with a non-infringing product that meets WDC’s Specifications; (c) modify the Product so that it becomes non-infringing and meets WDC’s Specifications; or (d) if Komag is unable to reasonably do any of the above, refund the Price for such Product.

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           8.6.4 License. Sale of any Product or any part thereof by Komag does not confer upon WDC any license under any patent rights or copyrights, other than as necessary to allow WDC to use, have used, disseminate, sell or distribute the Product as a Component of a WDC HDD.

           8.6.5 SOLE LIABILITY. THIS SECTION 8.4 IS IN LIEU OF ALL OTHER EXPRESS, IMPLIED OR STATUTORY WARRANTIES AGAINST INFRINGEMENT AND WILL BE THE SOLE AND EXCLUSIVE REMEDY FOR INTELLECTUAL PROPERTY INFRINGEMENT OF ANY KIND.

ARTICLE 9: TERM AND TERMINATION

     9.1 Term. The term of this VPA shall be for eighteen (18) months from the date the New Capacity is producing Product at full capacity (the “Initial Term”). The term of the VPA shall automatically be extended for an additional twelve (12) months beyond the Initial Term (the “Second Term”) unless either party gives written notice to the other party no later than six (6) months prior to the end of the Initial Term that it does not want to extend the term of the VPA for the Second Term. In the event one party gives such notice of its desire not to extend, then unless the parties mutually agree otherwise, the VPA shall automatically be extended for an additional six (6) months beyond the Initial Term and then terminate automatically at the end of the additional six- (6)-month period.

     9.2 Termination for Cause. Either party may terminate this VPA in the event of a Material Default (including the occurrence of a Force Majeure Event that causes a delay exceeding the Tolling Period) of this VPA by the other party, upon notice to such other party, which notice must describe the reason for such termination and must specify the termination date, which termination date must be no earlier than five (5) Days after the date of such notice. The parties acknowledge that neither party will have the right to terminate this Agreement due to any breach of this Agreement other than a Material Default or insolvency event under Section 9.3 or a Force Majeure Event beyond the tolling period in Section 12.2; and in the case of such other breach, subject to Sections 10.2, 11.6 and 6.5.4, the non-breaching party’s only remedy under this Agreement will be an action for damages.

     9.3 Termination for Insolvency. This VPA may be terminated by either party by notice to the other party upon (i) the commencement by the other party of a voluntary or involuntary proceeding under any federal, state, provincial or foreign bankruptcy law or similar law which is not dismissed within ninety (90) Days; (ii) the appointment for the other party of a receiver, trustee or similar official or a general assignment for the benefit of such party’s creditors; (iii) the winding up or liquidation of the other party; or (iv) a party becomes unable to pay its debts either because it is subject to a Suspension of Payments order, bankruptcy, or other insolvency proceeding. In the case of (i) to (iv) above, termination may also be effected by serving notice on the liquidator, administrator, or receiver, as the case may be.

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     9.4 Rights Upon Termination.

           9.4.1 Disentanglement. Upon termination by either party for any reason under this Agreement, Komag shall complete delivery and WDC shall accept delivery on all open Purchase Orders and WDC shall pay for all Products properly delivered and invoiced in accordance with Article 6, and Komag and WDC shall cooperate to ensure an orderly separation (collectively, a “Disentanglement”).

           9.4.2 Termination by Komag or WDC. In the event that either Komag or WDC terminates this VPA pursuant to either Section 9.2 or Section 9.3, such termination is without prejudice to the terminating party’s rights to recover for damages with respect to the breach that gave rise to the right to terminate.

     9.5 Survival. The following provisions will survive the termination or expiration of this VPA: Articles 1, 2, 6, 8, 9.4, 10, 11, and 12, as well as any obligations arising before the effective date of termination or expiration.

ARTICLE 10: LIMITATION OF LIABILITY

     10.1 Limitation of Liability. EXCEPT FOR ARTICLE 11 (CONFIDENTIALITY), NEITHER PARTY SHALL BE LIABLE TO THE OTHER FOR CONSEQUENTIAL, INDIRECT, INCIDENTAL, SPECIAL OR PUNITIVE DAMAGES EVEN IF ADVISED OF THE POSSIBILITY OF SUCH DAMAGES. EXCEPT FOR ARTICLE 11 (CONFIDENTIALITY) AND SECTION 8.6 (INDEMNITY) AND A PARTY’S OBLIGATION TO MAKE PAYMENTS TO THE OTHER HEREUNDER, IN NO EVENT WILL EITHER PARTY’S LIABILITY UNDER THIS AGREEMENT EXCEED THE AMOUNTS ACTUALLY PAID OR PAYABLE (OR RECEIVED OR RECEIVABLE) UNDER THIS AGREEMENT. NOTWITHSTANDING ANYTHING TO THE CONTRARY SET FORTH HEREIN, INCLUDING ARTICLE 8 AND SECTIONS 10.2, IN NO EVENT SHALL EITHER PARTY BE OBLIGATED OR REQUIRED TO PROVIDE ANY REMEDY OR ENGAGE IN ANY CONDUCT WHERE THE COSTS AND EXPENSES THAT WOULD BE INCURRED BY SUCH PARTY WOULD EXCEED THE FOREGOING LIMITATION ON DAMAGES.

     10.2 Performance. Notwithstanding the foregoing, in light of the fact each of the parties entered into this VPA in reliance on the full and faithful performance by the other party of its obligations (including but not limited to purchase and sale obligations) hereunder, the parties agree that damages would be an inadequate compensation for the breach by the parties of such obligations and accordingly, upon any such breach, in addition to monetary damages, a party shall be entitled to obtain an order for specific performance of such obligations at any court having jurisdiction over the other party.

     10.3 EACH WDC SUBSIDIARY THAT ISSUES PURCHASE ORDERS TO KOMAG UNDER THIS AGREEMENT IS A THIRD PARTY BENEFICIARY OF THE RIGHTS AND REMEDIES AFFORDED WDC AS CONTAINED IN THIS AGREEMENT.

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ARTICLE 11: CONFIDENTIALITY

     11.1 “Confidential Information” means any information disclosed by one party (the "Disclosing Party”) to the other (the "Receiving Party”) in relation to this VPA, which, if in written, graphic, machine-readable or other tangible form is marked as ^"Confidential” or ^"Proprietary,” or which under the circumstances surrounding disclosure or by the nature of the information, ought to be treated as confidential by the Receiving Party. Confidential Information includes, but is not limited to, product/service specifications or drawings, prototypes, product pricing, product roadmaps, volume projections, marketing plans, and financial data.

     11.2 Exclusions. Notwithstanding Section 11.1, Confidential Information will exclude information that the Receiving Party can demonstrate:

            11.2.1 was independently developed by the Receiving Party without any use of the Disclosing Party’s Confidential Information or by the Receiving Party’s employees or other agents (or independent contractors hired by the Receiving Party) who have not been exposed to the Disclosing Party’s Confidential Information;

            11.2.2 becomes known to the Receiving Party, without restriction, from a source other than the Disclosing Party without breach of this VPA and that had a right to disclose it;

            11.2.3 was in the public domain at the time it was disclosed or becomes in the public domain through no act or omission of the Receiving Party; or

            11.2.4 was rightfully known to the Receiving Party, without restriction, at the time of disclosure.

     11.3 Compelled Disclosure. If a Receiving Party believes that it will be compelled by a court or other authority to disclose Confidential Information of the Disclosing Party, it shall give the Disclosing Party prompt written notice so that the Disclosing Party may take steps to oppose such disclosure, and the Receiving Party shall assist in opposing such disclosure at the Disclosing Party’s expense. The parties agree that they shall work together to seek confidential treatment for certain confidential portions of this Agreement if required to be filed with the Securities and Exchange Commission.

     11.4 Confidentiality Obligation. During the term of this VPA and for a period of five years thereafter, the Receiving Party shall keep such Confidential Information in strict confidence and shall not disclose such Confidential Information to any third party without prior written consent of the Disclosing Party.

     11.5 Confidentiality of Agreement. Each party agrees that the terms and conditions, but not the existence, of this VPA will be treated as the other’s Confidential Information and that no reference to the terms and conditions of this VPA or to activities pertaining thereto can be made in any form of public or commercial advertising without the prior written consent of the other party; provided, however, that each party may

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disclose the terms and conditions of this VPA: (i) subject to the provisions of Section 11.3 as required by any court or other governmental body; (ii) as otherwise required by law (including, without limitation, any rule, regulation or policy statement of any national securities exchange, market or automated quotation system on which any of the Receiving Party’s securities are listed or quoted); (iii) to legal counsel of the parties; (iv) in connection with the requirements of a public offering, secondary offering, debt offering, or securities filing of the parties, or otherwise as obligated by law; (v) in confidence, to accountants, banks, and financing sources and their advisors; or (vi) in confidence, in connection with the enforcement of this VPA or rights under this VPA.

     11.6 Remedies. Unauthorized use by a party of the other party’s Confidential Information will diminish the value of such information. Therefore, if a party breaches any of its obligations with respect to confidentiality or use of Confidential Information hereunder, the other party will be entitled to seek equitable relief to protect its interest therein, including injunctive relief, as well as money damages.

     11.7 Non-disclosure Agreements. Each party shall obtain the execution of proprietary nondisclosure agreements with its Affiliates, including but not limited to the party’s and/or Affiliates’ respective agents and consultants having access to Confidential Information of the other party, shall diligently enforce such agreements with respect to the Confidential Information, and shall exercise due care to control the actions of such Affiliates, employees, agents and consultants in this respect so long as they have a working relationship with the party obligated hereunder to obtain such nondisclosure agreements.

ARTICLE 12: GENERAL

     12.1 Governing Law and Jurisdiction. This VPA will be interpreted, and the rights and liabilities of the parties hereto determined, in accordance with the laws of the State of California applicable to agreements executed, delivered and performed within such State, without regard to the principles of conflicts of laws thereof. Each of the parties hereby consents to the jurisdiction of any state or federal court located within the county of Santa Clara in the State of California (except for resolution of pricing disputes as described in Section 6.2), and each of the parties hereby: (i) waives any objection to venue of any action instituted under this VPA, and (ii) consents to the granting of such legal or equitable relief as is deemed appropriate by any aforementioned court.

     12.2 Force Majeure. Neither party shall be liable for its failure to perform any of its obligations hereunder due to a Force Majeure Event (it being understood that a failure to make any payments hereunder are not subject to this exception), provided that the party suffering such delay immediately notifies the other party of the delay and provided further that the period of delay shall not exceed ninety (90) days (the “Tolling Period”). In the event that the delay exceeds the Tolling Period, the non-breaching party may terminate this VPA pursuant to Section 9.2.

     12.3 Trademarks. Nothing in this VPA gives either party a right to use the other party’s name, trademark(s), or trade name(s), directly or indirectly, without the

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other party’s prior written consent, except as may be required by applicable law or court order. In such a case, the party required to disclose such information shall provide prompt notice of such requirement in order that the other party may seek appropriate protective orders.

     12.4 Dispute Resolution. The parties agree that any material dispute between the parties relating to this VPA (other than pricing disputes governed by Section 6.2) shall be handled as follows:

12.4.1

First, the parties will submit the dispute to a panel of two senior executives (Vice-President or more senior) of each party. Either party may initiate this proceeding by notifying the other party in writing pursuant to the notice provisions of Section 12.11. Within five (5) Days from the date of receipt of the notice, the parties’ executives shall confer (via telephone or in person) in an effort to resolve such dispute (the “First Executive Conference”). The decision of the executives shall be final and binding on the parties. In the event that the executives are unable to resolve such dispute within twenty (20) Days after the First Executive Conference, then the parties shall follow the procedures set forth in Sections 12.4.2 and 12.4.3 below. Each party’s executives shall be identified by notice to the other party and may be changed at any time thereafter also by notice to the other party.

12.4.2

In the event that the First Executive Conference does not resolve the dispute, the parties shall submit the dispute to JAMS, or any other mutually selected mediator (the “Mediator”) for non-binding mediation. The parties will cooperate with the Mediator and with one another in selecting the Mediator (in the case of JAMS, in selecting an individual to mediate from JAM’s panel of neutrals), and in promptly scheduling the mediation proceedings. The parties covenant that they will participate in the mediation in good faith, and that they will share equally in its costs. All offers, promises, conduct and statements, whether oral or written, made in the course of the mediation by any of the parties, their agents, employees, experts and attorneys, and by the Mediator, are confidential, privileged and inadmissible for any purpose, including impeachment, in any arbitration or other proceeding involving the parties, provided that evidence that is otherwise admissible or discoverable shall not be rendered inadmissible or non-discoverable as a result of its use in the mediation. If the dispute is not resolved within thirty (30) Days from the date of the submission of the dispute to mediation (or such later date as the parties may mutually agree in writing), the dispute shall be submitted to arbitration in accordance with Section 12.4.3 below. The mediation may continue, if the parties so agree, after the

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appointment of the arbitrators. Unless otherwise agreed by the parties, the Mediator shall be disqualified from serving as arbitrator in the case. The pendency of a mediation shall not preclude a party from seeking provisional remedies in aid of the arbitration from a court of appropriate jurisdiction, and the parties agree not to defend against any application for provisional relief on the ground that a mediation is pending.

12.4.3

In the event the parties do not settle the dispute through mediation, the parties will submit the matter(s) to binding arbitration in San Francisco, California, in accordance with the Commercial Arbitration Rules of the AAA. Each party shall appoint one arbitrator, and the two arbitrators thus appointed will appoint a third arbitrator. The parties shall instruct the arbitrators to make a determination within thirty (30) Days after submission of the dispute to arbitration. Each party shall bear its own arbitration costs and expenses; provided, however, that the arbitrators may modify the allocation of fees, costs and expenses in the award in those cases where fairness dictates other than each party bearing its own fees, costs and expenses. The award shall be final and binding on the parties, and judgment on the award may be entered in and enforced by any court of competent jurisdiction.

     12.5 Assignment. Except as set forth in this Section 12.5, neither this Agreement, nor any of the rights or obligations hereunder, may be assigned, transferred, subcontracted or delegated by a party hereto to any third party (other than a parent or subsidiary under common control with the assigning party), including without limitation, by operation of law or pursuant to a Change of Control (as defined below). Notwithstanding the foregoing, (a) Komag may assign this Agreement, and the rights and obligations hereunder, without the prior consent of WDC, in connection with a Change of Control and (b) WDC may assign this Agreement, and the rights and obligations hereunder, without the prior consent of Komag, to a third party in connection with a Change of Control; so long as WDC assigns all obligations under this Agreement to any party that succeeds to all or substantially all of WDC’s disk drive production business. For purposes of this Section 12.5, “Change of Control” shall mean (i) any sale, lease, exchange or other transfer (in one transaction or series of transactions) of all, or substantially all, of the assets of such party, (ii) any consolidation or merger or other combination of a party in which such party is not the continuing or surviving corporation or pursuant to which shares of such party’s common stock would be converted into cash, securities or other property (other than a merger of such party in which the holders of such party’s common stock immediately prior to the merger hold at least a majority of the outstanding securities of the combined entity), or (iii) any transaction (or series of related transactions) pursuant to which any person (as defined in Section 13 of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), becomes the beneficial owner (as defined in Rule 13d-3 under the Exchange Act), directly or indirectly, of 35% or more of such party’s outstanding common stock. Any purported assignment of this VPA or the

23

rights or obligations of a party under this VPA in violation of this Section 12.5 shall be null, void and of no further force or effect and shall constitute a Material Default. Notwithstanding the foregoing, in the event of a Change of Control of Komag with respect to a Prohibited Assignee, WDC shall have the right to terminate this Agreement upon notice to Komag, which notice shall be effective, at WDC’s option, either immediately upon closing of the transaction that results in such Change of Control, or such other later date as set forth in the notice. In the event WDC decides to continue under the terms of this Agreement for any period of time following the effective date of a Change of Control, Komag agrees that it shall (i) allow representatives of WDC reasonable access to Komag’s manufacturing facility as WDC reasonably believes necessary in order for WDC to monitor and protect its interests under this Agreement and (ii) provide WDC with adequate assurances that WDC’s intellectual property, product roadmaps, Specifications and other Confidential Information is screened from and will not be disclosed to employees that were employees of the Prohibited Assignee prior to the Change of Control. Notwithstanding the foregoing, in the event WDC reasonably believes that at any point following the Change in Control to a Prohibited Assignee that the Prohibited Assignee fails to demonstrate the commitment and capacity to continue Komag’s management, technology, operations, and financing, and meet Komag’s commitments to WDC under the Agreement, then WDC may terminate this VPA effective immediately and neither such termination nor such failure to demonstrate such commitment or capacity will constitute a Material Default by either party. In addition, Komag represents that it is not currently contemplating or in negotiations with any party regarding a Change of Control. “Prohibited Assignee” shall mean any third party who (x) engages as a substantial part of its business in the manufacture of HDDs; or (y) engages as a substantial part of its business in the manufacture of computer or software systems and who manufactures HDDs.

     12.6 Severability. If any of the provisions of this VPA are held by a court or other tribunal of competent jurisdiction to be unenforceable, the remaining portions of this VPA will remain in full force and effect.

     12.7 Failure to Enforce. The failure of either party to enforce at any time or for any period of time the provisions of this VPA will not be construed to be a waiver of such provisions or of the right of such party to enforce each and every provision of this VPA in the future.

     12.8 Agency. This VPA does not create a principal to agent, employer to employee, partnership, joint venture, or any other relationship except that of independent contractors between Komag and WDC.

     12.9 Request in Writing. All requests such as Pull Requests, acceptances/rejections, notices, must be made or confirmed in writing. Such writings must take the form of electronic mail (receipt confirmed), facsimile (receipt-confirmed) and/or posted letter (return-receipt).

     12.10 Counterparts. This VPA may be executed in one or more counterparts, each of which will be deemed to be an original, but all of which will be considered one

24

and the same instrument. A photocopy of a signature or a facsimile of a signature shall be as valid as an original.

     12.11 Notices. Except as otherwise provided herein, all notices hereunder will be deemed given if (a) in writing and delivered personally; or (b) sent by facsimile transmission that is confirmed by return facsimile or e-mail; to the parties at the following addresses (or at such other addresses as will be specified by like notice):

(i)	if to WDC, to:
	Western Digital Technologies, Inc.
	20511 Lake Forest Drive, Lake Forest, CA 92630
	Attention: General Counsel
	Fax No.: (949) 672-5444
(ii)	if to Komag to:
	Komag USA (Malaysia) Sdn.Bayan Lepas Free Trade Zone
	Phase III
	11900 Penang
	Malaysia
	FX: 011-604-643-9881Attention: Kheng Huat Oung, Vice President, GM, Media
	Operations
	With a copy to:
	Komag, Incorporated
	1710 Automation Parkway
	San Jose, California 95131
	Attention: Chief Financial Officer
	Fax No.: (408) 944-9234
	and
	Wilson Sonsini Goodrich & Rosati, P.C.
	650 Page Mill Road
	Palo Alto, California 94304
	Attention:   Page Mailliard, Esq.
	Selwyn Goldberg, Esq.
	Fax No.: (650) 493-6811

Any notice given by mail will be effective when received. Any notice given by electronic mail or facsimile transmission will be effective when the appropriate electronic mail or facsimile transmission acknowledgment is received.

25

     12.12 Amendments. This VPA may only be amended in writing signed by authorized representatives of each of the parties. To be effective, such amendments must specifically reference this VPA.

     12.13 Complete Agreement. This VPA, Exhibits, and specific Purchase Orders and Pull Requests set forth the complete agreement between the parties regarding their subject matter and replace all prior or contemporaneous communications, understandings or agreements, written or oral, about this subject.

     12.14 Performance During Pendency of Disputes. If a dispute arises between the parties, regardless of whether such dispute requires the use of the procedures described in Section 6.2 or Section 12.4, subject to the terms and conditions of this Agreement, (a) in no event nor for any reason shall Komag interrupt the provision of Products to WDC, delay manufacture or delivery of Products or perform any other action that prevents, slows down, or reduces in any way the provision of Products or WDC’s ability to conduct its business; and (b) each party shall continue to perform its obligations under this Agreement, unless: (x) authority to do so has been granted by the other party or conferred by a court of competent jurisdiction; or (y) this Agreement has been terminated pursuant to Section 9.2 or Section 9.3 and a Disentanglement has occurred.

     12.15 Termination of Original VPA. Pursuant to Section 9.1 of the Original VPA, by consent of the parties, the Original VPA is hereby terminated and replaced in its entirety by the terms and conditions of this Agreement.

26

     IN WITNESS WHEREOF, the parties have caused this Volume Purchase Agreement to be signed and accepted by their duly authorized representatives, effective as of the Effective Date.

Western Digital Technologies, Inc.,	Komag USA (Malaysia) Sdn.
a Delaware corporation.	a Malaysian corporation

By:	/s/ Marty Finkbeiner	By:	/s/ Kheng Huat Oung
Name:	Marty Finkbeiner	Name:	Kheng Huat Oung
Title:	Senior Vice President, Materials	Title:	Managing Director

Komag Incorporated

a Delaware corporation

By:	/s/ Ray L. Martin
Name:	Ray L. Martin
Title:	Executive Vice President, Customer Sales & Service

S-1

EXHIBIT A

WDC Fiscal Quarters

FISCAL
QUARTER 1 2006
Month	Start Date	End Date	Weeks
July 2005	07/02/2005	07/29/05		4
August 2005	07/30/05	08/26/05		4
September 2005	08/27/05	09/30/05		5
FISCAL
QUARTER 2 2006
October 2005	10/01/05	10/28/05		4
November 2005	10/29/05	11/25/05		4
December 2005	11/26/05	12/30/05		5
FISCAL
QUARTER 3 2006
January 2006	12/31/05	01/27/06		4
February 2006	01/28/06	02/24/06		4
March 2006	02/25/06	03/31/06		5
FISCAL
QUARTER 4 2006
April 2006	04/01/06	04/28/06		4
May 2006	04/29/06	05/26/06		4
June 2006	05/27/06	06/30/06		5

A-1

FISCAL
QUARTER 1 2007
July 2006	7/1/06	7/28/06	4
August 2006	7/29/06	8/25/06	4
September 2006	8/26/06	9/29/06	5
FISCAL
QUARTER 2 2007
October 2006	9/30/06	10/27/06	4
November 2006	10/28/06	11/24/06	4
December 2006	11/25/06	12/29/06	5
FISCAL
QUARTER 3 2007
January 2007	12/30/06	01/26/07	4
February 2007	01/27/07	02/26/07	4
March 2007	02/24/07	03/30/07	5
FISCAL
QUARTER 4 2007
April 2008	3/31/2007	4/27/2007	4
May 2008	4/28/2007	5/25/2007	4
June 2008	5/26/2007	6/29/2007	5

A-2

PORTIONS DENOTED WITH [***] HAVE BEEN OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION PURSUANT TO A REQUEST FOR CONFIDENTIAL TREATMENT.

EXHIBIT B

PRICES

[***]

B-1

PORTIONS DENOTED WITH [***] HAVE BEEN OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION PURSUANT TO A REQUEST FOR CONFIDENTIAL TREATMENT.

ADDITIONAL PAYMENT TERMS

     WDC shall make [***]payments to Komag Inc. of[***] to be applied against [***] purchases of Product in accordance with this Exhibit as set forth below. [***]Payment [***] shall be made by WDC on [***] and [***] in accordance with [***] Exhibit D. [***]. The parties acknowledge that the [***] has already been paid and received. [***]Payment [***] shall be repaid by Komag, Inc. to WDC solely in accordance with [***] Section 6.7 and 4.3.3 of the VPA.

     The parties agree that it is their mutual intent that [***]Payment [***] be used by the Komag Group solely for manufacturing and operations in connection with the [***], and not for the Komag Group’s general working capital purposes.

     Starting no earlier than the first date that first production comes off the [***], and no later than [***], Komag Inc. shall make payments monthly to WDC equal to [***] for each Unit invoiced during the fiscal month, within 7 days after the fiscal month-end (regardless of whether such Unit was a result of [***] or previously existing capacity) (the “Per Unit Offset”) [***], then the remainder of the [***] shall become due and payable to WDC at the end of the Initial Term, and Komag Inc. shall make such payment in a reasonable period of time not to exceed 15 Days.

B-2

PORTIONS DENOTED WITH [***] HAVE BEEN OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION PURSUANT TO A REQUEST FOR CONFIDENTIAL TREATMENT.

EXHIBIT C

Stop Ship Order Procedures

[***]

C-1

PORTIONS DENOTED WITH [***] HAVE BEEN OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION PURSUANT TO A REQUEST FOR CONFIDENTIAL TREATMENT.

EXHIBIT D

Progress Milestones

[***]

D-1

PORTIONS DENOTED WITH [***] HAVE BEEN OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION PURSUANT TO A REQUEST FOR CONFIDENTIAL TREATMENT.

EXHIBIT E

Warranty Verification and Disposition Flow Chart

[***]

E-1

PORTIONS DENOTED WITH [***] HAVE BEEN OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION PURSUANT TO A REQUEST FOR CONFIDENTIAL TREATMENT.

EXHIBIT F

Volumes

Quarter	Volume Requirement
[***]Fiscal Quarter [***] (i.e., the quarter ending [***])	[***]Units
WDC [***]Fiscal Quarter [***] (i.e., the quarter ending [***])	[***]Units
Each WDC Fiscal Quarter following the [***] Fiscal Quarter [***] (i.e., each quarter after the quarter ending [***]) for the term of this VPA.	[***]Units

PORTIONS DENOTED WITH [***] HAVE BEEN OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION PURSUANT TO A REQUEST FOR CONFIDENTIAL TREATMENT.

AMENDMENT NO. 1 TO VOLUME PURCHASE AGREEMENT

     This Amendment No. 1 to the Volume Purchase Agreement (this “Amendment”) is dated as of July 22, 2005 (the “Effective Date”), and is made by and between Komag USA (Malaysia) Sdn., a Malaysia unlimited liability company (“Komag”), Komag, Incorporated, a Delaware Corporation (“Komag Inc.”), and Western Digital Technologies, Inc., a Delaware corporation (“WDC”).

RECITALS

     A. WDC, Komag and Komag Inc. previously executed a Volume Purchase Agreement (the “VPA”) effective as of June 6, 2005.

     B. WDC, Komag and Komag Inc. now desire to amend the Agreement in the manner and upon the terms and conditions hereinafter provided in this Amendment.

     NOW, THEREFORE, for and in consideration of the mutual covenants herein contained and for other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, the parties executing this Amendment hereby agree as follows:

AGREEMENT

     1. Defined Terms. Capitalized terms not defined herein shall have the meanings set forth in the VPA.

     2. Term. Section 9.1 of the VPA is hereby deleted in its entirety and replaced with the following:

     9.1 Term. The term of this VPA shall be for eighteen (18) months from the date the New Capacity is producing Product at full capacity, including capacity and volumes added pursuant to Amendment No.1 to the VPA (the “Initial Term”). The Initial Term is currently expected to begin [***]. The term of the VPA shall automatically be extended for an additional twelve (12) months beyond the Initial Term (the “Second Term”) unless either party gives written notice to the other party no later than six (6) months prior to the end of the Initial Term that it does not want to extend the term of the VPA for the Second Term. In the event one party gives such notice of its desire not to extend, then unless the parties mutually agree otherwise, the VPA shall automatically be extended for an additional six (6) months beyond the Initial Term and then terminate automatically at the end of the additional six- (6)-month period.

     3. Exhibit B. The second page of Exhibit B of the VPA is hereby deleted in its entirety and replaced with Exhibit B attached hereto.

     4. Exhibit D. Exhibit D of the VPA is hereby deleted in its entirety and replaced with Exhibit D attached hereto.

     5. Exhibit F. Exhibit F of the VPA is hereby deleted in its entirety and replaced with Exhibit F attached hereto.

     6. Miscellaneous.

a.	The references to “Section 6.5.4” in Section 4.3.3.4 of the VPA and Section 9.2 of the VPA are hereby deleted and replaced with “Section 6.7”.
b.	The reference to “Komag” in the last paragraph of Section 6.7 of the VPA is hereby deleted and replaced with “Komag Inc.”
c.	The reference to “Section 8.4” in Section 8.6.5 of the VPA is hereby deleted and replaced with “Section 8.6”.

     7. Ratification of VPA. In the event of an inconsistency between the terms of this Amendment and the terms of the VPA, the terms of this Amendment shall control. Except as amended hereby, the VPA is ratified, approved and confirmed and shall remain in full force and effect in accordance with its terms without modification.

     8. Confidentiality. Each party agrees that the terms and conditions, but not the existence, of this Amendment will be treated as the other’s Confidential Information subject to Section 11 of the VPA.

     9. Entire Agreement. The VPA, Exhibits, and specific Purchase Orders and Pull Requests and this Amendment No. 1 set forth the complete agreement between the parties regarding their subject matter and replace all prior or contemporaneous communications, understandings or agreements, written or oral, about this subject.

     10. Counterparts. This Amendment may be executed in one or more counterparts, each of which will be deemed to be an original, but all of which will be considered one and the same instrument. A photocopy of a signature or a facsimile of a signature shall be as valid as an original.

     IN WITNESS WHEREOF, the parties have caused this Amendment No. 1 to Volume Purchase Agreement to be signed and accepted by their duly authorized representatives, effective as of the Effective Date.

Western Digital Technologies, Inc.,		Komag USA (Malaysia) Sdn.
a Delaware corporation.		a Malaysian corporation
By:	/s/ Marty Finkbeiner	By:	/s/ Kheng Huat Oung
Name:	Marty Finkbeiner	Name:	Kheng Huat Oung
Title:	Senior Vice President, Materials	Title:	Managing Director

Komag Incorporated

a Delaware corporation

By:	/s/ Ray L. Martin
Name:	Ray L. Martin
Title:	Executive Vice President, Customer Sales & Service

PORTIONS DENOTED WITH [***] HAVE BEEN OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION PURSUANT TO A REQUEST FOR CONFIDENTIAL TREATMENT.

EXHIBIT B

PRICES

ADDITIONAL PAYMENT TERMS

     WDC shall make [***]payments to Komag Inc. in accordance with the schedule set forth below [***] to be applied against [***] purchases of Product in accordance with this Exhibit as set forth below:

     [***]

     [***]Payment [***] shall be made subject to [***] Exhibit D. [***]. The parties acknowledge that the [***] has already been paid and received. [***]Payment [***] shall be repaid by Komag, Inc. to WDC solely in accordance with [***] Section 6.7 and 4.3.3 of the VPA.

     The parties agree that it is their mutual intent that [***]Payment [***] be used by the Komag Group solely for manufacturing and operations in connection with the [***], and not for the Komag Group’s general working capital purposes.

     Starting no earlier than the first date that first production comes off the [***], and no later than [***], Komag Inc. shall make payments monthly to WDC equal to [***] for each Unit invoiced during the fiscal month, within 7 days after the fiscal month-end (regardless of whether such Unit was a result of [***] or previously existing capacity) (the “Per Unit Offset”) [***], then the remainder of the [***] shall become due and payable to WDC at the end of the Initial Term, and Komag Inc. shall make such payment in a reasonable period of time not to exceed 15 Days.

     Notwithstanding the foregoing, in the event WDC makes payment to Komag in accordance with Section 6.5 of the VPA for Units invoiced during [***], then the monthly payment by Komag Inc. to WDC referenced in the previous paragraph shall increase [***].

PORTIONS DENOTED WITH [***] HAVE BEEN OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION PURSUANT TO A REQUEST FOR CONFIDENTIAL TREATMENT.

EXHIBIT D

Progress Milestones

[***]

PORTIONS DENOTED WITH [***] HAVE BEEN OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION PURSUANT TO A REQUEST FOR CONFIDENTIAL TREATMENT.

EXHIBIT F

Volumes

Quarter	Volume Requirement
[***]Fiscal Quarter [***] (i.e., the quarter ending [***])	[***] Units
[***]Fiscal Quarter [***] (i.e., the quarter ending [***])	[***]Units
[***]Fiscal Quarter [***] (i.e., the quarter ending [***])	[***]Units
[***]Fiscal Quarter [***] (i.e., the quarter ending [***])	[***]Units
Each WDC Fiscal Quarter following the [***] Fiscal Quarter [***] (i.e., each quarter after the quarter ending [***]) for the term of this VPA.	[***]Units

EX-31.1

Exhibit 31.1

RULE 13a — 14 (a) CERTIFICATION OF CHIEF EXECUTIVE OFFICER

I, Thian Hoo Tan, certify that:

1. I have reviewed this quarterly report on Form 10-Q of Komag, Incorporated;

2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3. Based on my knowledge, the financial statements and other financial information included in this report fairly present, in all material respects, the financial condition and results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4. The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a — 15(e) and 15d — 15(e)) and internal control over financial reporting (as defined in Exchange Act rules 13a — 15 (f) and 15d — 15 (f)) for the registrant and have:

a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors:

a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize, and report financial information; and

b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

DATE: August 5, 2005	BY:	/s/ Thian Hoo Tan
	Thian Hoo Tan
	Chief Executive Officer

EX-31.2

Exhibit 31.2

RULE 13a — 14 (a) CERTIFICATION OF CHIEF FINANCIAL OFFICER

I, Kathleen A. Bayless, certify that:

1. I have reviewed this quarterly report on Form 10-Q of Komag, Incorporated;

2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3. Based on my knowledge, the financial statements and other financial information included in this report fairly present, in all material respects, the financial condition and results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4. The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a — 15(e) and 15d — 15(e)) and internal control over financial reporting (as defined in Exchange Act rules 13a — 15 (f) and 15d — 15 (f)) for the registrant and have:

a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors:

a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize, and report financial information; and

b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

DATE: August 5, 2005	BY:	/s/ Kathleen A. Bayless
	Kathleen A. Bayless
	Chief Financial Officer

EX-32

Exhibit 32

SECTION 1350 CERTIFICATION OF CHIEF EXECUTIVE OFFICER AND CHIEF FINANCIAL OFFICER

     I, Thian Hoo Tan, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that the Quarterly Report of Komag, Incorporated on Form 10-Q for the quarterly period ended July 3, 2005 fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934 and that information contained in such Form 10-Q fairly presents in all material respects the financial condition and results of operations of Komag, Incorporated.

BY:	/s/ Thian Hoo Tan
Thian Hoo Tan
Chief Executive Officer

     I, Kathleen A. Bayless, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that the Quarterly Report of Komag, Incorporated on Form 10-Q for the quarterly period ended July 3, 2005 fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934 and that information contained in such 10-Q fairly presents in all material respects the financial condition and results of operations of Komag, Incorporated.

BY:	/s/ Kathleen A. Bayless
Kathleen A. Bayless
Chief Financial Officer

     This certification accompanies this Report on Form 10-Q pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 and shall not, except to the extent required by such Act, be deemed filed by Komag, Incorporated for purposes of Section 18 of the Security Exchange Act of 1934, as amended. A signed original of this written statement required by Section 906 has been provided to Komag, Incorporated and will be retained by Komag, Incorporated and furnished to the Securities and Exchange Commission or its staff upon request.