OLED 2014 10-Q3
Table of Contents

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q
(Mark One)

[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2014

OR

[  ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ____________ to ___________

Commission File Number 1-12031
UNIVERSAL DISPLAY CORPORATION
(Exact name of registrant as specified in its charter)
Pennsylvania
 
23-2372688
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification No.)
 
 
 
375 Phillips Boulevard, Ewing, New Jersey
 
08618
(Address of principal executive offices)
 
(Zip Code)
Registrant’s telephone number, including area code: (609) 671-0980

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  X    No     

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes  X    No     

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer   X   
 
Accelerated filer       
Non-accelerated filer       (Do not check if a smaller reporting company)
 
Smaller reporting company  ____   

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes        No  X 

As of November 4, 2014, the registrant had outstanding 45,669,455 shares of common stock.



Table of Contents

TABLE OF CONTENTS
 
 
 
 
 
 
 
 
 
 
 




Table of Contents

PART I – FINANCIAL INFORMATION
ITEM 1.
FINANCIAL STATEMENTS
UNIVERSAL DISPLAY CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
(in thousands, except share and per share data)
 
 
September 30, 2014
 
December 31, 2013
ASSETS
CURRENT ASSETS:
 
 
 
 
Cash and cash equivalents
 
$
37,391

 
$
70,586

Short-term investments
 
230,968

 
202,024

Accounts receivable
 
22,107

 
15,657

Inventory
 
29,834

 
10,595

Deferred income taxes
 
17,363

 
21,563

Other current assets
 
13,335

 
6,623

Total current assets
 
350,998

 
327,048

PROPERTY AND EQUIPMENT, net of accumulated depreciation of $24,235 and $22,756
 
17,860

 
14,893

ACQUIRED TECHNOLOGY, net of accumulated amortization of $41,089 and $32,841
 
85,763

 
94,011

INVESTMENTS
 
2,606

 
7,417

DEFERRED INCOME TAXES
 
14,435

 
19,143

OTHER ASSETS
 
508

 
242

TOTAL ASSETS
 
$
472,170

 
$
462,754

LIABILITIES AND SHAREHOLDERS’ EQUITY
CURRENT LIABILITIES:
 
 
 
 
Accounts payable
 
$
7,039

 
$
5,256

Accrued expenses
 
10,320

 
16,039

Deferred revenue
 
2,036

 
1,910

Other current liabilities
 
493

 
24

Total current liabilities
 
19,888

 
23,229

DEFERRED REVENUE
 
2,245

 
2,403

RETIREMENT PLAN BENEFIT LIABILITY
 
10,257

 
9,436

Total liabilities
 
32,390

 
35,068

 
 
 
 
 
COMMITMENTS AND CONTINGENCIES (Note 12)
 
 
 


 
 
 
 
 
SHAREHOLDERS’ EQUITY:
 
 
 
 
Preferred Stock, par value $0.01 per share, 5,000,000 shares authorized, 200,000 shares of Series A Nonconvertible Preferred Stock issued and outstanding (liquidation value of $7.50 per share or $1,500)
 
2

 
2

Common Stock, par value $0.01 per share, 100,000,000 shares authorized, 46,944,116 and 46,825,168 shares issued and outstanding at September 30, 2014 and December 31, 2013, respectively
 
469

 
468

Additional paid-in capital
 
577,971

 
572,401

Accumulated deficit
 
(101,431
)
 
(130,159
)
Accumulated other comprehensive loss
 
(4,073
)
 
(4,368
)
Treasury stock, at cost (1,115,829 and 401,501 shares at September 30, 2014 and December 31, 2013, respectively)
 
(33,158
)
 
(10,658
)
Total shareholders’ equity
 
439,780

 
427,686

TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY
 
$
472,170

 
$
462,754


The accompanying notes are an integral part of these consolidated financial statements.

1
Table of Contents

UNIVERSAL DISPLAY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
(in thousands, except share and per share data)
 
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
 
2014
 
2013
 
2014
 
2013
REVENUE:
 
 
 
 
 
 
 
 
Material sales
 
$
27,494

 
$
30,286

 
$
98,746

 
$
70,175

Royalty and license fees
 
5,357

 
1,456

 
35,200

 
23,956

Technology development and support revenue
 
41

 
1,084

 
911

 
3,030

Total revenue
 
32,892

 
32,826

 
134,857

 
97,161

 
 
 
 
 
 
 
 
 
OPERATING EXPENSES:
 
 
 
 
 
 
 
 
Cost of material sales
 
7,388

 
9,783

 
29,236

 
21,157

Research and development
 
7,915

 
7,862

 
28,639

 
24,116

Selling, general and administrative
 
6,625

 
6,411

 
19,576

 
17,918

Patent costs and amortization of acquired technology
 
4,081

 
3,899

 
12,801

 
13,038

Royalty and license expense
 
803

 
624

 
3,060

 
2,108

Total operating expenses
 
26,812

 
28,579

 
93,312

 
78,337

Operating income
 
6,080

 
4,247

 
41,545

 
18,824

INTEREST INCOME
 
187

 
206

 
598

 
594

INTEREST EXPENSE
 
(17
)
 
(13
)
 
(55
)
 
(31
)
INCOME BEFORE INCOME TAXES
 
6,250

 
4,440

 
42,088

 
19,387

INCOME TAX (EXPENSE) BENEFIT
 
(1,966
)
 
1,102

 
(13,360
)
 
(3,221
)
NET INCOME
 
$
4,284

 
$
5,542

 
$
28,728

 
$
16,166

 
 
 
 
 
 
 
 
 
NET INCOME PER COMMON SHARE:
 
 
 
 
 
 
 
 
BASIC
 
$
0.09

 
$
0.12

 
$
0.62

 
$
0.35

DILUTED
 
$
0.09

 
$
0.12

 
$
0.61

 
$
0.35

 
 
 
 
 
 
 
 
 
WEIGHTED AVERAGE SHARES USED IN COMPUTING NET INCOME PER COMMON SHARE:
 
 
 
 
 
 
 
 
BASIC
 
46,197,713

 
45,912,512

 
46,398,644

 
45,865,395

DILUTED
 
46,633,763

 
46,594,843

 
46,956,428

 
46,547,568

The accompanying notes are an integral part of these consolidated financial statements.


2
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UNIVERSAL DISPLAY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(UNAUDITED)
(in thousands)
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
 
2014
 
2013
 
2014
 
2013
NET INCOME
 
$
4,284

 
$
5,542

 
$
28,728

 
$
16,166

 
 
 
 
 
 
 
 
 
OTHER COMPREHENSIVE INCOME, NET OF TAX:
 
 
 
 
 
 
 
 
Unrealized (loss) gain on available-for-sale securities, net of tax of $9, none, $10 and none, respectively
 
(19
)
 
(54
)
 
20

 
(19
)
Employee benefit plan:
 
 
 
 
 
 
 
 
Amortization of prior service cost and actuarial loss for retirement plan included in net periodic pension costs, net of tax of $54, none, $162 and none, respectively
 
92

 
169

 
275

 
508

 
 
 
 
 
 
 
 
 
TOTAL OTHER COMPREHENSIVE INCOME
 
73

 
115

 
295

 
489

 
 
 
 
 
 
 
 
 
COMPREHENSIVE INCOME
 
$
4,357

 
$
5,657

 
$
29,023

 
$
16,655

The accompanying notes are an integral part of these consolidated financial statements.

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UNIVERSAL DISPLAY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF SHAREHOLDERS’ EQUITY
(UNAUDITED)
(in thousands, except for share data)
 
 
Series A
Nonconvertible
 
Common Stock
 
Additional
 
Accumulated
Deficit
 
Accumulated
Other
Comprehensive
Loss
 
Treasury Stock
 
Total
Shareholders’
Equity
 
 
Preferred Stock
 
 
Paid-in
 
 
 
 
 
 
Shares
 
Amount
 
Shares
 
Amount
 
Capital
 
 
 
Shares
 
Amount
 
BALANCE, DECEMBER 31, 2013
 
200,000

 
$
2

 
46,825,168

 
$
468

 
$
572,401

 
$
(130,159
)
 
$
(4,368
)
 
401,501

 
$
(10,658
)
 
$
427,686

Net income
 
—

 
—

 
—

 
—

 
—

 
28,728

 
—

 
—

 
—

 
28,728

Other comprehensive income
 
—

 
—

 
—

 
—

 
—

 


 
295

 
—

 
—

 
295

Repurchase of common stock
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
714,328

 
(22,500
)
 
(22,500
)
Exercise of common stock options
 
—

 
—

 
76,883

 
1

 
1,000

 
—

 
—

 
—

 
—

 
1,001

Issuance of common stock to employees
 
—

 
—

 
83,334

 
1

 
6,078

 
—

 
—

 
—

 
—

 
6,079

Shares withheld for employee taxes
 
 
 
 
 
(83,665
)
 
(1
)
 
(2,839
)
 
 
 
 
 
 
 
 
 
(2,840
)
Issuance of common stock to Board of Directors and Scientific Advisory Board
 
—

 
—

 
33,234

 
—

 
1,052

 
—

 
—

 
—

 
—

 
1,052

Issuance of common stock to employees under an ESPP
 
—

 
—

 
9,162

 
—

 
279

 
—

 
—

 
—

 
—

 
279

BALANCE, September 30, 2014
 
200,000

 
$
2

 
46,944,116

 
$
469

 
$
577,971

 
$
(101,431
)
 
$
(4,073
)
 
1,115,829

 
$
(33,158
)
 
$
439,780

The accompanying notes are an integral part of these consolidated financial statements.


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UNIVERSAL DISPLAY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(in thousands)
 
 
Nine Months Ended September 30,
 
 
2014
 
2013
CASH FLOWS FROM OPERATING ACTIVITIES:
 
 
 
 
Net income
 
$
28,728

 
$
16,166

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
 
Amortization of deferred revenue
 
(3,825
)
 
(3,282
)
Depreciation
 
1,499

 
1,493

Amortization of intangibles
 
8,248

 
8,224

Amortization of premium and discount on investments, net
 
(405
)
 
(336
)
Stock-based compensation to employees
 
5,333

 
4,514

Stock-based compensation to Board of Directors and Scientific Advisory Board
 
729

 
597

Deferred income tax benefit
 
8,737

 
—

Retirement plan benefit expense
 
1,257

 
1,250

(Increase) decrease in assets:
 
 
 
 
Accounts receivable
 
(6,450
)
 
(9,128
)
Inventory
 
(19,239
)
 
3,166

Other current assets
 
(6,712
)
 
(2,458
)
Other assets
 
(266
)
 
(5
)
Increase (decrease) in liabilities:
 
 
 
 
Accounts payable and accrued expenses
 
(3,119
)
 
265

Other current liabilities
 
469

 
(21
)
Deferred revenue
 
3,793

 
2,131

Net cash provided by operating activities
 
18,777

 
22,576

CASH FLOWS FROM INVESTING ACTIVITIES:
 
 
 
 
Purchases of property and equipment
 
(4,214
)
 
(4,200
)
Additions to intangibles
 
—

 
(367
)
Purchases of investments
 
(301,924
)
 
(284,581
)
Proceeds from sale of investments
 
278,226

 
255,022

Net cash used in investing activities
 
(27,912
)
 
(34,126
)
CASH FLOWS FROM FINANCING ACTIVITIES:
 
 
 
 
Proceeds from issuance of common stock under ESPP
 
279

 
268

Repurchase of common stock
 
(22,500
)
 
(5,456
)
Proceeds from the exercise of common stock options
 
1,001

 
890

Payment of withholding taxes related to stock-based compensation to employees
 
(2,840
)
 
(2,990
)
Net cash used in financing activities
 
(24,060
)
 
(7,288
)
DECREASE IN CASH AND CASH EQUIVALENTS
 
(33,195
)
 
(18,838
)
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD
 
70,586

 
85,923

CASH AND CASH EQUIVALENTS, END OF PERIOD
 
$
37,391

 
$
67,085

The following non-cash activities occurred:
 
 
 
 
Unrealized loss (gain) on available-for-sale securities
 
$
30

 
$
(19
)
Common stock issued to Board of Directors and Scientific Advisory Board that was earned and accrued for in a previous period
 
323

 
300

Common stock issued to employees that was earned and accrued for in a previous period
 
746

 
282

Net change in accounts payable and accrued expenses related to purchases of property and equipment
 
(252
)
 
184

The accompanying notes are an integral part of these consolidated financial statements.

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UNIVERSAL DISPLAY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1.
BUSINESS:
Universal Display Corporation (the Company) is a leader in the research, development and commercialization of organic light emitting diode (OLED) technologies and materials. OLEDs are thin, lightweight and power-efficient solid-state devices that emit light, making them highly suitable for use in full-color displays and as lighting products. OLED displays are capturing a growing share of the display market. The Company believes this is because OLEDs offer potential advantages over competing display technologies with respect to power efficiency, contrast ratio, viewing angle, video response time, form factor and manufacturing cost. The Company also believes that OLED lighting products have the potential to replace many existing light sources in the future because of their high power efficiency, excellent color rendering index, low operating temperature and novel form factor. The Company's technology leadership and intellectual property position should enable it to share in the revenues from OLED displays and lighting products as they enter mainstream consumer and other markets.
The Company's primary business strategy is to (1) further develop and license its proprietary OLED technologies to manufacturers of products for display applications, such as cell phones, portable media devices, wearables, tablets, laptop computers and televisions, and specialty and general lighting products; and (2) develop new OLED materials and sell the materials to those product manufacturers. Through the Company's internal research and development efforts, its relationships with world-class partners such as Princeton University (Princeton), the University of Southern California (USC), the University of Michigan (Michigan) and PPG Industries, Inc. (PPG Industries), and acquisitions of patents and patent applications, the Company has established a significant portfolio of proprietary OLED technologies and materials. The Company currently owns, exclusively licenses or has the sole right to sublicense more than 3,300 patents issued and pending worldwide.
The Company sells its proprietary OLED materials to customers for evaluation and use in commercial OLED products. The Company also enters into agreements with manufacturers of OLED display and lighting products under which it grants them licenses to practice under its patents and to use the Company's proprietary know-how. At the same time, the Company works with these and other companies who are evaluating the Company's OLED technologies and materials for possible use in commercial OLED display and lighting products.
2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
Interim Financial Information
In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments (consisting of only normal recurring adjustments) necessary to present fairly the Company’s financial position as of September 30, 2014 and results of operations for the three and nine months ended September 30, 2014 and 2013, and cash flows for the nine months ended September 30, 2014 and 2013. While management believes that the disclosures presented are adequate to make the information not misleading, these unaudited consolidated financial statements should be read in conjunction with the audited consolidated financial statements and the notes thereto in the Company’s latest year-end financial statements, which are included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2013. The results of the Company’s operations for any interim period are not necessarily indicative of the results of operations for any other interim period or for the full year.
Principles of Consolidation
The consolidated financial statements include the accounts of Universal Display Corporation and its wholly owned subsidiaries, UDC, Inc., UDC Ireland Limited, Universal Display Corporation Hong Kong, Ltd., Universal Display Corporation Korea, Y.H., and Universal Display Corporation Japan, G.K. All intercompany transactions and accounts have been eliminated.
Management’s Use of Estimates
The preparation of financial statements in conformity with U.S. generally accepted accounting principles (GAAP) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. The estimates made are principally in the areas of revenue recognition for license agreements, the useful life of acquired technology, the valuation of the Company's convertible promissory note investments, income taxes including realization of deferred tax assets, stock-based compensation and retirement benefit plan liabilities. Actual results could differ from those estimates.

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Fair Value of Financial Instruments
The carrying values of accounts receivable, other current assets, and accounts payable approximate fair value in the accompanying financial statements due to the short-term nature of those instruments. The Company’s other financial instruments, which include cash equivalents and investments, are carried at fair value as noted below.
Revenue Recognition and Deferred Revenue
Material sales relate to the Company’s sale of its OLED materials for incorporation into its customers’ commercial OLED products or for their OLED development and evaluation activities. Material sales are recognized at the time of shipment or at time of delivery, and passage of title, depending upon the contractual agreement between the parties.
The Company receives license and royalty payments under certain commercial, development and technology evaluation agreements, some of which are non-refundable advances. These payments may include royalty and license fees made pursuant to license agreements and also license fees included as part of certain commercial supply agreements. Amounts deferred are classified as current and non-current based upon current contractual remaining terms. As of September 30, 2014, the deferred revenue balance was $4.3 million, none of which is creditable against future commercial license agreements that have not yet been executed or deemed effective. For arrangements with extended payment terms where the fee is not fixed and determinable, the Company recognizes revenue when the payment is due and payable. Royalty revenue and license fees included as part of commercial supply agreements are recognized when earned and the amount is fixed and determinable.
Technology development and support revenue is revenue earned from government contracts, development and technology evaluation agreements and commercialization assistance fees, which includes reimbursements by government entities for all or a portion of the research and development costs the Company incurs in relation to its government contracts. Revenues are recognized proportionally as research and development costs are incurred, or as defined milestones are achieved.
Currently, the Company's most significant commercial license agreement, which runs through the end of 2017, is with Samsung Display Co., Ltd. (SDC) and covers the manufacture and sale of specified OLED display products. Under this agreement, the Company is being paid a license fee, payable in semi-annual installments over the agreement term of 6.4 years. The installments, which are due in the second and fourth quarter of each year, increase on an annual basis over the term of the agreement. The agreement conveys to SDC the non-exclusive right to use certain of the Company's intellectual property assets for a limited period of time that is less than the estimated life of the assets. Ratable recognition of revenue is impacted by the agreement's extended increasing payment terms in light of the Company's limited history with similar agreements. As a result, revenue is recognized at the lesser of the proportional performance approach (ratable) and the amount of due and payable fees from SDC. Given the increasing contractual payment schedule, license fees under the agreement are recognized as revenue when they become due and payable, which is currently scheduled to be in the second and fourth quarter of each year.
The Company records taxes billed to customers and remitted to various governmental entities on a gross basis in both revenues and cost of material sales in the consolidated statements of income. The amounts of these pass through taxes reflected in revenues and cost of material sales were $742,000 and $3.9 million for the three and nine months ended September 30, 2014, respectively, and $60,000 and $185,000 for the three and nine months ended September 30, 2013, respectively.
Cost of Material Sales
Cost of material sales represents costs associated with the sale of materials that have been classified as commercial, including shipping costs. Commercial materials are materials that have been validated by the Company for use in commercial OLED products. Prior to their designation as commercial materials, costs incurred related to the materials are included in research and development costs.
Recent Accounting Pronouncements
In May 2014, the Financial Accounting Standards Board (FASB) issued a new revenue recognition standard entitled “Revenue from Contracts with Customers.”  The objective of the standard is to establish the principles that an entity shall apply to report useful information to users of financial statements about the nature, amount, timing, and uncertainty of revenue and cash flows from a contract with a customer.  The standard is effective for annual reporting periods beginning after December 15, 2016, which for the Company will commence with the year beginning January 1, 2017.  Earlier application is not permitted.  The standard allows for either “full retrospective” adoption, meaning the standard is applied to all periods presented, or “modified retrospective” adoption, meaning the standard is applied only to the most current period presented in the financial statements.  The Company is currently assessing which method it will choose for adoption, and is evaluating the impact of the adoption of this new accounting standard on its consolidated results of operations and financial position.


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In July 2013, the FASB issued Accounting Standards Update (ASU) No. 2013-11, Income Taxes (Topic 740): Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists. ASU No. 2013-11 requires presentation of an unrecognized tax benefit in the financial statements as a reduction to a deferred tax asset for a net operating loss carryforward, a similar tax loss, or a tax credit carryforward. To the extent a net operating loss carryforward, a similar tax loss, or a tax credit carryforward is not available at the reporting date under the tax law of the applicable jurisdiction to settle any additional income taxes that would result from the disallowance of a tax position or the tax law of the applicable jurisdiction does not require the entity to use, and the entity does not intend to use, the deferred tax asset for such purpose, the unrecognized tax benefit would be presented in the financial statements as a liability and would not be combined with deferred tax assets. This guidance is effective for annual reporting periods beginning after December 15, 2013 and interim periods within those years. The Company adopted this guidance in the first quarter of 2014, and such adoption did not have a material impact on the Company’s consolidated financial position or results of operations.
3.
CASH, CASH EQUIVALENTS AND INVESTMENTS:
The Company considers all highly liquid debt instruments purchased with an original maturity of three months or less to be cash equivalents. The Company classifies its remaining investments as available-for-sale. These securities are carried at fair market value, with unrealized gains and losses reported in shareholders’ equity. Gains or losses on securities sold are based on the specific identification method. Investments as of September 30, 2014 and December 31, 2013 consisted of the following (in thousands):
 
 
Amortized
 
Unrealized
 
Aggregate Fair
Investment Classification
 
Cost
 
Gains
 
(Losses)
 
Market Value
September 30, 2014
 
 
 
 
 
 
 
 
Certificates of deposit
 
$
10,785

 
$
5

 
$
(10
)
 
$
10,780

Corporate bonds
 
216,788

 
23

 
(16
)
 
216,795

U.S. Government bonds
 
5,999

 
—

 
—

 
5,999

Convertible notes
 
—

 
—

 
—

 
—

 
 
$
233,572

 
$
28

 
$
(26
)
 
$
233,574

December 31, 2013
 
 
 
 
 
 
 
 
Certificates of deposit
 
$
11,358

 
$
2

 
$
(16
)
 
$
11,344

Corporate bonds
 
190,738

 
33

 
(48
)
 
190,723

U.S. Government bonds
 
3,074

 
—

 
—

 
3,074

Convertible notes
 
4,300

 
—

 
—

 
4,300

 
 
$
209,470

 
$
35

 
$
(64
)
 
$
209,441

On July 13, 2012, the Company entered into a joint development agreement with Plextronics, Inc. (Plextronics), a private company engaged in printed solar, lighting and other electronics related research and development. The Company invested $4.0 million in Plextronics through the purchase of a convertible promissory note. The note accrued interest at the rate of 3% per year. The note was repaid in full during the first quarter of 2014. See Fair Value Measurements below for additional information regarding the note.
On July 17, 2012, the Company invested $300,000 in a private company engaged in plasma processing equipment research and development through the purchase of a convertible promissory note. The note accrued interest at the rate of 5% per year. The note was repaid in full during the second quarter of 2014. See Fair Value Measurements below for additional information regarding the note.
All short-term investments held at September 30, 2014 will mature within one year.

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4.
FAIR VALUE MEASUREMENTS:
The following table provides the assets and liabilities carried at fair value measured on a recurring basis as of September 30, 2014 (in thousands):
 
 
 
 
Fair Value Measurements, Using
 
 
Total carrying value as of September 30, 2014
 
Quoted prices in active markets (Level 1)
 
Significant other observable inputs
(Level 2)
 
Significant unobservable inputs
(Level 3)
Cash equivalents
 
$
22,887

 
$
22,887

 
$
—

 
$
—

Short-term investments
 
230,968

 
230,968

 
—

 
—

Long-term investments
 
2,606

 
2,606

 
—

 
—

The following table provides the assets and liabilities carried at fair value measured on a recurring basis as of December 31, 2013 (in thousands):
 
 
 
 
Fair Value Measurements, Using
 
 
Total carrying value as of December 31, 2013
 
Quoted prices in active markets  (Level 1)
 
Significant other observable inputs
(Level 2)
 
Significant unobservable inputs
(Level 3)
Cash equivalents
 
$
7,600

 
$
7,600

 
$
—

 
$
—

Short-term investments
 
202,024

 
202,024

 
—

 
—

Long-term investments
 
7,417

 
3,117

 
—

 
4,300

Level 1 inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities. Level 2 inputs are quoted prices for similar assets and liabilities in active markets or inputs that are observable for the asset or liability, either directly or indirectly through market corroboration, for substantially the full term of the financial instrument. Level 3 inputs are unobservable inputs based on management’s own assumptions used to measure assets and liabilities at fair value. A financial asset's or liability’s classification is determined based on the lowest level input that is significant to the fair value measurement.
The Company's convertible promissory note investments (see Note 3) are currently classified within investments on the consolidated balance sheet and the fair value is based on Level 3 inputs.
These convertible promissory note investments are inherently risky as the notes lack a ready market for resale and the note issuer's success is dependent on numerous factors, including, among others, product development, market acceptance, operational efficiency, the ability of the investee companies to raise additional funds in financial markets that can be volatile, and other key business factors. The Company determines the fair value of its convertible promissory note investments portfolio quarterly by performing certain quantitative and qualitative analyses of identified events or circumstances affecting the investee.
Changes in fair value of the investments are recorded as unrealized gains and losses in other comprehensive income. If a decline in fair value of a convertible promissory note investment below its carrying value is deemed to be other than temporary, the amortized cost basis of the Company’s investment will be written down by the amount of the other-than-temporary impairment with a resulting charge to net income. There were no other-than-temporary impairments of investments as of September 30, 2014.
The following table is a reconciliation of the changes in fair value of the Company’s investments in convertible notes for the three and nine months ended September 30, 2014, which had been classified in Level 3 in the fair value hierarchy (in thousands):
 
 
Three Months Ended September 30, 2014
 
Nine Months Ended September 30, 2014
Fair value of notes, beginning of period
 
$
—

 
$
4,300

Repayment of notes
 
—

 
(4,300
)
Fair value of notes, end of period
 
$
—

 
$
—


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5.
RESEARCH AND LICENSE AGREEMENTS WITH PRINCETON UNIVERSITY, UNIVERSITY OF SOUTHERN CALIFORNIA AND THE UNIVERSITY OF MICHIGAN:
The Company funded OLED technology research at Princeton and, on a subcontractor basis, at USC for 10 years under a Research Agreement executed with Princeton in August 1997 (the 1997 Research Agreement). The principal investigator conducting work under the 1997 Research Agreement transferred to Michigan in January 2006. Following this transfer, the 1997 Research Agreement was allowed to expire on July 31, 2007.
As a result of the transfer, the Company entered into a new Sponsored Research Agreement with USC to sponsor OLED technology research at USC and, on a subcontractor basis, Michigan. This new Sponsored Research Agreement (as amended, the 2006 Research Agreement) was effective as of May 1, 2006 and had an original term of three years. On May 1, 2009, the Company amended the 2006 Research Agreement to extend the term of the agreement for an additional four years. The 2006 Research Agreement superseded the 1997 Research Agreement with respect to all work being performed at USC and Michigan. Payments under the 2006 Research Agreement were made to USC on a quarterly basis as actual expenses were incurred. The Company incurred a total of $5.0 million in research and development expense for work performed under the 2006 Research Agreement during the extended term, which ended on April 30, 2013.
Effective June 1, 2013, the Company amended the 2006 Research Agreement again to extend the term of the agreement for an additional four years. As of September 30, 2014, the Company was obligated to pay USC up to $7.0 million for work to be actually performed during the remaining extended term, which expires April 30, 2017. From June 1, 2013 through September 30, 2014, the Company incurred $1.6 million in research and development expense for work performed under the 2006 Research Agreement.
On October 9, 1997, the Company, Princeton and USC entered into an Amended License Agreement (as amended, the 1997 Amended License Agreement) under which Princeton and USC granted the Company worldwide, exclusive license rights, with rights to sublicense, to make, have made, use, lease and/or sell products and to practice processes based on patent applications and issued patents arising out of work performed by Princeton and USC under the 1997 Research Agreement. Under this 1997 Amended License Agreement, the Company is required to pay Princeton royalties for licensed products sold by the Company or its sublicensees. For licensed products sold by the Company, the Company is required to pay Princeton 3% of the net sales price of these products. For licensed products sold by the Company’s sublicensees, the Company is required to pay Princeton 3% of the revenues received by the Company from these sublicensees. These royalty rates are subject to renegotiation for products not reasonably conceivable as arising out of the 1997 Research Agreement if Princeton reasonably determines that the royalty rates payable with respect to these products are not fair and competitive.
The Company is obligated, under the 1997 Amended License Agreement, to pay to Princeton minimum annual royalties. The minimum royalty payment is $100,000 per year. The Company recorded royalty expense in connection with this agreement of $770,000 and $600,000 for the three months ended September 30, 2014 and 2013, respectively, and $3.0 million and $1.3 million for the nine months ended September 30, 2014 and 2013, respectively.
The Company also is required, under the 1997 Amended License Agreement, to use commercially reasonable efforts to bring the licensed OLED technology to market. However, this requirement is deemed satisfied if the Company invests a minimum of $800,000 per year in research, development, commercialization or patenting efforts respecting the patent rights licensed to the Company.
In connection with entering into the 2006 Research Agreement, the Company amended the 1997 Amended License Agreement to include Michigan as a party to that agreement effective as of January 1, 2006. Under this amendment, Princeton, USC and Michigan have granted the Company a worldwide exclusive license, with rights to sublicense, to make, have made, use, lease and/or sell products and to practice processes based on patent applications and issued patents arising out of work performed under the 2006 Research Agreement. The financial terms of the 1997 Amended License Agreement were not impacted by this amendment.

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6.
ACQUIRED TECHNOLOGY:
Acquired technology consists of acquired license rights for patents and know-how obtained from PD-LD, Inc., Motorola and Fujifilm. These intangible assets consist of the following (in thousands):
 
 
September 30, 2014
 
 
PD-LD, Inc.
 
$
1,481

Motorola
 
15,909

Fujifilm
 
109,462

 
 
126,852

Less: Accumulated amortization
 
(41,089
)
Acquired technology, net
 
$
85,763

Amortization expense for all intangible assets was $2.7 million for both the three months ended September 30, 2014 and 2013, and $8.2 million for both the nine months ended September 30, 2014 and 2013. Amortization expense is included in the patent costs and amortization of acquired technology expense line item on the Consolidated Statements of Income.
Motorola Patent Acquisition
In 2000, the Company entered into a royalty-bearing license agreement with Motorola whereby Motorola granted the Company perpetual license rights to what are now 74 issued U.S. patents relating to Motorola’s OLED technologies, together with foreign counterparts in various countries. These patents expire in the U.S. between 2014 and 2018.
On March 9, 2011, the Company purchased these patents from Motorola, including all existing and future claims and causes of action for any infringement of the patents, pursuant to a Patent Purchase Agreement. The Patent Purchase Agreement effectively terminated the Company’s license agreement with Motorola, including any obligation to make royalty payments to Motorola.
The technology acquired from Motorola is being amortized over a period of 7.5 years.
Fujifilm Patent Acquisition
On July 23, 2012, the Company entered into a Patent Sale Agreement (the Agreement) with Fujifilm. Under the Agreement, Fujifilm sold more than 1,200 OLED-related patents and patent applications in exchange for a cash payment of $105.0 million. The Company recorded the $105.0 million plus $4.5 million of costs as acquired technology, which is being amortized over a period of 10 years.
7.
EQUITY AND CASH COMPENSATION UNDER THE PPG AGREEMENTS:
On October 1, 2000, the Company entered into a five-year Development and License Agreement (the Development Agreement) and a seven-year Supply Agreement (the Supply Agreement) with PPG Industries. Under the Development Agreement, a team of PPG Industries scientists and engineers assisted the Company in developing its proprietary OLED materials and supplied the Company with these materials for evaluation purposes. Under the Supply Agreement, PPG Industries supplied the Company with its proprietary OLED materials that were intended for resale to customers for commercial purposes.
On July 29, 2005, the Company entered into an OLED Materials Supply and Service Agreement with PPG Industries (the OLED Materials Agreement). The OLED Materials Agreement superseded and replaced in their entireties the Development Agreement and Supply Agreement effective as of January 1, 2006, and extended the term of the Company’s relationship with PPG Industries through December 31, 2009.
On September 22, 2011, the Company entered into an Amended and Restated OLED Materials Supply and Service Agreement with PPG Industries (the New OLED Materials Agreement), which replaced the original OLED Materials Agreement with PPG Industries, which is discussed above, effective as of October 1, 2011. The term of the New OLED Materials Agreement runs through December 31, 2015 and shall be automatically renewed for additional one year terms, unless terminated by the Company by providing prior notice of one year or terminated by PPG by providing prior notice of two years. The New OLED Materials Agreement contains provisions that are substantially similar to those of the original OLED Materials Agreement. Under the New OLED Materials Agreement, PPG Industries continues to assist the Company in developing its proprietary OLED materials and supplying the Company with those materials for evaluation purposes and for resale to its customers.

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Under the New OLED Materials Agreement, the Company compensates PPG Industries on a cost-plus basis for the services provided during each calendar quarter. The Company is required to pay for some of these services in all cash. Up to 50% of the remaining services are payable, at the Company’s sole discretion, in cash or shares of the Company’s common stock, with the balance payable in cash. The actual number of shares of common stock issuable to PPG Industries is determined based on the average closing price for the Company’s common stock during a specified number of days prior to the end of each calendar half-year period ending on March 31 and September 30. If, however, this average closing price is less than $20.00, the Company is required to compensate PPG Industries in cash.
The Company is also to reimburse PPG Industries for raw materials used for research and development. The Company records the purchases of these raw materials as a current asset until such materials are used for research and development efforts.
The Company recorded research and development expense of $378,000 and $1.6 million for the three months ended September 30, 2014 and 2013, respectively, and $7.5 million and $4.9 million for the nine months ended September 30, 2014 and 2013, respectively, in relation to the cash portion of the reimbursement of expenses and work performed by PPG Industries, excluding amounts paid for commercial chemicals. No shares were issued for services to PPG for the three or nine months ended September 30, 2014 or 2013, respectively.
8.
SHAREHOLDERS’ EQUITY:
Stock Repurchase Program
On June 2, 2014, the Company's Board of Directors approved a stock repurchase program authorizing the Company to purchase shares of its common stock up to a total purchase price of $50.0 million over the subsequent 12 months. Since approval of the program and through September 30, 2014, the Company purchased 714,328 shares at a cost of $22.5 million.
Scientific Advisory Board, Board of Directors and Employee Awards
During the first quarter of 2014 and 2013, the Company granted a total of 31,301 and 22,568 shares, respectively, of fully vested common stock to employees, members of the Board of Directors and non-employee members of the Scientific Advisory Board for services performed in 2013 and 2012, respectively. The fair value of the shares issued was $746,000 and $435,000, respectively, for employees and $323,000 and $300,000, respectively, for members of the Board of Directors and non-employee members of the Scientific Advisory Board, which amounts were accrued at December 31, 2013 and 2012, respectively. In connection with the issuance of these grants, 8,071 and 4,672 shares, respectively, with fair values of $271,000 and $154,000, respectively, were withheld in satisfaction of employee tax withholding obligations in 2014 and 2013.

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9.
ACCUMULATED OTHER COMPREHENSIVE LOSS:
Amounts related to the changes in accumulated other comprehensive loss were as follows (in thousands):
 
 
Unrealized gain (loss) on marketable securities
 
Net unrealized loss on retirement plan (2)
 
Total
 
Affected line items in the consolidated statements of income
Balance December 31, 2013, net of tax
 
$
(24
)
 
$
(4,344
)
 
$
(4,368
)
 
 
Other comprehensive income before reclassification
 
20

 
—

 
20

 
 
Reclassification to net income (1)
 
—

 
275

 
275

 
Selling, general and administrative and research and development
Change during period
 
20

 
275

 
295

 
 
Balance September 30, 2014, net of tax
 
$
(4
)
 
$
(4,069
)
 
$
(4,073
)
 
 
 
 
Unrealized gain (loss) on marketable securities
 
Net unrealized loss on retirement plan (2)
 
Total
 
Affected line items in the consolidated statements of income
Balance December 31, 2012, net of tax
 
$
(18
)
 
$
(5,684
)
 
$
(5,702
)
 
 
Other comprehensive loss before reclassification
 
(19
)
 
—

 
(19
)
 
 
Reclassification to net income (1)
 
—

 
508

 
508

 
Selling, general and administrative and research and development
Change during period
 
(19
)
 
508

 
489

 
 
Balance September 30, 2013, net of tax
 
$
(37
)
 
$
(5,176
)
 
$
(5,213
)
 
 
_______________________________________________
(1) The Company reclassified amortization of prior service cost and actuarial loss for its retirement plan from accumulated other comprehensive loss to net income of $275,000 and $508,000 for the nine months ended September 30, 2014 and 2013, respectively.
(2) Refer to Note 11: Supplemental Executive Retirement Plan.
10.
STOCK-BASED COMPENSATION:
The Company recognizes in the statements of income the grant-date fair value of equity based awards such as shares issued under employee stock purchase plans, restricted stock awards, restricted stock units and performance unit awards issued to employees and directors.
The grant-date fair value of stock awards is based on the closing price of the stock on the date of grant. The fair value of share-based awards is recognized as compensation expense on a straight-line basis over the requisite service period, net of forfeitures. The Company issues new shares upon the respective grant, exercise or vesting of share-based payment awards, as applicable.
Performance unit awards are subject to either a performance-based or market-based vesting requirement. For performance-based vesting, the grant-date fair value of the award, based on fair value of the Company's common stock, is recognized over the service period, based on an assessment of the likelihood that the applicable performance goals will be achieved and compensation expense is periodically adjusted based on actual and expected performance. Compensation expense for performance unit awards with market-based vesting is calculated based on the estimated fair value as of the grant date utilizing a Monte Carlo simulation model and is recognized over the service period on a straight-line basis.
Equity Compensation Plan
In 1995, the Board of Directors of the Company adopted a stock option plan, which was amended and restated in 2003 and is now called the Equity Compensation Plan. The Equity Compensation Plan provides for the granting of incentive and nonqualified stock options, shares of common stock, stock appreciation rights and performance units to employees, directors and consultants of the Company. Stock options are exercisable over periods determined by the Compensation Committee, but for no longer than 10 years from the grant date. Through September 30, 2014, the Company’s shareholders have approved increases in the number of shares reserved for issuance under the Equity Compensation Plan to 10,500,000, and have extended the term of the plan through 2024. At September 30, 2014, there were 3,749,643 shares that remained available to be granted under the Equity Compensation Plan. See the Company's Form 8-K filed on June 20, 2014 for more information regarding changes to the Equity Compensation Plan.

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Stock Awards
Restricted Stock Awards and Units
The Company has issued restricted stock awards and units to employees and non-employee members of the Scientific Advisory Board with vesting terms of one to six years. The fair value is equal to the market price of the Company’s common stock on the date of grant for awards granted to employees and equal to the market price at the end of the reporting period for unvested non-employee awards or upon the date of vesting for vested non-employee awards. Expense for restricted stock awards and units is amortized ratably over the vesting period for the awards issued to employees and using a graded vesting method for the awards issued to non-employee members of the Scientific Advisory Board.
During the nine months ended September 30, 2014, the Company granted 67,177 shares of restricted stock awards and restricted stock units to employees and non-employee members of the Scientific Advisory Board, which had a total fair value of $2.3 million on the respective dates of grant, and will vest over two to three years from the date of grant, provided that the grantee is still an employee of the Company on the applicable vesting date.
For the three months ended September 30, 2014 and 2013, the Company recorded, as compensation charges related to all restricted stock awards and units, selling, general and administrative expense of $949,000 and $959,000, respectively, and research and development expense of $421,000 and $409,000, respectively. For the nine months ended September 30, 2014 and 2013, the Company recorded, as compensation charges related to all restricted stock awards and units, selling, general and administrative expense of $2.8 million and $2.9 million, respectively, and research and development expense of $1.2 million and $1.2 million respectively.
In connection with the vesting of restricted stock awards and units during the nine months ended September 30, 2014 and 2013, respectively, 75,594 and 94,209 shares, with aggregate fair values of $2.6 million and $3.0 million, respectively, were withheld in satisfaction of tax withholding obligations.
For the three months ended September 30, 2014 and 2013, the Company recorded as compensation charges related to all restricted stock awards and units to non-employee members of the Scientific Advisory Board, research and development expense of $62,000 and $78,000, respectively. For the nine months ended September 30, 2014 and 2013, the Company recorded as compensation charges related to all restricted stock awards and units to non-employee members of the Scientific Advisory Board, research and development expense of $162,000 and $207,000, respectively.
Board of Directors Compensation
The Company has granted restricted stock units to non-employee members of the Board of Directors with vesting on a quarterly basis over approximately one year. The fair value is equal to the market price of the Company's common stock on the date of grant. The restricted stock units are issued and expense is recognized ratably over the vesting period.
For the three months ended September 30, 2014 and 2013, the Company recorded as compensation charges for services performed, related to all restricted stock units granted to non-employee members of the Board of Directors, selling, general and administrative expense of $204,000 and $126,000, respectively. For the nine months ended September 30, 2014 and 2013, the Company recorded compensation charges for services performed, related to all restricted stock units granted to non-employee members of the Board of Directors, selling, general and administrative expense of $567,000 and $390,000, respectively.
Restricted stock issued during the nine months ended September 30, 2014 and 2013 was 17,500 and 15,000 shares, respectively.
Performance Unit Awards
During the nine months ended September 30, 2014, the Company granted 36,092 performance units, of which 18,044 are subject to a performance-based vesting requirement and 18,048 are subject to a market-based vesting requirement and will vest over the terms described below. Total fair value of the performance unit awards granted was $1.4 million on the date of grant.
Each performance unit award is subject to both a performance-vesting requirement (either performance-based or market-based) and a service-vesting requirement.
The performance-based vesting requirement is tied to the Company's cumulative revenue growth compared to the cumulative revenue growth of companies comprising the Nasdaq Electronics Components Index, as measured over a specific performance period. The market-based vesting requirement is tied to the Company's total shareholder return relative to the total shareholder return of companies comprising the Nasdaq Electronics Components Index, as measured over a specific performance period.
The maximum number of performance units that may vest based on performance is two times the shares granted. Further, if the Company's total shareholder return is negative, the performance units may not vest above the shares granted.

14
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For the three months ended September 30, 2014 and 2013, the Company recorded general and administrative expense of $284,000 and $139,000, respectively, and research and development expense of $152,000 and $42,000, respectively, related to performance units. For the nine months ended September 30, 2014 and 2013, the Company recorded general and administrative expense of $969,000 and $314,000, respectively, and research and development expense of $363,000 and $95,000, respectively, related to performance units.
Employee Stock Purchase Plan
On April 7, 2009, the Board of Directors of the Company adopted an Employee Stock Purchase Plan (ESPP). The ESPP was approved by the Company’s shareholders and became effective on June 25, 2009. The Company has reserved 1,000,000 shares of common stock for issuance under the ESPP. Unless sooner terminated by the Board of Directors, the ESPP will expire when all reserved shares have been issued.
Eligible employees may elect to contribute to the ESPP through payroll deductions during consecutive three-month purchase periods. Each employee who elects to participate will be deemed to have been granted an option to purchase shares of the Company’s common stock on the first day of the purchase period. Unless the employee opts out during the purchase period, the option will automatically be exercised on the last day of the period, which is the purchase date, based on the employee’s accumulated contributions to the ESPP. The purchase price will equal 85% of the lesser of the price per share of common stock on the first day of the period or the last day of the period.
Employees may allocate up to 10% of their base compensation to purchase shares of common stock under the ESPP; however, each employee may purchase no more than 12,500 shares on a given purchase date, and no employee may purchase more than $25,000 of common stock under the ESPP during a given calendar year.
During the nine months ended September 30, 2014 and 2013, the Company issued 9,162 and 11,488 shares, respectively, of its common stock under the ESPP, resulting in proceeds of $279,000 and $268,000, respectively.
For the three months ended September 30, 2014 and 2013, the Company recorded charges of $12,000 and $12,000, respectively, to selling, general and administrative expense and $16,000 and $17,000, respectively, to research and development expense, related to the ESPP equal to the amount of the discount and the value of the look-back feature. For the nine months ended September 30, 2014 and 2013, the Company recorded charges of $35,000 and $27,000, respectively, to selling, general and administrative expense and $41,000 and $59,000, respectively, to research and development expense, related to the ESPP and equal to the amount of the discount and the value of the look-back feature.
11.
SUPPLEMENTAL EXECUTIVE RETIREMENT PLAN:
On March 18, 2010, the Compensation Committee and the Board of Directors of the Company approved and adopted the Universal Display Corporation Supplemental Executive Retirement Plan (SERP), effective as of April 1, 2010. The purpose of the SERP, which is unfunded, is to provide certain of the Company’s executive officers with supplemental pension benefits following a cessation of their employment. As of September 30, 2014, there were six participants in the SERP.
The Company records amounts relating to the SERP based on calculations that incorporate various actuarial and other assumptions, including discount rates, rate of compensation increases, retirement dates and life expectancies. The net periodic costs are recognized as employees render the services necessary to earn the SERP benefits.
The components of net periodic pension cost were as follows (in thousands):
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
 
2014
 
2013
 
2014
 
2013
Service cost
 
$
167

 
$
162

 
$
502

 
$
485

Interest cost
 
106

 
85

 
318

 
257

Amortization of prior service cost
 
146

 
146

 
437

 
438

Amortization of loss
 
—

 
23

 
—

 
70

Total net periodic benefit cost
 
$
419

 
$
416

 
$
1,257

 
$
1,250


15
Table of Contents

12.
COMMITMENTS AND CONTINGENCIES:
Commitments
Under the 2006 Research Agreement with USC, the Company is obligated to make certain payments to USC based on work performed by USC under that agreement, and by Michigan under its subcontractor agreement with USC. See Note 5 for further explanation.
Under the terms of the 1997 Amended License Agreement, the Company is required to make minimum royalty payments to Princeton. See Note 5 for further explanation.
The Company has agreements with six executive officers which provide for certain cash and other benefits upon termination of employment of the officer in connection with a change in control of the Company. Each executive is entitled to a lump-sum cash payment equal to two times the sum of the average annual base salary and bonus of the officer and immediate vesting of all stock options and other equity awards that may be outstanding at the date of the change in control, among other items.
Patent Related Challenges and Oppositions
Each major jurisdiction in the world that issues patents provides both third parties and applicants an opportunity to seek a further review of an issued patent. The specific process for requesting and considering such reviews are specific to the jurisdiction that issued the patent in question, and generally do not include claims for monetary damages or specific claims of infringement. The conclusions made by the reviewing administrative bodies tend to be appealable and generally are limited in scope and applicability to the specific claims and jurisdiction in question.
The Company believes that opposition proceedings are frequently commenced in the ordinary course of business by third parties who may believe that one or more claims in a patent do not comply with the technical or legal requirements of the specific jurisdiction in which the patent was issued. The Company views these proceedings as reflective of its goal of obtaining the broadest legally permissible patent coverage permitted in each jurisdiction. Once a proceeding is initiated, as a general matter, the issued patent continues to be presumed valid until the jurisdiction’s applicable administrative body issues a final non-appealable decision. Depending on the jurisdiction, the outcome of these proceedings could include affirmation, denial or modification of some or all of the originally issued claims. The Company believes that as OLED technology becomes more established and its patent portfolio increases in size, so will the number of these proceedings.
Below are summaries of certain proceedings that have been commenced against issued patents that are either exclusively licensed to the Company or which are now assigned to the Company. The Company does not believe that the confirmation, loss or modification of the Company's rights in any individual claim or set of claims that are the subject of the following legal proceedings would have a material impact on the Company's material sales or licensing business or on the Company's consolidated financial statements, including its consolidated statements of income, as a whole. However, as noted within the descriptions, some of the following proceedings involve issued patents that relate to the Company's fundamental phosphorescent OLED technologies and the Company intends to vigorously defend against claims that, in the Company's opinion, seek to restrict or reduce the scope of the originally issued claim, which may require the expenditure of significant amounts of the Company's resources. In certain circumstances, when permitted, the Company may also utilize the proceedings to request modification of the claims to better distinguish the patented invention from any newly identified prior art and/or improve the claim scope of the patent relative to commercially important categories of the invention. The entries marked with an "*" relate to the Company's UniversalPHOLED phosphorescent OLED technology, some of which may be commercialized by the Company.
Opposition to European Patent No. 0946958
On December 8, 2006, Cambridge Display Technology Ltd. (CDT), which was acquired in 2007 by Sumitomo Chemical Company (Sumitomo), filed a Notice of Opposition to European Patent No. 0946958 (EP '958 patent), which relates to the Company's FOLED™ flexible OLED technology. The EP '958 patent, which was issued on March 8, 2006, is a European counterpart patent to U.S. patents 5,844,363; 6,602,540; 6,888,306; and 7,247,073. These patents are exclusively licensed to the Company by Princeton, and the Company is required to pay all legal costs and fees associated with this proceeding.
On November 26, 2009, the European Patent Office (the EPO) issued its written decision to reject the opposition and to maintain the patent as granted. On April 12, 2010, CDT filed an appeal to the EPO panel decision. On August 19, 2010, the Company filed a timely response to the EPO panel decision. The EPO subsequently scheduled an appeal hearing for the first quarter of 2015.
At this time, based on its current knowledge, the Company believes that the EPO panel decision will be upheld on appeal. However, the Company cannot make any assurances of this result.

16
Table of Contents

Opposition to European Patent No. 1449238*
In 2007, Sumation Company Limited (Sumation), a joint venture between Sumitomo and CDT, Merck Patent GmbH, of Darmstadt, Germany, and BASF Aktiengesellschaft, of Mannheim, Germany, filed Notices of Opposition to European Patent No 1449238 (EP '238 patent). The EP '238 patent, which was issued on November 2, 2006, is a European counterpart patent, in part, to U.S. patents 6,830,828; 6,902,830; 7,001,536; 7,291,406; 7,537,844; and 7,883,787; and to pending U.S. patent applications 13/009,001, filed on January 19, 2011, and 13/205,290, filed on August 9, 2011 (hereinafter the “U.S. '828 Patent Family”). They are exclusively licensed to the Company by Princeton, and the Company is required to pay all legal costs and fees associated with this proceeding.
On January 13, 2012, the EPO issued a decision to maintain the patent with claims directed to OLEDs comprising phosphorescent organometallic iridium compounds.
All the parties appealed the EPO's panel decision. An Oral Hearing was held in the EPO on November 22, 2013, in which the EPO Appellate Board reversed the decision of the prior panel and revoked the patent in its entirety. The Company intends to continue prosecuting claims directed to the subject matter originally claimed in the ‘238 patent and to overcome the EPO Appellate Board’s objections to the original claim language in pending divisional applications in the EPO which claim priority from the same original priority application.
Opposition to European Patent No. 1394870*
On April 20, 2010, Merck Patent GmbH; BASF Schweitz AG of Basel, Switzerland; Osram GmbH of Munich, Germany; Siemens Aktiengesellschaft of Munich, Germany; and Koninklijke Philips Electronics N.V., of Eindhoven, The Netherlands filed Notices of Opposition to European Patent No. 1394870 (the EP '870 patent). The EP '870 patent, which was issued on July 22, 2009, is a European counterpart patent, in part, to U.S. patents 6,303,238; 6,579,632; 6,872,477; 7,279,235; 7,279,237; 7,488,542; 7,563,519; and 7,901,795; and to pending U.S. patent application 13/035,051, filed on February 25, 2011 (hereinafter the “U.S. '238 Patent Family”). They are exclusively licensed to the Company by Princeton, and the Company is required to pay all legal costs and fees associated with this proceeding.
An Oral Hearing was held before an EPO panel of first instance in Munich, Germany, on April 8-9, 2014. The panel rejected the original claims and amended the claims to comply with EPO requirements by more narrowly defining the scope of the claims. The ‘870 patent, in its amended form, was held by the panel to comply with the EPO requirements.
The Company believes the EPO's decision relating to the broad original claims is erroneous and has appealed the ruling to reinstate a broader set of claims. This patent, as originally granted by the EPO, is deemed valid during the pendency of the appeals process. At this time, based on the Company's current knowledge, the Company believes there is a substantial likelihood that the patent being challenged will be declared valid and that all or a significant portion of the Company's claims will be upheld. However, the Company cannot make any assurances of this result.
Invalidation Trials in Japan for Japan Patent Nos. 4357781 and 4358168*
On May 24, 2010, the Company received Notices of Invalidation Trials against Japan Patent Nos. 4357781 (the JP '781 patent) and 4358168 (the JP '168 patent), which were both issued on August 14, 2009. The requests were filed by Semiconductor Energy Laboratory Co., Ltd. (SEL). The JP '781 and JP '168 patents are Japanese counterpart patents, in part, to the above-noted U.S. '828 Patent Family. They are exclusively licensed to the Company by Princeton, and the Company is required to pay all legal costs and fees associated with this proceeding.
On March 31, 2011, the Company learned that the Japanese Patent Office (JPO) had issued decisions finding all claims in the JP '781 and JP '168 patents invalid.
Both parties appealed this matter to the Japanese IP High Court. On November 7, 2012, the Company was notified that the Japanese IP High Court had reversed the JPO's finding of invalidity and remanded the case back to the JPO for further consideration.
In a decision reported to the Company on April 15, 2013, all claims in the Company's JP '781 and JP '168 patents were upheld as valid by the JPO. The Company's opponent appealed this decision.
At this time, based on the Company's current knowledge, the Company believes that the claims on the patents should be upheld. However, the Company cannot make any assurances of this result.

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Invalidation Trial in Japan for Japan Patent No. 4511024*
On June 16, 2011, the Company learned that a Request for an Invalidation Trial was filed in Japan for its Japanese Patent No. JP-4511024 (the JP '024 patent), which issued on May 14, 2010. The Request was filed by SEL, the same opponent as in the above-noted Japanese Invalidation Trials for the JP '781 and JP '168 patents. The JP '024 patent is a counterpart patent, in part, to the U.S. '238 Patent Family, which relate to the EP '870 patent, which is subject to one of the above-noted European oppositions and which relates to the Company's UniversalPHOLED phosphorescent OLED technology. They are exclusively licensed to the Company by Princeton, and the Company is required to pay all legal costs and fees associated with this proceeding.
On May 10, 2012, the Company learned that the JPO issued a decision upholding the validity of certain claimed inventions in the JP '024 Patent but invalidating the broadest claims in the patent. The Company appealed the JPO’s decision to the Japanese IP High Court. On October 31, 2013, the Japanese IP High Court ruled that the prior art references relied on by the JPO did not support the JPO’s findings, reversed the JPO’s decision with respect to the previously invalidated broad claims in the JP ‘024 patent and remanded the matter back to the JPO for further consideration consistent with its decision. The JPO subsequently issued a decision upholding the validity of certain claimed inventions in the JP '024 Patent but invalidating the broadest claims in the patent. The Company appealed the decision to reinstate a broader set of claims. This patent, as originally granted by the JPO, is deemed valid during the pendency of the appeals process.
At this time, based on its current knowledge, the Company believes that the patent being challenged should be declared valid and that all or a significant portion of the Company's claims should be upheld. However, the Company cannot make any assurances of this result.
Opposition to European Patent No. 1252803*
On July 12 and 13, 2011, Sumitomo, Merck Patent GmbH and BASF SE, of Ludwigshaven, Germany filed oppositions to the Company's European Patent No. 1252803 (the EP '803 patent). The EP '803 patent, which was issued on October 13, 2010, is a European counterpart patent, in part, to the U.S. '828 Patent Family. They are exclusively licensed to the Company by Princeton, and the Company is required to pay all legal costs and fees associated with this proceeding.
On December 7, 2012, the EPO rendered a decision at an Oral Hearing wherein it upheld the broadest claim of the granted patent. All three opponents filed an appeal and an Oral Hearing is scheduled for the first quarter of 2015.
At this time, based on its current knowledge, the Company believes there is a substantial likelihood that the patent being challenged will be declared valid and that all or a significant portion of its claims will be further upheld on appeal. However, the Company cannot make any assurances of this result.
Opposition to European Patent No. 1390962
On November 16, 2011, Osram AG and BASF SE each filed a Notice of Opposition to European Patent No. 1390962 (EP '962 patent), which relates to the Company's white phosphorescent OLED technology. The EP '962 patent, which was issued on February 16, 2011, is a European counterpart patent to U.S. patents 7,009,338 and 7,285,907. They are exclusively licensed to the Company by Princeton, and the Company is required to pay all legal costs and fees associated with this proceeding.
The EPO combined the oppositions into a single opposition proceeding. The Company is awaiting the rescheduling of the hearing by the EPO on this matter.
At this time, based on its current knowledge, the Company believes there is a substantial likelihood that the patent being challenged will be declared valid, and that all or a significant portion of the Company's claims will be upheld. However, the Company cannot make any assurances of this result.
Opposition to European Patent No. 1933395*
On February 24 and 27, 2012, Sumitomo, Merck Patent GmbH and BASF SE filed oppositions to the Company's European Patent No. 1933395 (the EP '395 patent). The EP '395 patent is a counterpart patent to the above-noted JP '168 patent, and, in part, to the U.S. '828 Patent Family. This patent is exclusively licensed to the Company by Princeton, and the Company is required to pay all legal costs and fees associated with this proceeding.
At an Oral Hearing on October 14, 2013, the EPO panel issued a decision that affirmed the basic invention and broad patent coverage in the EP '395 patent, but narrowed the scope of the original claims.
On February 26, 2014, the Company appealed the ruling to reinstate a broader set of claims. The patent, as originally granted by the EPO, is deemed to be valid during the pendency of the appeals process. Two of the three opponents also filed their own appeals of the ruling. Sumitomo did not file an appeal within the allotted time, and will therefore no longer be a party to the proceedings.

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In addition to the above proceedings, from time to time, the Company may have other proceedings that are pending which relate to patents the Company acquired as part of the Fuji Patent acquisition or which to relate to technologies that are not currently widely utilized in the marketplace.
13.
CONCENTRATION OF RISK:
Included in technology development and support revenue in the accompanying statement of operations is $0 and $143,000 for the three months ended September 30, 2014 and 2013, respectively, and $117,000 and $1.0 million for the nine months ended September 30, 2014 and 2013, respectively, of revenue which was derived from contracts with United States government agencies. Revenues derived from contracts with United States government agencies represented less than 1% of the consolidated revenue for all periods presented.
Revenues and accounts receivable from the Company's largest non-government customers were as follows (in thousands):
 
 
% of Revenues for the three months ended September 30,
 
% of Revenues for the nine months ended September 30,
 
Accounts Receivable as of
Customer
 
2014
 
2013
 
2014
 
2013
 
September 30, 2014
A
 
37%
 
47%
 
49%
 
59%
 
$
8,792

B
 
31%
 
9%
 
22%
 
9%
 
$
8,855

C
 
18%
 
34%
 
21%
 
24%
 
$
2,915

Revenues from outside of North America represented nearly 100% and 99% of the consolidated revenue for the three months ended September 30, 2014 and 2013, respectively, and nearly 100% and 99% of the consolidated revenue for the nine months ended September 30, 2014 and 2013, respectively. Revenues by geographic area are as follows (in thousands):
 
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
Country
 
2014
 
2013
 
2014
 
2013
United States
 
$
118

 
$
269

 
448

 
1,353

South Korea
 
22,511

 
18,707

 
94,729

 
66,509

Japan
 
8,579

 
13,160

 
33,541

 
28,257

Other
 
1,684

 
690

 
6,139

 
1,042

All foreign locations
 
32,774

 
32,557

 
134,409

 
95,808

Total revenue
 
$
32,892

 
$
32,826

 
$
134,857

 
$
97,161

The Company attributes revenue to different geographic areas on the basis of the location of the customer.
Long-lived assets (net), by geographic area are as follows (in thousands):
 
 
September 30, 2014
 
December 31, 2013
United States
 
$
17,685

 
$
14,660

Other
 
175

 
233

Total long-lived assets
 
$
17,860

 
$
14,893

Substantially all chemical materials were purchased from one supplier. See Note 7.
14.
INCOME TAXES:
In July 2012, Samsung Mobile Display Co., Ltd (SMD) merged with Samsung Display Co., Ltd. (SDC). Following the merger, all agreements between the Company and SMD were assigned to SDC, and SDC will honor all pre-existing agreements made between the Company and SMD. SDC has been required to withhold tax upon payment of royalty and license fees to the Company at a rate of 16.5%.

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The Company is subject to income taxes in both United States and foreign jurisdictions. The effective income tax rate was approximately 31.4% and 31.7%, respectively, for the three and nine months ended September 30, 2014. For the three and nine months ended September 30, 2014, income tax expense of $2.0 million and $13.4 million, respectively, was recorded based on the Company's estimated annual effective tax rate for 2014 applied to the Company's income before income taxes. The effective income tax rate was (24.8%) and 16.6%, respectively, for the three and nine months ended September 30, 2013. For the three and nine months ended September 30, 2013, income tax benefit of $1.1 million and income tax expense of $3.2 million, respectively, was recorded primarily related to foreign taxes withheld on royalty and license fees paid to the Company.
In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent on the Company's ability to generate future taxable income to obtain benefit from the reversal of temporary differences, net operating loss carryforwards and tax credits. As part of its assessment management considers the scheduled reversal of deferred tax liabilities, projected future taxable income, and tax planning strategies. During the year ended December 31, 2013, based on previous earnings history, an evaluation of expected future taxable income and other evidence, the Company determined it is more likely than not that its federal and the majority of its state deferred tax assets will be realized. At this time there is no additional evidence to release the remaining valuation allowances that relates to UDC Ireland and the remaining portion of foreign tax credits. However, a portion of the New Jersey research and development credits were released to offset the Company's projected current New Jersey income tax liability for 2014.
15.
NET INCOME PER COMMON SHARE:
Basic net income per common share is computed by dividing net income by the weighted-average number of shares of common stock outstanding for the period excluding unvested restricted stock awards, restricted stock units and performance units. Diluted net income per common share reflects the potential dilution from the exercise or conversion of securities into common stock, the effect of unvested restricted stock awards, restricted stock units and performance units, and the impact of shares to be issued under the ESPP.
The following table is a reconciliation of net income and the shares used in calculating basic and diluted net income per common share for the three and nine months ended September 30, 2014 and 2013 (in thousands, except share and per share data):
 
 
Three Months Ended September 30,
 
Nine Months ended September 30,
 
 
2014
 
2013
 
2014
 
2013
Numerator:
 
 
 
 
 
 
 
 
Net income
 
$
4,284

 
$
5,542

 
$
28,728

 
$
16,166

Denominator:
 
 
 
 
 
 
 
 
Weighted average common shares outstanding – Basic
 
46,197,713

 
45,912,512

 
46,398,644

 
45,865,395

Effect of dilutive shares:
 
 
 
 
 
 
 
 
Common stock equivalents arising from stock options and ESPP
 
286,977

 
494,536

 
359,144

 
500,749

Restricted stock awards and units and performance units
 
149,073

 
187,795

 
198,640

 
181,424

Weighted average common shares outstanding – Diluted
 
46,633,763

 
46,594,843

 
46,956,428

 
46,547,568

Net income per common share:
 
 
 
 
 
 
 
 
Basic
 
$
0.09

 
$
0.12

 
$
0.62

 
$
0.35

Diluted
 
$
0.09

 
$
0.12

 
$
0.61

 
$
0.35

For the three months ended September 30, 2014 and 2013, the combined effects of unvested restricted stock awards, restricted stock units and performance unit awards of 48,347 and 111,993, respectively, were excluded from the calculation of diluted EPS as their impact would have been antidilutive as the units would not be issued if the end of the reporting period was the end of the performance period. For the nine months ended September 30, 2014 and 2013, the combined effects of unvested restricted stock awards, restricted stock units and performance units of 334,572 and 188,302, respectively, and the impact of shares to be issued under the ESPP, which was minor, were excluded from the calculation of diluted EPS as their impact would have been antidilutive.


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ITEM 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the above consolidated financial statements and related notes.
CAUTIONARY STATEMENT
CONCERNING FORWARD-LOOKING STATEMENTS
This discussion and analysis contains some “forward-looking statements.” Forward-looking statements concern possible or assumed future results of operations, including descriptions of our business strategies and customer relationships. These statements often include words such as “believe,” “expect,” “anticipate,” “intend,” “plan,” “estimate,” “seek,” “will,” “may” or similar expressions. These statements are based on assumptions that we have made in light of our experience in the industry, as well as our perceptions of historical trends, current conditions, expected future developments and other factors we believe are appropriate in these circumstances.
As you read and consider this discussion and analysis, you should not place undue reliance on any forward-looking statements. You should understand that these statements involve substantial risk and uncertainty and are not guarantees of future performance or results. They depend on many factors that are discussed further in the section entitled (Risk Factors) in our Annual Report on Form 10-K for the year ended December 31, 2013, as supplemented by disclosures, if any, in Item 1A of Part II below. Changes or developments in any of these areas could affect our financial results or results of operations and could cause actual results to differ materially from those contemplated in the forward-looking statements.
All forward-looking statements speak only as of the date of this report or the documents incorporated by reference, as the case may be. We do not undertake any duty to update any of these forward-looking statements to reflect events or circumstances after the date of this report or to reflect the occurrence of unanticipated events.
OVERVIEW
We are a leader in the research, development and commercialization of organic light emitting diode, or OLED, technologies and materials for use in displays for smartphones, tablets and televisions, as well as solid-state lighting applications. Since 1994, we have been exclusively engaged, and expect to continue to be primarily engaged, in funding and performing research and development activities relating to OLED technologies and materials, and commercializing these technologies and materials. We derive our revenue from the following:
•
sales of OLED materials for evaluation, development and commercial manufacturing;
•
intellectual property and technology licensing; and
•
technology development and support, including government contract work and support provided to third parties for commercialization of their OLED products.
Material sales relate to our sale of OLED materials for incorporation into our customers’ commercial OLED products or for their OLED development and evaluation activities. Material sales are recognized at the time of shipment or at time of delivery, and passage of title, depending upon the contractual agreement between the parties.
We receive license and royalty payments under certain commercial, development and technology evaluation agreements, some of which are non-refundable upfront payments. These payments may include royalty and license fees made pursuant to license agreements and also license fees included as part of certain commercial supply agreements. For arrangements with extended payment terms where the fee is not fixed and determinable, we recognize revenue when the payment is due and payable. Royalty revenue and license fees included as part of commercial supply agreements are recognized when earned and the amount is fixed and determinable.
Currently, our most significant commercial license agreement, which runs through the end of 2017, is with SDC and covers the manufacture and sale of specified OLED display products. Under this agreement, we are being paid a license fee, payable in semi-annual installments over the agreement term of 6.4 years. The installments, which are due in the second and fourth quarter of each year, increase on an annual basis over the term of the agreement. The agreement conveys to SDC the non-exclusive right to use certain of our intellectual property assets for a limited period of time that is less than the estimated life of the assets. Ratable recognition of revenue is impacted by the agreement's extended increasing payment terms in light of our limited history with similar agreements. As a result, revenue is recognized at the lesser of the proportional performance approach (ratable) and the amount of due and payable fees from SDC. Given the increasing contractual payment schedule, license fees under the agreement are recognized as revenue when they become due and payable, which is currently scheduled to be in the second and fourth quarter of each year.

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At the same time we entered into the current patent license agreement with SDC, we also entered into a new supplemental material purchase agreement with SDC. Under the current supplemental material purchase agreement, SDC agrees to purchase from us a minimum dollar amount of phosphorescent emitter materials for use in the manufacture of licensed products. This minimum purchase commitment is subject to SDC’s requirements for phosphorescent emitter materials and our ability to meet these requirements over the term of the supplemental agreement. The minimum purchase amounts increase on an annual basis over the term of the supplemental agreement. These amounts were determined through negotiation based on a number of factors, including, without limitation, estimates of SDC’s OLED business growth as a percentage of published OLED market forecasts and SDC’s projected minimum usage of red and green phosphorescent emitter materials over the term of the supplemental agreement.
Technology development and support revenue is revenue earned from government contracts, development and technology evaluation agreements and commercialization assistance fees, which includes reimbursements by government entities for all or a portion of the research and development costs we incur in relation to our government contracts. Revenues are recognized proportionally as research and development costs are incurred, or as defined milestones are achieved.
While we have made significant progress over the past few years developing and commercializing our family of OLED technologies (including our PHOLED, TOLED, FOLED technologies) and materials, and have generated net income over the past three years, we incurred significant losses prior to this period resulting in an accumulated deficit of $101.4 million as of September 30, 2014.
We anticipate fluctuations in our annual and quarterly results of operations due to uncertainty regarding, among other factors:
•
the timing, cost and volume of sales of our OLED materials;
•
the timing of our receipt of license fees and royalties, as well as fees for future technology development and evaluation;
•
the timing and magnitude of expenditures we may incur in connection with our ongoing research and development and patent-related activities; and
•
the timing and financial consequences of our formation of new business relationships and alliances as well as the modification of our ongoing business relationships.
RESULTS OF OPERATIONS
Three Months Ended September 30, 2014 Compared to Three Months Ended September 30, 2013
We had operating income of $6.1 million for the three months ended September 30, 2014, compared to operating income of $4.2 million for the three months ended September 30, 2013. While total revenue remained at approximately $32.8 million for the respective quarters, the increase in operating income was primarily due to:
•
a decrease in operating expenses of $1.8 million, primarily attributable to a $2.4 million decrease in the cost of material sales, which are described in detail below.
We had net income of $4.3 million (or $0.09 per basic and diluted share) for the three months ended September 30, 2014, compared to net income of $5.5 million (or $0.12 per basic and diluted share) for the three months ended September 30, 2013. The decrease in net income was primarily due to:
•
income tax expense of $2.0 million for the three months ended September 30, 2014 compared to income tax benefit of $1.1 million for the three months ended September 30, 2013; partially offset by
•
the increase in operating income of $1.8 million.


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Revenue
The following table details our revenues for the three months ended September 30, 2014 and 2013 (in thousands):
 
 
Three Months Ended September 30,
 
 (Decrease) Increase
 
 
2014
 
2013
 
$
 
%
REVENUE:
 
 
 
 
 
 
 
 
Material sales
 
$
27,494

 
$
30,286

 
$
(2,792
)
 
(9
)%
Royalty and license fees
 
5,357

 
1,456

 
3,901

 
268
 %
Technology development and support revenue
 
41

 
1,084

 
(1,043
)
 
(96
)%
Total revenue
 
$
32,892

 
$
32,826

 
$
66

 
—
 %
Total revenue for the three months ended September 30, 2014 increased by $0.1 million compared to the three months ended September 30, 2013. The increase in revenue was primarily the result of increased royalty and license fees offset by decreased material sales.
Material sales
The following table details our revenues derived from material sales for the three months ended September 30, 2014 and 2013 (in thousands):
 
 
Three Months Ended September 30,
 
(Decrease) Increase
 
 
2014
 
2013
 
$
 
%
Material Sales:
 
 
 
 
 
 
 
 
Commercial material sales
 
$
24,790

 
$
28,271

 
$
(3,481
)
 
(12
)%
Developmental material sales
 
2,704

 
2,015

 
689

 
34
 %
Total material sales
 
$
27,494

 
$
30,286

 
$
(2,792
)
 
(9
)%
Commercial material sales for the three months ended September 30, 2014 decreased by $3.5 million compared to the three months ended September 30, 2013, primarily due to lower host sales offset by increased emitter sales. We believe sales of commercial materials in the third quarter of 2014 compared to the same period in 2013 reflected industry dynamics of weaker-than-expected high-end mobile phone sales. Commercial materials are materials that have been validated by us for use in commercial OLED products.
Developmental material sales for the three months ended September 30, 2014 increased by $0.7 million compared to the three months ended September 30, 2013, primarily reflecting increased developmental material sales of our OLED materials for our customers' evaluation, manufacture and development activities. Developmental material sales are materials that have not yet been validated by us for use in commercial OLED products. The costs related to these sales are included in research and development expense.
Material sales included sales of both phosphorescent emitter and host materials which were comprised of the following for the three months ended September 30, 2014 and 2013 (in thousands):
 
 
Three Months Ended September 30,
 
Increase (Decrease)
 
 
2014
 
2013
 
$
 
%
Material Sales:
 
 
 
 
 
 
 
 
Phosphorescent emitter sales
 
$
20,183

 
$
18,722

 
$
1,461

 
8
 %
Host material sales
 
7,311

 
11,564

 
(4,253
)
 
(37
)%
Total material sales
 
$
27,494

 
$
30,286

 
$
(2,792
)
 
(9
)%
Phosphorescent emitter sales for the three months ended September 30, 2014 increased by $1.5 million compared to the three months ended September 30, 2013. The increase in our phosphorescent emitter sales was primarily due to an increase in commercial and developmental emitter sales over a broader base of customers.

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Host material sales for the three months ended September 30, 2014 decreased by $4.3 million compared to the three months ended September 30, 2013. The decrease in our host material sales was primarily due a decrease in the number of grams sold as well as a decrease in the average price per gram sold. We believe the decrease in the number of grams sold during the three months ended September 30, 2014 compared to the same period in 2013 was the result of our customer's launching additional new product offerings that did not include our host materials relative to the same period in the prior year, further impacted by broader industry trends mentioned above. This decrease was offset by the collection of pass through tax settlements of $0.5 million with a Japanese customer related to certain host sales in Japan. We believe we can participate in the host materials business due to our long experience in developing emitter materials, which are used together with host materials in the emissive layer of an OLED. However, our customers are not required to purchase our host materials in order to utilize our phosphorescent emitter materials, and the host material sales business is more competitive than the phosphorescent emitter material sales business. Thus, our short-term and long-term prospects for host material sales are uncertain.
Royalty and license fees
Royalty and license fees were as follows for the three months ended September 30, 2014 and 2013 (in thousands):
 
 
Three Months Ended September 30,
 
Increase
 
 
2014
 
2013
 
$
 
%
Royalty and license fees
 
$
5,357

 
$
1,456

 
$
3,901

 
268
%
Royalty and license fees for the three months ended September 30, 2014 increased by $3.9 million compared to the three months ended September 30, 2013. The increase was related to an increase in license fees attributable to material sales to certain customers, which increased during the three months ended September 30, 2014 as compared to the three months ended September 30, 2013.
Technology development and support revenue
Technology development and support revenue were as follows for the three months ended September 30, 2014 and 2013 (in thousands):
 
 
Three Months Ended September 30,
 
(Decrease)
 
 
2014
 
2013
 
$
 
%
Technology development and support revenue
 
$
41

 
$
1,084

 
$
(1,043
)
 
(96
)%
Technology development and support revenue is revenue earned from U.S. government contracts and development and technology evaluation agreements and commercialization assistance fees.
Technology development and support revenue for the three months ended September 30, 2014 decreased by $1.0 million compared to the three months ended September 30, 2013. The decrease was primarily related to the smaller number of government contracts. As of September 30, 2014, we did not have any active government contracts.
Cost of material sales
Cost of commercial material sales were as follows for the three months ended September 30, 2014 and 2013 (in thousands):
 
 
Three Months Ended September 30,
 
 
2014
 
2013
Commercial material sales
 
$
24,790

 
$
28,271

Cost of commercial material sales
 
7,388

 
9,783

% of commercial material sales
 
30
%
 
35
%
Cost of commercial material sales for the three months ended September 30, 2014 decreased by $2.4 million compared to the three months ended September 30, 2013. The decrease in our cost of commercial material sales was primarily due a decrease in materials sales as well as a reduction in the costs of manufacturing the materials. This decrease was offset by an increase in pass through tax settlements of $0.5 million that was owed to the Japanese tax authority related to certain host sales in Japan. Without this pass through tax, cost of commercial material sales as a percent of commercial material sales would have been 27% and 35% for the three months ended September 30, 2014 and 2013, respectively. Depending on the amounts, timing and stage of materials being classified as commercial, we expect cost of materials sales to fluctuate from quarter to quarter.
Cost of commercial material sales includes the cost of producing materials that have been classified as commercial and shipping costs for such materials, but excludes the cost of producing certain materials which has already been included in research and development expense. Commercial materials are materials that have been validated by us for use in commercial OLED products.

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Table of Contents

Research and development
Research and development expenses were $7.9 million for both the three months ended September 30, 2014, and 2013.
Selling, general and administrative
Selling, general and administrative expenses were $6.6 million for the three months ended September 30, 2014, compared to $6.4 million for the three months ended September 30, 2013. The increase was primarily due to increased salary and related expenses.
Patent costs and amortization of acquired technology
Patent costs and amortization of acquired technology increased to $4.1 million for the three months ended September 30, 2014, compared to $3.9 million for the three months ended September 30, 2013. The increase relates to the timing of expenses related to prosecution, maintenance and opposition of patents.
Royalty and license expense
Royalty and license expense increased to $0.8 million for the three months ended September 30, 2014, compared to $0.6 million for the three months ended September 30, 2013. The increase was mainly due to increased royalties incurred under our amended license agreement with Princeton, USC, and Michigan. See Note 5 in Notes to Consolidated Financial Statements for further discussion.
Income taxes
We recorded income tax expense of $2.0 million for the three months ended September 30, 2014 and an income tax benefit of $1.1 million for the three months ended September 30, 2013. See "Income Taxes" below for additional information.
Nine Months Ended September 30, 2014 Compared to Nine Months Ended September 30, 2013
We had operating income of $41.5 million for the nine months ended September 30, 2014, compared to operating income of $18.8 million for the nine months ended September 30, 2013. The increase in operating income was primarily due to the following:
•
an increase in revenue of $37.7 million, which includes increases in both material sales and royalty and license fees; offset by
•
an increase in operating expenses of $15.0 million, which primarily includes a $8.1 million increase in the cost of material sales, a $4.5 million increase in research and development expenses, and a $1.7 million increase in selling, general and administrative expenses, all of which are described in detail below.
We had net income of $28.7 million (or $0.62 per basic and $0.61 per diluted share) for the nine months ended September 30, 2014, compared to net income of $16.2 million (or $0.35 per basic and diluted share) for the nine months ended September 30, 2013. The increase in net income was primarily due to:
•
the increase in operating income of $22.7 million; offset by
•
an increase in income tax expense of $10.1 million.
Revenue
The following table details our revenues for the nine months ended September 30, 2014 and 2013 (in thousands):
 
 
Nine Months ended September 30,
 
Increase (Decrease)
 
 
2014
 
2013
 
$
 
%
REVENUE:
 
 
 
 
 
 
 
 
Material sales
 
$
98,746

 
$
70,175

 
$
28,571

 
41
 %
Royalty and license fees
 
35,200

 
23,956

 
11,244

 
47
 %
Technology development and support revenue
 
911

 
3,030

 
(2,119
)
 
(70
)%
Total revenue
 
$
134,857

 
$
97,161

 
$
37,696

 
39
 %
Total revenue for the nine months ended September 30, 2014 increased by $37.7 million compared to the nine months ended September 30, 2013. The increase in revenue was primarily the result of increased material sales and royalty and license fees.

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Table of Contents

Material sales
The following table details our revenues derived from material sales for the nine months ended September 30, 2014 and 2013 (in thousands):
 
 
Nine Months ended September 30,
 
Increase
 
 
2014
 
2013
 
$
 
%
Material Sales:
 
 
 
 
 
 
 
 
Commercial material sales
 
$
90,866

 
$
64,436

 
$
26,430

 
41
%
Developmental material sales
 
7,880

 
5,739

 
2,141

 
37
%
Total material sales
 
$
98,746

 
$
70,175

 
$
28,571

 
41
%
Commercial material sales for the nine months ended September 30, 2014 increased by $26.4 million compared to the nine months ended September 30, 2013, primarily reflecting increased commercial material sales resulting from the adoption of our technology and materials in the marketplace by display manufacturers. Commercial materials are materials that have been validated by us for use in commercial OLED products.
Developmental material sales for the nine months ended September 30, 2014 increased by $2.1 million compared to the nine months ended September 30, 2013, primarily reflecting increased developmental material sales of our OLED materials for our customers' evaluation, manufacture and development activities. This increase was offset by a change in sales mix from developmental to commercial. Developmental material sales are materials that have not yet been validated by us for use in commercial OLED products. The costs related to these sales are included in research and development expense.
Material sales included sales of both phosphorescent emitter and host materials which were comprised of the following for the nine months ended September 30, 2014 and 2013 (in thousands):
 
 
Nine Months ended September 30,
 
Increase
 
 
2014
 
2013
 
$
 
%
Material Sales:
 
 
 
 
 
 
 
 
Phosphorescent emitter sales
 
$
64,777

 
$
45,614

 
$
19,163

 
42
%
Host material sales
 
33,969

 
24,561

 
9,408

 
38
%
Total material sales
 
$
98,746

 
$
70,175

 
$
28,571

 
41
%
Phosphorescent emitter sales for the nine months ended September 30, 2014 increased by $19.2 million compared to the nine months ended September 30, 2013. The increase in our phosphorescent emitter sales was primarily due to an increase in commercial and developmental phosphorescent emitter sales.
Host material sales for the nine months ended September 30, 2014 increased by $9.4 million compared to the nine months ended September 30, 2013. The increase in our host material sales was primarily due to an increase in the number of grams sold as well as the collection of pass through tax settlements of $3.6 million with a Japanese customer related to certain host sales in Japan. These increases were offset by a decrease in the average price per gram sold. We believe we can participate in the host materials business due to our long experience in developing emitter materials, which are used together with host materials in the emissive layer of an OLED. However, our customers are not required to purchase our host materials in order to utilize our phosphorescent emitter materials, and the host material sales business is more competitive than the phosphorescent emitter material sales business. Thus, our short-term and long-term prospects for host material sales are uncertain.
Royalty and license fees
Royalty and license fees were as follows for the nine months ended September 30, 2014 and 2013 (in thousands):
 
 
Nine Months ended September 30,
 
Increase
 
 
2014
 
2013
 
$
 
%
Royalty and license fees
 
$
35,200

 
$
23,956

 
$
11,244

 
47
%
Royalty and license fees for the nine months ended September 30, 2014 increased by $11.2 million compared to the nine months ended September 30, 2013. The increase was mainly related to the receipt and therefore recognition of $25.0 million of royalty and license fee payments under our patent and license agreement with SDC, compared to $20.0 million in the prior period. The increase was also related to an increase in license fees attributable to material sales to certain customers, which increased during the nine months ended September 30, 2014, as compared to the nine months ended September 30, 2013.

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Technology development and support revenue
Technology development and support revenue were as follows for the nine months ended September 30, 2014 and 2013 (in thousands):
 
 
Nine Months ended September 30,
 
(Decrease)
 
 
2014
 
2013
 
$
 
%
Technology development and support revenue
 
$
911

 
$
3,030

 
$
(2,119
)
 
(70
)%
Technology development and support revenue is revenue earned from U.S. government contracts and development and technology evaluation agreements and commercialization assistance fees.
Technology development and support revenue for the nine months ended September 30, 2014 decreased by $2.1 million compared to the nine months ended September 30, 2013. The decrease was primarily related to the smaller number of government contracts. As of September 30, 2014, we did not have any active government contracts.
Cost of material sales
Cost of commercial material sales were as follows for the nine months ended September 30, 2014 and 2013 (in thousands):
 
 
Nine Months ended September 30,
 
 
2014
 
2013
Commercial material sales
 
$
90,866

 
$
64,436

Cost of commercial material sales
 
29,236

 
21,157

% of commercial material sales
 
32
%
 
33
%
Cost of commercial material sales for the nine months ended September 30, 2014 increased by $8.1 million compared to the nine months ended September 30, 2013. The increase in our cost of commercial material sales was primarily due to an increase in commercial material sales as well as an increase in pass through tax settlements of $3.6 million that was owed to the Japanese tax authority related to certain host sales in Japan. Without this pass through tax, cost of commercial material sales as a percent of commercial material sales would have been 29% and 32% for the nine months ended September 30, 2014 and 2013, respectively. This increase was partially offset by a reduction in the costs of manufacturing the materials. Depending on the amounts, timing and stage of materials being classified as commercial, we expect cost of materials sales to fluctuate from quarter to quarter.
Cost of commercial material sales includes the cost of producing materials that have been classified as commercial and shipping costs for such materials, but excludes the cost of producing certain materials which has already been included in research and development expense. Commercial materials are materials that have been validated by us for use in commercial OLED products.
Research and development
We incurred research and development expenses of $28.6 million for the nine months ended September 30, 2014, compared to $24.1 million for the nine months ended September 30, 2013. The increase was primarily due to increased developmental costs from PPG resulting from an increased use of raw materials for development activities.
Selling, general and administrative
Selling, general and administrative expenses were $19.6 million for the nine months ended September 30, 2014, compared to $17.9 million for the nine months ended September 30, 2013. The increase was primarily due to increased legal and accounting costs as well as increased salaries and salary-related expenses associated with new and existing employees.
Patent costs and amortization of acquired technology
Patent costs and amortization of acquired technology decreased to $12.8 million for the nine months ended September 30, 2014, compared to $13.0 million for the nine months ended September 30, 2013. The decrease relates to a decrease in patent costs mainly due to lower legal expenses.
Royalty and license expense
Royalty and license expense increased to $3.1 million for the nine months ended September 30, 2014, compared to $2.1 million for the nine months ended September 30, 2013. The increase was mainly due to increased royalties incurred under our amended license agreement with Princeton, USC, and Michigan, resulting from higher material sales and increased royalty and license fees. See Note 5 in Notes to Consolidated Financial Statements for further discussion.

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Income taxes

The effective income tax rate was 31.4% and 31.7% for the three and nine months ended September 30, 2014, respectively. For the three and nine months ended September 30, 2014, income tax expense of $2.0 million and $13.4 million, respectively, was recorded based on the Company's estimated annual effective tax rate for 2014 applied to the Company's income before income taxes. The effective income tax rate was (24.8%) and 16.6% for the three and nine months ended September 30, 2013, respectively. For the three and nine months ended September 30, 2013, income tax benefit of $1.1 million and income tax expense of $3.2 million, respectively, was recorded primarily related to foreign taxes on South Korean royalty and license fee income.
In assessing the realizability of deferred tax assets, we consider whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent on our ability to generate future taxable income to obtain benefit from the reversal of temporary differences, net operating loss carryforwards and tax credits. As part of our assessment, we consider the scheduled reversal of deferred tax liabilities, projected future taxable income, and tax planning strategies. During the year ended December 31, 2013, based on previous earnings history, a current evaluation of expected future taxable income and other evidence, we determined it is more likely than not that our federal and the majority of our state deferred tax assets will be realized. At this time there is no additional evidence to release the remaining valuation allowances that relates to UDC Ireland and the remaining portion of foreign tax credits. However, a portion of the New Jersey research and development credits were released to offset our projected current New Jersey income tax liability for 2014.


Liquidity and Capital Resources
Our principle sources of liquidity are our cash and cash equivalents and our short-term investments. As of September 30, 2014, we had cash and cash equivalents of $37.4 million and short-term investments of $231.0 million, for a total of $268.4 million. This compares to cash and cash equivalents of $70.6 million and short-term investments of $202.0 million, for a total of $272.6 million, as of December 31, 2013. The decrease in cash and cash equivalents of $33.2 million was primarily due to cash used in investing activities and financing activities offset by cash provided by operating activities.
Cash provided by operating activities was $18.8 million for the nine months ended September 30, 2014, compared to $22.6 million for the nine months ended September 30, 2013, or a decrease of $3.8 million. The decrease in cash provided by operating activities was primarily due to the following changes from the comparable prior period:
•
the impact of the timing of net inventory purchases of $22.4 million;
•
the impact of an increase in other current assets of $4.3 million; and
•
the impact of payments of accounts payable and accrued expenses of $3.4 million; partially offset by
•
the impact of the timing of deferred revenue arrangements of $1.7 million;
•
the impact of the timing of receipts of accounts receivable of $2.7 million; and
•
an increase in net income of $21.7 million, excluding the impact of non-cash items.
Cash used in investing activities was $27.9 million for the nine months ended September 30, 2014, compared to $34.1 million for the nine months ended September 30, 2013, or a decrease of $6.2 million. The decrease in cash used in investing activities was mainly due to the timing of maturities and purchases of investments resulting in net purchases of $23.7 million for the nine months ended September 30, 2014, compared to net purchases of $29.6 million for the nine months ended September 30, 2013.
Cash used in financing activities was $24.1 million for the nine months ended September 30, 2014, compared to $7.3 million for the nine months ended September 30, 2013, or an increase of $16.8 million.  The increase in cash used in financing activities was primarily due to $22.5 million of repurchases of common stock during the nine months ended September 30, 2014 compared to $5.5 million of repurchases of common stock in the nine months ended September 30, 2013.
Working capital was $331.1 million as of September 30, 2014, compared to $303.8 million as of December 31, 2013. The increase in working capital was primarily due to an increases in short-term investments, inventory, and accounts receivable, partially offset by a decrease in cash.
We anticipate, based on our internal forecasts and assumptions relating to our operations (including, among others, assumptions regarding our working capital requirements, the progress of our research and development efforts, the availability of sources of funding for our research and development work, and the timing and costs associated with the preparation, filing, prosecution, maintenance, defense and enforcement of our patents and patent applications), that we have sufficient cash, cash equivalents and short-term investments to meet our obligations for at least the next twelve months.

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We believe that potential additional financing sources for us include long-term and short-term borrowings, public and private sales of our equity and debt securities and the receipt of cash upon the exercise of outstanding stock options. It should be noted, however, that additional funding may be required in the future for research, development and commercialization of our OLED technologies and materials, to obtain, maintain and enforce patents respecting these technologies and materials, and for working capital and other purposes, the timing and amount of which are difficult to ascertain. There can be no assurance that additional funds will be available to us when needed, on commercially reasonable terms or at all, particularly in the current economic environment.
Critical Accounting Policies and Estimates
The discussion and analysis of our financial condition and results of operations is based on our consolidated financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles. The preparation of these financial statements requires us to make estimates and judgments that affect our reported assets and liabilities, revenues and expenses, and other financial information. Actual results may differ significantly from our estimates under other assumptions and conditions.
We believe that our accounting policies related to revenue recognition and deferred revenue, the valuation of certain investments, the valuation and recoverability of acquired technology, stock-based compensation, income taxes and our Supplemental Executive Retirement Plan, are our “critical accounting policies” as contemplated by the SEC.
Refer to our Annual Report on Form 10-K for the year ended December 31, 2013, for additional discussion of our critical accounting policies.
Contractual Obligations
Refer to our Annual Report on Form 10-K for the year ended December 31, 2013 for a discussion of our contractual obligations.
Off-Balance Sheet Arrangements
As of September 30, 2014, we had no off-balance sheet arrangements in the nature of guarantee contracts, retained or contingent interests in assets transferred to unconsolidated entities (or similar arrangements serving as credit, liquidity or market risk support to unconsolidated entities for any such assets), or obligations (including contingent obligations) arising out of variable interests in unconsolidated entities providing financing, liquidity, market risk or credit risk support to us, or that engage in leasing, hedging or research and development services with us.
ITEM 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We do not utilize financial instruments for trading purposes and hold no derivative financial instruments, other financial instruments or derivative commodity instruments that could expose us to significant market risk other than our investments disclosed in “Fair Value Measurements” in Note 4 to the Consolidated Financial Statements included herein. We generally invest in investment grade financial instruments to reduce our exposure related to investments. Our primary market risk exposure with regard to such financial instruments is to changes in interest rates, which would impact interest income earned on investments. However, based upon the conservative nature of our investment portfolio and current experience, we do not believe a decrease in investment yields would have a material negative effect on our interest income.
Substantially all our revenue is derived from outside of North America. All revenue is primarily denominated in U.S. dollars and therefore we bear no significant foreign exchange risk.
ITEM 4.
CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures as of September 30, 2014. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures, as of the end of the period covered by this report, are effective to provide reasonable assurance that the information required to be disclosed by us in reports filed or submitted under the Securities Exchange Act of 1934, as amended, is (i) recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and (ii) accumulated and communicated to our management, including the Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding disclosure. However, a controls system, no matter how well designed and operated, cannot provide absolute assurance that the objectives of the controls system are met, and no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within a company have been detected.

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Changes in Internal Control over Financial Reporting
There were no changes in our internal control over financial reporting during the quarter ended September 30, 2014 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
PART II – OTHER INFORMATION
ITEM 1.
LEGAL PROCEEDINGS
Patent Related Challenges and Oppositions
Each major jurisdiction in the world that issues patents provides both third parties and applicants an opportunity to seek a further review of an issued patent. The specific process for requesting and considering such reviews are specific to the jurisdiction that issued the patent in question, and generally do not include claims for monetary damages or specific claims of infringement. The conclusions made by the reviewing administrative bodies tend to be appealable and generally are limited in scope and applicability to the specific claims and jurisdiction in question.
We believe that opposition proceedings are frequently commenced in the ordinary course of business by third parties who may believe that one or more claims in a patent do not comply with the technical or legal requirements of the specific jurisdiction in which the patent was issued. We view these proceedings as reflective of our goal of obtaining the broadest legally permissible patent coverage permitted in each jurisdiction. Once a proceeding is initiated, as a general matter, the issued patent continues to be presumed valid until the jurisdiction’s applicable administrative body issues a final non-appealable decision. Depending on the jurisdiction, the outcome of these proceedings could include affirmation, denial or modification of some or all of the originally issued claims. We believe that as OLED technology becomes more established and as our patent portfolio increases in size, so will the number of these proceedings.
Below are summaries of certain proceedings that have been commenced against issued patents that are either exclusively licensed to us or which are now assigned to us. We do not believe that the confirmation, loss or modification of our rights in any individual claim or set of claims that are the subject of the following legal proceedings would have a material impact on our material sales or licensing business or on our consolidated financial statements, including our consolidated statements of income, as a whole. However, as noted within the descriptions, some of the following proceedings involve issued patents that relate to our fundamental phosphorescent OLED technologies and we intend to vigorously defend against claims that, in our opinion, seek to restrict or reduce the scope of the originally issued claim, which may require the expenditure of significant amounts of our resources. In certain circumstances, when permitted, we may also utilize the proceedings to request modification of the claims to better distinguish the patented invention from any newly identified prior art and/or improve the claim scope of the patent relative to commercially important categories of the invention. The entries marked with an "*" relate to our UniversalPHOLED phosphorescent OLED technology, some of which may be commercialized by us.
Opposition to European Patent No. 0946958
On December 8, 2006, Cambridge Display Technology Ltd. (CDT), which was acquired in 2007 by Sumitomo, filed a Notice of Opposition to European Patent No. 0946958 (EP '958 patent), which relates to our FOLED™ flexible OLED technology. The EP '958 patent, which was issued on March 8, 2006, is a European counterpart patent to U.S. patents 5,844,363; 6,602,540; 6,888,306; and 7,247,073. These patents are exclusively licensed to us by Princeton, and we are required to pay all legal costs and fees associated with this proceeding.
On November 26, 2009, the European Patent Office (the EPO) issued its written decision to reject the opposition and to maintain the patent as granted. On April 12, 2010, CDT filed an appeal to the EPO panel decision. On August 19, 2010, we filed a timely response to the EPO panel decision. The EPO subsequently scheduled an appeal hearing for the first quarter of 2015.
At this time, based on our current knowledge, we believe that the EPO panel decision will be upheld on appeal. However, we cannot make any assurances of this result.
Opposition to European Patent No. 1449238*
In 2007, Sumation Company Limited (Sumation), a joint venture between Sumitomo and CDT, Merck Patent GmbH, of Darmstadt, Germany, and BASF Aktiengesellschaft, of Mannheim, Germany, filed Notices of Opposition to European Patent No 1449238 (EP '238 patent). The EP '238 patent, which was issued on November 2, 2006, is a European counterpart patent, in part, to U.S. patents 6,830,828; 6,902,830; 7,001,536; 7,291,406; 7,537,844; and 7,883,787; and to pending U.S. patent applications 13/009,001, filed on January 19, 2011, and 13/205,290, filed on August 9, 2011 (hereinafter the “U.S. '828 Patent Family”). They are exclusively licensed to us by Princeton, and we are required to pay all legal costs and fees associated with this proceeding.

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On January 13, 2012, the EPO issued a decision to maintain the patent with claims directed to OLEDs comprising phosphorescent organometallic iridium compounds.
All the parties appealed the EPO's panel decision. An Oral Hearing was held in the EPO on November 22, 2013, in which the EPO Appellate Board reversed the decision of the prior panel and revoked the patent in its entirety. We received a final written decision on February 21, 2014. We intend to continue prosecuting claims directed to the subject matter originally claimed in the ‘238 patent and to overcome the EPO Appellate Board’s objections to the original claimed subject matter in additional related pending divisional applications in the EPO which claim priority from the same original priority application.
Opposition to European Patent No. 1394870*
On April 20, 2010, Merck Patent GmbH; BASF Schweitz AG of Basel, Switzerland; Osram GmbH of Munich, Germany; Siemens Aktiengesellschaft of Munich, Germany; and Koninklijke Philips Electronics N.V., of Eindhoven, The Netherlands filed Notices of Opposition to European Patent No. 1394870 (the EP '870 patent). The EP '870 patent, which was issued on July 22, 2009, is a European counterpart patent, in part, to U.S. patents 6,303,238; 6,579,632; 6,872,477; 7,279,235; 7,279,237; 7,488,542; 7,563,519; and 7,901,795; and to pending U.S. patent application 13/035,051, filed on February 25, 2011 (hereinafter the “U.S. '238 Patent Family”). They are exclusively licensed to us by Princeton, and we are required to pay all legal costs and fees associated with this proceeding.
An Oral Hearing was held before an EPO panel of first instance in Munich, Germany, on April 8-9, 2014. The panel decided that the broad claims originally issued did not satisfy EPO requirements and amended the claims to more narrowly define the scope of the claims. The ‘870 patent, in its amended form, was held by the panel to comply with the EPO requirements.
We believe the EPO's decision relating to the broad original claims is erroneous and have appealed the ruling to reinstate a broader set of claims. This patent, as originally granted by the EPO, is deemed valid during the pendency of the appeals process. At this time, based on our current knowledge, we believe there is a substantial likelihood that the patent being challenged will be declared valid and that all or a significant portion of our claims will be upheld. However, we cannot make any assurances of this result.
Invalidation Trials in Japan for Japan Patent Nos. 4357781 and 4358168*
On May 24, 2010, we received Notices of Invalidation Trials against Japan Patent Nos. 4357781 (the JP '781 patent) and 4358168 (the JP '168 patent), which were both issued on August 14, 2009. The requests were filed by Semiconductor Energy Laboratory Co., Ltd. (SEL). The JP '781 and JP '168 patents are Japanese counterpart patents, in part, to the above-noted U.S. '828 Patent Family. They are exclusively licensed to us by Princeton, and we are required to pay all legal costs and fees associated with this proceeding.
On March 31, 2011, we learned that the Japanese Patent Office (JPO) had issued decisions finding all claims in the JP '781 and JP '168 patents invalid.
Both parties appealed this matter to the Japanese IP High Court. On November 7, 2012, we were notified that the Japanese IP High Court had reversed the JPO's finding of invalidity and remanded the case back to the JPO for further consideration.
In a decision reported to us on April 15, 2013, all claims in our JP '781 and JP '168 patents were upheld as valid by the JPO. Our opponent appealed this decision.
At this time, based on our current knowledge, we believe that the claims on the patents should be upheld. However, we cannot make any assurances of this result.
Invalidation Trial in Japan for Japan Patent No. 4511024*
On June 16, 2011, we learned that a Request for an Invalidation Trial was filed in Japan for our Japanese Patent No. JP-4511024 (the JP '024 patent), which issued on May 14, 2010. The Request was filed by SEL, the same opponent as in the above-noted Japanese Invalidation Trials for the JP '781 and JP '168 patents. The JP '024 patent is a counterpart patent, in part, to the U.S. '238 Patent Family, which relate to the EP '870 patent, which is subject to one of the above-noted European oppositions and which relates to our UniversalPHOLED phosphorescent OLED technology. They are exclusively licensed to us by Princeton, and we are required to pay all legal costs and fees associated with this proceeding.
On May 10, 2012, we learned that the JPO issued a decision upholding the validity of certain claimed inventions in the JP '024 Patent but invalidating the broadest claims in the patent. We appealed the JPO’s decision to the Japanese IP High Court. On October 31, 2013, the Japanese IP High Court ruled that the prior art references relied on by the JPO did not support the JPO’s findings, reversed the JPO’s decision with respect to the previously invalidated broad claims in the JP ‘024 patent and remanded the matter back to the JPO for further consideration consistent with its decision. The JPO subsequently issued a decision upholding the validity of certain claimed inventions in the JP '024 Patent but invalidating the broadest claims in the patent. We appealed the decision to reinstate a broader set of claims. This patent, as originally granted by the JPO, is deemed valid during the pendency of the appeals process.

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At this time, based on our current knowledge, we believe that the patent being challenged should be declared valid and that all or a significant portion of our claims should be upheld. However, we cannot make any assurances of this result.
Opposition to European Patent No. 1252803*
On July 12 and 13, 2011, Sumitomo, Merck Patent GmbH and BASF SE, of Ludwigshaven, Germany filed oppositions to our European Patent No. 1252803 (the EP '803 patent). The EP '803 patent, which was issued on October 13, 2010, is a European counterpart patent, in part, to the U.S. '828 Patent Family. They are exclusively licensed to us by Princeton, and we are required to pay all legal costs and fees associated with this proceeding.
On December 7, 2012, the EPO rendered a decision at an Oral Hearing wherein it upheld the broadest claim of the granted patent. All three opponents filed an appeal, and an Oral Hearing is schedule for the first quarter of 2015.
At this time, based on our current knowledge, we believe there is a substantial likelihood that the patent being challenged will be declared valid and that all or a significant portion of our claims will be further upheld on appeal. However, we cannot make any assurances of this result.
Opposition to European Patent No. 1390962
On November 16, 2011, Osram AG and BASF SE each filed a Notice of Opposition to European Patent No. 1390962 (EP '962 patent), which relates to our white phosphorescent OLED technology. The EP '962 patent, which was issued on February 16, 2011, is a European counterpart patent to U.S. patents 7,009,338 and 7,285,907. They are exclusively licensed to us by Princeton, and we are required to pay all legal costs and fees associated with this proceeding.
The EPO combined the oppositions into a single opposition proceeding. We are awaiting the rescheduling of the hearing by the EPO on this matter.
At this time, based on our current knowledge, we believe there is a substantial likelihood that the patent being challenged will be declared valid, and that all or a significant portion of our claims will be upheld. However, we cannot make any assurances of this result.
Opposition to European Patent No. 1933395*
On February 24 and 27, 2012, Sumitomo, Merck Patent GmbH and BASF SE filed oppositions to our European Patent No. 1933395 (the EP '395 patent). The EP '395 patent is a counterpart patent to the above-noted JP '168 patent, and, in part, to the U.S. '828 Patent Family. This patent is exclusively licensed to us by Princeton, and we are required to pay all legal costs and fees associated with this proceeding.
At an Oral Hearing on October 14, 2013, the EPO panel issued a decision that affirmed the basic invention and broad patent coverage in the EP '395 patent, but narrowed the scope of the original claims.
On February 26, 2014, we appealed the ruling to reinstate a broader set of claims. The patent, as originally granted by the EPO, is deemed to be valid during the pendency of the appeals process. Two of the three opponents also filed their own appeals of the ruling. Sumitomo did not file an appeal within the allotted time, and will therefore no longer be a party to the proceedings.
In addition to the above proceedings, from time to time, we may have other proceedings that are pending which relate to patents we acquired as part of the Fuji Patent acquisition or which to relate to technologies that are not currently widely utilized in the marketplace.
ITEM 1A.
RISK FACTORS
There have been no material changes to the risk factors previously discussed in Part I, Item 1A “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2013.
ITEM 2.
UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Share Repurchases
In June of 2014, we announced that the Board of Directors had approved a program to repurchase up to $50 million of the outstanding shares of our common stock from time to time over the next twelve months (the Repurchase Program). The amount and timing of repurchases will depend on a number of factors, including the price, availability of shares of the Company's common stock, trading volume and general market conditions. The repurchases may be made on the open market, in block trades or otherwise. The Repurchase Program may be suspended or discontinued at any time. During the quarter ended September 30, 2014, we repurchased 479,528 shares of common stock at a cost of $15.5 million.

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During the quarter ended September 30, 2014, we acquired 280 shares of common stock through transactions related to the vesting of restricted share awards previously granted to our employees. Upon vesting, the employees turned in shares of common stock in amounts sufficient to pay the minimum statutory tax withholding at rates required by the relevant tax authorities.
The following table provides information relating to the shares we received and repurchased during the third quarter of 2014 (dollar amounts in thousands, other than per share amounts):
Period
 
Total Number of Shares Purchased
 
Weighted Average Price Paid per Share
July 1 - July 31
 
194,005

 
$
30.94

August 1 - August 31
 
188,486

 
31.85

September 1 - September 30
 
97,317

 
35.99

Total
 
479,808

 
 
ITEM 3.
DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4.
MINE SAFETY DISCLOSURES
Not applicable.
ITEM 5.
OTHER INFORMATION
None.
ITEM 6.
EXHIBITS
The following is a list of the exhibits filed as part of this report. Where so indicated by footnote, exhibits that were previously filed are incorporated by reference. For exhibits incorporated by a reference to the filing are indicated by footnote.
Exhibit
Number 
 
Description
31.1*
 
Certifications of Steven V. Abramson, Chief Executive Officer, as required by Rule 13a-14(a) or Rule 15d-14(a)
31.2*
 
Certifications of Sidney D. Rosenblatt, Chief Financial Officer, as required by Rule 13a-14(a) or Rule 15d-14(a)
32.1**
 
Certifications of Steven V. Abramson, Chief Executive Officer, as required by Rule 13a-14(b) or Rule 15d-14(b), and by 18 U.S.C. Section 1350. (This exhibit shall not be deemed “filed” for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to the liability of that section. Further, this exhibit shall not be deemed to be incorporated by reference into any filing under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended.)
32.2**
 
Certifications of Sidney D. Rosenblatt, Chief Financial Officer, as required by Rule 13a-14(b) or Rule 15d-14(b), and by 18 U.S.C. Section 1350. (This exhibit shall not be deemed “filed” for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to the liability of that section. Further, this exhibit shall not be deemed to be incorporated by reference into any filing under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended.)
101.INS*
 
XBRL Instance Document
101.SCH*
 
XBRL Taxonomy Extension Schema Document
101.CAL*
 
XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF*
 
XBRL Taxonomy Extension Definition Linkbase Document
101.LAB*
 
XBRL Taxonomy Extension Label Linkbase Document
101.PRE*
 
XBRL Taxonomy Extension Presentation Linkbase Document

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Explanation of footnotes to listing of exhibits:
*
 
Filed herewith.
**
 
Furnished herewith.

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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:
 
UNIVERSAL DISPLAY CORPORATION
 
 
 
 
Date: November 6, 2014
By:  /s/ Sidney D. Rosenblatt
 
 
Sidney D. Rosenblatt
 
 
Executive Vice President, Chief Financial Officer,
 
 
Treasurer and Secretary
 
 
 
 
 
 
 

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