ITEM 1. UNAUDITED FINANCIAL STATEMENTS

The accompanying notes to condensed consolidated financial statements
are an integral part of these condensed consolidated balance sheets.

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

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

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ADVANCED ENERGY INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)

(1) BASIS OF PRESENTATION AND MANAGEMENT OPINION

     In the opinion of management, the accompanying unaudited condensed consolidated balance sheets, statements of operations and cash flows contain all adjustments necessary to present fairly the financial position of Advanced Energy Industries, Inc., a Delaware corporation, and its wholly owned and controlled subsidiaries (the “Company”) at September 30, 2002 and December 31, 2001, and the results of the Company’s operations for the three- and nine-month periods ended September 30, 2002 and 2001, and cash flows for the nine-month periods ended September 30, 2002 and 2001.

     The unaudited financial statements presented herein have been prepared by management in accordance with the instructions to Form 10-Q and do not include all the information and disclosures required by accounting principles generally accepted in the United States. Interim results are not necessarily indicative of results for a full year. The financial statements should be read in conjunction with the audited financial statements and notes thereto contained in the Company’s Annual Report on Form 10-K for the year ended December 31, 2001, filed March 25, 2002.

     The preparation of the Company’s condensed consolidated financial statements requires the Company’s management to make certain estimates and assumptions that affect the amounts reported and disclosed in the condensed consolidated financial statements and accompanying notes. While management believes that the estimates and assumptions used in the preparation of the condensed consolidated financial statements are reasonable, actual results could differ from those estimates.

(2) ACQUISITIONS

      LITMAS — Prior to April 2, 2002, the Company owned 59.5% of LITMAS, a privately held, North Carolina-based company that designs and manufactures plasma gas abatement systems and high-density plasma sources. On April 2, 2002, the Company completed its acquisition of the 40.5% of LITMAS that it did not previously own, by issuing approximately 120,000 shares of the Company’s common stock valued at approximately $4.2 million, and approximately $400,000 of cash. The acquisition of all the minority interest in LITMAS resulted in a preliminary allocation of approximately $5 million of additional goodwill.

      SYMPHONY — Symphony Systems, Inc. (“Symphony”), a privately held, early-stage developer of equipment productivity management software, effectively ceased operations in February 2002. The Company had previously obtained a security interest in all of Symphony’s intellectual and proprietary property in connection with certain advances the Company made to Symphony in 2001. The Company has hired Symphony’s key employees, and acquired Symphony’s remaining assets in a foreclosure and liquidation sale of such assets on April 2, 2002. At no time prior to the foreclosure and liquidation sale did the Company’s percentage ownership in the voting stock of Symphony exceed 1.8%, and the Company did not have the ability to exercise significant influence over Symphony. The assets acquired were recorded at estimated fair values as determined by the Company’s management, based on information currently available. The excess purchase price over the estimated fair value of tangible assets acquired of approximately $2.2 million was allocated to amortizable intangibles, with a weighted-average estimated useful life of approximately 5 years.

      DRESSLER — On March 28, 2002, the Company completed its acquisition of Dressler HF Technik GmbH (“Dressler”), a privately owned Stolberg, Germany-based provider of power supplies and matching networks, for a purchase price of approximately $17 million in cash. The Company may pay an additional

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$3 million if Dressler achieves certain key business objectives by March 30, 2003. In the second quarter of 2002, the Company recognized approximately $1.4 million of goodwill associated with Dressler, offset by a long-term deferred income tax liability. In the third quarter of 2002, based upon additional information regarding the assets at the time of purchase, the Company allocated an additional $280,000 of its initial purchase price to accounts receivable and inventory, offset by a reduction of goodwill.

     The Company believes that Dressler will expand the Company’s product offerings to customers in the semiconductor, data storage, and flat panel equipment markets due to its strong power product portfolio that includes a wide range of power levels and RF frequencies. In addition, with inroads already made into the laser and medical markets, Dressler will be used to explore new market opportunities for the Company. Dressler will also strengthen the Company’s presence in the European marketplace. Dressler has strong relationships with many European customers, who look to Dressler for strong technical capability, quality products, and highly responsive customer service. The Company also expects to achieve synergies in product technology, production efficiency, logistics and worldwide service.

     The acquisition was accounted for using the purchase method of accounting in accordance with SFAS No. 141, “Business Combinations,” and the operating results of Dressler are reflected in the accompanying condensed consolidated financial statements prospectively from the date of acquisition. The assets acquired and liabilities assumed were recorded at initial estimated fair values as determined by the Company’s management, based on information currently available. Through September 30, 2002, the purchase price was tentatively allocated to the net assets of Dressler as summarized below:

     This allocation is subject to adjustment as the Company completes its evaluation of the fair value of the assets acquired and liabilities assumed. The excess purchase price over the estimated fair value of tangible net assets acquired was allocated to goodwill and intangibles. The Company anticipates that approximately 30% of the total amount of acquired intangibles will be allocated to amortizable intangibles; further allocation to each of these two categories has not yet been determined. The Company will review these assets in the future for impairment. The Company recognized approximately $400,000 of amortization expense related to these amortizable intangibles acquired from Dressler through September 30, 2002.

     Prior to the combination, there were material transactions between the Company and Dressler in 2001 and the first three months of 2002. In 2001, the Company purchased approximately $2 million of inventory from Dressler, and Dressler purchased approximately $200,000 of inventory from the Company. In the first three months of 2002, the Company purchased approximately $500,000 of inventory from Dressler. These purchases were made in the normal course of the Company’s business. The Company believes that if the combination had occurred on January 1, 2001, the effect of the combined results of operations of the Company and Dressler for the three- and nine-month periods ended September 30, 2001, would have been immaterial when compared to the results of operations of the Company without Dressler.

      AERA — On January 18, 2002, the Company completed its acquisition of Aera Japan Limited (“Aera”), a privately held Japanese corporation. The Company effected the acquisition through its wholly owned

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subsidiary, Advanced Energy Japan K.K. (“AE-Japan”), which purchased all of the outstanding stock of Aera. The aggregate purchase price AE-Japan paid was 5.73 billion Japanese yen (approximately $44 million, based upon an exchange rate of 130:1), which the Company funded from its available cash. In connection with the acquisition, AE-Japan assumed approximately $34 million of Aera’s debt. In the second quarter of 2002, the Company recognized approximately $8.5 million of additional goodwill associated with Aera, offset by a long-term deferred income tax liability. Aera, which is headquartered in Hachioji, Japan, has manufacturing facilities there and manufacturing, sales and service offices in Austin, Texas (see Note 9); Dresden, Germany; Edinburgh, Scotland; and Bundang, South Korea; and a sales and service office in Kirchheim, Germany. Aera supplies the semiconductor capital equipment industry with product lines that include digital mass flow controllers, pressure-based mass flow controllers, liquid mass flow controllers, ultrasonic liquid flow meters and liquid vapor delivery systems.

     Aera’s products expand the Company’s offering of critical sub-system solutions that enable the plasma-based manufacturing process used in the manufacture of semiconductors. The Company’s other product offering includes components for power delivery and control, remote plasma clean, temperature sensing, temperature management, process instrumentation, and an emerging technology in mass flow control acquired through the purchase of Engineering Measurements Company in January 2001.

     The acquisition was accounted for using the purchase method of accounting in accordance with SFAS No. 141, “Business Combinations,” and the operating results of Aera are reflected in the accompanying condensed consolidated financial statements prospectively from the date of acquisition. The assets acquired and liabilities assumed were recorded at initial estimated fair values as determined by the Company’s management based on information currently available. Through September 30, 2002, the purchase price was tentatively allocated to the net assets of Aera as summarized below, with the final allocation subject to adjustment:

     There were no transactions between the Company and Aera prior to the combination. The excess purchase price over the estimated fair value of tangible net assets acquired was allocated to goodwill and intangibles. The Company anticipates that approximately 50% of the total amount of acquired intangibles will be allocated to amortizable intangibles, with a weighted-average estimated useful life of seven years. The Company will review these assets in the future for impairment. The Company recognized approximately $2.2 million of amortization expense related to these amortizable intangibles acquired from Aera from January 18, 2002, the date of acquisition, through September 30, 2002.

     Had this combination occurred on January 1, 2001, the pro forma, unaudited, combined results of operations for the Company and Aera for the three months ended September 30, 2001 would have generated revenue of approximately $51 million, net loss of approximately $10 million and basic and diluted loss per share of $0.32. The pro forma, unaudited, combined results of operations for the Company and Aera for the nine months ended September 30, 2001 would have generated revenue of approximately $220 million, net

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loss of approximately $21 million and basic and diluted loss per share of $0.67.

      EMCO — On January 2, 2001, Engineering Measurements Company (“EMCO”), a publicly held, Longmont, Colorado-based manufacturer of electronic and electromechanical precision instruments for measuring and controlling the flow of liquids, steam and gases, was merged with a wholly owned subsidiary of the Company. The Company paid the EMCO shareholders cash in an aggregate amount of approximately $30 million. In connection with the acquisition, the Company issued stock options to purchase approximately 71,000 shares of its common stock for the assumption of outstanding, fully vested options for EMCO common stock. The fair value of the options granted was estimated by the Company (using the Black-Scholes option pricing model) to be approximately $1.1 million.

     The acquisition was accounted for using the purchase method of accounting, and the operating results of EMCO are reflected in the accompanying condensed consolidated financial statements prospectively from the date of acquisition. The assets acquired and liabilities assumed were recorded based upon independent appraisals of the fair values of the acquired property, plant and equipment, identified intangible assets and goodwill. The purchase price was allocated to the net assets of EMCO as summarized below:

     There were no transactions between the Company and EMCO prior to the combination. The excess purchase price over the estimated fair value of tangible net assets acquired was allocated to goodwill and intangibles, which was amortized in 2001 over an average of a seven-year life. In accordance with SFAS Nos. 141 and 142, the Company ceased amortization of goodwill on January 1, 2002, and will continue to review these assets in the future for impairment. The amount of annual goodwill amortization, which will no longer be recorded, is approximately $3.3 million.

(3) MARKETABLE SECURITIES

      MARKETABLE SECURITIES consisted of the following:

     These marketable securities are stated at period end market value. The commercial paper consists of high credit quality, short-term money market preferreds, short-term bonds and tax-free auction rate securities with maturities or reset dates of 120 days or less.

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(4) ACCOUNTS RECEIVABLE

      ACCOUNTS RECEIVABLE consisted of the following:

     Inventories include costs of materials, direct labor and manufacturing overhead. Inventories are valued at the lower of market or cost, computed on a first-in, first-out basis. Inventory is expensed as cost of sales upon shipment of product.

(6) STOCKHOLDERS’ EQUITY

      STOCKHOLDERS’ EQUITY consisted of the following:

     The Company maintains investments in several available-for-sale marketable equity securities, which experienced a decline in fair value during the quarter ended September 30, 2002. The Company will monitor the value of these securities during the fourth quarter and may record an impairment in the quarter ended December 31, 2002.

(7) DEFERRED COMPENSATION

     During 1999, prior to the Company’s acquisition of Sekidenko, Inc. (“Sekidenko”), a shareholder of Sekidenko granted employees options to purchase shares of his common stock already outstanding at exercise prices below fair market value. Under this agreement, 29,700 and 34,250 of such options were

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granted in 1999 and 2000, respectively. These options result in the Company recognizing $109,000 as compensation expense over the four-year vesting period related to the 1999 grants, and $1,995,000 as compensation expense over the four-year vesting period related to the 2000 grants. Compensation expense of approximately $394,000 related to these grants was recognized in the first nine months of 2002 and 2001. These amounts are presented as a reduction of stockholders’ equity, and the remaining unamortized amount of deferred compensation of $700,000 as of September 30, 2002 is being amortized through March 2004, over the four-year vesting period of the related stock options.

(8) ACCOUNTING POLICIES

      COMPREHENSIVE (LOSS) INCOME — Comprehensive (loss) income for the Company consists of net loss, unrealized holding loss on available-for-sale securities and foreign currency translation adjustments as presented below:

      SEGMENT REPORTING — The Company operates in one segment for the manufacture, marketing and servicing of key subsystems, primarily to the semiconductor capital equipment industry. In accordance with SFAS No. 131, “Disclosures About Segments of an Enterprise and Related Information,” the Company’s chief operating decision maker has been identified as the Office of the Chief Executive Officer, which reviews operating results to make decisions about allocating resources and assessing performance for the entire company. SFAS No. 131, which is based on a management approach to segment reporting, establishes requirements to report selected segment information quarterly and to report annually entity-wide disclosures about products and services, major customers, and the countries in which the entity holds material assets and reports revenue. All material operating units qualify for aggregation under SFAS No. 131 due to their similar customer base and similarities in: economic characteristics; nature of products and services; and procurement, manufacturing and distribution processes. To report revenues from external customers for each product and service or group of similar products and services would not be practicable. Since the Company operates in one segment, all financial information required by SFAS No. 131 can be found in the accompanying condensed consolidated financial statements.

      DERIVATIVE INSTRUMENTS — In June 1998, the FASB issued SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities.” The Company adopted SFAS No. 133, as amended by SFAS No. 137, on January 1, 2001. SFAS No. 133 establishes accounting and reporting standards for derivative instruments and for hedging activity by requiring all derivatives to be recorded on the balance sheet as either an asset or liability and measured at their fair value. Changes in the derivative’s fair value will be recognized currently in earnings unless specific hedging accounting criteria are met. SFAS No. 133 also establishes uniform hedge accounting criteria for all derivatives. Upon adoption, the Company did not seek specific hedge accounting treatment for its foreign currency forward contracts (see below). The adoption of SFAS No. 133 did not have a material impact on the Company’s financial condition or results of operations.

     The Company, including its subsidiaries enters into foreign currency forward contracts with counterparties to mitigate its exposure to foreign currency denominated intercompany receivables and payables. These derivative instruments are not held for trading or speculative purposes. To the extent that changes occur in

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currency exchange rates, the Company is exposed to market risk on its open derivative instruments. This market risk exposure is generally offset by the gain or loss recognized upon the translation of its intercompany payables and receivables. Foreign currency forward contracts are entered into with major commercial U.S. and Japanese banks that have high credit ratings, and the Company does not expect the counterparties to fail to meet their obligations under outstanding contracts. Foreign currency gains and losses under these arrangements are not deferred. The Company generally enters into foreign currency forward contracts with maturities ranging from four to eight months, with contracts outstanding at September 30, 2002 maturing through January 2003.

     In July 2002, one of the Company’s U.S. entities entered into a foreign currency forward contract to sell approximately 5.7 billion Japanese yen to mitigate the currency exposure on its yen denominated intercompany receivable from AE-Japan (see Note 11). At September 30, 2002, the Company held this foreign currency forward contract with (dollar equivalent) notional amounts of approximately $48.4 million and market settlement amounts of approximately $47.1 for an unrealized gain position of approximately $1.3 million that has been included in foreign currency (loss) gain and other current assets in the accompanying consolidated financial statements.

     In September 2002, the Company’s Aera Japan subsidiary entered into two foreign currency forward contracts to sell U.S. dollars to mitigate the currency exposure from its dollar denominated intercompany receivable from its subsidiary Aera Corporation. At September 30, 2002, Aera held foreign currency forward contracts with notional amounts of $15.0 million. As these contracts were entered into at the end of the quarter the market settlement amounts approximate the notional amounts.

     The Company’s subsidiary AE-Japan enters into foreign currency forward contracts to buy U.S. dollars to mitigate currency exposure from its payable position arising from trade purchases and intercompany transactions with its parent. At September 30, 2002, AE-Japan held foreign currency forward contracts with notional amounts of $3.5 million and market settlement amounts of $3.4 million for an unrealized gain position of approximately $86,000 that has been included in foreign currency (loss) gain in the accompanying consolidated statements of operations.

      REVENUE RECOGNITION — The Company recognizes revenue upon shipment of its systems and spare parts, at which time title passes to the customer, as its shipping terms are FOB shipping point, the price is fixed and collectibility is reasonably assured.

     The Company has an arrangement with one of its major customers, a semiconductor capital equipment manufacturer, in which completed systems are shipped to the customer and held by them in their warehouse. The customer draws systems from this inventory as needed, at which time title passes to the customer and the Company recognizes revenue. The customer is subject to the Company’s normal warranty policy for repair of defective systems.

     In certain instances the Company delivers systems to customers for evaluation purposes. In these arrangements, the customer retains the systems for specified periods of time without commitment to purchase. On or before the expiration of the evaluation period, the customer either rejects the system, and returns it to the Company, or accepts the system. Upon acceptance, title passes to the customer, the Company invoices the customer for the system, and revenue is recognized. Pending acceptance by the customer, such systems are reported on the Company’s balance sheet at an estimated value based on the lower of cost or market, and are included in the amounts for demonstration and customer service equipment, net of accumulated depreciation.

      GOODWILL AND INTANGIBLES — In accordance with SFAS No. 142, the Company ceased amortizing goodwill on January 1, 2002, and reassessed its goodwill and other intangible assets. The Company determined that the classifications it made and the useful lives it assigned were appropriate for the goodwill and amortizable intangibles it held as of December 31, 2001. The Company is still evaluating the goodwill and intangible assets it acquired as part of the acquisitions of Aera, which it acquired January 18, 2002, and Dressler, which it acquired March 28, 2002. The Company expects to complete its evaluation of

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these assets during the fourth quarter of 2002. The Company has determined that the classification and useful life it assigned are appropriate for the intangible asset it acquired as part of the acquisition of the assets of Symphony, which it completed April 2, 2002. The Company tentatively assigned to goodwill the intangible asset it acquired as part of its acquisition of the minority interest of LITMAS, which it completed April 2, 2002.

     The following is the pro forma effect on net loss and net loss per share had SFAS No. 142 been in effect for the three months and nine months ended September 30, 2001:

      GOODWILL AND INTANGIBLES consisted of the following as of December 31, 2001:

      GOODWILL AND INTANGIBLES consisted of the following as of September 30, 2002: