FormFactor 10-Q 2010
Washington, D.C. 20549
For the quarterly period ended June 26, 2010
For the transition period from to
Commission file number: 000-50307
(Exact name of registrant as specified in its charter)
7005 Southfront Road, Livermore, California 94551
(Address of principal executive offices, including zip code)
(Registrants telephone number, including area code)
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 o
Indicate by check mark whether the registrant 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 the 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 o No o
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 definition of large accelerated filer, accelerated filer and smaller reporting company in Rule 12b-2 of the Exchange Act. (Check one):
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x
As of July 28, 2010, 50,258,462 shares of the registrants common stock, par value $0.001 per share, were outstanding.
FORM 10-Q FOR THE QUARTERLY PERIOD ENDED JUNE 26, 2010
(In thousands, except per share amounts)
The accompanying notes are an integral part of these condensed consolidated financial statements.
(In thousands, except share and per share amounts)
The accompanying notes are an integral part of these condensed consolidated financial statements.
The accompanying notes are an integral part of these condensed consolidated financial statements.
Note 1 Basis of Presentation
Basis of presentation. The accompanying unaudited condensed consolidated interim financial statements of FormFactor, Inc. and our subsidiaries have been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP) and pursuant to the instructions to Form 10-Q and Article 10 of Regulation S-X of the Securities and Exchange Commission (the SEC). Our interim financial statements do not include all of the information and footnotes required by generally accepted accounting principles for annual financial statements. In the opinion of management, all adjustments (consisting only of normal recurring adjustments) considered necessary to fairly present our financial position, results of operations and cash flows have been included. Operating results for the three and six months ended June 26, 2010 are not necessarily indicative of the results that may be expected for the year ending December 25, 2010, or for any other period. The balance sheet at December 26, 2009 has been derived from the audited consolidated financial statements at that date but does not include all of the information and footnotes required by GAAP for complete financial statements. The condensed consolidated financial statements include our accounts as well as those of our wholly-owned subsidiaries after elimination of all significant inter-company balances and transactions.
The preparation of condensed consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in our condensed consolidated financial statements and accompanying notes. Actual results could differ from those estimates, and material effects on our consolidated operating results and financial position may result.
These financial statements and notes should be read with the consolidated financial statements and notes thereto for the year ended December 26, 2009 included in our Annual Report on Form 10-K filed with the SEC on February 24, 2010.
Fiscal Year. We operate on a 52/53 week fiscal year, whereby the year ends on the last Saturday of December. Fiscal 2010 will end on December 25, 2010, and will consist of 52 weeks.
Reclassifications. Certain reclassifications have been made to the prior years Condensed Consolidated Statement of Cash Flows to conform to the current year presentation. The reclassifications had no effect on the Condensed Consolidated Statements of Operations or Balance Sheets.
Note 2 Recent Accounting Pronouncements and Other Reporting Considerations
In April 2010, the FASB issued an update to amend the guidance on the milestone method in revenue recognition. The amendment provides guidance on the criteria that should be met for determining whether the milestone method of revenue recognition is appropriate in research or development transactions. The amendment is effective on a prospective basis for milestones achieved in fiscal years, and interim periods within those years, beginning on or after June 15, 2010. Early adoption is permitted. We are currently evaluating the impact of adopting this amendment on our consolidated balance sheets and statement of operations.
In January 2010, the FASB issued guidance to amend the disclosure requirements related to recurring and nonrecurring fair value measurements. The guidance requires new disclosures on the transfers of assets and liabilities between Level 1 (quoted prices in active market for identical assets or liabilities) and Level 2 (significant other observable inputs) of the fair value measurement hierarchy, including the reasons and the timing of the transfers. Additionally, the guidance requires a roll forward of activities on purchases, sales, issuance, and settlements of the assets and liabilities measured using significant unobservable inputs (Level 3 fair value measurements). The guidance is effective for interim or annual financial reporting periods beginning after December 15, 2009, except for the disclosures about purchases, sales, issuances and settlements in the roll forward activity in Level 3 fair value measurements, which are effective for fiscal years beginning after December 15, 2010 and for interim periods within those fiscal years. Therefore, we have not yet adopted the guidance with respect to the roll forward activity in Level 3 fair value measurements. Other than requiring additional disclosures, adoption of this new guidance in the first quarter of fiscal 2010 did not have a material impact on our financial statements.
Note 3 Concentration of Credit and Other Risks
Financial instruments that potentially subject us to concentrations of credit risk consist primarily of cash equivalents, investments and trade receivables. Our cash equivalents and marketable securities are held in safekeeping by large, creditworthy financial institutions. We invest our excess cash primarily in U.S. banks, government and agency bonds, money market funds and corporate obligations. We have established guidelines relative to credit ratings, diversification and maturities that seek to maintain safety and liquidity.
We sell our products to large multinational semiconductor manufacturers primarily located in Asia and North America. Four customers represented 28%, 12%, 12% and 11% of total revenues during the three months ended June 26, 2010, and one customer represented 44% of total revenues for the three months ended June 27, 2009. Three customers represented 22%, 14% and 12% of total revenues during the six months ended June 26, 2010, and one customer represented 56% of total revenues for the six months ended June 27, 2009. No other customer accounted for more than 10% of total revenues in any of these fiscal periods.
We have significant accounts receivables concentrated with a few customers in the semiconductor industry. While our allowance for doubtful accounts balance is based on historical loss experience along with anticipated economic trends, unanticipated financial instability in the semiconductor industry could lead to higher than anticipated losses. As of June 26, 2010, two customers accounted for approximately 30% and 13% of gross accounts receivable. At December 26, 2009, three customers accounted for approximately 21%, 18% and 16% of gross accounts receivable. No other customer accounted for more than 10% of gross accounts receivable in any of these fiscal periods.
Note 4 Restructuring Charges
Restructuring charges include costs related to employee termination benefits, cost of long-lived assets abandoned or impaired, as well as contract termination costs. The determination of when we accrue for employee termination benefits and which standard applies depends on whether the termination benefits are provided under a one-time benefit arrangement or under an on-going benefit arrangement. For restructuring charges recorded as an on-going benefit arrangement, a liability for post-employment benefits is recorded when payment is probable, the amount is reasonably estimable, and the obligation relates to rights that have vested or accumulated. For restructuring charges recorded as a one-time benefit arrangement, we recognize a liability for employee termination benefits when a plan of termination, approved by management and establishing the terms of the benefit arrangement, has been communicated to employees. The timing of the recognition of one-time employee termination benefits is dependent upon the period of time the employees are required to render service after communication. If employees are not required to render service in order to receive the termination benefits or if employees will not be retained to render service beyond the minimum legal notification period, a liability for the termination benefits is recognized at the communication date. In instances where employees will be retained to render service beyond the minimum legal notification period, the liability for employee termination benefits is measured initially at the communication date based on the fair value of the liability as of the termination date and is recognized ratably over the future service period. We record charges related to long-lived assets to be abandoned when the assets cease to be used. We record a liability for contract termination costs that will continue to be incurred under a contract for its remaining term without economic benefit to us at the cease-use date.
We recorded net restructuring charges of $2.5 million and $6.1 million for the three and six months ended June 26, 2010, respectively, and $0.3 million and $7.9 million in the comparable periods of fiscal 2009. The restructuring plans implemented in the first and second quarters of 2010 are discussed below.
In the first quarter of fiscal 2010, we implemented a restructuring plan (the Q1 2010 Restructuring Plan) intended to align resources in continuation of our global regionalization strategy to place more decision-making in regions close to our semiconductor customers. As part of this regionalization strategy, we moved certain assembly and test operations from our back-end manufacturing processes in Livermore, California to Asia, and planned to bring-up and qualify our back-end manufacturing operations in Singapore. As a result of this restructuring plan, our worldwide headcount was expected to be reduced by 106 full-time employees. The activities comprising the reduction in force were expected to be completed by the end of the first quarter of fiscal 2011. We recorded $3.6 million and $27,000 in charges for the Q1 2010 Restructuring Plan in the first and second quarter of fiscal 2010, which were all related to severance and related benefits.
In the second quarter of fiscal 2010, we announced a series of corporate initiatives, including a reduction in workforce, that represented a renewed focus on streamlining and simplifying our operations as well as reducing our quarterly operating costs (the Q2 2010 Restructuring Plan). These actions included reducing the scope of the previously contemplated manufacturing operations in Korea, resulting in a reduction of workforce of 16 employees related to the assembly and test function. Additionally, we undertook a further workforce reduction of 67 employees spread across all functions of the organization to further streamline and simplify our operations and reduce operating costs. The activities comprising the reduction in force are expected to be substantially completed by the end of the fourth quarter of fiscal 2010.
We recorded $4.9 million in charges for the Q2 2010 Restructuring Plan in the second quarter of fiscal 2010 primarily for severance and related benefits. Additionally, in conjunction with the Q2 2010 Restructuring Plan we identified certain equipment and software assets related to our assembly and test operations in Korea that would no longer be utilized. As a result, we recorded an impairment charge of approximately $0.9 million, representing the net book value of these assets. Additionally, in connection with the Q2 2010 Restructuring Plan and related shift of certain operations to Singapore, we have re-evaluated the estimated useful life of certain assets, primarily leasehold improvements, in our Singapore facilities, as discussed in Note 10.
Due to the decisions we made regarding our manufacturing operations in Korea and the expected timing of the qualification of our Singapore back-end manufacturing operations, these Korea manufacturing operations have been moved back to our Livermore location in the second quarter of fiscal 2010, resulting in an increased demand for manufacturing staff in our Livermore location. As a result, management has undertaken a plan to rescind the previously issued severance arrangements for certain employees impacted by the Q1 2010 Restructuring Plan. Additionally, these employees have been informed that if and when the manufacturing line transition occurs we will review our severance and retention packages at that time. As a result of this rescission plan, as of June 26, 2010, we have reversed the existing accrual for the severance costs booked in conjunction with the Q1 2010 Restructuring Plan, including the accrued retention bonus to date, resulting in a benefit to our statement of operations of $3.3 million. We expect to have the rescission plan completed by the end of our third fiscal quarter.
The liabilities we have accrued represent our best estimate of the obligations we expect to incur and could be subject to adjustment as market conditions change. The cash payments associated with the reduction in force are expected to be paid by the end of the first quarter of fiscal 2011.
The activities in the restructuring accrual for the six months ended June 26, 2010 were as follows (in thousands):
Restructuring charges are reflected separately as Restructuring in the Condensed Consolidated Statements of Operations. The remaining accrual as of June 26, 2010 that relates to severance benefits will be paid out by the end of the first quarter of fiscal 2011. As such, the restructuring accrual is recorded as a current liability within Accrued liabilities in the Condensed Consolidated Balance Sheets.
Note 5 Fair Value
We use fair value measurements to record fair value adjustments to certain financial and non-financial assets and to determine fair value disclosures. Our marketable securities are financial assets recorded at fair value on a recurring basis. We also have a building held for sale in Livermore, California and certain manufacturing equipment held for sale, which are measured at fair value on a non-recurring basis and included within Prepaid expenses and other current assets in the accompanying Condensed Consolidated Balance Sheets.
The accounting standard for fair value defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and requires disclosures about fair value measurements. Fair value is defined as the price that would be received from selling an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. When determining the fair value measurements for assets and liabilities required to be recorded at fair value, we consider the principal or most advantageous market in which we would transact and consider assumptions that market participants would use when pricing the asset or liability, such as inherent risk, transfer restrictions, and risk of nonperformance. The accounting standard for fair value establishes a fair value hierarchy that requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. A financial instruments categorization within the fair value hierarchy is based upon the lowest level of input that is significant to the fair value measurement. The standard describes a fair value hierarchy based on three levels of inputs, the first two of which are considered observable and the last unobservable, that may be used to measure fair value:
· Level 1 - Quoted prices in active markets for identical assets or liabilities.
· Level 2 - Inputs, other than the quoted prices in active markets, which are observable either directly or indirectly.
· Level 3 - Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.
Assets Measured at Fair Value on a Recurring Basis
We measure and report certain assets and liabilities at fair value on a recurring basis, including money market funds, U.S. government securities, municipal bonds, agency securities and foreign currency derivatives. The following table represents our fair value hierarchy for our financial assets (cash equivalents and marketable securities) measured at fair value on a recurring basis as of June 26, 2010 (in thousands):
The Level 1 assets consist of our money market fund deposits. The Level 2 assets consist of our available-for-sale investment portfolio, which are valued utilizing a market approach. Our investments are priced by pricing vendors who provided observable inputs for their pricing without applying significant judgments. Brokers pricing is used mainly when a quoted price is not available, the investment is not priced by our pricing vendors or when a broker price is more reflective of fair values in the market in which the investment trades. Our broker-priced investments are labeled as Level 2 investments because fair values of these investments are based on similar assets without applying significant judgments. In addition, all of our investments have a sufficient level of trading volume to demonstrate that the fair values used are appropriate for these investments.
Assets Measured at Fair Value on a Nonrecurring Basis
The Level 3 assets include a building and certain manufacturing equipment held for sale in Livermore, California. The building held for sale is classified as Level 3 as we used unobservable inputs in its valuation reflecting our assumptions that market participants would use in pricing this asset due to the absence of recent comparable market transactions and inherent lack of liquidity. The building held for sale was valued at $0.9 million as of June 26, 2010 and December 26, 2009. We also classified certain manufacturing equipment located in Livermore, CA as held for sale as of June 26, 2010. The equipment was classified as Level 3 as we used unobservable inputs in our valuation reflecting our assumptions that market participants would use in pricing this asset due to the absence of observable market data on pricing and inherent lack of liquidity. The manufacturing equipment held for sale was valued at $0.5 million at June 26, 2010 and $0.6 million at December 26, 2009.
Our fair value processes include controls that are designed to ensure appropriate fair values are recorded. Such controls include model validation, review of key model inputs, and analysis of period-over-period fluctuations and independent recalculation of prices.
Note 6 Marketable Securities
We classify our marketable debt securities as available-for-sale. All marketable securities represent the investment of funds available for current operations, notwithstanding their contractual maturities. Such marketable securities are recorded at fair value and unrealized gains and losses are recorded to accumulated other comprehensive income until realized.
Marketable securities at June 26, 2010 consisted of the following (in thousands):
Marketable securities at December 26, 2009 consisted of the following (in thousands):
The marketable securities with gross unrealized losses have been in a loss position for less than 12 months as of December 26, 2009.
We typically invest in highly-rated securities with low probabilities of default. Our investment policy requires investments to be rated single-A or better, limits the types of acceptable investments, concentration as to security holder and duration of the investment. The net unrealized gains on our investments during the three and six months ended June 26, 2010 was caused primarily by changes in interest rates. When evaluating the investments for other-than-temporary impairment, we review factors such as the length of time and extent to which fair value has been below the amortized cost basis, review of current market liquidity, interest rate risk, the financial condition of the issuer, as well as credit rating downgrades.
Contractual maturities of marketable securities as of June 26, 2010 were as follows (in thousands):
Realized gains and losses on sales and maturities of marketable securities were immaterial for the three and six months ended June 26, 2010 and June 27, 2009, respectively.
Note 7 Allowance for Doubtful Accounts
A majority of our trade receivables are derived from sales to large multinational semiconductor manufacturers throughout the world. In order to monitor potential credit losses, we perform ongoing credit evaluations of our customers financial condition. An allowance for doubtful accounts is maintained for probable credit losses based upon our assessment of the expected collectability of all accounts receivable. The allowance for doubtful accounts is reviewed on a quarterly basis to assess the adequacy of the allowance. We take into consideration (1) any circumstances of which we are aware of a customers inability to meet its financial obligations; and (2) our judgments as to prevailing economic conditions in the industry and their impact on our customers. If circumstances change, and the financial condition of our customers are adversely affected and they are unable to meet their financial obligations to us, we may need to take additional allowances, which would result in an increase in our net loss.
We recorded a reduction in provision for doubtful debts of $0.1 million in the first quarter of fiscal 2010 primarily due to the payment of accounts receivable that was previously reserved. In the second quarter of fiscal 2010, we provided additional allowance for doubtful debts of $0.3 million for accounts determined to be uncollectible and a reduction in provision for doubtful debts of $0.5 million due to the receipt of payments for accounts receivable that were previously reserved. The allowance for doubtful accounts consisted of the following activity for the three and six months ended June 26, 2010 (in thousands):
Note 8 Inventories
Inventories are stated at the lower of cost (principally standard cost which approximates actual cost on a first-in, first-out basis) or market value. Provision for estimated excess and obsolete inventories is made based on our managements analysis of inventory levels and future sales forecasts. Once the value is adjusted, the original cost of our inventory less the related inventory write-down represents the new cost basis of such products. Reversal of these write-downs is recognized only when the related inventory has been scrapped or sold.
We design, manufacture and sell a custom product into a market that has been subject to cyclicality and significant demand fluctuations. Probe cards are complex products, custom to a specific chip design and must be delivered on short lead-times. Probe cards are manufactured in low volumes; therefore, material purchases are often subject to minimum purchase order quantities in excess of the actual demand. It is not uncommon for us to acquire production materials and start certain production activities based on estimated production yields and forecasted demand prior to or in excess of actual demand for our wafer probe cards. These factors make inventory valuation adjustments part of our normal recurring cost of revenue. During the three months ended June 26, 2010, we recognized a benefit of $0.7 million which was comprised of a charge of $4.0 million to the inventory provision for the increased level of materials held in excess of actual demand, offset by a reduction of $4.7 million for the revaluation of previously reserved materials. We recorded charges for aggregated inventory write downs of $0.5 million for the six months ended June 26, 2010, and $0.8 million and $5.8 million for the three and six months ended June 27, 2009, respectively. We retain a portion of the excess inventory until the customers design is discontinued. The inventory may be used to satisfy customer warranty obligations.
When our products have been delivered, but the revenue associated with that product is deferred because the related revenue recognition criteria have not been met, we defer the related cost of revenue. The deferred inventory costs do not exceed the deferred revenue amounts.
Inventories consisted of the following (in thousands):
Note 9 Warranty
We offer warranties on our products, other than certain evaluation and early adopter products that are not offered with warranty. We also record a liability for the estimated future costs associated with customer warranty claims, which is based upon historical experience and our estimate of the level of future costs. Warranty costs are reflected in the Condensed Consolidated Statements of Operations as a cost of revenues.
A reconciliation of the changes in our warranty liability (included in Accrued liabilities in the Condensed Consolidated Balance Sheets) is as follows (in thousands):
Note 10 Long Lived Assets
Property and equipment consisted of the following (in thousands):
At June 26, 2010, the net book value of our total intangible assets was $6.5 million, with $7.8 million as the gross amount and $1.3 million as the accumulated amortization. All of our intangible assets were purchased intellectual properties. We recorded $0.4 and $0.9 million amortization expense for our intangible assets for the three and six months ended June 26, 2010, respectively. The purchased intellectual property assets had a weighted average amortization period of 3.8 years at June 26, 2010. The intangible assets are included in Other Assets in the Condensed Consolidated Balance Sheets.
During the three months ended June 26, 2010 we wrote off fully depreciated assets with an acquired cost of $4.8 million. In addition to the impairment of certain assets related to our assembly and test operations in Korea (see Note 4), we recorded an impairment of $1.0 million related to the termination of an on-going project that had been recorded in construction-in-progress.
As discussed in Note 4, in the second quarter of fiscal 2010, we announced the Q2 2010 Restructuring Plan targeted at returning the Company to profitability. As part of this restructuring plan, we are consolidating certain of our manufacturing operations by, among other things, moving the assembly and testing operation from Korea to Singapore. As a result of this planned and on-going expansion of operations in our Singapore location, we re-evaluated our expectation as to whether or not our renewal option for the related lease was reasonably assured. As a result of this analysis, we have re-evaluated and adjusted the estimated remaining useful life of leasehold improvements in our Singapore facility by approximately five years. In the current quarter, the benefit from the extended remaining useful life of the Singapore facility leasehold improvements was immaterial. We expect the benefit of extending the estimated useful lives of these assets to be $0.7 million for the fiscal year ending December 25, 2010.
During the second quarter of fiscal 2010, we determined that an impairment analysis of our long-lived assets was required due to the combined effect of a sustained decline in the Companys stock price, a significant change in our business strategy in connection with the Q2 2010 Restructuring Plan and recurring operating losses. Accordingly, management tested the recoverability of its long lived assets in the second quarter of fiscal 2010.
We determined our long-lived asset group to be our consolidated long-lived assets as we have determined that we operate as one reporting unit and segment. The recoverability of assets to be held and used was measured by comparing the carrying amount of these assets to the estimated undiscounted future cash flows expected to be generated by the assets. If the carrying amount of the asset exceeds its estimated undiscounted future net cash flows, an impairment charge is recognized by the amount by which the carrying amount of the asset exceeds the fair value of the asset. As a result of this test, we concluded that the Companys business is able to fully recover the carrying value of its assets and did not recognize any impairment charges in the second quarter of fiscal 2010.
Note 11 Comprehensive Loss
Comprehensive loss includes foreign currency translation adjustments and unrealized gains (losses) on available-for-sale securities, the impact of which has been excluded from net income and reflected as components of stockholders equity.
Components of comprehensive loss were as follows (in thousands):
Components of accumulated other comprehensive income were as follows (in thousands):
Note 12 Stockholders Equity
Stock Option Plans
We have three equity incentive plans: Incentive Option Plan and Management Incentive Option Plan (together, the Prior Plans), and 2002 Equity Incentive Plan (the 2002 Plan), which became effective in June 2002. Upon the effectiveness of the 2002 Plan, we ceased granting any equity awards under the Prior Plans, although forfeited, repurchased, cancelled or terminated Prior Plan shares were transferred to the 2002 Plan.
Stock option activity under the Prior Plans and the 2002 Plan during the six months ended June 26, 2010 is set forth below:
The weighted average grant-date fair value of options granted during the quarter ended June 26, 2010 was $6.37 per share. The intrinsic value of option exercises during the three and six months ended June 26, 2010 was $36,000 and $0.2 million. Cash received from stock option exercises during the three and six months ended June 26, 2010 was $37,000 and $0.1 million. We did not realize any gross tax benefits in connection with these exercises.
Restricted Stock Units
Activity of the restricted stock units under the 2002 Plan during the six months ended June 26, 2010 is set forth below:
Note 13 Stock-Based Compensation
We account for all stock-based compensation to employees and directors, including grants of stock options, as stock-based compensation costs in the Condensed Consolidated Financial Statements based on the fair value measured as of the date of grant. These costs are recognized as an expense in the Condensed Consolidated Statements of Operations over the requisite service period and increase additional paid-in capital.
The table below shows the stock-based compensation charges included in the Condensed Consolidated Statement of Operations (in thousands):
There were 420,570 options granted during the three months ended June 26, 2010. There were no options granted in the first quarter of fiscal 2010. The following weighted-average assumptions were used in the estimated grant-date fair value calculations for stock options:
Employee Stock Purchase Plan
There were no shares issued under the Employee Stock Purchase Plan (ESPP) during the three months ended June 26, 2010 and June 27, 2009, respectively. During the six months ended June 26, 2010 and June 27, 2009, 157,961 shares and 154,145 shares, respectively, were issued under the ESPP.
Unrecognized Compensation Costs
At June 26, 2010, the unrecognized stock-based compensation, adjusted for estimated forfeitures, was as follows (in thousands):
Note 14 Net Loss per Share
Basic net loss per share is computed by dividing net loss by the weighted-average number of common shares outstanding for the period. Diluted net loss per share is computed giving effect to all potential dilutive common stock, including stock options, restricted stock units and common stock subject to repurchase. Diluted loss per share for three and six months ended June 26, 2010 and June 27, 2009, respectively, was based only on the weighted-average number of shares outstanding during that period as the inclusion of any common stock equivalents would have been anti-dilutive.
A reconciliation of the numerator and denominator used in the calculation of basic and diluted net loss per share follows (in thousands):
The following table sets forth the weighted-average of all potentially dilutive securities excluded from the computation in the table above because their effect would have been anti-dilutive (in thousands):
Note 15 Income Taxes
The income tax provision for the three and six months ended June 26, 2010 primarily reflects taxes on our non-U.S. operations. We maintain a valuation allowance for our Federal, state, and certain non-U.S. jurisdictions deferred tax assets. The income tax provision for the three and six months ended June 27, 2009 is primarily due to the recognition of a valuation allowance against the Companys Federal and state deferred tax assets in accordance with the prevailing guidance for accounting for income taxes.
Accounting standards related to accounting for uncertainty in income taxes recognized in an enterprises financial statements prescribe a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return as well as guidance on de-recognition of tax benefits. We classify interest and penalties related to uncertain tax positions as part of the income tax provision. Related to the unrecognized tax benefits, we accrued interest of approximately $46,000 and zero penalties and approximately $0.1 million and zero penalties for the three and six months ended June 26, 2010, respectively. We recognized interest expense of $10,000 and zero penalties and $0.1 million and zero penalties for the three and six months ended June 27, 2009, respectively. Related to the unrecognized tax benefits, we have an accrued total interest of $0.9 million and zero penalties as of June 26, 2010.
The amount of income taxes we pay is subject to ongoing audits by Federal, state and non-U.S. tax authorities which might result in proposed assessments. Our estimate for the potential outcome for any uncertain tax issue is judgmental in nature. However, we believe that we have adequately provided for any reasonably foreseeable outcome related to those matters. Our future results may include favorable or unfavorable adjustments to our estimated tax liabilities in the period the assessments are made or resolved or when statutes of limitation on potential assessments expire. As of June 26, 2010, changes to our uncertain tax positions in the next 12 months, that are reasonably possible, are not expected to have a significant impact on our financial position or results of operations.
Note 16 Commitments and Contingencies
We are subject to U.S. Federal, state and local, and foreign governmental laws and regulations relating to the protection of the environment, including those governing the discharge of pollutants into the air and water, the management and disposal of hazardous substances and wastes, the clean-up of contaminated sites and the maintenance of a safe workplace. We believe that we comply in all material respects with the environmental laws and regulations that apply to us, including those of the California Department of Toxic Substances Control, the Bay Area Air Quality Management District, the City of Livermore Water Resources Division and the California Division of Occupational Safety and Health. No provision has been made for loss from environmental remediation liabilities associated with our facilities because we believe that it is not probable that a liability has been incurred as of June 26, 2010.
While we believe that we are in compliance in all material respects with the environmental laws and regulations that apply to us, in the future, we may receive environmental violation notices and, if received, final resolution of the violations identified by these notices could harm our operations, which may adversely impact our operating results and cash flows. New laws and regulations, stricter enforcement of existing laws and regulations, the discovery of previously unknown contamination at our or others sites or the imposition of new cleanup requirements could also harm our operations, thereby adversely impacting our operating results and cash flows.
From time to time, we may be subject to legal proceedings and claims in the ordinary course of business. For the fiscal quarter ended June 26, 2010, we were not involved in any material legal proceedings, other than the proceedings summarized below. In the future we may become a party to additional legal proceedings, including proceedings designed to protect our intellectual property rights that require us to spend significant resources. Litigation, in general, and intellectual property litigation in particular, can be expensive and disruptive to normal business operations. Moreover, the results of legal proceedings are difficult to predict, and the costs incurred in litigation can be substantial, regardless of outcome.
We initiated patent infringement litigation in the United States against Phicom Corporation, a Korea corporation, with a current operating name of TSC Memsys Corp., here referred to as Phicom, and against Micronics Japan Co., Ltd., a Japan corporation, and its U.S. subsidiary, both collectively Micronics Japan. In 2005, we filed a patent infringement lawsuit in the United States
District Court for the District of Oregon against Phicom charging that it is willfully infringing four U.S. patents that cover key aspects of our wafer probe cardsU.S. Patent Nos. 5,974,662, 6,246,247, 6,624,648, and 5,994,152. In 2006, we also filed an amended complaint in the same Oregon district court adding two additional patents to the litigationU.S. Patent Nos. 7,073,254 and 6,615,485. Also in 2006, we filed a patent infringement lawsuit in the United States District Court for the Northern District of California against Micronics Japan charging that it is willfully infringing four U.S. patents that cover key aspects of our wafer probe cardsU.S. Patent Nos. 6,246,247, 6,509,751, 6,624,648, and 7,073,254. The relief sought in the complaints includes past damages and injunctive relief.
These two district court actions were stayed pending resolution of the complaint that we filed with the United States International Trade Commission, or ITC, on or about November 13, 2007, seeking institution of a formal investigation into the activities of Micronics Japan and Phicom. The requested investigation as filed encompassed U.S. Patent Nos. 5,994,152, 6,509,751, 6,615,485, 6,624,648 and 7,225,538 and alleged that infringement by each of Micronics Japan and Phicom of certain of the identified patents constitute unfair acts in violation of 19 U.S.C. Section 1337 and alleged violations of Section 337 of the Tariff Act of 1930 in the importation into the United States of certain probe card assemblies, components thereof, and certain tested DRAM and NAND flash memory devices and products containing such devices that infringe patents owned by us.
In November 2009 in response to a request for review of prior decisions by an ITC Administrative Law Judge, the Commission issued a decision, which is termed a final determination, finding certain of our asserted patent claims valid, but not infringed, and other asserted patent claims invalid. The Commission did not find a violation of Section 337 of the Tariff Act of 1930 and terminated the investigation without issuing an exclusionary order against any products. We did not appeal the final determination to the Court of Appeals for the Federal Circuit. The stay in the district court action against Micronics Japan was lifted, and in July 2010 we reached an amicable resolution of the action against Micronics Japan resulting in the dismissal of the patent infringement lawsuit in the United States District Court for the Northern District of California. The terms and conditions of the settlement agreement are confidential. The stay in the district court action against Phicom was also lifted and the parties were directed to engage in a non-binding mediation in an attempt to amicable resolve the litigation. If the matter is not amicably resolved, we anticipate the action will proceed forward.
In addition to the United States litigations, we also initiated actions in Seoul, South Korea against Phicom. In 2004 we filed two actions in Seoul Southern District Court, located in Seoul, South Korea, against Phicom alleging infringement of our Korean Patent Nos. 252,457, 324,064, 278,342 and 399,210. In the action alleging infringement of our Korean Patent Nos. 278,342 and 399,210, the Seoul Southern District Court closed the case after rejecting our petition. We filed an appeal to the Seoul High Court regarding the decisions on our Korean Patent Nos. 278,342 and 399,210, but elected to voluntarily withdraw the appeal. The Seoul Southern District Court also rendered decisions unfavorable to us related to our Korean Patent Nos. 252,457 and 324,064 and the Seoul High Court dismissed our appeals of those decisions. The Seoul High Court decisions are subject to a final appeal to the Korea Supreme Court but we elected not to file such appeals. We also in 2006 filed in the Seoul Central District Court two actions, including a preliminary injunction action, against Phicom alleging infringement of certain claims of our Korea Patent No. 252,457. The Seoul Central District Court did not accept the preliminary injunction action and both actions have been closed.
In response to our initiation of the infringement actions in Korea, Phicom filed in the Korean Intellectual Property Office, or KIPO, invalidity actions challenging the validity of some or all of the claims of each of our four patents at issue in the Seoul Southern District Court infringement actions. KIPO dismissed Phicoms challenges against all four of the patents-at-issue. Phicom appealed the dismissals of the challenges to the Korea Patent Court. In 2005, the Korea Patent Court issued rulings holding invalid certain claims of our Korean Patent Nos. 278,342 and 399,210; and in 2006, issued a ruling holding invalid certain claims of our Korean Patent No. 324,064. We appealed those rulings to the Korea Supreme Court, which affirmed the Korea Patent Court rulings and dismissed our appeals. In 2006, the Korea Patent Court issued a ruling upholding the validity of our Korean Patent No. 252,457. Phicom appealed the Patent Court ruling on Korean Patent No. 252,457 to the Korea Supreme Court. In June 2008, the Korea Supreme Court reversed the Patent Court ruling, finding invalid certain claims of our Korean Patent No. 252,457 and remanding the case for further trial. We also filed a correction trial with KIPO on certain claims of Korean Patent No. 252,457. KIPO has issued decisions unfavorable to us in both of the actions relating to our Korean Patent No. 252,457, and those actions are now pending before the Korea Patent Court.
Additionally, one or more third parties have initiated challenges in the U.S. and in foreign patent offices against certain of the above and other of our patents. These actions include re-examination proceedings filed in the U.S. Patent and Trademark Office, USPTO, against three of our U.S. patents that were at issue in the ITC investigation. In the USPTO re-examination proceedings, all of the challenged claims have been finally rejected as non-patentable, and we have requested review of those rejections. The foreign actions include proceedings in Korea against two of our Korean patents, and proceedings in Taiwan against four of our Taiwan patents.
In July 2010, we filed a patent infringement lawsuit in the United States District Court for the Northern District of California against Micro-Probe Incorporated charging that it is willfully infringing six U.S. patents that cover aspects of our proprietary technology and wafer probe cards. The complaint seeks both injunctive relief and money damages for Micro-Probes alleged
infringement of our US Patent No. 6,441,315 for Contact Structures With Blades Having A Wiping Motion, US Patent No. 6,825,422 for Interconnection Element With Contact Blade, US Patent No. 6,965,244 for High Performance Probe System, US Patent No. 7,227,371 for High Performance Probe System, US Patent No. 6,246,247 for Probe Card Assembly and Kit, and Methods of Using Same, and US Patent No. 6,624,648 for Probe Card Assembly. The complaint also seeks injunctive relief and damages against Micro-Probe for unfair competition and further includes claims directed against a former employee for breach of confidence relative to our confidential and propriety information and against the former employee and Micro-Probe for conspiring to breach that confidence. Neither Micro-Probe nor the former employee, nor counsel on their behalf, has made an appearance in court in the action.
No provision has been made for patent-related litigation because we believe that it is not probable that a liability had been incurred as of June 26, 2010. We will incur material attorneys fees in prosecuting and defending the various identified actions.
On February 20, 2009, we filed a complaint for breach of contract, common counts, account stated and injunctive relief against Spansion, LLC, a Delaware limited liability company (Spansion), in the state superior court located in Santa Clara County, California. The complaint alleges that Spansion, in breach of Spansions obligations under a purchase agreement entered into by us and Spansion, has failed to pay us for probe cards that we designed, developed and manufactured pursuant to several purchase orders placed by Spansion with us pursuant to the agreement. The complaint states that as of February 13, 2009, Spansion owed us $8,094,533 for probe cards delivered by us and not paid for by Spansion. In the complaint, we are seeking (i) payment of at least $8,094,533, (ii) a temporary protective order and an injunction enjoining Spansion from assigning or in any way divesting itself of any monies that we believe Spansion received from a certain third party entity, (iii) a prejudgment writ of attachment in favor of us over Spansions corporate assets and property, (iv) costs and (v) attorneys fees. Prior to making any appearance or filing any answer in the action, Spansion filed for protection under Chapter 11 of the Bankruptcy Laws of the United States, which served to stay our complaint against Spansion. In November 2009, we sold all rights, title and interest in the bankruptcy claim to a third party in exchange for net proceeds of less than full value of the asserted claim.
We from time to time in the ordinary course of our business enter into contractual arrangements with third parties that include indemnification obligations. Under these contractual arrangements, we have agreed to defend, indemnify and/or hold the third party harmless from and against certain liabilities. These arrangements include indemnities in favor of customers in the event that our wafer probe cards infringe a third partys intellectual property and our lessors in connection with facility leasehold liabilities that we may cause. In addition, we have entered into indemnification agreements with our directors and certain of our officers, and our bylaws contain indemnification obligations in favor of our directors, officers and agents. These indemnity arrangements may limit the type of the claim, the total amount that we can be required to pay in connection with the indemnification obligation and the time within which an indemnification claim can be made. The duration of the indemnification obligation may vary, and for most arrangements, survives the agreement term and is indefinite. It is not possible to determine or reasonably estimate the maximum potential amount of future payments under these indemnification obligations due to the varying terms of such obligations, the history of prior indemnification claims, the unique facts and circumstances involved in each particular contractual arrangement and in each potential future claim for indemnification, and the contingency of any potential liabilities upon the occurrence of events that are not reasonably determinable. We have not had any requests for indemnification under these arrangements. We have not recorded any liabilities for these indemnification arrangements on our condensed consolidated balance sheet as of June 26, 2010.
Substantially all of our indemnities and commitments provide for limitations on the maximum potential future payments we could be obligated to make. However, we are unable to estimate the maximum amount of liability related to our indemnities and commitments because such liabilities are contingent upon the occurrence of events which are not reasonably determinable. Our management believes that any liability for these indemnities and commitments would not be material to our accompanying consolidated financial statements.
Note 17 Derivative Financial Instruments
We operate and sell our products in various global markets. As a result, we are exposed to changes in foreign currency exchange rates. We utilize foreign currency forward contracts to hedge against future movements in foreign exchange rates that affect certain existing foreign currency denominated assets and liabilities. Under this program, our strategy is to have increases or decreases in our foreign currency exposures offset by gains or losses on the foreign currency forward contracts to mitigate the risks and volatility associated with foreign currency transaction gains or losses. We do not use derivative financial instruments for speculative or trading purposes. Our derivative instruments, which are generally settled in the same quarter, are not designated as hedging instruments. We record the fair value of these contracts as of the end of our reporting period to our consolidated balance sheet with changes in fair value recorded in our consolidated statement of operations in Other income (expense), net for both realized and unrealized gains and losses.
As of June 26, 2010, there were three outstanding foreign exchange forward contracts to sell Japanese Yen and Korean Won and buy Taiwan Dollars. The following table provides information about our foreign currency forward contracts outstanding as of June 26, 2010 (in thousands):
The contracts were entered into on June 25, 2010 and matured on June 29, 2010. There was no change in the value of these contracts as of June 26, 2010. Additionally, no gains or losses relating to the outstanding derivative contracts were recorded in the three months ended June 26, 2010.
The location and amount of gains and losses related to non-designated derivative instruments that matured in the three and six months ended June 26, 2010 and June 27, 2009 in the Condensed Consolidated Statement of Operations are as follows (in thousands):
Note 18 Departure of Executive Officers
We entered into a Separation Agreement on June 6, 2010 (CEO Separation Agreement) with Mario Ruscev in connection with his resignation as Chief Executive Officer on May 19, 2010. Under the CEO Separation Agreement, Dr. Ruscev will receive a lump sum severance payment of $690,411, consisting of one year of his current base salary and a prorata portion of his annual bonus, less required payroll deductions and withholdings. In accordance with the CEO Separation Agreement, this amount will be paid in November 2010. In addition, the vesting of 11,750 restricted stock units and 138,500 stock option awards has been accelerated and Dr. Ruscev will have 12 months to exercise any vested and unexpired outstanding stock options.
We entered into a Separation Agreement on June 1, 2010 (CFO Separation Agreement) with Jean Bernard Vernet in connection with his resignation as Chief Financial Officer on May 19, 2010. Under the CFO Separation Agreement, Mr. Vernet is entitled to receive a lump sum severance payment of $162,500, less required payroll deductions and withholdings. This amount was paid in May 2010. In addition, the vesting of 3,000 restricted stock units and 7,500 stock option awards has been accelerated and Mr. Vernet will have nine months to exercise any vested and unexpired outstanding stock options.
We recorded a net charge of $0.6 million within Selling, General & Administrative expenses in the Condensed Consolidated Statements of Operations, comprised of $0.9 million of severance expenses net of $0.3 million benefits from the stock-based compensation.
We will pay for monthly COBRA premiums for up to six and twelve months, respectively, for Mr. Vernet and Dr. Ruscev, as well as provide reimbursement for reasonable relocation expenses for both Mr. Vernet and Dr. Ruscev. They have signed a general release and waiver of claims in favor of the Company, and continue to be bound by the Companys employment, confidential information and invention assignment agreement.
Cautionary Statement Regarding Forward-Looking Statements
This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of the Securities Exchange Act of 1934 and the Securities Act of 1933, which are subject to risks, uncertainties and assumptions that are difficult to predict. The forward-looking statements include statements concerning, among other things, our business strategy, including anticipated trends and developments in and management plans for our business and the markets in which we operate, financial results, operating results, revenues, gross margin, operating expenses, products, projected costs and capital expenditures, research and development programs, sales and marketing initiatives, and competition. In some cases, you can identify these statements by forward-looking words such as may, might, could, should, expect, plan, anticipate, believe, estimate, predict, intend and continue, the negative or plural of these words and other comparable terminology.
The forward-looking statements are only predictions based on our current expectations and our projections about future events. All forward-looking statements included in this Quarterly Report are based upon information available to us as of the filing date of this Quarterly Report. You should not place undue reliance on these forward-looking statements. We undertake no obligation to update any of these statements for any reason. These forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, levels of activity, performance or achievements to differ materially from those expressed or implied by these statements. These factors include the matters discussed in the section titled Risk Factors in our Annual Report on Form 10-K for the year ended December 26, 2009, in our Quarterly Report on Form 10-Q for the quarter ended March 27, 2010, and in the section titled Risk Factors and elsewhere in this Quarterly Report. You should carefully consider the numerous risks and uncertainties described under these sections.
The following discussion and analysis should be read in conjunction with our condensed consolidated financial statements and the accompanying notes contained in this Quarterly Report. Unless expressly stated or the context otherwise requires, the terms we, our, us and FormFactor refer to FormFactor, Inc. and its subsidiaries.
We design, develop, manufacture, sell and support precision, high performance advanced semiconductor wafer probe card products and solutions. Semiconductor manufacturers use our wafer probe cards to perform wafer sort and test on the semiconductor die, or chips, on the whole semiconductor wafer, which is prior to singulation of the wafer into individual separate chips. We work closely with our customers on product design, as each wafer probe card is a custom product that is specific to the chip and wafer designs of the customer. During wafer sort and test, a wafer probe card is mounted in a prober and connected to a semiconductor tester. The wafer probe card is used as an interface to connect electrically with and test individual chips on a wafer. Our wafer probe cards are used by our customers in the front end of the semiconductor manufacturing process, as are our parametric, or in-line, probe cards. We operate in a single industry segment and have derived substantially all of our revenues from the sale of wafer probe cards incorporating our proprietary technology, including our MicroSpring® interconnect technology.
We incurred a net loss of $33.9 million in the second quarter of fiscal 2010 as compared to net loss of $65.8 million for the second quarter of fiscal 2009. The net loss for the second quarter of fiscal 2010 includes $2.5 million of pre-tax restructuring charges and $0.6 million of severance costs related to the recent change in executive management, as well as the impairment of certain fixed assets of $1.0 million. The net loss for the second quarter of fiscal 2009 included a $44.7 million valuation allowance recorded against our deferred tax assets. We incurred a net loss of $72.0 million in the first half of fiscal 2010 as compared to net loss of $103.8 million for the first half of fiscal 2009. The net loss for the first half of fiscal 2010 is primarily due to low revenue and margins, $6.1 million of pre-tax restructuring charges, and the impairment of certain fixed assets of $1.0 million. The net loss for the first half of fiscal 2009 is primarily due to the low revenues and margins, the $44.7 million valuation allowance for our deferred tax assets, $7.9 million restructuring charges and the $4.9 million provision for bad debts due to the heightened risk of non-payment of certain accounts receivable.
Our cash, cash equivalents and marketable securities totaled approximately $397.8 million as of June 26, 2010, as compared to $449.2 million at December 26, 2009. We believe that we will be able to satisfy our working capital requirements for the next twelve months with the liquidity provided by our existing cash, cash equivalents and marketable securities. If we are unsuccessful in improving our operating efficiency, reducing our cash outlays or increasing our available cash through financing, our cash, cash equivalents and marketable securities could further decline in the third quarter of fiscal 2010 and in future fiscal quarters.
Revenues. We derive substantially all of our revenues from product sales of wafer probe cards. Revenues from our customers are subject to fluctuations due to factors including, but not limited to, design cycles, technology adoption rates, competitive pressure to reduce prices, cyclicality of the different end markets into which our customers products are sold and market conditions in the semiconductor industry. Historically, increases in revenues have resulted from increased demand for our existing products, the introduction of new, more complex products and the penetration of new markets. We expect that revenues from the sale of wafer probe cards will continue to account for substantially all of our revenues for the foreseeable future.
Cost of Revenues. Cost of revenues consists primarily of manufacturing materials, payroll, shipping and handling costs and, manufacturing-related overhead. Our manufacturing operations rely upon a limited number of suppliers to provide key components and materials for our products, some of which are a sole source. We order materials and supplies based on backlog and forecasted customer orders. Tooling and setup costs related to changing manufacturing lots at our suppliers are also included in the cost of revenues. We expense all warranty costs and inventory provisions as cost of revenues.
We design, manufacture and sell a custom product into the semiconductor test market, which is subject to significant variability and demand fluctuations. Our wafer probe cards are complex products that are custom to a specific chip design of a customer and must be delivered on relatively short lead-times as compared to our overall manufacturing process. As our advanced wafer probe cards are manufactured in low volumes and must be delivered on relatively short lead-times, it is not uncommon for us to acquire production materials and start certain production activities based on estimated production yields and forecasted demand prior to or in excess of actual demand for our wafer probe cards. We record an adjustment to our inventory valuation for estimated obsolete and non-saleable inventories based on assumptions about future demand, changes to manufacturing processes, and overall market conditions.
Research and Development. Research and development expenses include expenses related to product development, engineering and material costs. Almost all research and development costs are expensed as incurred. We plan to continue to invest in research and development activities to improve and enhance existing technologies and to develop new technologies for current and new markets and for new applications.
Selling, General and Administrative. Selling, general and administrative expenses include expenses related to sales, marketing, and administrative personnel, provision for doubtful accounts, internal and outside sales representatives commissions, market research and consulting, and other sales, marketing, and administrative activities. These expenses also include costs for protecting and enforcing our patent rights and regulatory compliance costs.
Restructuring Charges. Restructuring charges include costs related to employee termination benefits, cost of long-lived assets abandoned or impaired, as well as contract termination costs.
Use of Estimates. The preparation of consolidated financial statements in conformity with generally accepted accounting principles in the United States of America (GAAP) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the 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. Actual results could differ from those estimates. Estimates may change as new information is obtained. Significant items that are subject to such estimates include the fair value of revenue elements, fair value of marketable securities, allowance for doubtful accounts, reserves for product warranty, valuation of obsolete and slow moving inventory, valuation of intangible assets, the assessment of recoverability of long-lived assets, valuation and recognition of stock-based compensation, provision for income taxes and valuation allowance for deferred tax assets and tax liabilities and accruals for other liabilities.
Results of Operations
The following table sets forth our operating results as a percentage of revenues for the periods indicated:
Three and Six Months Ended June 26, 2010 and June 27, 2009:
Revenues for the three and six months ended June 26, 2010 increased 84.8%, or $26.4 million, and 66.1%, or $38.7 million, compared to the revenues of the comparable periods of the prior year. The increases are primarily due to increased demand for our advanced wafer probe cards caused by an overall improvement in the semiconductor market, and in particular the memory segment.
Our revenues for the three and six months ended June 26, 2010 were primarily generated by sales of wafer probe cards to manufacturers of DRAM devices. Revenues for our products that address the DRAM segment in the three and six months ended June 26, 2010 increased significantly compared to the same periods in the prior year, primarily due to the ramp of DDR3 and the introduction of our SmartMatrix products.
Revenues from sales to Flash memory device manufacturers increased significantly in the three and six months ended June 26, 2010 compared to the same periods in the prior year. The increases were driven by sales in NOR and a significant increase in NAND Flash wafer probe cards, resulting from the recent qualification of TouchMatrix at one of our largest customers.
Revenues from sales to SoC device manufacturers increased in the three and six months ended June 26, 2010 compared to the same periods in the prior year, primarily due to the overall upturn in the semiconductor industry which positively impacted revenues from sales of our wafer probe cards.
Revenues by Geographic Region
The following table sets forth our revenues by geographic region for the periods indicated: