FormFactor 10-Q 2015
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
For the quarterly period ended September 26, 2015
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)
(Registrant’s 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 ý 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 ý 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 ý
As of October 27, 2015, 58,160,215 shares of the registrant’s common stock, par value $0.001 per share, were outstanding.
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
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.
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.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Note 1 — Basis of Presentation and Summary of Significant Accounting Policies
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 U.S. 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 nine months ended September 26, 2015 are not necessarily indicative of the results that may be expected for the year ending December 26, 2015, or for any other period. The balance sheet at December 27, 2014 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 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 may result in material effects on our consolidated operating results and financial position.
These financial statements and notes should be read with the consolidated financial statements and notes for the year ended December 27, 2014 included in our Annual Report on Form 10-K filed with the SEC on March 6, 2015.
Fiscal year. We operate on a 52/53 week fiscal year, whereby the fiscal year ends on the last Saturday of December. Fiscal 2015 and 2014 each contain 52 weeks and the three and nine months ended September 26, 2015 and September 27, 2014 each contained 13 and 39 weeks, respectively. Fiscal 2015 will end on December 26, 2015.
Critical Accounting Policies. Our critical accounting policies have not changed during the three and nine months ended September 26, 2015 from those disclosed in our Annual Report on Form 10-K for the year ended December 27, 2014.
Note 2 — Concentration of Credit and Other Risks
Financial instruments that potentially subject us to concentrations of credit risk consist primarily of cash equivalents, marketable securities and trade receivables. Our cash equivalents and marketable securities are held in safekeeping by large, credit worthy 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. Deposits in these banks may exceed the amounts of insurance provided on such deposits. To date, we have not experienced any losses on our deposits of cash and cash equivalents.
We market and sell our products to a narrow base of customers and generally do not require collateral. The following customers accounted for more than 10% of our revenues for the periods indicated:
* Less than 10% of revenues.
At September 26, 2015, two customers accounted for 28% and 14% of gross accounts receivable. At December 27, 2014, two customers accounted for approximately 26% and 18% of gross accounts receivable. No other customers accounted for more than 10% of gross accounts receivable at either of these fiscal period ends. We operate in the intensely competitive semiconductor industry, including the Dynamic Random Access Memory, or DRAM, Flash memory, and System-on-Chip, or SoC markets, which have been characterized by price erosion, rapid technological change, short product life cycles and heightened foreign and domestic competition. Significant technological changes in the industry could adversely affect our operating results.
Certain components for our wafer probe card products that meet our requirements are available only from a limited number of suppliers. The rapid rate of technological change and the necessity of developing and manufacturing products with short life cycles may intensify our reliance on such suppliers. The inability to obtain components as required, or to develop alternative sources, if and as required in the future, could result in delays or reductions in product shipments, which in turn could have a material adverse effect on our business, financial condition, results of operations or cash flows.
Note 3 — Goodwill and Intangible Assets
Goodwill recorded from the acquisition of MicroProbe on October 16, 2012 was $30.7 million as of September 26, 2015 and remained unchanged from the amounts recorded as of December 27, 2014. The Company has not recorded any historical goodwill impairments as of September 26, 2015.
The changes in intangible assets during the nine months ended September 26, 2015 and the net book value of intangible assets as of September 26, 2015 and December 27, 2014 were as follows (in thousands):
During the nine months ended September 26, 2015, a purchased in-process research and development ("IPR&D") project with a carrying value of $2.4 million was completed and reclassified as a finite-lived intangible asset, and is currently being amortized over its estimated useful life.
The remaining IPR&D asset is classified as an indefinite lived intangible asset that is not currently subject to amortization but is reviewed for impairment annually or whenever events or changes in circumstances indicate that the carrying value of such asset may not be recoverable. The IPR&D asset will be subject to amortization upon completion of its respective research project and at the start of commercialization. The fair value assigned to the IPR&D asset was determined using the income approach based on estimates and judgments regarding risks inherent in the development process, including the likelihood of achieving technological success and market acceptance. If the IPR&D project is abandoned, the acquired technology attributable to the project will be expensed in the Condensed Consolidated Statements of Operations.
For the three and nine months ended September 26, 2015, amortization expense of $2.7 million and $0.7 million, and $7.8 million and $2.0 million, respectively, was included in cost of revenues and selling, general and administrative expenses, respectively. For the three and nine months ended September 27, 2014, amortization expense of $4.4 million and $0.7 million, and $13.2 million and $2.0 million, respectively, was included in cost of revenues and selling, general and administrative expenses, respectively.
Based on the carrying values of the finite-lived intangible assets recorded as of September 26, 2015 and assuming no subsequent additions to or impairment of the underlying assets, the remaining estimated annual amortization expense is expected to be as follows (in thousands):
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. Restructuring charges are reflected separately as "Restructuring charges, net" in the Condensed Consolidated Statements of Operations. A summary of the actions we have taken during the three and nine months ended September 26, 2015 and September 27, 2014, the purposes of which were to improve operating efficiency, streamline and simplify our operations and reduce our operating costs, are discussed below.
2015 Restructuring Activities
During the three months ended September 26, 2015, restructuring charges recorded were insignificant. During the nine months ended September 26, 2015, we recorded stock-based compensation expense of approximately $0.5 million relating to the modification of certain equity-based awards of a full-time employee who was notified of his termination during the fourth quarter of fiscal 2014. The severance terms relating to the modification of his equity-based awards were finalized during the first quarter of fiscal 2015.
2014 Restructuring Activities
On January 27, 2014, we announced a global organizational restructuring and cost reduction plan. As part of the plan, we eliminated 52 full-time employees. In addition, we reduced our temporary workforce by 9 positions. We recorded $2.0 million of restructuring charges during the first quarter of fiscal 2014, which was comprised of $1.4 million in severance and related benefits and $0.6 million in impairment charges for certain equipment that would no longer be utilized. During the three months ended June 28, 2014, we eliminated an additional 2 full-time employees and recorded $59 thousand in severance charges. During the three months ended September 27, 2014, we eliminated an additional full-time position and recorded $28 thousand in severance charges. The activities comprising these restructuring activities and the related cash payments were substantially completed and paid by September 27, 2014.
The activities in the restructuring accrual for the nine months ended September 26, 2015 were as follows (in thousands):
The activities in the restructuring accrual for the nine months ended September 27, 2014 were as follows (in thousands):
Note 5 — Fair Value
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. Treasury securities, agency securities and foreign currency derivatives (see Note 17 to the Condensed Consolidated Financial Statements - Derivative Financial Instruments, for a discussion of fair value of foreign currency derivatives).
Assets measured at fair value on a recurring basis as of September 26, 2015 were as follows (in thousands):
Assets measured at fair value on a recurring basis as of December 27, 2014 was as follows (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 judgment. Broker 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.
We did not have any transfers of assets measured at fair value on a recurring basis to or from Level 1 and Level 2 during each of the three and nine months ended September 26, 2015 and September 27, 2014.
Assets Measured at Fair Value on a Non-Recurring Basis
We measure and report goodwill and intangible assets at fair value on a non-recurring basis if we determine these assets to be impaired. Refer to Note 3 to the Condensed Consolidated Financial Statements-Goodwill and Intangible Assets, for further details. There were no assets measured at fair value on a nonrecurring basis during the three and nine months ended September 26, 2015 and September 27, 2014.
Note 6 — Marketable Securities
We classify our marketable 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 in accumulated other comprehensive income until realized.
Marketable securities at September 26, 2015 consisted of the following (in thousands):
Marketable securities at December 27, 2014 consisted of the following (in thousands):
The marketable securities with gross unrealized losses have been in a loss position for less than twelve months as of September 26, 2015 and December 27, 2014, respectively.
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, current market liquidity, interest rate risk, financial condition of the issuer, and credit rating downgrades. We believe that the unrealized losses are not other-than-temporary. We do not have a foreseeable need to liquidate the portfolio and anticipate recovering the full cost of the securities either as market conditions improve or as the securities mature.
Contractual maturities of marketable securities as of September 26, 2015 were as follows (in thousands):
There were no realized gains and losses on sales and maturities of marketable securities during the three and nine months ended September 26, 2015 and September 27, 2014, respectively.
Note 7 — Allowance for Doubtful Accounts
A reconciliation of the changes in our allowance for doubtful accounts receivable for the nine months ended September 26, 2015 and September 27, 2014, respectively, is as follows (in thousands):
Note 8 — Inventories
Inventories consisted of the following (in thousands):
Note 9 — Warranty
A reconciliation of the changes in our warranty liability for the nine months ended September 26, 2015 and September 27, 2014, respectively, is as follows (in thousands):
Note 10 — Long-lived Assets
Impairment of long-lived assets
During the nine months ended September 26, 2015, long-lived asset impairment charges recorded were insignificant. During the nine months ended September 27, 2014, we recorded $0.8 million of impairments related to manufacturing assets we no longer utilized. These charges were included in "Impairment of long-lived assets" in the Condensed Consolidated Statements of Operations in their respective periods.
During the three months ended September 26, 2015, we ceased to use fully depreciated assets with an acquired cost of $0.2 million.
Property, plant and equipment consisted of the following (in thousands):
Assets held for sale
There were no assets held for sale as of September 26, 2015. During the nine months ended September 27, 2014, we reclassified $0.6 million of building and $0.5 million of machinery and equipment from "Property, plant and equipment, net" to "Prepaid expenses and other current assets" in our balance sheet as these assets were identified as held for sale. The sale of the building closed during the third quarter of fiscal 2014 and we recorded a gain of $0.2 million on the sale during the third quarter of fiscal 2014.
Refer to Note 3 to the Condensed Consolidated Financial Statements - Goodwill and Intangible Assets for further details relating to our intangible long-lived assets.
Note 11 — Accumulated Other Comprehensive Loss
Accumulated other comprehensive loss includes foreign currency translation adjustments and unrealized losses on available-for-sale securities, net of tax, the impact of which has been excluded from earnings and reflected as components of stockholders' equity as shown below (in thousands):
Note 12 — Stockholders’ Equity
Common Stock Repurchase Program
On April 16, 2015, our Board of Directors authorized a program to repurchase up to $25.0 million of outstanding common stock. Under the authorized stock repurchase program, we may repurchase shares from time-to-time on the open market. The pace of repurchase activity will depend on levels of cash generation, current stock price and other factors. The stock repurchase program was announced on April 16, 2015 and expires on April 15, 2016. The program may be modified or discontinued at any time. During the three months ended September 26, 2015, under this repurchase authorization, we repurchased and retired 472,800 shares of common stock for approximately $3.5 million. During the nine months ended September 26, 2015, under this repurchase authorization, we repurchased 873,162 shares of common stock for approximately $7.0 million.
Repurchased shares are retired upon the settlement of the related trade transactions. Our policy related to repurchases of our common stock is to charge the excess of cost over par value to additional paid-in capital. All repurchases were made in compliance with Rule 10b-18 under the Securities Exchange Act of 1934, as amended.
Restricted Stock Units
Restricted stock unit (RSU) activity under our equity incentive plan during the nine months ended September 26, 2015 is set forth below:
On May 28, 2015, we issued 195,000 RSUs to seven senior executives of our company that will vest based on certain market performance criteria. The performance criteria are based on a metric called our Total Shareholder Return (TSR) for the period from April 1, 2015 to March 31, 2017 relative to the TSR of the companies identified as being part of the S&P Semiconductor Select Industry Index (FormFactor peer companies), as of April 1, 2015. The total stock-based compensation cost of approximately $1.5 million will be recognized ratably over the requisite service period.
On May 5, 2014, we issued 350,000 RSUs to seven senior executives of our company that will vest based on certain market performance criteria. The performance criteria are based on our TSR for the period from April 1, 2014 to March 31, 2016 relative to the TSR of the companies identified as being part of the S&P Semiconductor Select Industry Index (FormFactor peer companies), as of April 1, 2014. The total stock-based compensation cost of approximately $1.8 million will be recognized ratably over the requisite service period.
On May 6, 2013, we issued 355,000 RSUs to seven senior executives and one non-executive of our company that would vest based on certain market performance criteria. The performance criteria were based on our TSR for the period from April 1, 2013 to March 31, 2015 relative to the TSR of the companies identified as being part of the S&P Semiconductor Select Industry Index (FormFactor peer companies), as of April 1, 2013. On April 8, 2015, upon the review of the market performance criteria, our Compensation Committee certified a total earn out of 443,750 RSUs which immediately vested as of that date.
The total fair value of RSUs vested during the three months ended September 26, 2015 was insignificant. The total fair value of RSUs vested during the nine months ended September 26, 2015 was $17.5 million. The total fair value of RSUs vested during the three and nine months ended September 27, 2014 was $0.2 million and $7.3 million, respectively.
During the nine months ended September 26, 2015, we granted 450,000 stock options to our Chief Executive Officer with a grant-date fair value of approximately $1.7 million which will be recognized as stock compensation expense ratably over the service period. The following weighted average assumptions were used in the estimated grant-date fair value calculations using the Black-Scholes option pricing model:
During the nine months ended September 27, 2014, we did not grant any stock options.
Note 13 — Stock-Based Compensation
We account for all stock-based compensation to employees and directors, including grants of RSUs and stock options, as stock-based compensation costs 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.
The table below shows stock-based compensation charges included in the Condensed Consolidated Statements of Operations (in thousands):
During the nine months ended September 26, 2015, we recorded stock-based compensation expense of approximately $0.5 million relating to a full-time employee who was impacted by our restructuring activities. Hence, we classified this stock-based compensation expense as a restructuring expense. The table above does not include this expense. Refer to Note 4 to the Condensed Consolidated Financial Statements - Restructuring Charges for further details.
Employee Stock Purchase Plan
Under our 2012 Employee Stock Purchase Plan ("ESPP"), the offering periods are 12 months commencing on February 1 of each calendar year and ending on January 31 of the subsequent calendar year, and a six month fixed offering period commencing on August 1 of each calendar year and ending on January 31 of the subsequent calendar year. The 12 month offering period consists of two six month purchase periods and the six month offering period consists of one six month purchase period. The price of the common stock purchased is 85% of the lesser of the fair market value of the common stock on the first day of the applicable offering period or the last day of each purchase period.
During the three months ended September 26, 2015 and September 27, 2014, we issued 262,788 and 265,467 ESPP shares, respectively. During the nine months ended September 26, 2015 and September 27, 2014, we issued 565,493 and 586,386 ESPP shares, respectively.
The following weighted-average assumptions were used in estimating the fair value of employees' purchase rights under our approved employee stock purchase plans:
Unrecognized Compensation Costs
At September 26, 2015, 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 for the three and nine months ended September 26, 2015 and September 27, 2014, respectively, was computed by dividing net loss by the weighted-average number of common shares outstanding for the 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 is as follows (in thousands):
The following table sets forth the weighted-average number 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
We recorded an income tax provision of $0.2 million and $0.4 million for the three and nine months ended September 26, 2015 and $0.1 million and $0.4 million for the three and nine months ended September 27, 2014, respectively. Income tax provisions reflect the tax provision on our operations in the foreign and U.S jurisdictions offset by tax benefit from lapsing of statute of limitations in foreign jurisdictions. We continue to maintain a valuation allowance for our U.S. Federal and State deferred tax assets.
Note 16 — Commitments and Contingencies
Contractual and purchase obligations
We lease facilities under non-cancellable operating leases with various expiration dates through 2021. The facilities generally require us to pay property taxes, insurance and maintenance costs. Further, several lease agreements contain rent escalation clauses or rent holidays. For purposes of recognizing minimum rental expenses on a straight-line basis over the terms of the leases, we use the date of initial possession to begin amortization. We have the option to extend or renew most of our leases, which may increase the future minimum lease commitments.
Purchase obligations are primarily for purchases of inventory and manufacturing related service contracts. Purchase obligations are defined as agreements that are enforceable and legally binding and that specify all significant terms, including: fixed or minimum quantities to be purchased; fixed, minimum or variable price provisions; and the approximate timing of the transaction. Timing of payments and actual amounts paid may be different depending on the time of receipt of goods or services or changes to agreed-upon amounts for some obligations.
Our lease and purchase obligations have not materially changed as of September 26, 2015 from those disclosed in our Annual Report on Form 10-K for the year ended December 27, 2014.
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, County of Santa Clara Department of Environmental Health, County of San Diego Hazardous Materials Division and Encino Water District, and the California Division of Occupational Safety and Health. We did not receive any notices of violations of environmental laws and regulations during the nine months ended September 26, 2015, or in our fiscal 2014. We do not believe that any loss from existing environmental remediation liabilities would have a material impact on our financial condition.
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, amended enforcement practices around 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.
We have entered, and may 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 products or services infringe a third party's intellectual property or cause property or other damages and indemnities in favor of 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 be paid 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. We believe that substantially all of our indemnity arrangements provide either for limitations on the maximum potential future payments we could be obligated to make, or for limitations on the types of claims and damages we could be obligated to indemnify, or both. However, 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, a lack of 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 material requests for indemnification under these arrangements. Our management believes that any liability for these indemnity arrangements would not be material to our accompanying consolidated financial statements. We have not recorded any liabilities for these indemnification arrangements on our consolidated balance sheet as of September 26, 2015.
From time to time, we may be subject to legal proceedings and claims in the ordinary course of business. For the nine months ended September 26, 2015, we were not involved in any material legal proceedings. We identify below in "Other Litigation", a proceeding filed in fiscal 2013, which, if not resolved amicably, either (i) includes allegations that could potentially result in a material legal proceeding, or (ii) the cost to defend the allegations through trial could be material. In the future we may become a party to additional legal proceedings that may require us to spend significant resources, including proceedings designed to protect our intellectual property rights. Litigation 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.
Customs and Trade Matters
From time to time, we receive communications from certain jurisdictions regarding customs and indirect tax matters such as customs duties and value added taxes. For the nine months ended September 26, 2015, we did not receive any communications from jurisdictions regarding any material customs duties or indirect tax matters.
Intellectual Property Litigation
In the ordinary course of business, the Company has been, currently is, and may in the future be, involved in litigation relating to intellectual property, as well as third party initiated patent office proceedings in the United States and foreign patent offices.
In March 2014, we filed a lawsuit against MarTek, Inc., a company headquartered in Tempe, Arizona ("MarTek"), asserting breach of contract, copyright infringement and related claims arising out of a licensing agreement we entered into with MarTek for the use by MarTek of certain intellectual property assets (the “IP”) relating to probers that we acquired from the bankruptcy of Electroglas, Inc. MarTek asserted counterclaims against us for breach of contract and related claims regarding that license.
On July 13, 2015 (the "closing date"), we entered into an agreement with MarTek under which the parties agreed to dismiss the pending litigation and release each other from any and all claims relating to the license agreement or the IP through the closing date. As part of the agreement, we agreed to sell the IP to MarTek for $2 million, of which $1.2 million was received on July 17, 2015 and the remaining $0.8 million is in the form of a promissory note secured by the IP and scheduled to be repaid by MarTek in two equal tranches on the first and second anniversary of the closing date. During the three months ended September 26, 2015, we recognized a net gain of approximately $1.0 million (which was classified in our Condensed Consolidated Statement of Operations under Other Income (Expense), net) from the agreement proceeds received on July 17, 2015.
In August 2013, a former employee (“Plaintiff”) filed a class action lawsuit against the Company in the Superior Court of California, alleging violations of California’s wage and hour laws and unfair business practices on behalf of himself and all other similarly situated current and former employees at the Company’s Livermore facilities from August 21, 2009, to the present. The Plaintiff's motion to certify a class is pending. Procedurally, the case is still in the early stages of litigation. The Company denies the allegations made by the Plaintiff, and believes it has significant defenses to the claims made in the lawsuit. If the matter is not settled, the Company could incur material attorneys' fees in defending the lawsuit.
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 are not designated as hedging instruments. We record the fair value of these contracts as of the end of our reporting period to our Condensed Consolidated Balance Sheet with changes in fair value recorded within “Other income (expense), net” in our Condensed Consolidated Statements of Operations for both realized and unrealized gains and losses.
The following table provides information about our foreign currency forward contracts outstanding as of September 26, 2015 (in thousands):
The contracts were entered into on September 25, 2015 and matured on October 23, 2015. Our foreign currency contracts are classified within Level 2 of the fair value hierarchy as they are valued using pricing models that utilize observable market inputs. There was no change in the value of these contracts as of September 26, 2015. Additionally, no gains or losses relating to the outstanding derivative contracts were recorded in the three and nine months ended September 26, 2015.
The location and amount of losses and gains related to non-designated derivative instruments that matured in the three and nine months ended September 26, 2015 and September 27, 2014 in the Condensed Consolidated Statements of Operations are as follows (in thousands):
Note 18 — Business Interruption Insurance Claim Recovery
During the nine months ended September 26, 2015, we received approximately $1.5 million as a result of a payment from our insurer arising from a business interruption insurance claim related to a factory fire at a customer during the second half of fiscal 2013. We recorded this cash receipt within “Other income (expense), net” in our Condensed Consolidated Statements of Operations.
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
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 and uncertainties. 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," "will," "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 on Form 10-Q are based upon information available to us as of the filing date of this Quarterly Report on Form 10-Q. You should not place undue reliance on these forward-looking statements. We have no obligation to update any of these statements. 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 27, 2014 and elsewhere in this Quarterly Report on Form 10-Q. 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 on Form 10-Q. 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 advanced semiconductor probe card products, and are the largest supplier worldwide of those products. Semiconductor manufacturers use our probe cards to perform wafer test (also known as wafer sort), which is the testing of the semiconductor die, or chips, while those die are still constituted on the semiconductor wafer. Wafer test enables semiconductor manufacturers to determine whether chips will meet specifications and be saleable once the wafer is diced, and the die are singulated and individually packaged. Given the relatively high per-die costs of singulation and packaging processes, and the fact that semiconductor process yields are typically less than 100%, meaning that some of the die on a wafer are expected to be defective, there is often a compelling economic reason to perform wafer test. Probe cards are a critical element in enabling that wafer test process.
Historically, sales for probe cards for testing Dynamic Random Access Memory, or DRAM, devices have made up the majority of our revenues. In October 2012, we completed the acquisition of Astria Semiconductor Holdings, Inc., including its subsidiary Micro-Probe Incorporated (together "MicroProbe"). The majority of MicroProbe's revenue was made up of sales of probe cards for testing System-on-Chip, or SoC, devices.
We generated net loss of $(0.9) million in the first nine months of fiscal 2015 as compared to a net loss of $(17.3) million in the first nine months of fiscal 2014. The decrease in net loss is primarily attributable to our increased revenues and our ongoing cost reduction efforts.
Our cash, cash equivalents and marketable securities and restricted cash totaled approximately $184.3 million as of September 26, 2015, as compared to approximately $164.3 million at December 27, 2014. The increase in our cash, cash equivalents and marketable securities balances was primarily due to improved operating results, net of investments in working capital to grow revenues. We generated $5.1 million, $7.1 million, and $7.8 million of cash in the third, second and first fiscal quarters of 2015, respectively, as compared to generating $5.3 million, $5.0 million and using $(7.1) million of cash in the third, second and first fiscal quarters of 2014, respectively. We believe that we will be able to satisfy our working capital requirements for at least the next twelve months with the liquidity provided by our existing cash, cash equivalents and marketable securities. If we are unsuccessful in maintaining or growing our revenues, or maintaining or reducing our cost structure in an industry downturn, or increasing our available cash through financing, our cash, cash equivalents and/or marketable securities could decline in future fiscal years.
We believe the following information is important to understanding our business, our financial statements and the remainder of this discussion and analysis of our financial condition and results of operations:
Revenues. We derive substantially all of our revenues from product sales of 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, the penetration of new markets and through acquisition. We expect that revenues from the sale of 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, manufacturing-related overhead and amortization of certain intangible assets. 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, inventory provisions and amortization of certain intangible assets as cost of revenues.
We design, manufacture and sell custom advanced probe cards into the semiconductor test market, which is subject to significant variability and demand fluctuations. Our 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 probe cards are manufactured in low volumes, 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 probe cards. We record an adjustment to our inventory valuation for estimated excess, obsolete and non-sellable inventories based on assumptions about future demand, past usage, 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. Research and development costs are expensed as incurred. We plan to continue to invest in research and development activities to improve and enhance existing product technologies and to develop new technologies for current and new products and for new applications.
Selling, General and Administrative. Selling, general and administrative expenses include expenses related to sales, marketing, administrative personnel, internal and outside sales representatives' commissions, market research and consulting, and other sales, marketing, administrative activities, amortization of certain intangible assets, and provision for doubtful accounts. These expenses also include costs for protecting and enforcing our intellectual property 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.
Impairment of Long-Lived Assets. Asset impairment charges include charges associated with the write-down of assets that have no future expected benefit or for assets that have been determined to be impaired as well as adjustments to the carrying amount of our assets held for sale.
Results of Operations
The following table sets forth our operating results as a percentage of revenues for the periods indicated:
Three and nine months ended September 26, 2015 and September 27, 2014:
Revenues by Market
Revenues for the three months ended September 26, 2015 decreased 11%, or approximately $8.1 million, as compared to the corresponding period in the prior year. Revenues for the nine months ended September 26, 2015 increased 7%, or approximately $13.3 million, as compared to the corresponding period in the prior year. For the three months ended September 26, 2015, our revenue decreased 7% in our SoC products, 13% in our DRAM products and 39% in our Flash memory products, as compared to the corresponding period in the prior year. For the nine months ended September 26, 2015, our revenue decreased 1% in our SoC products, increased 22% in our DRAM products and decreased 24% in our Flash memory products, as compared to the corresponding period in the prior year.
The decrease in our DRAM revenues for the three months ended September 26, 2015 was primarily due to reduced commodity DRAM market demand. The increase in DRAM revenues for the nine months ended September 26, 2015 was primarily driven by market share increases at a major South Korean memory producer, based on the adoption of our SmartMatrix product.
The decrease in SoC revenue for the three and nine months ended September 26, 2015 was primarily due to reduced mobile processor and gaming system processor demand.
The decrease in Flash memory revenue for the three and nine months ended September 26, 2015 was primarily due to a combination of a weakening NOR Flash memory market and pricing pressure for our NAND Flash products partially offset in the nine month period by increased demand for our TouchMatrix product to test NAND Flash devices at a South Korean memory producer.
Revenues by Geographic Region
The following table sets forth our revenues by geographic region for the periods indicated:
Geographic revenue information is based on the location to which we ship the customer product. For example, if a certain South Korean customer purchases through their North American subsidiary and requests the products to be shipped to an address in Asia-Pacific, this sale will be reflected in the revenue for Asia-Pacific rather than North America.
The change in revenues from our geographical regions for the three and nine months ended September 26, 2015, when compared to the same periods in fiscal 2014, were primarily driven by:
•South Korea revenues increased for both the three and nine month periods driven primarily by a combination of market share increases at a major South Korean customer based on the adoption of our SmartMatrix product and increased SoC product shipments related to mobile processor demand;
•North America revenues decreased for both the three and nine month periods driven primarily by a shift of SoC product shipments for personal computer processors to customers’ test facilities in Europe;
•Taiwan revenues increased for the nine month period driven primarily by a combination of increased SoC product shipments and an increase in commodity or personal computer DRAM demand, with revenues relatively flat year over year for the three month period;
•Asia-Pacific revenues decreased for the three month period driven primarily by reduced sales of our SmartMatrix DRAM products in that region. Revenues were relatively flat year over year for the nine month period;
•Japan revenues decreased for both the three and nine months periods driven primarily by lower mobile DRAM demand served by our SmartMatrix product; and
•Europe revenues increased for both the three and nine months periods driven primarily by a shift of SoC product shipments for personal computer processors to customers’ test facilities in Europe as opposed to in North America, which was partially offset by reduced mobile processor related product demand.
The following customers accounted for more than 10% of our revenues for the periods indicated:
* Less than 10% of revenues.
Gross profit fluctuates with revenue levels, product mix, selling prices, factory loading, and material costs.
For the three months ended September 26, 2015, the amount of gross profit decreased compared to the same period in the prior year primarily due to less favorable product mix, and decreased demand for our products resulting in lower factory utilization.
For the nine months ended September 26, 2015, the amount of gross profit increased compared to the same period in the prior year, primarily due to higher production volume driven by higher sales. Factory utilization, execution and operating efficiency improved. We also increased production yields and reduced obsolete inventory charges and acquisition-related intangible amortization expense.
Our inventory reserve charges increased by $0.2 million and declined by $0.7 million for the three and nine months ended September 26, 2015 when compared to the corresponding periods in the prior year. For the three and nine months ended September 26, 2015, the value of previously reserved materials that were used in manufacturing and shipped was $0.4 million and $2.0 million, respectively.
Gross profit included stock-based compensation expense of $0.8 million and $1.9 million, respectively, for the three and nine months ended September 26, 2015, compared to $0.7 million and $1.9 million, respectively, for the three and nine months ended September 27, 2014.
Future gross margins may be adversely impacted by lower levels of product revenues, even though we have taken significant steps to reduce our operating cost structure. Our gross margins may also be adversely affected if we are required to record additional inventory provision charges and inventory write-downs if estimated average selling prices of products held in finished goods and work in process inventories are below the manufacturing cost of those products.
Research and Development