FormFactor, Inc. — Q3 2013 Form 10-Q Summary
Business context and reporting period
FormFactor designs, manufactures, sells, and supports advanced semiconductor wafer probe cards used in wafer sort and test. The company operates in a single industry segment and serves DRAM, Flash memory, and system-on-chip markets. This unaudited quarterly report covers the three and nine months ended September 28, 2013, compared with September 29, 2012. Fiscal 2013 ends December 28, 2013.
The results include the MicroProbe acquisition, completed October 16, 2012. MicroProbe contributed $25.2 million of third-quarter revenue and $67.7 million of nine-month revenue.
Financial performance and liquidity
| Metric | Q3 2013 | Q3 2012 | 9M 2013 | 9M 2012 |
|---|---|---|---|---|
| Revenue | $67.6 million | $41.3 million | $183.0 million | $130.9 million |
| Gross profit | $12.5 million | $8.2 million | $38.0 million | $28.5 million |
| Gross margin | 18.5% | 19.8% | 20.8% | 21.8% |
| Operating loss | $10.9 million | $14.6 million | $39.9 million | $39.1 million |
| Net loss | $10.7 million | $14.5 million | $38.9 million | $36.1 million |
| Loss per diluted share | $0.20 | $0.29 | $0.72 | $0.73 |
Revenue increased 63.9% in the quarter and 39.8% for the first nine months. Gross margin declined because of lower manufacturing utilization, lower margins on a high-volume DRAM design, higher warranty and service expenses, and increased excess-inventory charges. Operating expenses were $23.4 million in Q3 and $77.9 million year to date.
- Market revenue: Q3 DRAM revenue rose 11.0% to $28.9 million; Flash declined 15.4% to $7.1 million; and SoC increased 359.8% to $31.7 million, primarily from MicroProbe.
- Cash flow: Nine-month operating cash use was $2.6 million, improved from $15.5 million in the prior-year period. Investing cash use was $11.5 million, including $7.4 million of capital expenditures and net marketable-security purchases. Financing cash provided was $2.1 million.
- Cash and investments: Cash and cash equivalents were $59.5 million and marketable securities were $96.9 million at September 28, 2013. Including restricted cash, total liquidity was approximately $156.8 million, compared with approximately $166.1 million at December 29, 2012.
- Balance sheet: Working capital was $186.0 million. Total assets were $372.9 million and total liabilities were $62.3 million. Capital lease obligations totaled $0.4 million; the filing does not report conventional long-term debt.
- Operating working capital: Accounts receivable rose to $46.3 million and days sales outstanding increased to 55 days from 49 days. Inventory was $22.4 million, including a $7.8 million year-to-date provision for excess and obsolete inventory.
Material changes versus the prior comparable periods
- Revenue growth was primarily acquisition-driven in SoC products, while DRAM improved in the third quarter but declined for the nine-month period and Flash weakened in both periods.
- Q3 net loss improved by $3.8 million year over year, but nine-month net loss increased by $2.7 million. The year-to-date deterioration reflected higher restructuring costs, acquisition-related amortization, inventory and backlog step-up amortization, and $1.3 million of acquisition and integration costs.
- Research and development expense increased to $10.3 million in Q3 and $32.1 million year to date, but declined as a percentage of revenue. Selling, general and administrative expense increased in dollars but declined to 19.2% of Q3 revenue from 28.1%.
- The Q1 2013 restructuring plan reduced the workforce by 31 employees and approximately 20 temporary positions, suspended next-generation DRAM Matrix development, and terminated a SoC platform. The company recorded approximately $4.0 million of related charges and expects quarterly savings of $2.0 million to $2.5 million, excluding stock compensation.
- Property, plant and equipment declined to $36.9 million from $45.5 million, while intangible assets declined to $61.5 million from $74.3 million primarily due to amortization.
Guidance, outlook, risks, and unusual items
Management stated that demand declined significantly late in the third quarter because of execution challenges that led one customer to withhold orders and because a fire at SK Hynix’s Wuxi facility affected probe-card orders. Lower demand and factory utilization, unfavorable DRAM pricing and mix, higher warranty and service costs, and increased inventory charges are expected to adversely affect fourth-quarter revenue and profitability. The filing does not provide a specific fourth-quarter revenue or earnings forecast.
Management believes existing cash, cash equivalents, and marketable securities will satisfy working-capital requirements for the next twelve months, but cautions that liquidity could decline if revenue, operating efficiency, cost reductions, cash outlays, or financing do not improve. Potential future impairment charges are reasonably possible if forecast cash flows are not achieved.
- Customer concentration remained significant: Micron represented 19.0% of Q3 revenue, Intel 15.5%, and SK Hynix 12.4%. The three largest customers represented 46.9% of Q3 revenue.
- The semiconductor industry is cyclical and exposed to price erosion, rapid technological change, short product cycles, competition, and demand volatility. Certain key components are available from only a limited number of suppliers.
- A purported California class action alleging wage and employment practices was filed in August 2013. The company stated that it lacked sufficient information to assess exposure.
- The company had $17.0 million of unrecognized tax benefits at September 28, 2013 and maintains valuation allowances on U.S. federal and state deferred tax assets.
- The company sold TMMC in June 2013 for $1.0 million of consideration, including a $0.8 million note receivable discounted to approximately $0.5 million, and recorded a $0.3 million loss.
- There were no material changes to previously disclosed risk factors, no material environmental liabilities accrued, and no off-balance-sheet arrangements.
Important facts for investors to verify
- Whether the late-quarter demand disruption, SK Hynix fire impact, and customer execution issues persist into the fourth quarter.
- The sustainability of the 18.5% Q3 gross margin given utilization, DRAM product mix, warranty costs, and inventory provisions.
- MicroProbe integration performance and the level of recurring versus acquisition-related revenue, amortization, and operating costs.
- Cash burn, collections, inventory levels, and customer concentration, particularly given the 55-day DSO and narrow customer base.
- Potential additional impairment, restructuring, warranty, inventory, tax, or litigation charges.
- Progress and realized savings from the restructuring plan, including the suspended DRAM and terminated SoC development programs.