FormFactor, Inc. 2016 Q3 Form 10-Q Summary
Business context and reporting period
FormFactor designs and manufactures semiconductor probe cards and, following its June 24, 2016 acquisition of Cascade Microtech, advanced wafer probing, thermal and reliability systems. The filing covers the three and nine months ended September 24, 2016, compared with September 26, 2015. Cascade’s results are included only for the third quarter of 2016, so nine-month comparisons are not fully comparable.
Key financial metrics
| Metric | Q3 2016 | Q3 2015 | 9M 2016 | 9M 2015 |
|---|---|---|---|---|
| Revenue | $123.3 million | $65.9 million | $260.0 million | $210.6 million |
| Gross profit | $27.2 million | $18.5 million | $62.4 million | $64.5 million |
| Gross margin | 22.1% | 28.0% | 24.0% | 30.7% |
| Operating loss | $13.2 million | $3.4 million | $33.4 million | $3.3 million |
| Net income (loss) | $(14.2) million | $(2.5) million | $8.9 million | $(0.9) million |
| Diluted EPS | $(0.20) | $(0.04) | $0.14 | $(0.02) |
| Operating cash flow | Not separately provided | Not separately provided | $2.5 million | $29.2 million |
- Q3 revenue increased 87.2%, primarily from the Cascade acquisition and strong Foundry & Logic demand. Nine-month revenue increased 23.5%.
- Q3 Probe Cards revenue was $102.7 million and Systems revenue was $20.6 million. Probe Cards represented approximately 83% of Q3 revenue.
- Foundry & Logic revenue increased 105.9% in Q3 and 61.9% for nine months; DRAM revenue declined 18.8% in Q3 and 35.4% for nine months.
- Cash, cash equivalents and marketable securities totaled approximately $107.4 million at September 24, 2016, compared with $187.6 million at December 26, 2015. Including restricted cash, reported liquidity was approximately $108.0 million.
- Accounts receivable were $77.5 million and inventories were $60.7 million at quarter-end. Days sales outstanding increased to 58 days from 45 days at year-end 2015.
- Term loan debt was $148.1 million gross, or $146.7 million net of issuance costs. The loan carries interest at LIBOR plus 2.00% initially, matures in 2021, and is hedged with an interest-rate swap.
Material changes versus the prior comparable period
- The Cascade Microtech acquisition added the Systems segment and substantially expanded revenue, assets and operating expenses. Total acquisition consideration was $325.1 million net of cash acquired, including $255.9 million of cash and $93.2 million of FormFactor stock.
- Goodwill increased to $188.8 million from $30.7 million, while intangible assets increased to $152.4 million from $25.6 million. The purchase-price allocation remained preliminary.
- Gross margin declined because of acquisition-related intangible amortization, lower utilization, capacity investments, late delivery fees and weaker DRAM conditions. Q3 included $17.8 million of intangible amortization in cost of revenues.
- Operating expenses increased materially: Q3 research and development was $17.3 million versus $10.6 million, and selling, general and administrative expense was $23.0 million versus $11.1 million.
- Nine-month restructuring charges increased to $7.0 million from $0.6 million, largely due to severance and accelerated equity awards associated with the Cascade acquisition.
- Nine-month net income was driven primarily by a $43.9 million income-tax benefit from releasing a valuation allowance on deferred tax assets after acquisition-related deferred tax liabilities were recognized. This benefit was non-recurring in nature.
- Cash flow weakened substantially: operating cash flow fell to $2.5 million from $29.2 million, while investing cash flow was $(202.4) million, including $228.0 million for the Cascade acquisition.
Outlook, commentary, risks and unusual items
- Management stated that existing cash, cash equivalents and marketable securities should satisfy working-capital requirements for at least the next twelve months, but cautioned that weaker revenue, an industry downturn or failure to reduce costs could reduce liquidity.
- Management expects restructuring cash payments to be completed by the end of the second quarter of fiscal 2017.
- Key operating risks include semiconductor industry cyclicality, price erosion, rapid technological change, short product life cycles, customer concentration, reliance on limited or sole-source suppliers, inventory write-downs and factory-utilization sensitivity.
- Intel accounted for 28.9% of Q3 revenue and 34.8% of nine-month revenue. One customer represented approximately 27% of gross accounts receivable at quarter-end.
- Integration risks from Cascade include failure to realize synergies, employee retention issues, customer or supplier disruption, unexpected liabilities, higher integration costs and pressure from the new debt obligations and financial covenants.
- The company was in compliance with its term-loan covenants as of September 24, 2016. Debt is secured by substantially all company and guarantor assets and restricts additional debt, liens, dividends, investments and certain dispositions.
- Pending legal matters include a putative shareholder class action related to the Cascade merger and a certified California wage-and-hour class action. The filing does not provide a clear estimate of potential losses.
- The company reported effective disclosure controls and no material changes to internal controls other than ongoing integration of Cascade’s controls.
Important facts for investors to verify
- Whether Cascade integration produces the expected revenue growth, cost savings and operational synergies.
- Whether the company can restore gross margins after acquisition-related amortization and address DRAM weakness, utilization issues and inventory exposure.
- Compliance with the term-loan leverage and fixed-charge coverage covenants as operating results and cash flow develop.
- The sustainability of liquidity after the acquisition and the company’s ability to generate sufficient operating cash to fund debt service and capital expenditures.
- The final purchase-price allocation, including goodwill, identifiable intangibles, deferred taxes and any subsequent measurement-period adjustments.
- The effect of customer concentration, foreign exchange movements and supplier constraints on future revenue and margins.
- The status and potential financial impact of the merger-related and wage-and-hour litigation.