FORMFACTOR INC - Quarter Report: 2011 March (Form 10-Q)

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

Form 10-Q

 

(Mark one)

 

x	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 26, 2011
Or
o	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from            to

 

Commission file number: 000-50307

 

FormFactor, Inc.

(Exact name of registrant as specified in its charter)

 

 

7005 Southfront Road, Livermore, California 94551

(Address of principal executive offices, including zip code)

 

(925) 290-4000

(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 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 April 27, 2011, 50,647,868 shares of the registrant’s common stock, par value $0.001 per share, were outstanding.

 

 

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FORMFACTOR, INC.

 

FORM 10-Q FOR THE QUARTERLY PERIOD ENDED MARCH 26, 2011

 

INDEX

 

Part I.	Financial Information
Item 1.	Financial Statements (Unaudited):
	Condensed Consolidated Statements of Operations for the three months ended March 26, 2011 and March 27, 2010	3
	Condensed Consolidated Balance Sheets as of March 26, 2011 and December 25, 2010	4
	Condensed Consolidated Statements of Cash Flows for the three months ended March 26, 2011  and March 27, 2010	5
	Notes to Condensed Consolidated Financial Statements	6
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	18
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	27
Item 4.	Controls and Procedures	27
Part II.	Other Information
Item 1.	Legal Proceedings	28
Item 1A.	Risk Factors	28
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	29
Item 6.	Exhibits	30
Signatures		31
Exhibit Index		32

 

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PART I. FINANCIAL INFORMATION

 

Item 1. Financial Statements (Unaudited)

 

FORMFACTOR, INC.

 

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per share amounts)

(Unaudited)

 

		Three Months Ended
		March 26, 2011			March 27, 2010
Revenues		$	40,428		$	39,666
Cost of revenues		36,359			41,994
Gross profit (loss)		4,069			(2,328		)
Operating expenses:
Research and development		11,560			15,091
Selling, general and administrative		12,387			17,867
Restructuring charges, net		1,038			3,550
Impairment of long-lived assets		351			—
Total operating expenses		25,336			36,508
Operating loss		(21,267		)	(38,836		)
Interest income, net		424			775
Other income (expense), net		(374		)	117
Loss before income taxes		(21,217		)	(37,944		)
Provision for income taxes		207			240
Net loss		$	(21,424	)	$	(38,184	)
Net loss per share:
Basic and Diluted		$	(0.42	)	$	(0.77	)
Weighted-average number of shares used in per share calculations:
Basic and Diluted		50,636			49,890

 

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

 

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FORMFACTOR, INC.

 

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands, except share and per share amounts)

(Unaudited)

 

		March 26, 2011			December 25, 2010
ASSETS
Current assets:
Cash and cash equivalents		$	116,142		$	121,207
Marketable securities		217,090			226,028
Restricted cash		383			383
Accounts receivable, net		23,648			28,598
Inventories		22,953			25,003
Deferred tax assets		278			329
Prepaid expenses and other current assets		11,321			14,743
Total current assets		391,815			416,291
Restricted cash		297			297
Property, plant and equipment, net		36,053			37,311
Deferred tax assets		4,877			5,445
Other assets		5,899			6,710
Total assets		$	438,941		$	466,054
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable		$	16,035		$	14,948
Accrued liabilities		15,555			24,045
Income taxes payable		—			1,894
Deferred revenue		4,774			4,637
Total current liabilities		36,364			45,524
Long-term income taxes payable		4,243			4,248
Deferred rent and other liabilities		5,071			5,081
Total liabilities		45,678			54,853
Commitments and contingencies (Note 16)
Stockholders’ equity:
Preferred stock, $0.001 par value:
10,000,000 shares authorized; no shares issued and outstanding at March 26, 2011 and December 25, 2010, respectively		—			—
Common stock, $0.001 par value:
250,000,000 shares authorized; 50,646,409 and 50,587,917 shares issued and outstanding at March 26, 2011 and December 25, 2010, respectively		52			52
Additional paid-in capital		654,486			651,263
Accumulated other comprehensive income		2,290			2,027
Accumulated deficit		(263,565		)	(242,141		)
Total stockholders’ equity		393,263			411,201
Total liabilities and stockholders’ equity		$	438,941		$	466,054

 

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

 

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FORMFACTOR, INC.

 

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

(Unaudited)

 

		Three months ended
		March 26,			March 27,
		2011			2010
Cash flows from operating activities:
Net loss		$	(21,424	)	$	(38,184	)
Adjustments to reconcile net income to net cash used in operating activities:
Depreciation and amortization		2,935			8,573
Amortization of investments		99			89
Stock-based compensation expense		3,969			5,258
Deferred income tax benefit		(45		)	(96		)
Benefit from doubtful accounts receivable		(294		)	(147		)
Provision for excess and obsolete inventories		2,267			1,200
Loss (gain) on disposal of long-lived assets		(14		)	175
Impairment of long-lived assets		351			—
Foreign currency transaction (gains) losses		(242		)	332
Changes in assets and liabilities:
Accounts receivable		5,338			(5,034		)
Inventories		(165		)	(6,353		)
Prepaid expenses and other current assets		2,579			(1,334		)
Refundable income taxes		(257		)	26,458
Other assets		533			—
Accounts payable		1,754			89
Accrued liabilities		(8,554		)	(1,478		)
Income tax payable		(1,157		)	(317		)
Deferred rent		(103		)	(149		)
Deferred revenues		136			701
Net cash used in operating activities		(12,294		)	(10,217		)
Cash flows from investing activities:
Acquisition of property, plant and equipment		(1,537		)	(7,342		)
Proceeds from sales of property, plant and equipment		15			—
Purchases of marketable securities		(51,853		)	(66,504		)
Proceeds from maturities of marketable securities		60,665			53,771
Net cash provided by (used in) investing activities		7,290			(20,075		)
Cash flows from financing activities:
Proceeds from issuances of common stock and awards, net of issuance costs		1,534			1,550
Purchase and retirement of common stock		(1,968		)	—
Net cash provided by (used in) financing activities		(434		)	1,550
Effect of exchange rate changes on cash and cash equivalents		373			(323		)
Net decrease in cash and cash equivalents		(5,065		)	(29,065		)
Cash and cash equivalents, beginning of period		121,207			122,043
Cash and cash equivalents, end of period		$	116,142		$	92,978
Supplemental cash flow disclosures:
Changes in accounts payable and accrued liabilities related to property and equipment purchases		$	(653	)	$	285
Income taxes paid		$	1,687		$	394

 

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

 

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FORMFACTOR, INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

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 months ended March 26, 2011 are not necessarily indicative of the results that may be expected for the year ending December 31, 2011, or for any other period. The balance sheet at December 25, 2010 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 25, 2010 included in our Annual Report on Form 10-K filed with the SEC on February 17, 2011.

 

Fiscal year.  We operate on a 52/53 week fiscal year, whereby the fiscal year ends on the last Saturday of December. Fiscal 2011 will end on December 31, 2011, and will consist of 53 weeks.

 

Reclassifications.  Certain reclassifications have been made to the prior period’s Condensed Consolidated Balance Sheet, Statement of Cash Flows and Statement of Operations to conform to the current year presentation.

 

Significant Accounting Policies.  Other than the accounting policies discussed in Note 2 — Recent Accounting Pronouncements and Other Reporting Considerations, our significant accounting policies have not materially changed during the three months ended March 26, 2011 from those disclosed in our Annual Report on Form 10-K for the year ended December 25, 2010.

 

Note 2 —Recent Accounting Pronouncements and Other Reporting Considerations

 

Fair Value

 

Effective December 26, 2010, as required, we adopted the guidance to amend the disclosure requirements related to recurring and nonrecurring fair value measurements.  Specifically, we have adopted the guidance requiring the disclosure of the roll forward of activities on purchases, sales, issuances and settlements of the assets and liabilities measured using significant unobservable inputs (Level 3 fair value measurements). Other than requiring additional disclosures, adoption of this new guidance in the first quarter of fiscal 2011 did not have a material impact on our consolidated financial statements.

 

Revenue Recognition

 

In October 2009, additional authoritative guidance that modifies accounting for revenue arrangements with multiple deliverables was issued. The guidance eliminates the residual method of revenue recognition and establishes a hierarchy for determining the selling price of a deliverable in a sale arrangement whereby the selling price for each deliverable is based on vendor-specific objective evidence (“VSOE”) if available, third-party evidence (“TPE”) if VSOE is not available, or estimated selling price if neither VSOE or TPE is available.  As required, we adopted this guidance effective December 26, 2010 on a prospective basis for revenue arrangements entered into or materially modified after the adoption date. The adoption of the additional authoritative guidance modifying revenue recognition accounting standards did not have any impact on our consolidated financial position, results of operations, or cash flows for the three months ended March 26, 2011, nor is it expected to have a material impact on total net revenues for the year ended December 31, 2011 based on current business practices.

 

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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 16%, 15%, 13% and 11% of total revenues during the three months ended March 26, 2011, and four customers represented 19%, 15%, 13% and 12% of total revenues during the three months ended March 27, 2010.  No other customer accounted for more than 10% of total revenues in either 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 March 26, 2011, four customers accounted for approximately 18%, 17%, 15% and 11% of gross accounts receivable.  At December 25, 2010, three customers accounted for approximately 21%, 19% and 11% of gross accounts receivable.  No other customer accounted for more than 10% of gross accounts receivable in either 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.

 

2010 Restructuring Activities

 

We recorded $3.6 million in restructuring charges in the three months ended March 27, 2010 as part of our then-current regionalization strategy (the “Q1 2010 Restructuring Plan”).  These charges consisted of termination benefits related to reductions in work force of 106 full-time positions, which were all related to severance and related benefits.  Subsequently, in the second quarter of fiscal 2010 we undertook a plan to rescind the previously issued severance arrangements for certain employees impacted by this plan, resulting in the reversal of $3.3 million of the accrual for severance costs booked in conjunction with the Q1 2010 Restructuring Plan, including the accrued retention bonus to date.  All activities related to this plan were completed during fiscal 2010.

 

In addition to the above, we executed certain additional restructuring actions during the remainder of fiscal 2010.  The ending restructuring accrual of $1.8 million as of December 25, 2010 reflects the unpaid amounts related to these actions as of that date.

 

2011 Restructuring Activities

 

In the first quarter of fiscal 2011, we implemented a restructuring plan (the “Q1 2011 Restructuring Plan”) including reducing our global workforce by 13 full-time employees across the organization. We recorded $1.1 million in charges for severance and related benefits during the quarter related to this plan. We expect that the activities comprising this reduction in workforce will be substantially completed by the end of the second quarter of fiscal 2011.

 

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 remaining cash payments associated with our various reductions in workforce are expected to be paid by the end of the second quarter of fiscal 2011.

 

The activities in the restructuring accrual for the three months ended March 26, 2011 were as follows (in thousands):

 

		Employee
		Severance			Contract
		and			Termination
		Benefits			and Other			Total
Accrual at December 25, 2010		$	1,382		$	451		$	1,833
Q1 2011 Restructuring Plan charges		1,082			—			1,082
Cash payments		(1,633		)	(53		)	(1,686		)
Other adjustments		(40		)	—			(40		)
Accrual at March 26, 2011		$	791		$	398		$	1,189

 

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Restructuring charges are reflected separately as ‘Restructuring charges, net’ in the Condensed Consolidated Statements of Operations. The remaining accrual as of March 26, 2011 that relates to severance and related benefits is expected to be paid out by the end of the second quarter of fiscal 2011, while the remaining accrual for contract termination costs was forgiven by the counterparty subsequent to the first fiscal quarter.  See Note 18 — Subsequent Events of the Notes to Condensed Consolidated Financial Statements for further discussion.  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 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 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. We apply the following fair value hierarchy, which prioritizes the inputs used in measuring fair value as follows: 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 instrument’s 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 (see Note 17—Derivative Financial Instruments of the Notes to Condensed Consolidated Financial Statements for discussion of fair value of foreign currency derivatives). The following tables represent the fair value hierarchy for our other financial assets (cash equivalents and marketable securities):

 

Fair value measured on a recurring basis as of March 26, 2011 (in thousands):

 

		Level 1			Level 2			Total
Assets:
Cash equivalents
Money market funds		$	76,388		$	—		76,388
Agency securities		—			5,000			5,000
Commercial paper		—			17,993			17,993
Marketable securities
U. S. Treasury		—			109,237			109,237
Agency securities		—			104,853			104,853
Commercial paper		—			3,000			3,000
Total		$	76,388		$	240,083		$	316,471

 

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Fair value measured on a recurring basis as of December 25, 2010 (in thousands):

 

		Level 1			Level 2			Total
Assets:
Cash equivalents
Money market funds		$	82,996		$	—		$	82,996
Commercial paper		—			16,991			16,991
Marketable securities
U. S. Treasury		—			105,865			105,865
Agency securities		—			108,173			108,173
Commercial paper		—			11,990			11,990
Total		$	82,996		$	243,019		$	326,015

 

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. Broker’s 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 significant transfers of assets measured at fair value on a recurring basis to or from Level 1 and Level 2 during the fiscal quarters ended March 26, 2011 and March 27, 2010.

 

Assets Measured at Fair Value on a Nonrecurring Basis

 

The following table represents the fair value hierarchy for our long-lived assets measured at fair value on a nonrecurring basis as of March 26, 2011 (in thousands):

 

		Level 3			Total			Total Gains (Losses) Three Months Ended March 26, 2011
Long-lived assets held for sale		$	389		$	389		$	—
Total		$	389		$	389		$	—

 

At the end of fiscal 2010, we had a building held for sale in Livermore, California, which was classified as Level 2 because the updated estimated fair value of the building was determined using inputs that reflected the assumptions market participants would use in pricing the building developed based on market data obtained from sources independent of us.  During the quarter ended March 26, 2011 we placed this building back into service at its carrying value of $0.8 million, resulting in a reclassification of the balance from ‘Prepaid expenses and other current assets’ to ‘Property and equipment, net’ in the Condensed Consolidated Balance Sheet as of March 26, 2011.   See Note 10 — Long-lived Assets of the Notes to the Condensed Consolidated Financial Statements for more information.

 

At the end of fiscal 2010, we also had certain manufacturing equipment held for sale in Livermore, California which was classified as Level 3 as we used unobservable inputs in their 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.  As of both March 26, 2011 and December 25, 2010, our held for sale assets in Livermore were valued at $0.4 million and continued to be classified as Level 3 based on the fact that we used unobservable inputs in their 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.

 

Other than the building previously held for sale that was put into service during the three months ended March 26, 2011, we did not have any assets that were transferred to or from Level 3 during the fiscal quarters ended March 26, 2011 and March 27, 2010.

 

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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 in accumulated other comprehensive income until realized.

 

Marketable securities at March 26, 2011 consisted of the following (in thousands):

 

					Gross			Gross
		Amortized			Unrealized			Unrealized			Fair
		Cost			Gains			Losses			Value
U. S. Treasury		$	108,951		$	293		$	(7	)	$	109,237
Agency Securities		105,002			16			(165		)	104,853
Commercial Paper		3,000			—			—			3,000
		$	216,953		$	309		$	(172	)	$	217,090

 

Marketable securities at December 25, 2010 consisted of the following (in thousands):

 

					Gross			Gross
		Amortized			Unrealized			Unrealized			Fair
		Cost			Gains			Losses			Value
U. S. Treasury		$	105,513		$	372		$	(20	)	$	105,865
Agency Securities		108,361			36			(224		)	108,173
Commercial Paper		11,988			2			—			11,990
		$	225,862		$	410		$	(244	)	$	226,028

 

The marketable securities with gross unrealized losses have been in a loss position for less than 12 months as of March 26, 2011 and December 25, 2010, 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, review of current market liquidity, interest rate risk, the financial condition of the issuer, as well as 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 March 26, 2011 were as follows (in thousands):

 

		Amortized Cost			Fair Value
Due in one year or less		$	106,281		$	106,493
Due after one year to three years		110,672			110,597
		$	216,953		$	217,090

 

Realized gains and losses on sales and maturities of marketable securities were immaterial for the three months ended March 26, 2011 and March 27, 2010, respectively.

 

Note 7 — Allowance for Doubtful Accounts

 

We recorded a reduction in provision for doubtful accounts of $0.6 million in the first quarter of fiscal 2011 primarily due to the receipt of payments totaling $0.3 million for accounts receivable previously reserved and the write-off of previously reserved accounts receivable in the amount of $0.3 million. The allowance for doubtful accounts consisted of the following activity (in thousands):

 

		Three Months Ended
		March 26,			March 27,
		2011			2010
Beginning balance		$	847		$	9,260
Additions		—			—
Deductions		(610		)	(147		)
Ending balance		$	237		$	9,113

 

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Note 8 — Inventories

 

Inventories consisted of the following (in thousands):

 

		March 26,			December 25,
		2011			2010
Raw materials		$	5,878		$	2,736
Work-in-progress		11,777			16,807
Finished goods		5,298			5,460
		$	22,953		$	25,003

 

We record provisions for excess and obsolete inventory based on forecasts of future demand. While management believes the estimates and assumptions underlying its current forecasts are reasonable, there is risk that additional charges may be necessary if current forecasts are greater than actual demand.

 

Note 9 — Warranty

 

We offer warranties on certain products and record a liability for the estimated future costs associated with 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 Statement 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):

 

		Three Months Ended
		March 26,			March 27,
		2011			2010
Warranty accrual beginning balance		$	433		$	732
Accrual (release) of warranties during the period		(180		)	(396		)
Settlements made during the period		(64		)	(29		)
Warranty accrual ending balance		$	189		$	307

 

Note 10 — Long-lived Assets

 

Property, plant and equipment consisted of the following (in thousands):

 

		March 26,			December 25,
		2011			2010
Building		$	790		$	—
Machinery and equipment		119,480			115,847
Computer equipment and software		35,527			35,493
Furniture and fixtures		6,196			6,180
Leasehold improvements		70,037			69,934
		232,030			227,454
Less: Accumulated depreciation, amortization and enterprise-wide impairment		(210,727		)	(207,992		)
		21,303			19,462
Construction-in-progress		14,750			17,849
		$	36,053		$	37,311

 

During the quarter ended March 26, 2011 we placed a building previously identified as held for sale back into service at its carrying value of $0.8 million.  This amount represents the lesser of its carrying amount before the building was classified as held for sale, adjusted for any depreciation that would have been recognized had the building been continuously classified as held and used, or the fair value at the date of the subsequent decision not to sell. The building will be depreciated over its estimated remaining useful life of ten years.

 

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In the three months ended March 26, 2011 we wrote-off fully depreciated assets with an acquired cost of $0.2 million.  In addition, we recorded an impairment of $0.4 million related to the termination of aspects of an on-going project related to certain software development for internal use that had been recorded in construction-in-progress.  This impairment charge is included in “Impairment of long-lived assets” in the Condensed Consolidated Statements of Operations for the quarter ending March 26, 2011.

 

At March 26, 2011, the carrying amount of our intangible asset, which consists of purchased intellectual property, was $4.1 million, with $5.9 million as the gross amount and $1.8 million as the accumulated amortization. We recorded $0.3 million amortization expense for our intangible asset during the first fiscal quarter of 2011, of which $0.2 million was charged to cost of revenues and $0.1 million was charged to selling, general and administrative expense. The intangible asset had a remaining amortization period of 3.5 years at March 26, 2011. The intangible asset is included in ‘Other assets’ in the Condensed Consolidated Balance Sheets.

 

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):

 

		Three Months Ended
		March 26,			March 27,
		2011			2010
Net loss		$	(21,424	)	$	(38,184	)
Unrealized gain (loss) on investments, net		(27		)	14
Cumulative translation adjustments		290			(118		)
Comprehensive loss		$	(21,161	)	$	(38,288	)

 

Components of accumulated other comprehensive income were as follows (in thousands):

 

		March 26,			December 25,
		2011			2010
Unrealized loss on marketable securities, net of tax of $299 at March 26, 2011 and December 25, 2010, respectively		$	(163	)	$	(136	)
Cumulative translation adjustments		2,453			2,163
Accumulated other comprehensive income		$	2,290		$	2,027

 

Note 12 — Stockholders’ Equity

 

Common Stock Repurchase Program

 

On October 20, 2010, our Board of Directors authorized a program to repurchase up to $50.0 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 October 26, 2010 and expires on October 19, 2011. The program may be modified or discontinued at any time.  During fiscal year 2010 we repurchased and retired 70,000 shares of common stock for $0.6 million under this repurchase authorization.  During the first fiscal quarter of 2011 we repurchased and retired an additional 262,712 shares for $2.3 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.

 

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Equity Incentive 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 April 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 Options

 

Stock option activity under the Prior Plans and the 2002 Plan during the three months ended March 26, 2011 is set forth below:

 

							Weighted
							Average
				Weighted			Remaining		Aggregate
		Options		Average			Contractual		Intrinsic
		Outstanding		Exercise Price			Life in Years		Value
Balances, December 25, 2010		5,318,387		$	14.53
Options granted		202,250		8.94
Options exercised		(12,515	)	6.23
Options cancelled:
Forfeited		(70,275	)	9.86
Expired		(105,289	)	29.18
Balances, March 26, 2011		5,332,558		$	14.11		4.57		$	4,493,296
Vested and expected to vest at March 26, 2011		4,786,013		$	14.61		4.39		$	3,998,104
Exercisable at March 26, 2011		2,007,799		$	21.08		2.09		$	1,368,343

 

The intrinsic value of option exercises during the three months ended March 26, 2011 was $43,000. Cash received from stock option exercises during the three months ended March 26, 2011 was $0.1 million. We did not realize any gross tax benefits in connection with these exercises.

 

Restricted Stock Units

 

Restricted stock unit activity under the 2002 Plan during the three months ended March 26, 2011 is set forth below:

 

				Weighted
				Average Grant Date
		Units		Fair Value
Non-vested restricted stock units at December 25, 2010		1,372,912		$	16.29
Awards granted		51,600		8.89
Awards released		(103,525	)	17.92
Awards cancelled		(112,118	)	17.08
Non-vested restricted stock units at March 26, 2011		1,208,869		$	15.77

 

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.

 

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The table below shows the stock-based compensation charges included in the Condensed Consolidated Statements of Operations (in thousands):

 

		Three Months Ended
		March 26,			March 27,
		2011			2010
Stock-based compensation expense included in:
Cost of revenues		$	845		$	971
Research and development		1,261			1,393
Selling, general and administrative		1,863			2,894
Total stock-based compensation		3,969			5,258
Tax effect on stock-based compensation		—			—
Total stock-based compensation, net of tax		$	3,969		$	5,258

 

Stock Options

 

During the three months ended March 26, 2011, we granted 202,250 stock options under the 2002 Plan with a weighted average grant-date fair value of $3.70.  No options were granted during the quarter ended March 27, 2010. The following weighted-average assumptions were used in the estimated grant-date fair value calculations for stock options:

 

		Three Months Ended
		March 26,		March 27,
		2011		2010
Stock Options:
Dividend yield		—			*
Expected volatility		50.0	%		*
Risk-free interest rate		1.6	9%		*
Expected term (in years)		4.2	2		*

 

* There were no options granted during the three months ended March 27, 2010.

 

Employee Stock Purchase Plan

 

During the three months ended March 26, 2011 and March 27, 2010, we issued 228,737 shares and 157,961 shares, respectively, under the 2002 Employee Stock Purchase Plan (“ESPP”). The following assumptions were used in estimating the fair value of employees’ purchase rights under the ESPP:

 

		Three Months Ended
		March 26,		March 27,
		2011		2010
ESPP:
Dividend yield		0%		0%
Expected volatility		38.9—52.6%		38.9 – 62.2%
Risk-free interest rate		0.17—0.33%		0.15 – 0.48%
Expected term (in years)		0.5 – 1.0		0.5 – 1.0

 

Unrecognized Compensation Costs

 

At March 26, 2011, the unrecognized stock-based compensation, adjusted for estimated forfeitures, was as follows (in thousands):

 

					Average Expected
		Unrecognized			Recognition Period
		Expense			in years
Stock options		$	13,653		2.43
Restricted stock units		13,012			2.23
Employee Stock Purchase Plan		322			0.34
Total unrecognized stock-based compensation expense		$	26,987

 

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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 months ended March 26, 2011 and March 27, 2010, 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):

 

		Three Months Ended
		March 26,			March 27,
		2011			2010
Basic net loss per share
Numerator:
Net loss		$	(21,424	)	$	(38,184	)
Denominator:
Weighted average common stock outstanding		50,636			49,890
Diluted net loss per share
Numerator:
Net loss		$	(21,424	)	$	(38,184	)
Denominator:
Weighted-average shares used in computing basic net loss per share		50,636			49,890
Add stock options, restricted stock units, ESPP, warrants and common stock subject to repurchase		—			—
Weighted average shares used in computing diluted net loss per share		50,636			49,890

 

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):

 

		Three Months Ended
		March 26,		March 27,
		2011		2010
Options to purchase common stock		4,901		4,979
Restricted stock units		1,112		75
Employee Stock Purchase Plan		—		52
Total potentially dilutive securities		6,013		5,106

 

Note 15 — Income Taxes

 

The income tax provision was $0.2 million for each of the three months ended March 26, 2011 and March 27, 2010. The results primarily reflect the tax provision on our non-U.S. operations in foreign jurisdictions taxed at rates below the U.S. statutory tax rate.  We maintain a valuation allowance for our U.S. Federal, state, and certain non-U.S. jurisdictions’ deferred tax assets.

 

The liability for uncertain tax positions was classified as a long-term income taxes liability as payments are not anticipated over the next 12 months.  It may be reduced when liabilities are settled with taxing authorities or when the statute of limitations expires without assessment from tax authorities. We are unable to make a reasonable estimate as to when cash settlements with the relevant taxing authorities will occur.  Unrecognized tax benefits increased by $0.3 million to $18.2 million during the first quarter of fiscal 2011 primarily as a result of additional R&D credit reserves and foreign transfer pricing reserves.  If recognized, $14.5 million of these unrecognized tax benefits (net of U.S. Federal benefit) would be recorded as a reduction of future income tax provision before consideration of changes in valuation allowance.

 

We classify interest and penalties related to uncertain tax positions as part of the income tax provision.  For the three months ended March 26, 2011 and March 27, 2010, we recognized interest and penalties of approximately $7,000 and $83,000, respectively.  As of March 26, 2011 and March 27, 2010, we have accrued total interest and penalties of $0.4 million and $0.9 million related to the unrecognized tax benefits.

 

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The amount of income taxes we pay is subject to ongoing audits by U.S. 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. A number of years may elapse before an uncertain tax position is audited and finally resolved. While it is often difficult to predict the final outcome or the timing of resolution of any particular uncertain tax position, we believe that our reserves for income taxes reflect the most likely outcome. We adjust these reserves, as well as the related interest, in light of changing facts and circumstances.   However, if an ultimate tax assessment exceeds our estimate of tax liabilities, additional tax expense will be recorded. The impact of such adjustments could have a material impact on our results of operations in future periods.

 

Note 16 — Commitments and Contingencies

 

Environmental Matters

 

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. We did not receive any notices of violations of environmental laws and regulations in fiscal 2010 or during the first fiscal quarter of 2011. 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 March 26, 2011.

 

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 additional 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.

 

Indemnification Arrangements

 

We 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 wafer probe cards infringe a third party’s 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. 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 for 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, 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. 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 Condensed Consolidated Balance Sheet as of March 26, 2011.

 

Legal Matters

 

From time to time, we may be subject to legal proceedings and claims in the ordinary course of business. For the fiscal quarter ended March 26, 2011, 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.

 

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Patent Litigation

 

In 2005, we filed a patent infringement lawsuit in the United States District Court for the District of Oregon against Phicom Corporation, a Korea corporation, and its U.S. subsidiary, both collectively “Phicom”, charging that it is willfully infringing four U.S. patents that cover key aspects of our wafer probe cards—U.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 litigation—U.S. Patent Nos. 7,073,254 and 6,615,485.

 

The district court action was stayed pending resolution of the complaint that we filed with the United States International Trade Commission, or Commission, on or about November 13, 2007, seeking institution of a formal investigation into the activities of Phicom and of Micronics Japan Co., Ltd., “Micronics Japan”. 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 the assigned Administrative Law Judge, the Commission issued a decision, which is termed a “final determination,” finding certain of FormFactor’s 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 Phicom was lifted and the parties engaged in a non-binding mediation in an attempt to amicable resolve the litigation.  We anticipate that the matter will be resolved amicably, but it is possible the action will proceed forward.

 

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 sought both injunctive relief and money damages for Micro-Probe’s alleged infringement of our U.S. Patent No. 6,441,315 for “Contact Structures With Blades Having A Wiping Motion,” U.S. Patent No. 6,825,422 for “Interconnection Element With Contact Blade,” U.S. Patent No. 6,965,244 for “High Performance Probe System,” U.S. Patent No. 7,227,371 for “High Performance Probe System,” U.S. Patent No. 6,246,247 for “Probe Card Assembly and Kit, and Methods of Using Same,” and U.S. Patent No. 6,624,648 for “Probe Card Assembly.” The complaint also sought 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. After Micro-Probe and the former employee filed motions to dismiss, we voluntarily filed an amended complaint which was substantially similar to our original complaint except that we added a claim against the former employee alleging misappropriation of trade secrets and we omitted the infringement allegation related to our U.S. Patent No. 6,624,648, which is the subject of a re-examination proceeding before the U.S. Patent and Trademark Office, or USPTO. Micro-Probe and the former employee have both filed answers to our amended complaint.  We have filed a second amended complaint in which we added allegations of infringement based upon two additional patents: U.S. Patent No. 7,671,614 for “Apparatus and Method for Adjusting An Orientation of Probes” and U.S. Patent No. 7,225,538 for “Resilient Contact Structures Formed And Then Attached To A Substrate”.  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 USPTO, against three of our U.S. patents that were at issue in the Commission investigation. With respect to our U.S. Patent No. 5,994,152, the re-examination proceeding has concluded and a re-examination certificate has issued. With respect to our U.S. Patent No. 6,624,648, the matter is still pending before the USPTO. With respect to our U.S. Patent No. 6,615,485, the matter is on appeal from the decision of the USPTO examiner. Micro-Probe has filed requests for re-examination with the USPTO directed to our U.S. Patent No. 6,246,247, U.S. Patent No. 6,825,422, U.S. Patent No. 6,441,315, U.S. Patent No. 6,965,244 and U.S. Patent No. 7,227,371. The USPTO granted the re-examination requests directed to U.S. Patent Nos. 6,246,247, 6,825,422 and 6,441,315, and granted in part the requests directed to U.S. Patent Nos. 6,965,244 and 7,227,371. The foreign actions include proceedings in Taiwan against several of our Taiwan patents.

 

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 March 26, 2011. We will incur material attorneys’ fees in prosecuting and defending the various identified actions.

 

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