FormFactor Inc (FORM) 2010 Q3 法說會逐字稿

Thank you, and welcome, everyone, to FormFactor's third quarter fiscal 2010 earnings conference call. On today's call are Carl Everett, Executive Chairman of the Board of Directors, Chief Executive Officer Tom St. Dennis, and Chief Financial Officer Rich DeLateur.

Before we begin, let me remind you that the Company will be discussing GAAP P&L results and some key non-GAAP results to supplement the understanding of the Company financials. A schedule that provides GAAP to non-GAAP reconciliations is available in the press release issued today and also on the Reference section of FormFactor's website.

Also, a reminder for everyone that today's discussion includes forward-looking statements, and that FormFactor's actual results could differ materially from those projected in our forward-looking statements. The Company assumes no obligation to update the information provided in this call, to revise any forward-looking statements, or to update the reasons actual results could differ materially from those anticipated in forward-looking statements.

For more information, please refer to the risk factor discussions in the Company's form 10-K for the 2009 fiscal year, as filed with the SEC, subsequent forms 10-Q, SEC filings, and the press release issued today.

With that, we will now turn the call over to the CEO, Tom St. Dennis.

Thank you. My first six weeks at FormFactor have been focused on getting up to speed on our products, our organization, and our customers, and I'd like to share with you some of the early impressions from this activity. I spend over a third of my time in the field with our customers and our field organization, and it is clear from-- it is clear to me from the conversations that I've had with our customers that they have a deep respect for the products and technologies that FormFactor has created over the past 17 years.

They continue to see FormFactor as a leader in advanced probe card technology, and are counting us to deliver the enabling [TEF] technologies that they will need to go to the 3x nanometer and 2x nanometer technology nodes. They also see our field support organization as a benchmark in the industry.

Where we've fallen short is in our operational execution related to deliveries and lead time, which has been, and continues to be, a focus area for FormFactor as we continue to turn the Company's performance around.

Overall, I have been very impressed by the people and products of FormFactor, and I'm extremely encouraged by the commitment of our customers to a strong relationship-- to a continued, strong relationship with us.

A key objective of my joining FormFactor was to ensure a seamless transition with Carl Everett to sustain the focus and momentum that the Company has developed. I believe that we're meeting that objective and driving ahead in the key areas.

Taking care of our core business is our first priority, and that's where our initiatives are focused. Driving the critical product capabilities that our customers need, improving our operational execution, reducing our costs to produce and deliver our products, and reducing our operating expenses defined by daily agenda.

We have identified the programs that we must execute on and aligned the resources of the Company to focus on driving those programs. I believe that we've got the right people and the resources necessary to successfully deliver the required results.

As we've communicated on previous calls, the next two quarters will be challenging as we make the changes necessary to have a strong operational and financial foundation for FormFactor's future. While there is significant work to do, there are several important indicators of recent progress.

We recently completed the qualification of the Matrix platform at another major memory manufacturer and received a multiple-unit order from them. We now have the Matrix platform qualified at four out of the top five memory manufacturers, with the fifth one well underway for qualification.

Recently, delinquencies and on-time deliveries have both improved. Operating expenses and cash flow are both trending in the right direction, and while most of these have not reached our targets, their trends show that the actions we've taken are having a positive impact. We will remain focused on these until FormFactor regains its operational and financial health.

With that, I will turn the call over to Rich for details on the financials.

Thank you, Tom. I will begin with a summary of third-quarter results. Total revenue was $47.3 million, down 18% sequentially and up 8% on a year-over-year basis. Total revenue included $1.6 million from a decrease in deferred revenue.

The revenue decline came primarily from the DRAM sector of the business, and details are as follows. Third quarter revenue for DRAM products was $30.1 million, down 29% from our second quarter and down 17% versus the third quarter a year ago. Flash revenue was $9 million, up 7% from Q2 and 330% versus the third quarter a year ago. NAND growth was considerably stronger, with more revenue declining. NAND revenue was $6 million.

SoC revenue was $8.3 million in the third quarter, up 21% sequentially, and 57% versus the third quarter a year ago. Revenue from our new product architecture, SmartMatrix and TouchMatrix was $12.7 million. Our Matrix products grew as a percentage of revenue from 21% in the second quarter to 27% through the third quarter. We did, however, fall short of our goal to grow Matrix units 30% quarter-over-quarter, though our unit shipments did grow 20%.

There was a large shift from SmartMatrix for DRAM towards TouchMatrix for Flash. This results in lower blended ASPs versus the second quarter, explaining the muted revenue growth. This large mix change from DRAM to Flash had a negative impact on gross margins as well.

Without regard to mix change, the unit prices rose on almost all product lines. Moving down the income statement, second-quarter GAAP gross margin was a negative $7.2 million, or minus 15% of revenue.

On a non-GAAP basis, gross margin for the third quarter was negative $6.3 million. This non-GAAP gross margin of negative 13% compares with our previously reported non-GAAP margin of 7% in Q2. It resulted in 20 points, or $10.2 million of margin decline. Adverse mix changes, and the lower absorption of fixed spending due to reduced revenue levels should result in near-zero margins.

An additional 13 point decline is the result of our prior-period account adjustment of $4.1 million, and increased inventory reserves. The prior-period accounting adjustment resulted from an incorrect calculation regarding the capitalization of manufacturing variances to the inventory for 2009 and the first half of 2010.

Other than mix, ASP and inventory adjustments, fixed spending was slightly down from Q2, and material spending declined, consistent with lower revenue.

Our GAAP operating expenses of $93 million includes a $52 million write-down of long-lived assets resulting from an enterprise-wide impairment. I will not go into the details of the impairment at this time, but I am confident this will be a one-time event and have no impact on the cash-generating capabilities of the Company o our turnaround program.

Going forward, this impairment will result in a reduction in depreciation of slightly under $4 million per quarter. $2.5 million of this reduction will impact the cost of goods sold. In addition to this enterprise-wide impairment, we had $8.5 million of restructuring charges associated with changing the factory roadmap, and $3.4 million of impairments unrelated for changing factory strategy.

Non-GAAP operating expenses were $25.7 million, down $6.1 million from $31.8 million in Q2. This is $1 million better than our anticipated $5 million decline from spending-reduction programs.

We are also consolidating our [LRMA] operations into four buildings and continue to review all aspects of our operation spending. You should expect some further restructuring charges in the future, but not at the Q3 level.

Cash-- comprising cash and short-term investments, is recorded at $372 million, approximately $26 million lower than the previous quarter, a lower cash burn than anticipated. This improvement was driven by higher collections and lower capital spending.

Though $26 million was lower than our expectations, it is still an unacceptably large number, and our goal remains to get to single-digit cash burn as soon as possible.

Here are some other financial details. Our depreciation amortization in the second quarter was $7.8 million. Our capital spending was $6.3 million, and our tax rate was 0.2% for the third quarter. Before I get into Q4, I want to address some commentaries around break-even. We are still structuring the Company to be non-GAAP break-even at the $65 million revenue level by mid-year 2011, not counting any benefits from reduced depreciation or the enterprise-wide impairment.

You'll note that we are not forecasting $65 million revenue for Q2, this is (inaudible) a benchmark for planning purposes. In addition to this goal, we are committed to achieving cash flow break-even at the $50 million revenue level by mid-year.

For Q4, there are a number of trends that I can speak to. We expect Q4 revenue to be in the range of $40 million to $45 million. Margin degradation caused by a high Flash product mix in Q3 should reverse. The improved mix should result in a margin of 5% to 10%, depending on revenue levels. 6 margin points should be added to these numbers for the impact of reduced depreciation from the enterprise-wide impairment.

To be clear, reported non-GAAP gross margin will be in the 11% to 16% range. In regards to our change in factory strategy, the impact will not improve margins in Q4, as personnel and equipment will be transitioned out of Singapore throughout Q4. Longer-term, we expect to realize $2 million to $2.5 million per quarter in savings.

We expect continued improved in non-GAAP operating expenses. It should drop about 10% each quarter until we have achieved our under-$20 million goal for Q2 2011. Q4 cash burn will be at our below Q3.

One final note. As described in our earnings release, we are also allowed to repurchase up to $50 million of common stock over the next 12 months. Please note that I will not be commenting on how much or when these purposes may or may not take place. We will report any action retrospectively at the end of each quarter.

With that, let's open the call for questions and answers. Operator?

(OPERATOR INSTRUCTIONS). And our first question comes from Gary Hsueh with Oppenheimer. Gary, your line is open. Try unmuting your phone. And our next question comes from the line of Jim Covello, with Goldman Sachs.

Hi, this is Kate Kotlarsky for Jim Covello. Thank you for taking the question. I was hoping I could ask Tom a big-picture question and just ask how-- you know, when you think about all of the initiatives that the Company has over the next 12 to 18 months, how do you rank all of the things that you're hoping to accomplish?

Well, I think that our execution, really, on the operational side of things is a first priority for us. Next stop, our-- to continue down our project and technology roadmap, because I think it's quite strong and it's well-targeted at market needs, but we need to execute well on that. I think those two things will have a huge impact on the overall performance for FormFactor.

Okay, and just, also I wanted to follow up and ask one of the issues the Company has had in the past, as you know, trying to do some of these restructuring initiatives, but also making sure that the R&D spending continues on track and that you guys continue to innovate and meet customer requirements given the specialized nature of the product. How do you sort of balance that going forward and ensure that you are cutting costs on the one hand, but also making sure that the product doesn't suffer and your qualifications don't suffer?

Well, one of the things that we focused on is identifying the core technologies that we need to ensure our competitiveness and market position. Those were well-identified throughout the summer, and our-- the programs that we're driving ahead.

With regards to managing down the OpEx on-- and maybe Rich can comment on that. So, our goal is to get operating expenses below $20 million. We think that's achievable. By no means is it easy, but when we are at that level, fully half of that budget will be dedicated to R&D, and that R&D is highly focused. So, I think you can do your own calculations and see that's a pretty robust R&D program and in no way endangers the Company's future.

Okay, thank you, and just one final questions. The qualification of Matrix that you mentioned happened this quarter, the major memory customer, how should we think about revenues from that, over-- when should we start to see that?

Well, with-- as I said, there are five top memory customers. Getting your qualifications down to each one of them is obviously vital. I don't know if it's quite one-fifth in each one, but they're all very important. With that qualification done, we can begin to bid, now, on new designs and ramp our way back up into their volume supplying, there. But the transition over the next couple of quarters, until we can get all of our designs laid in on it.

Okay, thank you so much.

Thank you.

Our next question comes from Tim Arcuri with Citigroup.

Hi, this is [Wayne Nguyen] for Tim Arcuri. If I put your market share aside and just look at the general demand for (inaudible) market, based on your relative (inaudible) with customers, what is the-- on the (inaudible) demand in line of the DRAM price decreases (inaudible)?

Well, there has certainly been a lot written about changes in the DRAM market and it's aware that their prices are declining. Speaking with customers, they are really adjusting and aligning their production to take advantage of the markets that are still strong, so we see movement between commodity DRAM, mobile DRAM and other applications that way.

I think they are concerned, but people are still watching to really see how everything is going to unfold.

Particularly for probe cards, you haven't seen quite all of the demand yet?

We've seen, I think, some realignment to specific application needs, as I said, between mobile and commodity DRAM and those changes are a little bit more rapid than they have been in the past, but we're still watching closely to kind of see how this all unfolds.

Okay, and in terms of Matrix products, I think last quarter the biggest problem is the quarter qualification time was longer than you expected-- also the lead time for the product is longer. What progress have you made this quarter in terms of qualification and lead time?

Well, as I mentioned, we completed the qualification at another one of the top 5 memory manufacturers, and we did see multiple unit orders following that. That is another important milestone for us to strengthen the product offering out there. With regards to lead time, we keep-- we are focused on that. We have been making incremental improvements to lead time. On-time delivery has improved over the last month, and we are focused at creating a competitive advantage out of all of this, but, again, it's going to take us a couple of quarters to get that totally worked out.

Okay. When I look at your revenue distribution by Q for each region, there's-- the revenue of Japan has been real (inaudible) in Q3. Is this more of a timing issue for your customers, or is it also related to market share?

Some of that is timing, and some of that is market share. Particularly in Japan, there was probably a bigger impact in Q3 from market share than timing, but it is a mix of both.

Okay. Last question. Based on your guidance for $40 million to $45 million next quarter. What do you expect your cash burn for the quarter? You said you try to achieve single-digit cash burn-- will you achieve that next quarter?

We could not achieve a single-digit cash burn with a revenue level in the $40 million to $45 million range. So, I would expect it to be a (inaudible) level. But not materially lower.

Okay.

Our next question comes from the line of C.J. Muse with Barclays Capital.

Hi, this is Srini calling for C.J. Muse. I just wanted to start with a particular question. I just wanted to go over the cash burn profile and the total cash burn that you are predicting for the end of the year in 2011.

I'm sorry-- you asked me what is the total cash burn for 2011?

Yes.

Well, so, we haven't done a forecast. But our goal is to achieve that single-digit or zero cash burn by Q2 of 2011, mid-year, and then we would expect to have zero cash burn or positive cash creation from then on.

You can pretty much draw a straight line from the $25 million in Q4 to a zero or single-digit number in Q2 to figure out how we'll progress there.

Okay, and then the next question--

[crosstalk]

My goal is to keep the 2011 cash burn to under $50 million, but it is highly dependent on revenue.

And the next question is, by which quarter do you think 90% of what is going out is the Matrix?

Say again?

By which quarter will 90% of the quarter that's going out be Matrix and not Harmony or any of the legacy (inaudible)?

I do want to clarify that FormFactor still does quite a bit of business, maybe as much of the business in what is called traditional probe head business. So, we'll never have Matrix as 90%, that's a good business and we plan to maintain it as long as possible.

Okay. Thank you.

Our next question comes from Patrick Ho and Stifel Nicolaus.

Thanks a lot and good luck, Tom, on your role going forward.

Thanks, Patrick.

First off, in terms of the pricing scheme and what you're trying to get from customers and your relationships there, Tom, you've been in the industry for a long time, these are familiar customers for you. How do you, I guess, extract the value from Matrix from these customers, given that a lot of them have experienced the delay in lead-time issues in the past? How do you get the full value back from them, I guess, over the next several quarters?

Well, it's a combination of things, really. First is just our overall execution. Getting lead times down and stable is a key factor. But, as I mentioned, we have a strong product and technology road map that's rolling out, and I think each of these bring real value and differentiation for FormFactor and real value to our customers, and real productivity gains from all of that, so I think that there is going to be opportunities for us to get paid for the value that we bring while we're delivering to them a lower total cost of test.

So, I think that the road map is going to allow us to bring a substantial value forward over the next four or five quarters.

Okay, great. And maybe related to that, and Rich, maybe you could give a little color on this, as you're ramping up Matrix and as that volume and percentage increases over time, how much is over the next few quarters a little bit of a mix of ramping down some of the older products and ramping up Matrix, where we won't see the revenue growth over a couple of quarters, but how much of it is, I guess, these levers moving?

Right, so, the old product, Harmony, did turn down a little over Q3, but not enough to help the margin out, and will shift about the same amount in Q4. So, even though we are in the right with Harmony, and ramping Matrix as fast as possible, you should expect to produce substantial tail on the Harmony products. If the customer needs a product, we're going to get over it, right?

Great. Final question from me. In terms of some of the operational improvements that you guys have discussed, what are some of the, I guess, specific initiatives, and what are the specific gains that you have made in terms of improving delivery times to customers? What are some of the exact, I guess, tangible points that (inaudible) to investors?

Well, there is a number of elements to delivery that start all the way from the design phase through manufacturing and including our supply chain contributions to that as well as our assembly and tech, and we've broken that down now to a very granular overall process and have been working to eliminate delays and gaps, if you will, in that process.

We've also been working with suppliers to find ways to help them with cycle time and collapse things there. It's going to take time for us to continue to work our way through that, but already we've seen improvements on supplier lead-times that are-- have come down, and also their on-time delivery or delinquencies have improved.

Some of that has come from us putting people at the suppliers and working with them directly, also working with them to clarify processes and things that make it simple for them. So, it's a very detailed and focused plan about what-- how we can impact our overall lead-time and performance there.

Similarly, on the cost side, I think it has been mentioned in prior calls, one of the things that Carl kicked off early on was a really in-depth analysis around the total cost side of the equation for us on the Matrix product line. We're a few months into that now and still working diligently on that and finding opportunities to continue to improve not just cost and quality and often with impacts on improved lead time.

So, this is just the nuts-and-bolts of execution, and as you work your way down through it, you really build momentum on it, and I think that's the kind of phase we're in right now.

Great. Thank you.

Ladies and gentlemen, this concludes the FormFactor Third Quarter Conference Call. This concludes your participation. You may now disconnect.