Thomas Dennis – Executive Chairman and CEO Michael Ludwig – CFO Mike Slessor – President.

Patrick Ho – Stifel Nicolaus Vernon Essi – Needham & Company Tom Diffely – D.A. Davidson Brett Piira – B. Riley & Company Srini Sundararajan – Summit Research.

Thank you, and welcome everyone to FormFactor’s Second Quarter 2014 Earnings Conference Call. On today’s call are Executive Chairman and Chief Executive Officer, Tom St. Dennis; President, Mike Slessor and Chief Financial Officer, Mike Ludwig.

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 understanding of the Company’s financials. A schedule that provides GAAP to non-GAAP reconciliations is available in the press release issued today and also on the Investors section of FormFactor’s website.

Also, a reminder to everyone, that today’s discussion contains forward-looking statements within the meaning of the Federal Securities laws.

Such forward-looking statements include but are not limited to financial and business performance projections, statements regarding macroeconomic conditions and business momentum, statements regarding seasonal business trends, statements regarding the demand for our products and technologies, statements regarding our ability to design, develop, introduce, and qualify new products and technologies with one or more customers and to realize revenue from those new products, and statements that contain the words like expects, anticipates, believes, possibly, should and the assumptions upon which such statements are based.

These forward-looking statements are based on current information and expectations that are inherently subject to change and involve a number of risks and uncertainties. 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 during today’s 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 fiscal year 2013 as filed with the SEC, subsequent SEC filings and in the press releases issued today. With that, we will now turn the call over to CEO, Tom St. Dennis. Sir, you may begin..

Thank you, and good afternoon. The second quarter of 2014 saw FormFactor reach an important milestone in the continued turnaround of the company. We delivered a profitable quarter on a non-GAAP basis for the first time since Q4 of 2007, while generating over $5 million of cash.

This is a significant achievement after 6.5 years of company and industry challenges. Equally important is the momentum that the company has established in the three key markets we serve.

The three probe card markets those SOC, DRAM and NAND Flash together represent a revenue opportunity for FormFactor of over $60 million of growth by 2016 as compared to our 2013 revenue. During the second quarter we made significant progress in each of those markets to support our growth objectives.

The SOC probe card market continued to strengthen in Q2 with increased demand across all segments of the market from application processors to personal computers to automotive applications.

Demand for probe cards to support copper pillar packaging also increased in Q2 and is gaining momentum as companies transition to the 28-nanometer technology node. This trend is expected to accelerate further as SOC designs transition to the 20-nanometer technology node.

FormFactor’s leadership position in MEMS technology is a key differentiator for copper pillar applications and provides significant cost and performance advantages to our customers. The DRAM probe card market also strengthened in Q2 consistent with typical seasonal trends.

DRAM manufacturers appear to be managing their production in a more measured or planned way as compared to previous years and as a result, our demand from them has been less volatile. During the quarter, we made further progress with the one remaining DRAM manufacturer where we have not been supplying volume production probe cards to prior to 2014.

We have successfully met their volume production performance requirements on two different designs and as a result have received repeat orders. Additionally, we’ve received demand for a third design that will begin shifting in Q4. These are important steps in growing our business with this key customer.

In the second quarter, we successfully completed the manufacturing qualification of our new NAND Flash products at our first customer. The product met all of our customer’s requirements and we’ve received orders for multiple production cards which will ship during the third quarter.

This quarter we will be delivering evaluation cards to our second NAND Flash customer, and expect that they will complete their evaluation by the end of 2014.

These are important milestones for this product development program that began in early 2013 and represented increase in the served market for FormFactor that is a $150 million to $200 million per year based on BOSI research estimate.

Operationally, FormFactor executed well in the second quarter while delivering revenue growth of 20% over the prior quarter. On-time delivery and lead time performance were good as well as the performance of our key suppliers. Spending remained within our communicated model and as a result, profitability and cash flow were above targets.

Overall, we believe that these results validate our business model and show that we are transitioning from a turnaround story to a company that can grow revenue with significant leverage to deliver earnings from that growth. FormFactor’s products are often considered to be a part of the semiconductor capital equipment market.

As you can see, in contrast to the overall semiconductor capital equipment market trends today, our demand was quite strong in Q2 and the outlook for Q3 is to remain strong. Probe card demand is driven by successful new products from our customers whether they come from new technology node or an existing technology node.

Each new design of an integrated circuit requires a new probe card. We certainly benefit from increased wafer production that capital equipment investments represent. But we benefited much or more from new product designs and new applications for integrated circuits.

In today’s market, those new designs and applications are coming from many different market segments and are showing strong growth. Overall, this represents a great opportunity for FormFactor going forward. Now Mike Ludwig will review our Q2 financial performance and provide our Q3 guidance..

Thank you, Tom and good afternoon. Revenues for Q2 were $67.4 million, an increase of $11.4 million or 20% compared to Q1. The increased revenues were driven by continued strength in both our SOC and DRAM businesses. SoC revenues in Q2 of $32.5 million increased $6.7 million or 22% compared to the first quarter.

SOC revenues represented 54% of the Company’s second quarter revenues comparable to Q1. As Tom mentioned, the strength was broad based with continued momentum from copper pillar applications. Second quarter revenues for DRAM products were $26.4 million, an increase of $4.2 million or 19% from the first quarter.

The increase resulted from strength of both commodity and mobile DRAM demand. Mobile DRAM revenues in the quarter increased to $13.7 million or 52% of our DRAM probe card revenues compared to 50% of our DRAM probe card revenues in Q1. Flash revenues were $4.5 million for the second quarter, an increase of $0.6 million or 51% from the third quarter.

NOR Flash revenues increased by $0.5 million or 13% from the first quarter..

Second quarter GAAP gross margin was $20 million or 29.7% of revenues compared to $12.3 million or 22% of revenues for the first quarter. GAAP expenses in Q2 included $0.7 million for stock-based compensation and $4.3 million for the amortization of intangibles.

On a non-GAAP basis, gross margin for the second quarter was $25 million or 37.2% of revenues compared to $17.1 million or 30.5% of revenues for the first quarter. The second quarter non-GAAP gross margin was higher than our communicated model for the achieved revenue level due to the fall-through rate of 69% on the increased revenues..

In addition, the company recognized $1.3 million of gross margin from a non-recurring service transaction in the quarter. Our GAAP operating expenses were $24.3 million for the second quarter, a decrease of $0.4 million compared to Q1.

GAAP operating expenses in the second quarter included $2.9 million for stock-based compensation, $0.7 million for amortization of intangible assets, and $0.3 million for integration costs. Non-GAAP operating expenses for the second quarter were $20.1 million, $1 million higher than Q1.

The second quarter expenses included $1.4 million of employee incentive compensation based upon company profitability. Excluding the incentive compensation costs, the second quarter expenses were $0.4 million lower than the first quarter expenses, primarily due to the full quarter benefit of restructuring actions taken in the first quarter.

Basic weighted average shares outstanding for the second quarter increased to 55.8 million shares compared to 55 million shares in Q1. Fully diluted share count for the second quarter was 57.4 million shares. Basic and fully diluted GAAP loss per share was $0.08 in Q2 compared to a loss of $0.23 per share in Q1.

Basic and fully diluted Non-GAAP earnings per share were $0.09 and $0.08 respectively in Q2 compared to a loss of $0.04 per share in Q1. Cash comprised of cash short-term investments and restricted cash ended the second quarter at $149.5 million, $5 million higher than Q1. Here are some other financial details.

Our depreciation and amortization in the second quarter was $8.1 million including $3 million for depreciation and $5.1 million for amortization of intangible assets. Our capital additions in Q2 were $1.4 million, $0.2 million lower than first quarter additions.

Our stock-based compensation expense for the second quarter was $3.5 million, $0.9 million higher than the first quarter. With respect to the third quarter, we see market conditions consistent with those experienced in the second quarter and with our improved execution, we expect to grow our revenues..

Therefore we expect the non-GAAP gross margin to be in the range of 34% to 38% consistent with expected gross margins of our financial model at these revenue levels. Non-GAAP operating expenses will be in the $19.5 million to $20.5 million range and we expect to be non-GAAP profitable in the third quarter.

Cash flow will be positive $4 million to $6 million. As we have communicated, the historical seasonality of our business results in higher revenues in the second and third quarters and lower revenues in the first and fourth quarters.

With limited visibility and a developing outlook for the fourth quarter, we currently see demand in the fourth quarter at $56 million to $64 million. With that, let’s open the call to questions.

Operator?.

(Operator Instructions) And our first question comes from the line of Patrick Ho from Stifel Nicolaus. Your line is open..

Thank you very much and congratulation guys for getting back to profitability.

Tom, first off, in terms of your new NAND Flash product that you talked about in your prepared remarks, what are some of the key metrics or some of the key value propositions that customers will be getting from this new card that weren’t able to serve previously?.

Well, we’ve architectured the product to provide customers with a – essentially an architectural cost benefit of this card that allows them to have reuse a certain components of it over different designs. So we believe that it’s going to provide them a 10% to 20% cost advantage over time just because of the product platform and design.

In addition to that, we’ve utilized our MEMS technology to provide them a – really a broader operating window in their factory which we think is going to help with really test cell availability and overall productivity..

Right, maybe moving to the SOC side of things, you mentioned that copper pillar packaging is getting greater adoption as you go from 28 to 20 nanometers. At this time, 20 nanometers is primarily dominated by one foundry player..

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Mike Slessor was just in Asia in the last week and he got I think the best perspective on that right now..

Yes, so, Patrick, I think, what we are seeing today is, the second wave of 28 nanometer designs from most of the fabulous companies are beginning to adopt copper pillar packaging, whether it’s a base band processor or an application processor or even some other high-end parts.

As we see those designs then propagating to 20-nanometer, it looks like there is going to be even more widespread adoption of the copper pillar packaging techniques in lieu of older packaging techniques like flip chip and wire bond. That’s good for us obviously because it relies on our MEMS technology.

Copper pillar, one of the inherent characteristics of it is, the packaging densities are higher and so to probe these packages requires a much denser probe card structure at finer pitches and that’s really where our MEMS technology comes in and offers the performance in cost advantages to these customers.

So we see that’s being adopted not just in one foundry ecosystem, but across multiple foundries even a 28 nanometer. .

Right, thanks a lot guys..

Thank you..

(Operator Instructions) Our next question comes from the line of Vernon Essi from Needham & Company. Your line is open..

Thank you very much and echoing Patrick’s point, congratulations on the profitability. Wondering, Mike Ludwig did visit, if we can dive in a little bit, I was like to ask about the gross margin..

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Yes, it’s not NRE but your conclusions are correct in terms of how to look at it..

So, let me have to say, looking at, and I try to track your gross margin traction sensitive to your top-line, and obviously you made some good strides here and I am just curious it seems as though in your guidance you are sort of bumping up against a threshold here and I am wondering as I see all the difference if you will charges and sort of cost reductions that you’ve made even still in what I would consider the late innings of the cost reduction games on your overhead.

Why wouldn’t we see more gross margin traction sequentially into the September quarter? I know mix has something to do with that, but is there something else obvious I am missing, a pricing dynamic or something? If you could just elaborate on that, that be great..

So, I think, Vernon, when we look at it right again, so Q3 maybe not quite the same traction, But again, I think Q2 really was, if you look at it relative to the model that we communicated was really above – the gross margin was really above the levels for those respective revenues that we would expect.

And again, we had very strong mix in the quarter as well as non-recurring, the non-recurring transaction that we talked about and great factory absorption as well. As we go into Q3, the mix isn’t quite as strong. I mean, I think we’ll still see pretty positive gross margin numbers.

As a matter of fact the gross margin number I think is consistent with the model that we communicated. But, there are some factors that are quite as favorable in Q3 as they were in Q2. Mix being the primary one and that’s probably, that’s probably the biggest one that we see at this point in time..

And is there any conclusion, when you say mix, I am sort of looking at all the different moving pieces and wondering if this has more to do with the ramping of the flash side of things? Or is there such as pricing in all the different categories or is there some sort of specific reason in the mix that that’s happening?.

So, I mean, in the mix you have sort of two different variables. You have the mix with respect to as you talked about SOC, DRAM and flash, we had a strong quarter in SOC.

This last quarter we think, Q3 that will strong in SOC as well, but even within those categories, you tend to have product mix and so, here it’s probably more within the category as we are going to see some product mix challenges in Q3 that just aren’t as favorable as Q2..

Okay, and then just on the Q4 look ahead and the joke is always, who has the visibility in this industry, but the fact you are going to go up that far does make the question.

What do you see out there and what specifically in the dynamic of the different product areas do you think is going to see the weakness? I know there is seasonal weakness but, we are hearing at least on the device side some mixed datapoints on what seasonality may look like this year and I am wondering how you are interpreting that?.

I don’t think we are – we’ve got any new device data that we are reacting to with that range that we gave you. Historically, we’ve seen 10% to 20% on a quarter-over-quarter basis between Q3 and Q4.

This year doesn’t have some of the dynamics that previous years have had with regards to supply chain disruptions with floods or fires or whatever and it doesn’t appear that there is any significant kind of macroeconomic negatives out there right now.

So, we’d expect it to be – if there is a normal, we’d expect it to be somewhat normal that way, but we want to make sure that that everyone knows the seasonal changes that we would expect to see.

So, based on what we see going into this quarter, the limited visibility that we have really in Q4, but really just reacting against the – kind of the overall customer health right now. That’s how we came up with the range..

Okay, thanks a lot guys..

Thanks, Vernon..

(Operator Instructions) And our next question comes from the line of Tom Diffely from D.A. Davidson. Your line is open..

Yes, good afternoon. It’s like 19 – or 2007 all over again.

So, when I look at the mix both this quarter, I guess, the second and third quarter, Mike, which one do you consider the more normal mix? Is it the higher more favorable mix in the second quarter or the – I guess less favorable mix in the third quarter?.

I would say, the mix in the third quarter is probably more typical. Therefore, our gross margins that we have guided to are more in line with our model versus Q2. Again, the mix was stronger and therefore the result was higher than the model that we’ve communicated..

Okay, so, kind of on a general basis, we can use your model of 50% to 60% incremental gross margins on the margin structure in the third quarter?.

Pardon me, say that again, Tom..

So, from a modeling point of view, if we use kind of the standard 50% to 55% incremental gross margin, it would be based on for this quarter?.

Yes, and actually, I think what we’ve communicated is incremental be slightly higher than that’s more like 58% to 60%. But yes, I think off of this quarter would be the more accurate way to look at going forward..

Okay, and then when you look at the fourth quarter, the mid-point of that range called $60 million, is that roughly breakeven and cash breakeven at this point?.

Yes, I mean, what we’ve communicated was $61 million to $63 million with respect to cash flow breakeven. So $60 million is probably at the more challenged end of that range, but if we were to get a favorable mix, certainly we could get – we could get to breakeven there..

Okay, that sounds good.

And then when you look at – Tom, when you look at the NAND business, did you say you expected orders this quarter was it revenue this quarter?.

Revenue this quarter. We have a backlog of orders for multiple cards now for the volume production and are beginning to ramp up with that first customer..

Okay, great.

And then, it looks like, you have still a tailor business on the NOR side, is that a product line that can benefit from these new probes as well or is that going to continue to be the older kind of lower margin probe cards?.

Tom, it’s Mike Slessor. I think we will continue, given the state of the NOR business and various product fits. So I think we will continue to probably serve that business with our existing platforms, not the new NAND flash platforms.

I think it’s a relatively good fit for some of the incremental market opportunities that Tom talked about in NAND that open up this served market of a $150 million to $200 million a year for us. But I think we served the existing NOR market pretty effectively with our existing products..

Okay, and still it is, actually the margin component of the NOR market, is it less than the average or more in line with the standard?.

No, I think, it comes pretty close to our overall average which is part of the reason for the comment I just gave you..

Okay, that sounds good. Thank you..

Thanks, Tom. .

Thank you. Our next question comes from the line of Brett Piira from B. Riley & Company. Your line is open..

Great, thanks for taking my question and echo the congrats guys.

Maybe just one from me, on the guidance, I think you may be mentioned mix was the same, so, are you expecting growth from all three of your segments?.

No, actually, I think what we are going to see is – not, not- won’t be consistent among the segments and I think what we are going to see is probably the stronger SOC and NAND, again, NAND was $4.5 million, I don’t see NAND really going up or down by a material amount.

So, and I think DRAM probably comes in somewhere fairly close to where it was plus or minus $1 million or $2 million, but SOC is probably the stronger growth..

Okay, and then maybe on your – in the DRAM side, on your final, the final penetration with the customer there is, is that running as you have expected? How do we characterize that?.

Well, I think, as you expected it tends a little bit on when the expectations were created. I think if I talk about where we are now currently, we still view this is as a $3 million to $5 million a quarter incremental opportunity for us. The timing of that is probably exiting this year, early Q1.

As Tom said, in the prepared remarks, we shipped and gotten reorders for two designs in volume production and are now in the initial stages of designing and fabricating a third design which will ship in the fourth quarter..

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Great, thanks..

Thank you. Our next question comes from the line of Srini Sundar from Summit Research. Your line is open..

Hi, guys. Thanks for taking my call.

Could you comment generally on 2015? How does it look for you?.

Srini, we are struggling to be able to give you some guidance on the fourth quarter there based on the seasonality of it. If I was going to say anything about 2015, we would expect it to follow the seasonal pattern that have gone on. So Q1, Q4 et cetera.

On an overall basis, I would say that we are pretty optimistic on 2015 for a variety of reasons, one, the copper pillar adoption that Mike talked about a minute ago, it’s strong.

It’s carrying forward the proliferation of more and more advanced application processors is a good thing for us and we see that demand out there today and while there may be some seasonal slowdown in the fourth quarter, I would expect that it will be as strong, if not stronger in 2015.

On the DRAM side, really all the companies are making a transition through various 22x nanometer levels going from 2x to 2y or whatever nomenclature you want to use. And that brings out new designs and certainly could create some opportunities, will create opportunities for us there. So I’d say the DRAM looks to be probably equally strong next year.

Our benefit being what Mike Slessor just talked about with regards to kind of growing our ability to supply all three suppliers now and that you’ve not seen that in our revenue stream in any significant way in 2014. And then in the flash area, NOR flash is kind of hard to call right now.

Assume it will be flat I guess, but on the NAND flash side, it – well we revenued a card or two last quarter of our new product architecture. We hope to go into 2015 with two customers qualified and our ability to participate more broadly in that market and particularly in the design opportunities and production opportunities for those two customers.

So, I’d say in the NAND Flash side, pretty optimistic that we can really start to realize our growth opportunity there. And what we have identified is, in the kind of the 2016 timeframe, we hope to be in a incremental revenue of around $15 million to $20 million on an annual basis. And in 2015, you should start to see that on a quarterly basis.

So, based on all that, we are certainly expecting to see growth, growth for the reasons that I just identified, what the market and the industry going to be like in 2015, we are going to have to go with the flow on that one..

Just as a follow-up, if you listen to the K LIT & Co conference call, they were indicating that the one customer of this which I think there was no doubt that it was GlobalFoundries, was placing a huge order for them about a $300 million order in Q2 and that would mean that GlobalFoundries would be facilitating either Apple or Qualcomm or possibly both along with Samsung.

So, wouldn’t it be a potentially be a positive trajectory for you guys given that you guys are….

I think, it would be positive, just reading the different articles in the industry press with regards to capacity demand and availability of capacity and things, and just the general, I’d say competitive market today with regards to the foundry business.

It looks pretty positive and therefore by the way why it were positive on our SOC position and we really do see that as a good growth opportunity..

Right, because this is the other thing TSMC got the majority of those orders, but next year it would seem like GlobalFoundries, Samsung would get majority of those orders and that would be, I would think it would be immensely positive for you. Do you – I know you can’t be more enthusiastic than me. So, but, yes..

So, it’s – I don’t think we want to speculate it on what’s going to happen with our customers and what’s going to happen that way. But, that market segment, the things that are driving that there, I would agree with you those are positive trends for FormFactor..

Thank you very much..

Thank you. (Operator Instructions) And I am seeing no other questioners in the queue. I’d like to pass the call back over to the speakers for closing remarks..

Thank you very much for calling in. We’ll talk to you next quarter..

Ladies and gentlemen, thank you for your participation in today’s conference. This now concludes the program and you may all disconnect. Everyone have a great day..