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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES

EXCHANGE ACT OF 1934

For the Quarterly Period Ended June 30, 2003

Commission File Number 0-21626

ELECTROGLAS, INC.

(Exact Name of Registrant as Specified in Its Charter)

6024 Silver Creek Valley Road

San Jose, CA 95138

Telephone: (408) 528-3000

(Address of Principal Executive

Offices and Telephone Number)

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 requirement for the past 90 days.  Yes  x    No  ¨

Indicate by check mark whether the Registrant is an accelerated filer (as defined by Rule 12b-2 of the Exchange Act).  Yes  x    No  ¨

As of July 25, 2003, 21,343,000 shares of the Registrant’s common stock, $0.01 par value, were outstanding (excluding 155,275 shares held by the Company as treasury stock).

FORWARD LOOKING STATEMENTS

The following discussion should be read in conjunction with our accompanying Financial Statements and the related notes thereto. This Quarterly Report on Form 10-Q contains forward-looking statements within the “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995. All statements included or incorporated by reference in this Quarterly Report, other than statements that are purely historical are forward-looking statements. Words such as “anticipates,” “expects,” “intends,” “plans,” “believes,” “seeks,” “estimates” and similar expressions also identify forward looking statements. The forward looking statements include, without limitation, statements regarding:

The forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those stated or implied by the forward looking statements. These risks and uncertainties include:

For a detailed description of these and other risks associated with our business that could cause actual results to differ from those stated or implied in such forward-looking statements, see the disclosure contained under the heading “Factors that May Affect Results and Financial Condition” in this Quarterly Report or Form 10-K. All forward looking statements included in this document are made as of the date hereof, based on information available to us as of the date hereof, and we assume no obligation to update any forward looking statement or statements. The reader should also consult the cautionary statements and risk factors listed from time to time in our Reports on Forms 10-K, 10-Q, 8-K and other reports filed from time to time with the Securities and Exchange Commission.

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PART I.    FINANCIAL INFORMATION

ITEM 1.    CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

ELECTROGLAS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per share data, unaudited)

See the accompanying notes to condensed consolidated financial statements.

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ELECTROGLAS, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands, except per share data)

See the accompanying notes to condensed consolidated financial statements.

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ELECTROGLAS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands, unaudited)

See the accompanying notes to condensed consolidated financial statements.

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ELECTROGLAS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

BASIS OF PRESENTATION

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete consolidated financial statements. In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for fair presentation have been included. These condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and footnotes thereto for the year ended December 31, 2002, included in the Company’s Annual Report on Form 10-K. Operating results for the three and six month periods ended June 30, 2003 are not necessarily indicative of the results that may be expected for the year ending December 31, 2003. The Company’s fiscal year end is December 31. The Company’s fiscal quarters end on the Saturday nearest the end of the calendar quarters. For convenience, the Company has indicated that its quarters end on March 31, June 30 and September 30.

USE OF ESTIMATES

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.

RECLASSIFICATIONS

Certain prior period amounts have been reclassified to conform to the current period presentation.

INVENTORIES

The following is a summary of inventories by major category:

The Company periodically reviews the carrying value of its inventories by evaluating material usage and requirements to determine obsolescence and excess quantities, and reduces the value when appropriate. The Company’s previously announced intended sale of its optical wafer inspection operations was not consummated and the Company has discontinued further development of wafer inspection products. As a result of this decision, the Company recorded $0.9 million additional inventory reserves in the quarter ended June 30, 2003.

GOODWILL, NET

The Company adopted Statement of Financial Accounting Standard No. 142, “Goodwill and Intangible Assets” (SFAS 142). The Company completed the transitional impairment test of goodwill as of January 1, 2002 during the second quarter of 2002 and conducted the required annual test as of September 30, 2002, and concluded that no impairment existed. The Company undertakes to carry out impairment tests on an annual basis and between annual tests if an event occurs or circumstances change that would more-likely-than-not reduce the fair value of its unamortized goodwill balance.

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OTHER INTANGIBLE ASSETS, NET

Amortization expense for other intangible assets for the three and six month periods ended June 30, 2003 was $0.3 million and $0.5 million, respectively as compared to $0.2 million and $0.4 million for the same prior year periods. The following is a summary of other intangible assets, net:

STOCK BASED COMPENSATION AND EMPLOYEE STOCK OPTION PLANS

The Company uses the intrinsic value method under Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employee” (APB 25), to account for stock options issued to its employees under its stock option plans, if any, over the vesting period of the options. Compensation expense resulting from the issuance of fixed term stock option awards is measured as the difference between the exercise price of the option and the fair market value of the underlying share of company stock subject to the option on the award’s grant date. The Company has elected to make pro forma fair value disclosures as permitted by Statement of Financial Accounting Standard No. 123, “Accounting for Stock-Based Compensation” (SFAS 123). The Company estimates the fair value of its options using the Black-Scholes option value model, which is one of several methods that can be used to estimate option values. The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable. Option valuation models require the input of highly subjective assumptions, including the expected stock price volatility. The Company’s options have characteristics significantly different from those of traded options, and changes in the subjective input assumptions can materially affect the fair value estimates. The fair value of options granted and employee purchase plan shares were estimated at the date of grant with the following weighted average assumptions:

No stock-based employee compensation cost is reflected in the net loss for the three and six month periods ended June 30, 2003 and 2002 as all options granted under these plans had an exercise price equal to the fair market value of the underlying common stock on the date of grant. For pro forma disclosures, the estimated fair value of the options is amortized over the vesting period, typically four years, and the estimated fair value of the stock purchases is amortized over the six-month purchase period.

The following table illustrates the effect on net loss per share if the Company had accounted for its stock option under the fair value method of accounting under Statement 123, as amended by Statement 148:

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NET LOSS PER SHARE

Basic and diluted net loss per share amounts were computed using the weighted average number of shares of common stock outstanding during the period. The following table sets forth the computation of basic and diluted net loss per share:

These shares were excluded from the net loss per share calculations because the Company was in a loss position and the effect of their inclusion would be anti-dilutive.

CONVERTIBLE SUBORDINATED NOTES AND WARRANTS

In June 2002, the Company completed a $35.5 million private placement of 5.25% fixed rate convertible subordinated notes due 2007 and warrants to purchase 714,573 shares of common stock. The net proceeds from this placement were $32.5 million. Interest on the notes is payable semi-annually on the fifteenth of June and December each year. Annual interest payments are $1.9 million, and will result in a charge to interest expense until the end of the term of the notes. The convertible notes initially enabled the holders to convert principal amounts owed under the notes into an aggregate of 2,598,448 shares of common stock at a conversion price of $13.662 per share. The notes contain a beneficial conversion feature, which is triggered if 115% of the average market price for 20 consecutive trading days prior to February 21, 2003 was less than the conversion price. On February 21, 2003, this feature was triggered. As a result, the conversion price was lowered to $10.2465 per share and an additional 866,150 common shares will be issuable upon conversion of the notes. This adjustment to the conversion price resulted in a $1.0 million non-cash interest charge to the Company’s operating results for the first quarter of 2003.

In connection with the issuance of the convertible notes the Company also issued warrants for the purchase of 714,573 shares of common stock that are exercisable at a price of $15.444 per share. The

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original value of the warrants was determined to be $2.6 million using the Black-Scholes option pricing model, with a volatility factor of 62%, a risk-free interest rate of 4%, and an expected term of 5 years with a fair value of the underlying common stock of $10.00. In accordance with the provisions of EITF 00-19, “Accounting for Derivative Financial Instruments Indexed to, and Potentially Settled in, a Company’s Own Stock” and based on the registration rights agreement entered into in connection with the issuance of the notes and warrants, the value of the warrants were classified as a liability. The original value of the warrants is being accreted to interest expense over the term of the notes using the effective interest rate method. Upon registration of the notes, warrants and underlying shares of common stock on September 16, 2002, the warrants were revalued using the Black-Scholes option pricing model, and were reclassified as equity. The revaluation of the warrants was determined to be $0.3 million using the Black-Scholes option pricing model, a volatility factor of 62%, a risk-free interest rate of 4% and an expected term of 5 years with a fair value of the underlying common stock of $3.02. This revaluation during the third quarter of 2002 resulted in a gain of $2.3 million. If the price of the Company’s common stock exceeds the conversion price of the notes and the exercise price of the warrants, holders of the notes and warrants may convert the debt and exercise the warrants. The Company may force the conversion of all or a portion of the notes and warrants in certain circumstances.

WARRANTY LIABILITY

The Company’s warranty liability is included in accrued liabilities and changes during the reporting periods are as follows:

The Company’s previously announced intended sale of its optical wafer inspection operations was not consummated and the Company has discontinued further development of wafer inspection products. As a result of this decision, the Company recorded approximately $0.8 million additional warranty reserves in the quarter ended June 30, 2003.

COMPREHENSIVE LOSS

Comprehensive loss includes net loss as well as additional other comprehensive income/(loss) such as unrealized gains (losses) on investments and foreign currency translation adjustments. The following schedule summarizes the activity in comprehensive loss, net of related tax:

The following schedule summarizes the components of accumulated other comprehensive income (loss), net of related tax:

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SEGMENT INFORMATION

FASB Statement No. 131, Disclosures about Segments of an Enterprise and Related Information, establishes standards for reporting information about operating segments. Operating segments are defined as components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision maker, or decision making group, in deciding how to allocate resources and in assessing performance. Our chief operating decision maker is our Chief Executive Officer. Prior to the first quarter of 2003 the Company had two reporting segments, Prober and inspection products and EGsoft. In the first quarter 2003 the Company changed to a functional reporting structure from a divisional reporting structure and now has one reportable segment. Revenues from after-sale services have traditionally totaled less than 10% of the Company’s total revenues and are not shown separately.

The following is a summary of the Company’s net sales by geographic regions:

The following table presents summary information of the Company’s significant customers:

RESTRUCTURING CHARGES

Singapore relocation and U.S. workforce reduction:  In January 2002, the Company announced a restructuring plan to reduce its U.S. workforce and exit certain facilities in connection with the relocation of its manufacturing operations to Singapore. As a result of the continued semiconductor equipment downturn, and to better align its cost structure with the market demand for its products, the Company announced further workforce reductions in October 2002. Overall, 228 employees were designated for termination and 196 employees were terminated. The Company recorded a restructuring charge of $3.1 million in 2002. During the first quarter of 2003, an additional 3 employees were designated for termination, and 21 were terminated; and the Company recorded a restructuring charge of $0.2 million. During the second quarter of 2003, an additional 93 employees were designated for termination and 83 were terminated; and the Company recorded a restructuring charge of $2.1 million.

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International office closures:  During September and October of 2002, the Company announced plans to close its sales office in Japan and other offices in Europe and Asia. During the fourth quarter of 2002, 38 employees were designated for termination and 28 were terminated. In 2002 the Company recorded a restructuring charge of $1.5 million for severance payments, legal and accounting fees related to the closures, and asset write-downs. In the first quarter of 2003, the Company credited the restructuring reserve $0.1 million for unutilized reserves related to the Scotland office closure. In June 2003, the Company closed its German sales office and recorded a restructuring charge of $0.3 million.

Details of the restructuring charges in 2002 through June 30, 2003, included in accrued liabilities, are as follows:

PROVISION (BENEFIT) FOR INCOME TAXES

The Company recorded a net $0.7 million tax benefit for the six months ended June 30, 2003 representing the current estimated state and foreign tax provisions and a reversal of previously recorded foreign income tax reserves for years up to and including 2001. The foreign income tax reserve reversals related specifically to revised estimates of tax exposure in foreign jurisdictions. The Company recorded a net $1.2 million tax benefit for the six months ended June 30, 2002 representing the current estimated state tax provision and additional refunds that the Company claimed on its 2001 income tax return due to the change in tax law arising from the enactment of the Job Creation and Worker Assistance Act of 2002. The Company continues to record a full valuation allowance on domestic tax benefits until it can sustain an appropriate level of profitability.

COMMITMENTS AND CONTINGENCIES

In March 1997, the Company entered into a $12.0 million, five-year synthetic lease for approximately 21.5 acres of land in San Jose, California. A synthetic lease is a form of operating lease wherein a third party lessor funds 100% of the acquisition and construction costs relating to one or more properties to be leased to a lessee. The lessor was the owner of the leased property and had to provide at least 3% of the required funds in the form of at-risk equity. In July 1998, the lease agreement was amended to provide a construction allowance. That amendment also extended the expiration date of the lease to July 1, 2003. The lease agreement was further amended and effective in June 2001, required a mandatory collateralization of $48.3 million, which was reflected as restricted cash on the balance sheet. This amendment also included an adjustment to the interest rate and certain restrictions on the repurchase of common stock.

On August 9, 2002, the lease was further modified into a self-funding structure. Under this new structure, third parties funded 15% of the lease balance and the Company funded the remaining 85% through a loan

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to the lessor, which was reflected as a long-term lease receivable on the balance sheet. This amendment also included adjustments to the interest rate and certain restrictive covenants, which were effective as of June 30, 2002. Furthermore, the self-funding structure reduced the mandatory collateralization amount to $7.2 million (reflected as restricted cash on the balance sheet in 2002), representing the amount advanced by the third parties and not self-funded by the Company. The monthly lease payments on the portion of the lease balance self-funded by the Company were based on the London Interbank Offering Rate (LIBOR). These amounts were the same as the interest payments due on the loan to the lessor. The monthly lease payments on the portion of the lease balance funded by the third parties were based on LIBOR plus basis points, provided the mandatory collateralization amount remained at the full $7.2 million advanced by the third parties. The total gross lease payments paid during the first quarter of 2003 was $0.05 million. The Company ceased to make any further lease payment after it completed the purchase of the leased building in March 2003.

In December 2002, the Company received a fair market appraisal of its San Jose campus of $37.2 million, $11.3 million less than the guaranteed residual lease value of $48.3 million. Under EITF 96-21, Implementation Issues in Accounting for Leasing Transactions involving Special-Purpose Entities, beginning on the date the deficiency becomes probable, the expected deficiency is accrued by the lessee using the straight-line method over the remaining term of the lease. Accrual of a deficiency by a lessee is required regardless of whether the lessee expects to exercise a purchase or exercise the renewal option at the end of the lease term. Because the Company provided the lessor with a notice electing an early-designated sale date to purchase the leased assets in March 2003, the gross lease payments were calculated over the remaining four months of the lease. Thus, the Company began amortizing the $11.3 million deficiency at $2.8 million per month effective December 2002, and accordingly the Company recorded $8.5 million of additional rent expense in the first quarter of 2003.

At December 31, 2002, the Company was in compliance with all but one of the restrictive covenants contained in the amended lease agreement. As a result, the Company requested and received a waiver to the covenant for the remaining term of the lease agreement from the third-party lenders. On January 28, 2003, the Company provided the lessor with a notice electing an early-designated sale date and the purchase of the leased assets was completed in March 2003. The long-term lease receivable and cash collateral were used to fund the purchase price. The land and building were recorded at fair value plus closing costs, approximately $37.2 million and the accrued rent of $11.3 million was paid. As a result of the purchase, depreciation expense will increase by approximately $0.9 million per year, and rent expense and interest income will decrease by approximately $0.8 million and $0.7 million, respectively, per year based on current interest rates, effective the second quarter of 2003.

In January 2002, the Company entered into a three-year operating lease for a 39,000 square foot manufacturing facility in Singapore with annual lease payments of approximately $0.4 million. In August 2000, the Company entered into a six-year lease agreement in Mumbai, India for 4,000 square feet with an annual lease payment of approximately $0.5 million, increasing at 15% per year. As a result of the Company’s announced sale of its Design for Manufacturing (DFM) and Fab Solutions software product lines to FEI Company (FEI) on July 15, 2003, the remaining term of the Company’s lease obligation in Mumbai, India will be assumed by FEI.

The Company’s total minimum annual rental commitments of $2.9 million as of June 30, 2003 are as follows: July to December 2003, $0.7 million and for each year of 2004, 2005, 2006, 2007 and thereafter at $1.0 million, $0.5 million, $0.3 million, $0.3 million and $0.1 million, respectively.

In connection with the formation of the Company in 1993, the Company agreed to share with its former parent certain tax benefits arising from the increase in the aggregate tax basis of the assets transferred. The accompanying financial statements reflect an accrual of approximately $9.5 million, which is based on the Company’s best estimate of the amount payable under the agreement. However, the actual amount payable and the timing of the payment are dependent on the ultimate tax benefits realized and the timing of the realization of these tax benefits.

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Some customers using certain of the Company’s products have received a notice of infringement from Technivison Corporation and the Lemelson Medical Education & Research Foundation, or Lemelson, alleging that the manufacture of semiconductor products infringes certain patents currently held by Lemelson. Certain of these customers have notified the Company that, in the event it is subsequently determined that the customer infringes certain of the Lemelson patents, they may seek reimbursement from the Company for some damages or expenses resulting from this matter. The Company has in turn notified its suppliers that, in the event, it is subsequently determined that the Company’s customers are determined to infringe and that the Company is responsible for any associated costs and fees, that the Company may seek reimbursement for the resultant costs and fees. The Company believes that its products do not infringe the Lemelson patents. Certain customers are currently engaged in litigation with Lemelson involving 17 of its patents, and the validity of those patents has been placed in issue. The trial ended in January 2003, post trial briefs will be reviewed and it is expected that a decision will be made during the second half of 2003. In the future, it is possible that the Company may be required to participate in the litigation. The Company may incur costs with respect to such participation and cannot predict the outcome of this or similar litigation or the effect of such litigation on its business. To the best of the Company’s knowledge, Lemelson has not asserted that the Company may be liable for infringing its patents.

SUBSEQUENT EVENTS

On July 15, 2003, the Company announced the sale of its Design for Manufacturing (DFM) and Fab Solutions software product lines to FEI Company for $6.0 million in cash plus the assumption of certain liabilities, with $0.6 million of the cash consideration placed in escrow for one year from the closing date of the transaction, which occurred on July 15, 2003.

On July 16, 2003, the Company filed a Schedule TO with the Securities and Exchange Commission in connection with its Option Exchange Program pursuant to which eligible employee will have the opportunity to make a one-time election to cancel certain outstanding grants of stock options under the Electroglas, Inc. 1993 Long-Term Incentive Plan, the Electroglas, Inc. 1997 Stock Incentive Plan and the Electroglas, Inc. 2001 Non-Officer Employee Stock Incentive Plan and exchange them for a lesser number of new options at a new exercise price and with a new vesting schedule. The Company initiated this program in order to increase the motivational and retention value of its stock option program and to decrease the potentially dilutive effect of the large number of options held by employees that have exercise prices substantially above the current market price of the Company’s common stock.

RECENT ACCOUNTING PRONOUNCEMENTS

In November 2002, the FASB issued Interpretation No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others” (FIN 45). FIN 45 requires certain guarantees to be recorded at fair value upon issuance of a guarantee, which is different from current practice, where a liability is recorded when a loss is probable and reasonably estimable. In addition, FIN 45 also requires a guarantor to make significant new disclosures, even when the likelihood of making any payments under the guarantee is remote, which is another change from current practice. In general, FIN 45 applies to contracts or indemnification agreements that contingently require the guarantor to make payments to the guaranteed party based on changes in an underlying obligation that is related to an asset, liability or an equity security of the guaranteed party. The provisions related to recognizing a liability at inception of the guarantee do not apply to product warranties, indemnification provisions in the Company’s software license arrangements, or to guarantees accounted for as derivatives. The initial recognition and measurement provisions apply on a prospective basis to guarantees issued or modified after December 31, 2002, and the disclosure requirements apply to guarantees outstanding as of December 31, 2002. The Company has adopted the disclosure provisions, and the full adoption of FIN 45 is not expected to have a material impact on the Company’s financial position or results of operations.

In December 2002, the FASB issued SFAS No. 148, “Accounting for Stock-Based Compensation – Transition and Disclosure – an amendment of SFAS No. 123” (SFAS 148). This statement amends SFAS

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123 to provide alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. In additional, SFAS 148 amends the disclosure requirements of SFAS 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. The transition and annual disclosure requirements of SFAS 148 were effective for the Company’s fiscal year 2002. The Company adopted the interim disclosure requirements in the first quarter of fiscal 2003. The Company continues to account for stock-based compensation using APB 25 and has not adopted the recognition provisions of SFAS 123, as amended by SFAS 148. The Company is currently assessing the impact of the recognition provisions of SFAS 123, as amended by SFAS 148 on the Company’s financial position or results of operations.

In December 2002, the Emerging Issues Task Force (EITF) issued EITF 00-21, “Revenue Arrangements with Multiple Deliverables” (EITF). EITF 00-21 addresses certain aspects of the accounting by a vendor for arrangements under which it will perform multiple revenue-generating activities. In some arrangements, the different revenue-generating activities (deliverables) are sufficiently separable, and there exists sufficient evidence of their fair values to separately account for some or all of the deliverables. In other arrangements, some or all of the deliverables are not independently functional, or there is not sufficient evidence of their fair values to account for them separately. EITF 00-21 addresses when and, if so, how an arrangement involving multiple deliverables should be divided into separate units of accounting. EITF 00-21 does not otherwise change applicable revenue recognition criteria, and is applicable for the Company after June 2003. The Company is currently assessing the impact, if any, on its future revenue recognition.

In January 2003, the FASB issued Interpretation No. 46, Consolidation of Variable Interest Entities (FIN 46), an interpretation of Accounting Research Bulletin No. 51, Consolidated Financial Statements. FIN 46 establishes accounting guidance for consolidation of variable interest entities that function to support the activities of the primary beneficiary. The Company currently has no contractual relationship or other business relationship with a variable interest entity and therefore the adoption did not have an effect on the Company’s consolidated financial position or results of operations. However, if the Company enters into any such arrangement with a variable interest entity in the future, the Company’s consolidated financial position or results of operations may be adversely impacted.

On April 30, 2003, the FASB issued SFAS No. 149, Amendment of Statement 133 on Derivative Instruments and Hedging Activities (SFAS 149). SFAS 149 is intended to result in more consistent reporting of contracts as either freestanding derivative instruments subject to SFAS 133 in its entirety, or as hybrid instruments with debt host contracts and embedded derivative features. In addition, SFAS 149 clarifies the definition of a derivative by providing guidance on the meaning of initial net investments related to derivatives. SFAS 149 is effective for contracts entered into or modified after June 30, 2003. The Company believes that the adoption of SFAS 149 will not have a material effect on its consolidated financial position, results of operations or cash flows.

On May 15, 2003, the FASB issued Statement No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity (SFAS 150). SFAS 150 establishes standards for classifying and measuring as liabilities certain financial instruments that embody obligations of the issuer and have characteristics of both liabilities and equity. SFAS 150 represents a significant change in the accounting practice for a number of financial instruments, including equity instruments with mandatory redeemable features and certain equity derivatives that are frequently used in connection with share repurchase programs. Currently the Company has no outstanding financial instruments as defined under SFAS 150 in its share repurchase program. SFAS 150 is effective for all financial instruments created or modified after May 31, 2003, and to other instruments as of September 1, 2003. The Company adopted SFAS 150 on June 1, 2003 and the effect of adoption had no material impact on its financial position, results of operations or cash flows.

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ITEM 2.    MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

OVERVIEW

We are a supplier of semiconductor manufacturing equipment to the global semiconductor industry. Our primary product line is automated wafer probing equipment and related network software to manage information from that equipment. In conjunction with automated test systems from other suppliers, our semiconductor manufacturing customers use our wafer probers and network software to test semi-conduction wafers for quality and to improve their productivity and control their processes, optimizing manufacturing efficiency. We were formed on April 1, 1993, to succeed the wafer prober business conducted by the Electroglas division of General Signal Corporation, our former parent. Immediately prior to the closing of the initial public offering of our Common Stock, or IPO, on July 1, 1993, we assumed the assets and liabilities of the Electroglas division in the asset transfer. Following our IPO, we commenced operations as an independent corporation. We, through our predecessors, have been in the semiconductor equipment business for more than 40 years. We believe we are among the largest suppliers of wafer probers worldwide, having sold over 15,000 wafer probers.

In the past we have been involved in the development, manufacture, marketing, and servicing of semiconductor wafer inspection products and process management software products. Consistent with our strategy of focusing on our core business, automated wafer probers, in July 2003 we sold our Design for Manufacturing, and Fab Solutions software product lines, and we have discontinued further development of our wafer inspection products. We have now one consolidated business unit combining the 40 years of experience and resources of all three of our prior product divisions and focus on advancing wafer prober technologies for the semiconductor industry.

Additional information about Electroglas is available on our web site at www.electroglas.com. Electroglas makes available free of charge on our website our Annual Reports on Form 10-K, our Quarterly Reports on Form 10-Q, our Current Reports on Form 8-K and amendments to those Reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended, as soon as reasonably practicable after we electronically file them with or furnish them to the Securities Exchange Commission, or the SEC. Information contained on our web site is not part of this Quarterly Report on Form 10-Q, or our Annual Report on Form 10-K, or our other filings with the SEC.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

General

Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, we evaluate our estimates, including those related to revenue recognition, inventory valuation, warranties, allowance for doubtful accounts, and minority equity investments. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

We believe the following critical accounting policies affect our more significant judgments or estimates used in the preparation of our consolidated financial statements. Senior management has discussed the development and selection of these critical accounting policies and estimates with the audit committee.

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Revenue recognition

We recognize revenue on the sale of our semiconductor manufacturing equipment when we have received a customer purchase order or contract, when we have delivered the products or services, when we can be assured of the total purchase price without making significant concessions and when we are assured of our ability to collect from our customer. We sell to an industry that is highly cyclical with periods of high demand and significant oversupply. The companies in the semiconductor equipment manufacturing industry continue to consolidate as they are faced with rapidly increasing capital requirements and expensive technological change. In recognizing revenue we make certain assumptions and estimates, namely: for our legacy products, we recognize revenue upon product shipment or delivery on the basis that we have a legally enforceable claim on payment and for our newer products, we recognize revenue upon signed customer acceptance. With respect to collections from our customers, we assume, based on past history, that we will continue to collect our receivables from them without significant delays in payments or product concessions, despite the fact that they have larger financial size relative to us and despite our dependence on them in a heavily concentrated industry.

We recognize revenue on software licenses upon shipment if a signed contract exists, the fee is fixed or determinable, collection of resulting receivables is probable and product returns are reasonably estimable. For contracts with multiple obligations (e.g. maintenance, unspecified upgrades), we allocate revenue to each component of the contract based on objective evidence of its fair value or for products not being sold separately, and the price established by management. We recognize revenue allocated to maintenance fees for ongoing customer support and unspecified upgrades ratably over the period of the maintenance contract or upgrade period.

Inventory valuation

We value our inventories at the lower of cost or market using the first-in, first-out method. We may record charges to write down inventory due to excess, obsolete and slow moving inventory based on analysis of the impact of changes in technology on our products, the timing of these changes and our estimates of future sales volumes. These projections of changes in technology and forecasts of future sales are estimates. We are using a rolling twelve-month forecast based on anticipated product orders, product order history, forecasts and backlog to assess our inventory requirements. If there is continued weak demand in the semiconductor equipment markets and orders fall below our forecasts, additional write-downs of inventories may be required which may negatively impact gross margins in future periods.

Long-lived assets

We evaluate the carrying value of long-lived assets, consisting primarily of property, plant and equipment, whenever certain events or changes in circumstances indicate that the carrying amount of these assets may not be recoverable. In assessing the recoverability of long-lived assets, we compare the carrying value to the undiscounted future cash flows the assets are expected to generate. If the total of the undiscounted future cash flows is less than the carrying amount of the assets, the assets will be written down to their estimated fair value. Significant judgments and assumptions are required in the forecast of future operating results used in the preparation of the estimated future cash flows, including long-term forecasts of overall market conditions and our market share. Further, in the course of reviewing our business operations, we may consider divesting certain business operations. Changes in these estimates and business divestures could have a material adverse effect on the assessment of the long-lived assets, thereby requiring us to record additional asset write-downs in the future.

Restructuring and Impairment Charges

We account for restructuring charges under the provision of SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities” (SFAS 146) effective January 1, 2003. SFAS 146 nullifies EITF Issue No. 94-3, “Liability Recognition for Certain Employee Termination Benefits and other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring) (EITF 94-3). SFAS 146 requires that a liability for costs associated with an exit or disposal activity be recognized when the liability is

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incurred, rather than when the exit or disposal plan is approved. Additionally, we accounted for restructuring activities prior to 2003 under the provisions of SAB 100, “Restructuring and Impairment Charges” and EITF 94-3. Accordingly, restructuring accruals were recorded when management initiated an exit plan that would cause us to incur costs with no future economic benefit. Additionally, certain restructuring charges related to asset impairments are recorded in accordance with SFAS 144, “Accounting for the Impairment or Disposal of Long-Lived Assets”.

Warranty Liability

We generally warrant our products for a period of twelve months and we accrue a current liability for the estimated cost of warranty upon shipment. For our legacy products this accrual is based on historical experience and for our newer products this accrual is based on estimates from similar products. In addition, from time to time, specific warranty accruals may be made if unforeseen technical problems arise. If we experience unforeseen technical problems with our products in future periods to meet our product warranty requirements, revisions to our estimated cost of warranty may be required, and our gross margins will be negatively impacted.

Allowance for doubtful accounts

We closely monitor the collection of our accounts receivables and record a reserve for doubtful accounts against specifically identified amounts that we believe are irrecoverable. We sell primarily to large, well-established semiconductor manufacturers and semiconductor test companies and we have not experienced significant doubtful accounts losses in the past. We have, however, experienced slow downs in receivable collections, especially during semiconductor equipment down cycles, as customers extend their payment schedules to conserve their cash balances. If our customers continue to experience down cycles or their financial conditions were to deteriorate, we may be required to increase our reserve for doubtful accounts.

Minority equity investments

We have two minority equity investments in non-publicly traded companies that are recorded at the original cost reduced by assessed impairment in value, where appropriate. In determining if and when certain minority equity investment’s decline in value below cost is other-than-temporary, we evaluate the market conditions, offering prices, trends of earnings, price multiples, and other key measures for our investments accounted for at cost. When we believe such a decline to be other-than-temporary, we recognize an impairment loss in the current period’s operating results to the extent of the decline. For securities that do not have a readily determinable market price, we compare the net carrying amount of our cost method investments to similar equity securities with quoted prices when possible after giving effect to differences in risk premiums, estimated future cash flows, and other factors influencing the market value of the securities. When comparisons to quoted securities are not practical, we estimate the fair value based on recent sales and purchases of similar unquoted equity securities, independent appraisals, or internally prepared appraisals to estimate the fair value.

RESULTS OF OPERATIONS

The components of our statements of operations, expressed as a percentage of net sales, are as follows:

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Net Sales

Net sales for the three and six month periods ended June 30, 2003 were $10.3 million, $19.8 million, down 50% and 39% from prior year amounts of $20.5 million and $32.2 million, respectively. The decreases were primarily due to lower system unit sales of probers as customers continued to curtail their capital spending or delay shipments in response to the persisting industry excess production capacity conditions resulting from the negative global political and economic climates. As a result of the uncertainties in this market environment, any rescheduling or cancellation of planned capital purchases by semiconductor manufacturers will cause our sales to fluctuate on a quarterly basis. Net sales are comprised of prober and inspection systems, software, and aftermarket sales, consisting primarily of after-sales services, spare parts and upgrades. Service revenue has traditionally been less than 10% of the Company’s net sales. Net sales of the Company’s products are as follows:

International sales as a percentage of total sales for the three and six month periods ended June 30, 2003 were 70% and 69%, respectively as compared to 44% and 36% for the same prior year periods. The Company expects international sales continuously to represent a significant percentage of net sales, and fluctuate as a percentage of total sales as individual manufacturers and semiconductor test companies address their capacity needs at differing stages of the semiconductor cycle.

Gross Profit (loss)

Gross profit (loss), as a percentage of sales, for the three and six month periods ended June 30, 2003 was (1.8%) and 3.3% as compared to 6.2% and 5.3% for the same prior year periods. The decrease in gross profit of $1.5 million and $1.1 million for the three and six month periods ended June 30, 2003 as compared to 2002 was primarily due to additional inventory and warranty reserves of $1.7 million recorded in the second quarter of 2003 related to the wind-down of the Company’s inspection product business. We believe that our gross profit will continue to be affected by a number of factors, including

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competitive pressures, changes in demand for semiconductors, product mix, the proportion of international sales, the level of software sales, our share of the available market, the move of manufacturing operations to Singapore, and excess manufacturing capacity costs. Continued weak demand and changes in market conditions may cause orders to be below forecasts as was experienced throughout 2001 and 2002, which may result in excess inventory. Consequently, additional write-downs of inventories may be required, which may negatively impact gross profit in future periods.

Engineering, Research and Development (ER&D)

The decreases in the three and six month periods of 2003 over 2002 in absolute dollars were primarily due to reduced employee related costs, and costs for outside services. As a percentage of net sales, engineering, research and development expenses increased as a result of fluctuations in net sales and other operating expenses. During the current business cycle downturn, we intend to control discretionary expenses and continue investing in our new product programs. Engineering, research and development expenses consist primarily of salaries, project materials, consultant fees, and other costs associated with our ongoing efforts in hardware and software product development and enhancement.

Sales, General and Administrative (SG&A)