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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

For the fiscal year ended December 31, 2003

OR

For the transition period from                      to                     .

Commission file number:                     

NPTest Holding Corporation

(Exact name of registrant as specified in its charter)

150 Baytech Drive, San Jose, California 95134

(Address of principal executive office, including zip code)

Registrant’s telephone number, including area code: (408) 586-8200

Securities registered pursuant to Section 12(b) of the Act: None.

Securities registered pursuant to Section 12(g) of the Act:

Common Stock, $.001 par value

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes x   No ¨

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. x

Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2).

Yes ¨   No x

The aggregate market value of the voting stock held by non-affiliates of the registrant, as of March 15, 2004, was approximately $204,692,000 based upon the last sale price reported for such date on the Nasdaq National Market. Shares of Common Stock held by each officer and director and by each person who owns 5% or more of the outstanding Common Stock have been excluded because such persons may be deemed to be affiliates. This determination of affiliate status is not necessarily conclusive for all other purposes.

The number of shares of Registrant’s Common Stock outstanding as of March 15, 2004 was 39,986,572.

DOCUMENTS INCORPORATED BY REFERENCE:

Portions of the definitive Proxy Statement for the Company’s Annual Meeting of Stockholders are incorporated by reference into Part III of this Form 10-K.

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INDEX

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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

This report contains certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. All statements included in or incorporated by reference in this Annual Report on Form 10-K, other than statements of historical fact, are forward-looking statements. You can identify these and other forward-looking statements by the use of words such as “may,” “will,” “could,” “would,” “should,” “expects,” “plans,” “anticipates,” “relies,” “believes,” “estimates,” “predicts,” “intends,” “potential,” “continue,” or the negative of such terms, or other comparable terminology. Forward-looking statements also include the assumptions underlying or relating to any of the foregoing statements. Such forward-looking statements include, among others, those statements regarding the future results of our operations; the recovery and upturn in the demand for semiconductors; technological trends in the semiconductor industry; our future product offerings and product features, as well as industry adoption of new technology; customers’ results utilizing our products; anticipated revenue from various domestic and international regions; international sales and operations; maintenance of competitive advantage; success of our product offerings; completion of backlog; creation of development and engineering programs for research and development; attraction and retention of employees; the completion of any acquisitions of third parties, or the technology or assets thereof; benefits received from any acquisitions and development of acquired technologies; the outcome of any litigation to which we are a party; results of our investment in leading edge technologies; enhancements of current products and strategic acquisitions; our future income tax rate; sufficiency of our existing cash balance, and investments and cash generated from operations to meet our liquidity and working capital requirements.

Our actual results may differ significantly from those projected in the forward-looking statements in this report. Factors that might cause or contribute to such differences include, but are not limited to, those discussed in the “Risk Factors” section in Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and Item 1, “Business” in this Annual Report on Form 10-K. You are cautioned not to place undue reliance on these forward-looking statements, and we expressly assume no obligations to update the forward-looking statements in this report that occur after the date hereof.

NPTest, the NPTest logo, DeFT, Sapphire NP, IDS, IDS OptiFIB, IDS OptiCA and SABER are our trademarks in the United States and other countries. All other trademarks, trade names or service marks appearing in this Annual Report on Form 10-K are the property of their respective owners.

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PART I

Overview

We design, develop and manufacture advanced semiconductor test and diagnostic systems and provide related services for the semiconductor industry. Our customers include integrated device manufacturers, or IDMs, fabless design companies, foundries and assembly and test subcontractors worldwide. Our products and services enable our customers to bring their increasingly complex integrated circuits, or ICs, to market faster, at lower cost and without compromising IC quality. We offer products that enable our customers to debug, characterize and test a wide range of ICs, including the fastest multi-Gigahertz microprocessors and the most highly integrated, high-speed system-on-a-chip, or SOC, devices. In addition, we provide test-engineering services, including debug, repair and characterization.

Our business dates back to 1965 when Fairchild Semiconductor established an automated test equipment division. Schlumberger Limited, a global oilfield and information services company with major activity in the energy industry, acquired Fairchild Semiconductor in 1979. The business we now operate, which we refer to as NPTest, Inc., was a part of the business Schlumberger acquired. On July 29, 2003, NPTest Holding, LLC, which is principally owned by Francisco Partners (95.7%) and Shah Management (3.6%), acquired NPTest, Inc. from Schlumberger. On December 16, 2003, we completed the sale of 14,600,000 shares in an initial public offering of our common stock. As of December 31, 2003, NPTest Holding, LLC owned approximately 63.4% of our outstanding common stock.

On February 23, 2004, we announced that we have entered into a definitive merger agreement pursuant to which Credence Systems Corporation, a leading provider of design-to-test solutions for the worldwide semiconductor industry, will acquire us. In accordance with the merger agreement, each share of our common stock will be converted into the right to receive, directly or indirectly, 0.8 shares of Credence common stock and $5.75 in cash. The closing of this transaction is subject to a number of conditions precedent, including approval by our stockholders and by Credence’s stockholders.

Corporate Structure

We were incorporated in June 2003, in Delaware, for the purposes of acquiring NPTest, Inc. from Schlumberger. We indirectly own 100% of the capital stock of NPTest, Inc., which conducts its operations, in part, through direct and indirect wholly-owned subsidiaries in the United States, Europe and Asia.

Industry Background

Historically, the semiconductor industry has been driven by the ability to integrate an increasing number of transistors on a given area of silicon, which has allowed for the production of smaller, faster and more complex integrated circuits at decreasing costs. This has been accomplished by shrinking circuit dimensions, increasing the silicon wafer size to allow for more die per wafer and introducing new conductive and insulating materials. These advancements, in combination with decreasing average selling prices, have allowed for the proliferation of semiconductor devices, as well as an increase in semiconductor content, in a wide variety of end market applications including computer, consumer and communication devices.

Despite the proliferation of semiconductor devices and increase in semiconductor content, the semiconductor industry is traditionally cyclical. Since peaking in 2000, the industry has been in the midst of a downturn which has been characterized by depressed end market demand, low utilization of equipment by semiconductor manufacturers and assembly and test subcontractors, and reduced spending on semiconductor capital equipment. Over the last two years, semiconductor manufacturers have focused capital equipment spending on advanced wafer processing equipment, but have invested less in improvements in back-end processes such as test and diagnostics. In addition, life cycles of end products have shortened and leading edge devices have moved to smaller geometries and higher performance levels. As a result, test systems installed during the industry peak do not meet the requisite performance requirements and are not cost-effective for new generations of ICs. Recent evidence points to a recovery in the industry as semiconductor manufacturers have seen increased demand for their products. We believe these factors will lead to demand for new cost-effective test products that are flexible enough to meet the evolving needs and rapid time-to-market requirements of semiconductor manufacturers.

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Semiconductor Design and Manufacturing Process

The following stages depict the multistage semiconductor design and manufacturing process:

Market Challenges

Test and associated design diagnostics play key roles in the semiconductor design and manufacturing process. Test and diagnostics are critical in high volume manufacturing for identifying non-performing ICs and isolating the cause of malfunctions. They are also essential to debugging and characterizing ICs, and measuring and increasing yield as manufacturing volumes increase. Test and diagnostics are becoming more challenging due to a number of factors, including:

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Our Solution

We design, develop, manufacture, sell and support advanced semiconductor test and diagnostic systems and offer test engineering services that enable our customers to increase their engineering and manufacturing efficiency and lower their cost of test. Our solution offers:

Business Strategy

Our objective is to lead the semiconductor test industry by introducing technologies that enhance the efficiency of test, validation and characterization in the semiconductor design and manufacturing process. Key elements of our strategy include:

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Products and Services

Our suite of products and services allows us to cost effectively meet our customers’ needs in IC design debug and validation, and IC repair, characterization, wafer sort, final test and failure analysis. We deliver high quality customer support and make available our engineering, diagnostic and test process expertise to semiconductor companies. Our products for IC design debug and validation, and IC repair and characterization are used in the validation and characterization stage; wafer sort products are employed at the end of the wafer fabrication stage; final test products are used in the assembly and final test stage; and failure analysis products are used in the failure analysis stage. Customer support and engineering services are available at each stage to help customers achieve optimal use of our products.

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Products

Our principal products include the following:

EXA3000. The EXA3000, introduced in 2000, is a high performance functional test platform capable of testing a wide range of ICs. The EXA3000 provides a wide performance range from 400 MHz to 3.2 GHz, allowing the test of most SOCs, microprocessors and graphics ICs. The EXA3000 is used for characterization and final test. Most recently, NVIDIA Corporation purchased multiple EXA3000 test systems to test current and next generation graphic ICs for characterization and production. The EXA3000 is flexible and customizable and includes features such as high performance digital instruments, advanced analog instruments, mixed signal synchronization, low electrical noise and a common graphical user interface. When configured with a high performance test head, the EXA3000 offers up to 1,280 configurable pins for high pin count ICs or for multiple testing of low pin count ICs.

DeFT. The DeFT is a structural test system, which is used to test high-end microprocessors and chipsets for wafer sort and final test. When it was introduced in 2001, it was the first commercially available structural tester. The DeFT is a low cost system, featuring a reduced pin count test interface that can test DFT-ready ICs. The DeFT also features high performance scan capability, a high accuracy clock and proprietary power supply technology that can provide up to 400 Amps with fast transient response.

Sapphire NP. Sapphire NP, our next generation platform introduced in July 2003, is designed to be a highly reconfigurable and scalable functional and structural tester for a wide range of ICs. Sapphire NP has all of its test electronics integrated in the test head and interconnected by a proprietary high bandwidth bus, which results in a lower cost platform and a smaller footprint. Sapphire NP can be used for design debug and validation, characterization, wafer sort and final test. Sapphire NP’s design supports a broad configuration range of up to 5,000 pins and a performance envelope that ranges from 200 MHz to 6.4 GHz. Initially, Sapphire NP is being sold in less complex configurations targeted at markets that require cost effective test solutions.

IDS 10000. The IDS 10000, introduced in 1994, is a compact electron beam system for IC diagnostics, with a computer aided design, or CAD, navigation user interface. During IC design debug and validation, the IDS 10000 can measure signals inside the IC, enabling the user to trace malfunctions to their root cause. In addition, in the failure analysis stage, IDS 10000 is capable of analyzing malfunctions down to 0.18 micron for non-working devices returned by customers.

IDS OptiCA. The IDS OptiCA, introduced in 2002, is an in-circuit probe and defect analysis tool using photon emission technology. The IDS OptiCA complements the IDS 10000 for testing flip chip and other advanced package devices which require instruments that can test from both sides of the IC as well as at the wafer level. IDS OptiCA detects electrical leakages and faulty electrical paths in the IC, two common problems associated with advanced process technologies through the integrated photon emission microscope, thermal laser simulation tool and timing analysis tool. The IDS OptiCA is capable of analyzing defects down to 90 nm. The IDS OptiCA is used for design debug and validation as well as failure analysis.

IDS OptiFIB. The IDS OptiFIB, introduced in 2002, is a Focused Ion Beam product used for circuit edit and repair. The IDS OptiFIB is unique because it combines ion and photon optics in a single coaxial column, with a CAD navigation interface, which enables the user to align FIB and CAD images simultaneously, increasing the accuracy of circuit modifications. In failure analysis, the IDS OptiFIB can identify and repair circuit layout at inner metal layers.

Services

NPTest services are an integral part of our business and directly contribute to customer satisfaction, as evidenced by the customer satisfaction awards that we have received which include:

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Customer Service

We have established a worldwide organization of engineers and specialists to help our customers maintain and repair our products. As of December 31, 2003, we had a customer service support staff of 239 people, including a call center staffed by trained technicians. A broad range of services is offered to address the technical needs of our customers. A 24-hour 7-day-a-week logistics network supports our customer service effort and we have two repair centers in North America. Our spare parts logistics network is outsourced to a specialized third party supplier with an international network of warehouses that provides express deliveries to our customer sites within two to 24 hours of receiving an order and offers our customers on-line access to shipment status. We believe that we have increased the productivity of our customer service organization through:

SABER

Established in 1997, our SABER group provides test engineering services for fabless semiconductor companies, system integrators, and IDMs. Many IC vendors, typically fabless companies, require outsourced assistance to help them reduce their IC design debug cycle-time, number of design iterations, and overall development costs. SABER services leverage our competencies in characterization, validation, circuit edit and high volume manufacturing test deployment, and provide access to leading edge techniques for companies who choose to outsource these type of engineering activities. SABER’s service offerings complement and optimize our customers’ overall outsourcing strategy by working cohesively with their design service, foundries, and assembly and test subcontractors. To better serve these customers, SABER has formed a strategic alliance with a major foundry that positions SABER to reach a broad universe of fabless semiconductor companies through its customer referrals. As of December 31, 2003, our SABER group had a staff of 68 people.

Sales and Marketing

We generate business primarily by expanding customer relationships. In a number of cases, early technology exchanges with industry leaders have developed into common projects, whereby the customer specifies product requirements and we develop the technology and implement the solution, within specified timing and pricing constraints. We work with our customers collaboratively to develop specific products, which we then market on a broader basis. We place a high value on developing and maintaining these types of relationships with our customers, which we believe is the best approach to product development. We sell our products and services directly to IDMs, fabless companies and assembly and test subcontractors. As of December 31, 2003, we had 81 people in our sales and marketing organization with sales offices in the major semiconductor manufacturing markets. We market our products and services to IDMs through our account managers. Account managers are responsible for the general relationship with the customer, including the coordination and preparation of technology roadmap exchanges. We have also established specialized sales and marketing teams to meet the particular requirements of fabless companies and assembly and test subcontractors, with a team dedicated to each group. These teams market our products and services to take advantage of cross-selling opportunities.

Customers

The semiconductor industry is highly concentrated, and a small number of IC device manufacturers and assembly and test subcontractors account for a substantial portion of the purchases of IC test equipment. Intel and STMicroelectronics, accounted for 41% and 11%, respectively, of our total combined twelve months revenue. The combined twelve months December 31, 2003 information represents the sum of the financial data for the January 1, 2003 to July 29, 2003 period for NPTest, Inc. and the financial data for the period from June 20, 2003 (our inception) to December 31, 2003 for NPTest Holding Corporation. These two customers are the only customers who accounted for 10% or more of our total revenue

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during this period. Sales to customers in North America accounted for approximately 51%, 52% and 39% of total revenue for the years ended December 31, 2003, 2002 and 2001, respectively; sales to customers in France accounted for approximately 8%, 9% and 10% of total revenue for the years ended December 31, 2003, 2002 and 2001, respectively; sales to customers in other countries in Europe accounted for approximately 8%, 5% and 13% of total revenue for the years ended December 31, 2003, 2002 and 2001, respectively; sales to customers in Japan accounted for approximately 9%, 9% and 9% of total revenue for the years ended December 31, 2003, 2002 and 2001, respectively; and sales to customers in other countries in Asia accounted for approximately 24%, 24% and 28% of total revenue for the years ended December 31, 2003, 2002 and 2001, respectively. Information on 2002 and 2001 represents the financial data for NPTest, Inc.

Manufacturing

All of the products manufactured by NPTest are assembled and shipped from our 105,000 square foot facility in Simi Valley, California. Our manufacturing operations are comprised of four segments: supply chain management, front-end manufacturing, system integration and test, and quality control. The supply chain organization is responsible for the planning and procurement of material, based on a monthly build plan approved by senior management, utilizing an MRP (material requirements planning) information system. Front-end manufacturing delivers complete and fully tested multi-layer electronic boards. System integration and test performs electro-mechanical integration, system calibration and final test and assists with customer acceptance. There is a formal quality structure in place with a strategy focused on process improvement teams to achieve overall factory quality targets. Both internal teams and customer representatives conduct regular quality assessments.

We outsource a portion of our front-end manufacturing requirements to Flextronics in St. Etienne, France. This strategy gives us the capability to increase our production volumes in a timely manner when there is a sudden surge in market demand. We expect to continue this arrangement with Flextronics in the future or, if advantageous, to obtain these services from another contract manufacturer. As of December 31, 2003, we had a staff of 133 people in our manufacturing group.

Research and Development

We have a highly structured approach to maximize research and development efficiency. A group of internal advisors formulates a long-term technology plan with clear objectives. Through our direct engagement with customers, high-priority projects are identified and appropriate resources are located. Engineering resources are organized by area of competence to effectively develop expertise and to share technologies across product lines. To improve our time-to-market with new products and technologies, we have multiple development centers worldwide that work simultaneously on projects, delivering 24-hour a day engineering capability. We internally develop software components for our products to achieve ease of use, integrated functionality, throughput efficiency and calibration/diagnostic effectiveness. This development is based on object-oriented architecture, modeling and design. We design critical devices, boards and modules that implement our proprietary architecture in our products. We use both internally developed and licensed sub-micron technology in our products. Our technologists include leaders in their field who regularly publish technical articles in leading industry publications and present at industry conferences.

Our expenditures for research and development for the combined twelve months ended December 31, 2003 were $52.6 million, representing 23% of revenue. The 2003 spending includes $5.0 million of in-process research and development expenses, from the purchase of NPTest, Inc. by Francisco Partners and $2.2 million of divestiture and retention bonuses. Our historical expenditures for 2002, and 2001 were $36.6 million and $34.7 million, respectively, representing 15.0% and 15.7% of revenue in each of the respective periods. The combined twelve months ended December 31, 2003 information represents the sum of the financial data for the January 1, 2003 to July 29, 2003 period for NPTest, Inc. and the financial data for the period from inception to December 31, 2003 for NPTest Holding Corporation. As of December 31, 2003, we had a staff of 224 employees in our research and development group.

Competition

We face substantial competition throughout the world in each of our product areas. Our competitors in the test and diagnostic systems market primarily include Advantest, Agilent Technologies, Credence Systems, FEI Company, Hamamatsu, LTX Corporation and Teradyne. As noted previously, on February 23, 2004, we announced that we have entered into a definitive agreement pursuant to which Credence Systems Corporation, a leading provider of design-to-test solutions for the worldwide semiconductor industry, will acquire us for cash and shares of Credence common stock.

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Some of our competitors have substantially greater financial resources and more extensive engineering, manufacturing, marketing and customer support capabilities. We expect our competitors to continue to improve the performance of their current products and to introduce new products or new technologies that could adversely affect sales of our current and future products. In addition, we anticipate that increased competitive pressures will cause intensified price-based competition and we may have to adjust the prices of many of our products.

Intellectual Property

Our success depends in large part on our proprietary technology. We are not dependent on any individual patent but instead we rely on a combination of patents, copyrights, trademarks, trade secrets, confidentiality provisions and licensing arrangements to establish and protect our proprietary rights. As of December 31, 2003, we had 84 United States patents and 78 foreign patents. We may be required to spend significant resources to monitor and protect our intellectual property rights. We may not be able to detect infringement and may lose our competitive position in the market before we do so. In addition, competitors may design around our technology or develop competing technologies. Intellectual property rights may also be unavailable or limited in some foreign countries, which could make it easier for competitors to capture market share. We often rely on licenses of intellectual property useful for our business. We cannot be sure that these licenses will be available in the future on favorable terms or at all. In addition, our position with respect to the negotiation of licenses may change as a result of our acquisition from Schlumberger or as a result of our merger with Credence Systems.

Third parties may claim that we are infringing their intellectual property rights, and although we do not know of any infringement by our products of the valid intellectual property rights of third parties, we may be unaware of intellectual property rights of others that may cover some of our technology, products and services. Any litigation regarding patents or other intellectual property rights could be costly and time-consuming, and divert our management and key personnel from our business operations. The complexity of the technology involved and the uncertainty of intellectual property litigation increase these risks. Claims of intellectual property infringement might also require us to enter into costly royalty or license agreements and we may not be able to obtain royalty or license agreements on terms acceptable to us, or at all. We also may be subject to significant damages or injunctions against development and sale of certain of our products.

Employees

As of December 31, 2003, we had approximately 891 full time employees, of which 160 were located in Europe, 157 were located in Asia (including 47 in Japan) and 574 were located in North America. Of our total employees, 224 were principally dedicated to research and development, 158 were dedicated to sales, general and administrative, 376 were dedicated to customer service, marketing and applications and 133 were dedicated to manufacturing. None of our employees located in the United States are represented by a union. Our employees in Europe are represented by workers’ councils. Employees are compensated with a combination of salary, cash bonus and stock options.

Backlog

Our backlog of unfilled orders for all products and services was $68.3 million and $50.6 million at December 31, 2003 and 2002, respectively. The 2003 backlog represents orders that are scheduled for delivery through December 31, 2004. While backlog is calculated on the basis of firm orders, all orders are subject to cancellation or delay by the customer, generally without penalty. Our backlog at any particular date, therefore, is not necessarily indicative of actual sales that may be generated for any succeeding period. Historically, our backlog levels have fluctuated based upon the ordering patterns of our customers.

Available Information

NPTest Holding Corporation’s website is http://www.nptest.com. NPTest will make available free of charge, on or through its website, its annual, quarterly and current report, and any amendments to those reports, as soon as reasonably practicable after electronically filing such reports with the Securities and Exchange Commission. This website address is intended to be an inactive textual reference only; none of the information contained on NPTest’s website is part of this report or is incorporated by reference herein.

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The SEC maintains a website that contains reports, proxy and information statements of the Company. Information that we file electronically to the SEC is available at the SEC website (http://www.sec.gov). The public may read and copy any materials the Company files with the SEC at the SEC’s Public Reference Room at 450 Fifth Street, N.W., Washington, D.C. 20549. The public may also obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330.

This annual report is available to any stockholders upon written request to the company’s Investor Relations Department at the Company’s headquarters on 150 Baytech Drive, San Jose, California 95134.

We are headquartered in San Jose, California, where we lease approximately 150,000 square feet of commercial space under a term lease that expires on October 31, 2009, subject to renewal for up to 15 years at our option. Under the lease, monthly payments are approximately $180,000. Our monthly payments under this lease will increase in 2005 to approximately $255,000. These facilities are used for executive office space, including sales and marketing, and finance and administration. We also lease approximately 105,000 square feet in Simi Valley, California under a term lease that expires on January 14, 2007. Monthly payments under this lease are approximately $74,000. The Simi Valley facility is primarily used for product assembly and manufacturing. We lease approximately 10,000 square feet in St. Etienne, France under a lease contract with Schlumberger assigned to Flextronics that expires on June 30, 2011 for an annual cost of about 256,000 Euro. We also lease approximately 7,700 square feet in Ferndown, U.K. under a lease contract with Schlumberger that expires on December 31, 2009. Monthly payments for the Ferndown facility under the agreement are approximately £9,350. The Ferndown and St. Etienne facilities are primarily used for engineering.

We believe that our existing facilities are adequate for our current needs.

There are presently no material legal proceedings pending, other than routine litigation incidental to our business, to which we are a party or to which any of our properties is subject.

The following matters were approved by NPTest Holding, LLC, at the time the sole stockholder of the Company, during the fourth quarter of the fiscal year ended December 31, 2003, by means of a written consent:

Actions by Written Consents dated November 18, 2003:

Actions by Written Consent dated December 4, 2003:

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PART II

The Company’s Common Stock is traded on the NASDAQ National Market under the symbol “NPTT.” The following table sets forth for the periods indicated the high and low sale prices of the Common Stock as reported by NASDAQ.

On March 15, 2004, the last sale price of the Common Stock as reported by NASDAQ was $14.02 per share.

As of March 15, 2004, there were less than 100 holders of record of the Company’s Common Stock.

To date, the Company has paid no cash dividends to its stockholders. The Company has no plans to pay cash dividends in the near future.

Exchange of Preferred Stock

In order to finance our acquisition of NPTest, Inc., we issued $68 million of convertible mandatory redeemable preferred stock to NPTest Holding, LLC, and our subsidiary, NPTest Capital Corporation, issued $50 million of mandatory redeemable preferred stock to NPTest Holding, LLC.

On December 16, 2003, we redeemed $20.75 million of NPTest Holding, LLC’s shares of mandatory redeemable preferred stock of NPTest Capital Corporation for cash from the proceeds of our initial public offering. We also exchanged at $12.00 per share of common stock, all of the remaining shares of preferred stock of NPTest Capital Corporation (including the additional amounts accreted from July 29, 2003 through December 16, 2003) for 2,566,247 shares of our common stock.

On December 16, 2003, NPTest Holding, LLC has also exchanged all of its shares of our convertible mandatory redeemable preferred stock (including the additional amounts accreted from July 29, 2003 through December 16, 2003), for 17,195,325 shares of our common stock at $4.09216 per share, the conversion price of the preferred stock.

Use of Proceeds

The following use of proceeds information pertains to the initial public offering of 14,600,000 shares of our Common Stock, par value $0.001 per share, which were sold pursuant to our Registration Statement on Form S-1 (Registration No. 333-108664) (the “Registration Statement”), declared effective on December 10, 2003 by the Securities and Exchange Commission. The offering commenced on December 11, 2003, and the underwriters delivered all of the shares registered to the purchasers on December 16, 2003. Citigroup Global Markets Inc. acted as sole book-running manager of the offering. Citigroup Global Markets Inc., Credit Suisse First Boston LLC, Lehman Brothers Inc. and Banc of America Securities LLC acted as representatives to the various underwriters. The public offering price for these shares was $12.00 per share. The underwriting discount was $0.84 per share. The proceeds to us, before expenses, were $11.16 per share, or approximately $162.9 million.

Our net proceeds from our initial public offering were approximately $160.3 million after deducting underwriting discounts and a reasonable estimate of expenses paid by us. We used our net proceeds from the sale of the shares in this offering to repay our $75.0 million principal amount senior term loan, plus accrued but unpaid interest, from an affiliate of Citigroup. The loan was guaranteed by Francisco Partners, the principal beneficial holder of our common stock. It was used by us to finance in part our acquisition of NPTest, Inc. from Schlumberger. We used $20.75 million of our net proceeds for the redemption of a portion of the mandatory redeemable Series A Preferred Stock issued by our subsidiary, NPTest Capital Corporation, all of which was held by NPTest Holding, LLC, which is principally owned by Francisco Partners (95.7%) and Shah Management (3.6%). In addition, $5.0 million of our net proceeds was used to make a one-time payment to Francisco Partners in consideration for the termination of certain obligations to Francisco Partners. See Item 13, “Certain Relationships and Related Transactions-Relationship with Francisco Partners.” The remainder of our net proceeds from the offering are being used for

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working capital and general corporate purposes, including the further development, production and commercialization of the Sapphire NP platform, and investments in selling, general and administrative activities and other product development. No material amounts were spent with respect to these items prior to the ending date of the reporting period covered by this Annual Report on Form 10-K. In addition, while we currently have no specific acquisition plans, we may use a portion of the net proceeds to acquire complementary products, technologies or businesses.

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NPTest Holding Corporation was incorporated on June 20, 2003, and did not have any operations prior to July 29, 2003. Financial data for the periods prior to July 29, 2003 are referred to as “Predecessor Company” and are derived from the combined financial statements of NPTest, Inc. Although NPTest, Inc. was not a separate company, the accompanying combined financial statements are presented as if NPTest, Inc. had existed as an entity separate from Schlumberger and its subsidiaries. These combined financial statements include the historical assets, liabilities, revenues and expenses that were directly related to the NPTest, Inc. business of Schlumberger during the periods presented and have been derived from Schlumberger’s historical bases in the assets and liabilities and the historical results of operations of NPTest, Inc. Our financial statements for the period from inception to December 31, 2003 reflect the purchase accounting resulting from the acquisition of NPTest, Inc. from Schlumberger on July 29, 2003. Following the acquisition of the business from Schlumberger, we began accumulating retained earnings.

The results of operations for the interim period January 1, 2003 to July 29, 2003 of NPTest, Inc. and the period from inception to December 31, 2003 of NPTest Holding Corporation are not necessarily indicative of the results of operations to be expected for any other interim period or for the full year.

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The following tables reflect selected consolidated summary financial data for each of the last five fiscal years. This data should be read in conjunction with Item 8, “Financial Statements and Supplementary Data,” and with Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in this Annual Report on Form 10-K.

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We were formed on June 20, 2003 for the purpose of acquiring NPTest, Inc. from Schlumberger. Accordingly, we had no operations prior to our acquisition of NPTest, Inc. on July 29, 2003, and our historical financial statements for the periods prior to July 29, 2003 are not meaningful. For purposes of the following discussion, our financial statements, unless otherwise indicated, also refer to historical financial statements of NPTest, Inc. (our predecessor) included herein although the financial results are not directly comparable. The following discussion should be read in conjunction with the financial statements and notes thereto. The following discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from the results contemplated by these forward-looking statements due to certain factors, including those factors discussed below and elsewhere in this prospectus.

Overview

General

We design, develop and manufacture advanced semiconductor test and diagnostic systems and provide related services for the semiconductor industry. Our customers include integrated device manufacturers, or IDMs, fabless design companies, foundries and assembly and test subcontractors worldwide. Our products and services enable our customers to bring their increasingly complex integrated circuits, or ICs, to market faster, at lower cost and without compromising IC quality. We offer products that enable our customers to debug, characterize and test a wide range of ICs, including the fastest multi-Gigahertz microprocessors and the most highly integrated, high-speed system-on-a-chip, or SOC, devices. In addition, we provide test engineering services, including debug, repair and characterization. As of December 31, 2003, we had 891 employees worldwide.

Our business dates back to 1965 when Fairchild Semiconductor established an automated test equipment division. Schlumberger Limited, a global oilfield and information services company with major activity in the energy industry, acquired Fairchild Semiconductor in 1979. The business we now operate, which we refer to as NPTest, Inc., was a part of the business Schlumberger acquired. On July 29, 2003, NPTest Holding, LLC, which is principally owned by Francisco Partners (95.7%) and Shah Management (3.6%), acquired NPTest, Inc. from Schlumberger. On December 16, 2003, we issued 14,600,000 shares in an initial public offering of our common stock. Thereafter, NPTest Holding, LLC owned approximately 63.4% of the Company.

As part of Schlumberger, we benefited from various economies of scale including shared global administrative functions, facilities and volume purchase discounts. As a result, some of our costs and expenses have increased as a stand-alone entity. However, we are no longer subject to a general and administrative charge imposed by Schlumberger which is reflected in our historical results through the third quarter of 2002.

In connection with the acquisition of NPTest, Inc. from Schlumberger, Francisco Partners guaranteed the repayment of a $75.0 million loan we received from Citicorp North America, Inc., or Citicorp, at the time of the acquisition. This loan was paid off on December 16, 2003 from the proceeds of the Company’s initial public offering. In July 2003, we entered into a ten-year agreement with Francisco Partners for advisory services for which we will pay the greater of $2.0 million or 0.6% of our consolidated annual revenue. This agreement was amended and we paid Francisco Partners an aggregate of $5.0 million for financing and other services from the proceeds of our initial public offering on December 16, 2003 which was expensed as selling, general and administrative expenses during the period. On December 31, 2003, accrued fees payable to Francisco Partners for advisory fees amounted to $764,000. In February 2004, the entire amount was paid to Francisco Partners. Francisco Partners will no longer be required to provide advisory services under the original advisory agreement and all future annual advisory fees under the original advisory agreement will cease. However, we may pay future service fees to Francisco Partners under the amended agreement in exchange for any acquisition, financing or other services as we and Francisco Partners may agree. We have paid Francisco Partners and Shah Management a $6.27 million fee, plus reasonable out of pocket expenses, for services rendered in connection with the structuring of the financing of our acquisition from Schlumberger. These issuance costs were recorded as an offset against the proceeds from the financings. We also entered into a transition services agreement with Schlumberger under which we are required to pay to Schlumberger, and Schlumberger is required to pay to us, fees for a limited set of transition services to be provided by the other party for a period of time following the acquisition.

In connection with the acquisition of NPTest, Inc. from Schlumberger, we agreed to make certain payments (generally in cash or stock) to Schlumberger in the event that the value of our common stock held by NPTest Holding, LLC exceeds a specified threshold at the first anniversary of the completion of the initial public offering and under certain other

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circumstances generally related to distributions over a certain threshold by NPTest Holding, LLC to its members related to our common stock. This arrangement is described in more detail under the heading “Off-Balance Sheet Arrangements” and “Certain Relationships and Related Party Transactions—Transactions with Schlumberger.”

Subsequent Events

We have entered into an Agreement and Plan of Reorganization dated as of February 22, 2004 among Credence Systems Corporation, a Delaware corporation (“Credence”), Cataline Corporation, a Delaware corporation and a wholly owned subsidiary of Credence (the “Merger Sub”) and us, providing for our merger with and into Merger Sub, with the Merger Sub continuing as the surviving corporation. Our board of directors and the board of directors of Credence have unanimously approved the merger and the merger agreement.

Pursuant to the merger, each share of our common stock issued and outstanding immediately before the effective time (other than dissenting shares and shares held by us, Credence, or any direct or indirect wholly owned subsidiary of us or Credence) will be converted at the effective time of the merger into the right to receive, directly or indirectly, 0.8 shares of Credence common stock (plus cash in lieu of fractional shares) and cash equal to $5.75 per share.

Pursuant to the merger agreement, our stock option plan and all NPTest options then outstanding under our stock option plan, whether vested or unvested, will be assumed by Credence at the effective time and converted into options to purchase shares of Credence common stock in the amounts and at the price that are described in the merger agreement.

The merger is subject to customary conditions to closing, including (i) approval of holders of our common stock, (ii) approval of the holders of Credence’s common stock, (iii) expiration or termination of the applicable Hart-Scott-Rodino waiting period and certain other regulatory approvals, (iv) the accuracy of representations and warranties and the absence of any material adverse effect with respect to each party’s business (in each case, subject to certain exceptions) and (v) the delivery of customary opinions from counsel to each party that the merger will qualify as tax-free reorganization for federal income tax purposes. Closing is expected to occur during the second or third quarter of 2004.

We have agreed to pay Credence a fee of $20 million if our board of directors determines, in the exercise of its fiduciary duties and subject to the terms and conditions of the merger agreement, to change its recommendation of the merger after receipt of a superior proposal from a third party before the consummation of the transaction (or if our stockholders fail to approve the merger after a such a proposal is publicly announced and that transaction is thereafter consummated within 6 months of the termination of the merger agreement).

NPTest Holding, LLC, who beneficially owns 25,379,550 shares of our common stock, has entered into a stockholder voting agreement with Credence pursuant to which they have agreed to vote no less than 50.1% of their shares in favor of the merger. NPTest Holding, LLC may vote its other shares on the merger in its discretion.

NPTest Holding, LLC has also entered into a stockholder lock-up agreement with Credence pursuant to which NPTest Holding, LLC must abide by certain restrictions with respect to the sale, transfer or other disposition of shares of Credence stock owned by it after the closing of the merger. In addition, NPTest Holding, LLC has entered into a registration rights agreement with Credence pursuant to which Credence has agreed to file one or more registration statements with the Securities and Exchange Commission on behalf of NPTest Holding, LLC in certain circumstances and subject to certain terms and conditions.

Basis of Presentation

Our combined financial statements have been derived from the consolidated financial statements of Schlumberger until July 29, 2003. Although NPTest, Inc. was not a separate company, the accompanying combined financial statements are presented as if NPTest, Inc. had existed as an entity separate from Schlumberger and its subsidiaries. These combined financial statements include the historical assets, liabilities, revenues and expenses that were directly related to the NPTest, Inc. business of Schlumberger during the periods presented and have been derived from Schlumberger’s historical bases in the assets and liabilities and the historical results of operations of NPTest, Inc. U.S. pension and retiree medical benefits liabilities along with related deferred tax assets as of December 31, 2002 were retained by Schlumberger. Schlumberger has agreed to reimburse us for all income taxes payable generated through July 29, 2003. Our

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financial statements beginning with the period from inception to December 31, 2003 reflect the purchase accounting resulting from the purchase of NPTest, Inc. from Schlumberger on July 29, 2003. Following the acquisition of the business from Schlumberger, we began accumulating retained earnings/deficits.

Certain amounts of Schlumberger’s corporate expenses, including legal, accounting, employee benefits, real estate, insurance services, information technology services, treasury and other corporate and infrastructure costs, although not directly attributable to NPTest, Inc.’s operations, have been allocated to NPTest, Inc. on a basis that Schlumberger and NPTest, Inc. considered to be a reasonable reflection of the utilization of services provided or the benefit received by NPTest, Inc. As of December 31, 2002, we no longer provided pension and retiree medical benefits in North America and will not be incurring these expenses going forward.

The results of operations for the interim period January 1, 2003 to July 29, 2003 of NPTest, Inc. and the period from inception to December 31, 2003 of NPTest Holding Corporation are not necessarily indicative of the results of operations to be expected for any other interim period or for the full year.

The financial information presented in this Form 10-K is not indicative of our financial position, results of operations and cash flows in the future nor is it necessarily indicative of what our financial position, results of operations and cash flows would have been had we been a separate, stand-alone entity for the periods presented.

Reorganization and Restructuring

In the fourth quarter of 2000 and throughout 2001, we formulated and implemented reorganization, restructuring and reduction-in-force actions that significantly reduced our personnel costs. The restructuring separated NPTest, Inc.’s activities from other Schlumberger technology businesses and eliminated shared positions. The reorganization efforts primarily combined the North America product and field marketing organizations. The reductions in force continued throughout 2001 due in part to the continued deterioration in market conditions. We recognized charges of approximately $1.8 million for severance payments related to these initiatives, of which approximately $1.4 million was recognized during the fourth quarter of 2000 and approximately $0.2 million was recognized in each of the first and third quarters of 2001. These charges are reflected in our cost of net product revenue. Ongoing savings realized from the reductions-in-force were approximately $12.0 million on an annual basis.

We eliminated additional positions in North America during the third quarter of 2002. Related charges of approximately $0.3 million are reflected in our operating results for the third quarter of 2002. Ongoing savings realized from the reductions-in-force were approximately $1.6 million. We also recorded in 2002 a charge of approximately $0.8 million for payments to employees in Japan in connection with our legal reorganization to a stand alone NPTest entity in that country. No savings were achieved with this reorganization.

Cyclical Business

Our business and operating results depend in significant part upon capital expenditures of manufacturers of semiconductors, which in turn depend upon the current and anticipated market demand for those products. Historically, the semiconductor industry has been highly cyclical with recurring periods of over-supply, which often have had a severe negative effect on demand for test equipment, including systems manufactured and marketed by us. In the most recent cyclical cycle, our net product revenue increased from $149.5 million in 2001 to approximately $180.0 million in 2002 and decreased to $163.1 million in 2003. Services revenue depends largely upon the size of the installed base of our products and is not as directly affected by industry cyclicality as is our net product revenue. Our net service revenue decreased from $71.4 million in 2001 to approximately $63.5 million in 2002 and increased to approximately $67.9 million in 2003. The cyclical nature of our business may have a material adverse effect on our backlog and operating results. The combined twelve months December 31, 2003 information represents the sum of the financial data for the January 1, 2003 to July 29, 2003 period for NPTest, Inc. and the financial data for the period from June 20, 2003 (our inception) to December 31, 2003 for NPTest Holding Corporation.

Foreign Currencies

We sell our products and services primarily in two major currencies. Sales in North America, Europe and Asia Pacific are primarily denominated in U.S. Dollars, and sales in Japan are primarily denominated in Yen. We incur expenses primarily in four major currencies, the U.S. Dollar, the Euro, the Yen and the British Pound. A weakening U.S. Dollar will generally result in higher operating costs for us principally in Europe and, to a lesser extent, in Japan. Our historical financial statements do not reflect any foreign currency hedging arrangements as we have not hedged our foreign currency exposure to date. However, we may seek to hedge our exposure to foreign currency rate fluctuations in the future.

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Introduction of Sapphire NP

We are currently devoting and intend to continue to devote significant resources to the development, production and commercialization of our new Sapphire NP platform. We launched our new Sapphire NP tester in the third quarter of 2003 and shipped five systems to our customers in the fourth quarter of 2003. The shipments were subject to acceptance criteria that delayed the recognition of revenue from four of these shipments until 2004. At introduction, the Sapphire NP testers are available in less complex configurations targeted at markets that require cost effective test solutions. Our future operating results will depend in large part upon our ability to successfully commercialize a range of Sapphire NP products. We cannot be sure that the Sapphire NP product will achieve market acceptance or generate substantial revenue. We believe that the acceptance, volume production, timely delivery and customer satisfaction of our Sapphire NP tester is of critical importance to our future financial results.

Concentration of Customers

Intel accounted for 41% in 2003, 52% in 2002, and 37% in 2001 of our net revenue, and STMicroelectronics accounted for 11% in 2003, 10% in 2002, and 18% in 2001 of our net revenue. The combined twelve months ended December 31, 2003 information represents the sum of the financial data for the January 1, 2003 to July 29, 2003 period for NPTest, Inc. and the financial data for the period from inception to December 31, 2003 for NPTest Holding Corporation. Our customers are generally not obligated by long-term contracts to purchase our systems. A small number of IDMs and assembly and test subcontractors account for a substantial portion of the purchases of test equipment generally. Consequently, our business and operating results would be materially adversely affected by the loss of, or any significant reduction in orders by, any of our significant customers.

Income Taxes

We account for income taxes in accordance with SFAS No. 109, “Accounting for Income Taxes,” which requires that deferred tax assets and liabilities be recognized using enacted tax rates for the effect of temporary differences between the book and tax bases of recorded assets and liabilities. SFAS No. 109 also requires that deferred tax assets be reduced by a valuation allowance if it is more likely than not that a portion of the deferred tax assets will not be realized. We have determined that our future taxable income will be sufficient to recover all of our deferred tax assets. However, should there be a change in our ability to recover our deferred tax assets, we could be required to record a valuation allowance against our deferred tax assets. This would result in an increase to our tax provision in the period in which we determined that it is more likely than not the deferred tax assets would not be recovered.

Acquisition of NPTest, Inc.

On July 29, 2003 we acquired NPTest, Inc. from Schlumberger. We accounted for the acquisition as a purchase in accordance with Statement of Financial Accounting Standards, or SFAS, No. 141 “Business Combinations.” All acquired tangible assets, identifiable intangible assets as well as assumed liabilities were valued based on their relative fair values. Accordingly, we adjusted the value of our inventory to fair value based on the stage of completion less cost to dispose. The resulting $11.4 million increase in the value of our inventory will result in increased cost of product revenue and reduced operating margins.

Goodwill and Intangible Assets

In connection with our acquisition of NPTest, Inc. from Schlumberger, we recorded goodwill of approximately $8.6 million and intangible assets of approximately $25.3 million. Intangible assets include customer contracts and relationships of $1.5 million, developed technologies of $14.1 million and backlog of $9.7 million with estimated useful lives for amortization of seven years, seven years and less than two years, respectively. At December 31, 2003, total net intangibles amounted to $17.2 million.

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Recorded Charges in Connection with the Acquisition of NPTest, Inc.

NPTest Holding Corporation recorded the following charges in the period ended December 31, 2003 in connection with the acquisition of NPTest, Inc. from Schlumberger:

Furthermore, we will recognize additional charges in future periods related to the remaining write-ups of our tangible assets and the remaining amortization of our intangible assets. Our operating results will be adversely affected by these charges in such future periods.

Critical Accounting Policies

We have identified the policies below as critical to our business operations and the understanding of our results of operations. For a detailed discussion on the application of these and other accounting policies, see Note 1 to our consolidated financial statements. In preparing the consolidated financial statements included in this Annual Report on Form 10-K, we are required to make estimates and assumptions that affect the reported amount of assets and liabilities, disclosure of contingent assets and liabilities at the date of our combined financial statements, and the reported amounts of revenue and expenses during the reporting period. We expect that our actual results may differ from these estimates.

Revenue Recognition

We recognize revenue in accordance with the Securities and Exchange Commission’s Staff Accounting Bulletin No. 104 (SAB 104), “Revenue Recognition” and EITF 00-21, “Accounting for Revenue Arrangement with Multiple Deliverables.” Generally, acceptance of products with published specifications is received at the factory floor prior to shipment, therefore revenue, less fair value of installation, is recognized upon shipment when legal title passes. In those limited instances where there are customer-specific acceptance conditions, revenue is only recognized upon final customer-site acceptance. Our shipping terms are primarily freight-on-board, or FOB, shipping point. However, a portion of revenue associated with certain installation-related tasks, based upon fair value of that service, is recognized when the tasks are completed. When several elements are bundled into one contract, revenue is not recognized unless the fair value of the undelivered element(s) is objective and reliable and the delivered element has stand-alone value to the customer. The total contract revenue is allocated to the individual elements based upon the relative fair value of each element. For multiple element arrangements, management having the relevant authority establishes fair value based upon vendor-specific objective evidence. The fair value of the undelivered element is either the price charged when the element is sold separately or, for an element not yet being sold separately, the price established by management. When a price is established by management it must be probable that the price will not change before the element is actually sold separately. For products that have not been demonstrated to meet product specifications prior to shipment, revenue is recognized on receipt of customer technical acceptances. In any event, no revenue is recognized before legal title passes to the customer. A provision for the estimated cost of warranty is recorded when revenue is recognized. Revenue related to spare parts is generally recognized upon shipment. Service revenue is general recognized ratably over the period of the related contract or, in some cases, as the services are performed.

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Deferred income includes amounts that have been billed per the contractual terms, but have not been recognized as revenue. For product revenue, this typically includes the amount of deferred product revenue less all product and warranty costs.

Tax

We record the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying balance sheets, as well as operating loss and tax credit carry forwards. We follow very specific and detailed guidelines regarding the recoverability of any tax assets recorded on the balance sheet and provide any necessary allowances as required. To date, we have not recorded any valuation allowance because, based on the available evidence, we believe it is more likely than not that we will be able to utilize all of our deferred tax assets in the future. If estimates of future taxable income prove inaccurate, a valuation allowance could be required in the future in light of, among other things, the cyclical industry in which we operate.

Inventory

We value our inventory at the lower of cost or estimated market value. Cost includes material, labor, allocated overhead and contract manufacturing costs. Provisions are recorded to reduce excess and obsolete inventory to net realizable value. We regularly review inventory quantities on hand and record a provision for excess and obsolete inventory based primarily on our estimated forecast of product demand and production requirements for the next 18 months. A significant decrease in demand for our products could result in excess inventory. We expect that demand for our products and services will fluctuate in the future in light of, among other things, the cyclical industry in which we operate, therefore impacting the provisions for excess and obsolete inventory.

The following discussion of our financial condition and results of operations should be read in conjunction with our Consolidated Financial Statements and the related notes included in Item 8, “Financial Statements and Supplementary Data” in this Annual Report on Form 10-K. This discussion contains forward looking statements, which involve risk and uncertainties. Our actual results could differ materially from those anticipated in the forward looking statements as a result of certain factors, including but not limited to those discussed in “Risk Factors” and elsewhere in this Annual Report on Form 10-K. (See “Special Note Regarding Forward-Looking Statements.”)

Results of Operations

The following table reflects the condensed statements of operations for the three most recent years for the NPTest business. NPTest Holding Corporation was formed on June 20, 2003 for the purpose of acquiring NPTest, Inc. from Schlumberger on July 29, 2003. In the discussion of the year ended December 31, 2003 we refer to each line item in the statement of operations as “combined” for comparative purposes. These combined amounts represent the sum of the financial data for NPTest, Inc. for the period from January 1, 2003 through July 29, 2003 and the financial data for NPTest Holding Corporation for the period from its inception to December 31, 2003. These combined amounts are for informational purposes only and do not purport to represent what our financial position would have been in such periods. These amounts are not necessarily comparable as a result of the purchase accounting adjustments recorded as part of the acquisition of NPTest, Inc. from Schlumberger. We further refer to the period from NPTest Holding Corporation’s inception through December 31, 2003 as the July 29, 2003 through December 31, 2003 period because we had no operations in the period from June 20, 2003 to July 29, 2003.

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Net Product Revenue

Our product revenue is derived from the sale of our products. Product revenue decreased 9.4% to approximately $163.1 million in combined twelve months ended December 31, 2003 from approximately $180.0 million in 2002. The decrease was due primarily to a decline in revenue from the sale of structural test products of approximately $16.5 million compared to the high levels of sales of these products in 2002. The high levels of sales in 2002 were achieved principally as a result of the successful introduction of these products in late 2001. Sales of peripheral products decreased approximately $0.4 million compared to strong sales of peripheral products in 2002 which were bolstered by the effects of a high-end test product pin upgrade program.

Product revenue increased 20.4% to approximately $180.0 million in 2002 from approximately $149.5 million in 2001. Our product revenue in 2002 was favorably affected by an increase in revenue of approximately $28.5 million related to the release of structural test products late in 2001, and an increase of $5.5 million of deferred

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revenue recognized from delayed acceptances of products that were shipped to new customers in Asia prior to June 30, 2001.

Net Service Revenue

Services revenue includes maintenance fees for our installed base of systems and engineering services. Services revenue increased 7.0% to approximately $67.9 million in the combined twelve months ended December 31, 2003 from approximately $63.5 million in 2002. Of this increase, approximately $2.9 million resulted from an increase in equipment support maintenance revenue and approximately $1.5 million from engineering services revenue. Our services revenue is generally less affected by industry cyclically than our product revenue because it is driven in large part by our installed base of products rather than order rate.

Services revenue decreased 11.1% to approximately $63.5 million in 2002 from approximately $71.4 million in 2001. Of this decrease, approximately $7.0 million was the result of lower demand for design and engineering services following the industry downturn and approximately $1.1 million was the result of lower after-sale services partially due to the transition of a number of monthly service fee contracts to billable-charge based contracts, which typically occurs during industry downturns when products are used less frequently.

Cost of Net Product Revenue

Cost of product revenue consists of costs of manufacturing products. These costs include materials, costs of third-party contract manufacturers, salaries and related expenses for manufacturing, distribution costs, warranty costs, depreciation of manufacturing equipment and overhead allocations for facilities expenses and information technology services. Cost of product revenue increased 2.3% to approximately $112.6 million in the combined twelve months ended December 31, 2003 from approximately $110.1 million in 2002. This increase is primarily due to $8.1 million and $4.5 million in charges related to amortization of identifiable intangible assets and tangible assets written up to fair value, respectively, recognized in the July 29, 3003 to December 31, 2003 period, and approximately $0.7 million of divestiture bonuses paid to employees recognized in the January 1, 2003 to July 29, 2003 period offset by reduced costs associated with lower product sales. As a percentage of product revenue, cost of product revenue increased to 69.0% in the combined twelve months ended December 31, 2003 from 61.1% in the twelve months ended December 31, 2002. The increase is almost entirely attributable to acquisition related charges, including the divestiture bonuses, totaling $12.7 million, which reduced the gross profit percentage by 7.8%.

Cost of product revenue decreased 15.7% to approximately $110.1 million in 2002 from approximately $130.6 million in 2001. This decrease was primarily due to approximately $35.4 million in excess inventory charges in 2001 resulting from the abrupt slowdown in sales during that period, partially offset by approximately $18.3 million in increased product costs associated with higher sales. As a percentage of product revenue, cost of product revenue decreased to 61.1% in 2002 from 63.7% in 2001 primarily as a result of approximately $2.4 million in price reductions on older model system-on-a-chip tester products sold during the first quarter of 2001, and approximately $2.2 million in reduced manufacturing costs associated with restructuring initiatives.

Cost of Net Service Revenue

Cost of service revenue consists of service personnel and related overhead allocations for facilities expenses and information technology services. Cost of service revenue increased 13.1% to approximately $43.1 million in the combined twelve months ended December 31, 2003 from approximately $38.1 million in 2002, primarily due to increased service activity, approximately $1.1 million of divestiture bonuses recognized in the January 1, 2003 to July 29, 2003 period and approximately $0.6 million in higher repair costs on a newly released test head configuration. As a percentage of service revenue, cost of service revenue increased to 63.5% from 60.1% in 2002.

Cost of service revenue decreased 23.0% to approximately $38.1 million in 2002 from approximately $49.5 million in 2001, primarily as a result of lower personnel costs and related expenses corresponding to decreased activity levels and reduction in costs following our restructuring initiatives. As a percentage of service revenue, cost of service revenue decreased to 60.1% in 2002 from 69.4% in 2001. After-sale service costs were reduced by $5.7 million in part as a result of the restructuring described above. Cost of service revenue also reflects an additional $5.7 million reduction in costs related to

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design and engineering services consisting of $3.0 million in reduced material and equipment charges and $2.7 million in lower personnel costs associated with restructuring initiatives.

Research and Development

Research and development expenses include salaries and expenses of engineers and related engineering support personnel, initial tooling, project materials, depreciation on equipment used in research and development and an allocation of facilities expenses and information technology services. Research and development expenses increased 43.8% to approximately $52.6 million in the combined twelve months ended December 31, 2003 from approximately $36.6 million in 2002. Of this increase, approximately $8.8 million is due to increased expenditures on the development of our Sapphire NP platform technology, $5.0 million relates to a one-time write-off of in-process research and development related to the acquisition, recognized in the July 30, 2003 to December 31, 2003 period, and approximately $2.2 million relates to divestiture bonuses paid to engineering staff recognized in the January 1, 2003 to July 29, 2003 period. As a percentage of net revenue, research and development expenses increased to 22.8% in the combined twelve months ended December 31, 2003 from 15.0% in 2002.

Research and development expenses increased 5.3% to approximately $36.6 million in 2002 from approximately $34.7 million in 2001. As a percentage of total revenue, research and development expenses decreased to 15.0% in 2002 from 15.7% in 2001.

Selling, General and Administrative

Selling, general and administrative expenses include salaries and related expenses for sales, account management, marketing, commissions, consignment costs and other expenses for marketing programs and trade shows as well as salaries and related expenses for administrative, finance, legal, human resources and executive personnel. These expenses historically have included an allocation for general and administrative expenses provided until the third quarter of 2002 by Schlumberger. Selling, general and administrative expenses increased 9.1% to approximately $54.2 million in the combined twelve months ended December 31, 2003 from approximately $49.7 million in 2002. The increase was primarily due to transactions relating to the acquisition of NPTest, Inc. These expenses included management bonuses of approximately $3.9 million, advisory fees from Francisco Partners of $5.8 million, non-capitalized initial public offering expenses of $0.7 million and amortization of fixed assets write-up relating to purchase accounting of $0.1 million. These were offset by 2002 advisory fees from Schlumberger of $4.0 million which were charged in 2003 and approximately $1.7 million of reduced depreciation charges on demonstration equipment consigned to customers, as a number of consigned units were sold. As a percentage of net revenue, selling, general and administrative expenses increased to 23.5% in 2003 from 20.4% in 2002.

Selling, general and administrative expenses decreased 4.5% to approximately $49.7 million in 2002 from approximately $52.0 million in 2001. As a percentage of net revenue, selling, general and administrative expenses decreased to 20.4% in 2002 from 23.6% in 2001. The decrease was primarily due to a reduction in charges for general and administrative expenses provided by Schlumberger of approximately $4.4 million from approximately $8.4 million in 2001 as a result of the gradual phasing out of group support. This decrease was partially offset by approximately $0.8 million for payments to employees in Japan in connection with our legal reorganization to a stand alone NPTest entity in that country, approximately $0.4 million in stand alone costs incurred at the headquarter level, and approximately $0.3 million in severance payments related to restructuring initiatives in North America.

Gain on Curtailment of Pensions and Employee Benefits

Schlumberger terminated the participation of NPTest, Inc. employees in both the Schlumberger Pension Plan and the US Group Health Care Plan and Trust effective December 31, 2002. Upon termination of NPTest, Inc.’s participation, Schlumberger also assumed the liabilities as of December 31, 2002 relating to these plans and any future obligations relating to these liabilities. We therefore recorded a curtailment gain of $8.7 million as of December 31, 2002.

Interest Income (Expenses), Net

Interest expense was approximately $6.4 million in the period July 30, 2003 to December 31, 2003 as a result of our $75.0 million three year term loan. Total interest paid on the loan was $0.8 million. The remaining amount relates to amortization and eventual write-off of financing costs associated with the loan. The entire loan was paid off on December 16, 2003 from the proceeds of the Company’s initial public offering. Prior to this period, interest expense was not material.

Exchange Gain/(Loss)

Foreign currency transactions loss was approximately $1.0 million in the combined twelve months ended December 31, 2003 as compared to foreign currency transactions loss of approximately $1.1 million in 2002. Losses in both periods were driven by the Euro strengthening against the U.S. Dollar. Foreign currency transactions loss was approximately $1.1 million in 2002 as compared to foreign currency transactions loss of approximately $0.1 million in 2001. The difference was also primarily due to foreign exchange rate fluctuations in Europe.

Dividend and Accretion on Mandatory Redeemable Preferred Stock

The dividends and accretion on the Mandatory Redeemable Preferred Stock issued by NPTest Holding Corporation was approximately $3.0 million in the July 30, 2003 to December 31, 2003 period. Of this amount, $1.5 million was dividend expense and $1.5 million was the accretion on the mandatory redeemable preferred stock. The preferred stock was converted to common stock on December 16, 2003.

Income Taxes

We recorded an income tax benefit of $14.8 million, income tax provision of $2.1 million and income tax benefit of $22.4 million in fiscal 2003, 2002 and 2001 respectively. The effective tax rate for income tax benefit recorded in fiscal 2003 was 35%, for income tax expense recorded in fiscal 2002 was 13% and for tax benefit recorded in fiscal 2001 was 49%. The overall change in our effective tax rate from fiscal 2002 to fiscal 2003 is primarily due to operating losses incurred in fiscal 2003 and operating income generated in fiscal 2002. The income and losses generated in the foreign jurisdictions were taxed at the rate applicable in such jurisdictions. The overall change in our effective tax rate from fiscal 2001 to fiscal 2002 is primarily due to operating income earned in fiscal 2002 and operating losses in fiscal 2001. The income and losses generated in the foreign jurisdictions were taxed at the rate applicable in such jurisdictions.

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Our future effective income tax rate depends on various factors, such as tax legislation, the geographic composition of our pre-tax income, non tax deductible expenses incurred in connection with acquisitions, amount of research and development credits as a percentage of aggregate pre-tax income, and the effectiveness of our tax planning strategies. There is pending legislation to repeal the existing export incentive and the research and development tax credit is scheduled to expire in June 2004 as currently provided by the United States Internal Revenue Code. If the legislation to repeal export incentive were enacted and research and development credits were not extended, the effects would likely increase our effective rate in future periods.

Dividend and Accretion on Convertible Mandatory Redeemable Preferred Stock

The dividend and accretion on the convertible mandatory redeemable preferred stock issued by NPTest Holding Corporation was approximately $54.5 million in the July 30, 2003 to December 31, 2003 period. This amount included beneficial conversion feature of $50.3 million. The preferred stock was converted to common stock on December 16, 2003.

Quarterly Results of Operations (Unaudited)

The following table presents certain unaudited quarterly financial information for the eight quarters ended December 31, 2003. In management’s opinion, this information has been prepared on the same basis as the audited Financial Statements appearing elsewhere in this Form 10-K and includes all adjustments (consisting of normal recurring adjustments) necessary to present fairly the unaudited quarterly results of operations set forth herein.

Liquidity and Capital Resources

Net cash provided by operating activities in the period from June 20, 2003 (inception date) to December 31, 2003 period was approximately $16.5 million, which reflects net loss of approximately $23.2 million, depreciation and amortization of approximately $11.4 million, a non cash charge to write off in-process technology of $5.0 million, charge on extinguishment of senior term loan of $5.9 million and working capital and other movements generating cash of approximately $3.6 million. Key movements within working capital and other include favorable movements in other accrued liabilities of approximately $7.3 million, inventory of approximately $17.9 million, accounts receivable of approximately $2.5 million and prepaid expenses and other assets of approximately $1.8 million. Other accrued liabilities increased primarily due to increased accrued payroll and accrued costs associated with our initial public offering. Inventory decreased due to the utilization of excess supplies on hand following the abrupt decline in activity that began in 2000.

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Net cash provided by operating activities in the January 1, 2003 to July 29, 2003 period was $2.1 million, which reflects a net loss of approximately $3.8 million, depreciation of approximately $4.5 million, inventory provision of approximately $6.6 million, and working capital and other movements utilizing cash of approximately $5.2 million. Key movements within working capital and other include unfavorable movements in payables to related parties of approximately $4.4 million, prepaid expenses and other assets of $3.9 million, income tax payable of $2.7 million, offset by a favorable movement in accounts payable of $6.2 million. Payables to related parties decreased as part of the preparation for the sale of the NPTest, Inc. business. Prepaid expenses and other assets increased due to a $2.2 million increase related to a receivable from Schlumberger for tax liabilities due as of July 29, 2003 and to an approximately $1.6 million increase in Europe, primarily related to an increase in VAT receivable in France. Income tax payable decreased due to tax payments in Asia. Accounts payable increased due to normal movements from low year-end levels.

Net cash provided by operating activities in 2002 was approximately $52.8 million, which reflects net income of approximately $14.5 million, depreciation of approximately $9.5 million, inventory provision of approximately $8.8 million, gain on curtailment of pension and employee benefits of approximately $8.7 million, and working capital and other movements generating cash of approximately $28.7 million. Key movements within working capital and other include favorable movements in inventory of approximately $26.6 million, deferred income taxes of approximately $9.4 million, accounts receivable of approximately $4.7 million, pension and post-retirement benefits of approximately $3.5 million offset by unfavorable movements in deferred income of approximately $7.9 million, and payables to related parties of approximately $7.7 million. Inventory decreased due to the utilization of excess supplies on hand following the abrupt decline in activity that began in 2000. Deferred income taxes decreased as a result of the transfer of pension and post retirement liabilities to Schlumberger this period. Accounts receivable decreased as a result of account collection and reduced activity in the fourth quarter of 2002 versus the prior period. The pension and post-retirement benefits increase reflects the normal increase of our obligation in the year. Deferred income decreased as the result of receiving product acceptances relating to product revenue previously deferred. Payables to related parties decreased mainly due to a payment to a related party payroll service provider.

Net inventory decreased approximately $35.0 million from December 31, 2001 to December 31, 2002. The improvement in our inventory position resulted from a focused effort to utilize the high levels of net inventory accumulated as a result of the abrupt market decline that occurred in late 2000 and early 2001. Net inventory decreased approximately $17.5 million from December 31, 2002 to December 31, 2003. The improvement in our inventory position resulted from further utilization of the accumulated inventory on hand.

As described in critical accounting policies, we value our inventory at the lower of cost or estimated market value at each balance sheet date. We regularly review inventory quantities on hand and record a provision for excess and obsolete inventory to net realizable value.

Our accounts receivable balance increased from approximately $48.5 million as of December 31, 2002 to approximately $53.2 million as of December 31, 2003. This increase was attributable primarily to an increase in the amount of our net revenue during the quarter ended December 31, 2003 compared to the quarter ended December 31, 2002.

Cash used in investing activities was approximately $214.8 million in 2003 as a result of the acquisition of NPTest, Inc. of $209.2 million and capital expenditures of $5.6 million. Cash used in investing activities was approximately $5.3 million in 2002.

Cash provided by financing activities was approximately $285.7 million in 2003. Of this amount, $223.0 million was raised in support of the acquisition of NPTest, Inc. and $61.9 million was raised from the initial public offering. Cash used in financing activities was approximately $40.8 million in 2002. Cash flows from financing activities in each period prior to 2003 were primarily comprised of net investments from or distributions to Schlumberger.

We expect that our capital expenditures for 2004 will be approximately $5.0 million. These anticipated expenditures primarily relate to the purchase of capital equipment for the general support of our business. As we currently have no debt outstanding, our other commitments are primarily comprised of our lease obligations, which aggregate approximately $27 million through 2009 and thereafter. See Note 11, of our Consolidated Financial Statements for further discussion. We are

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also subject to certain purchase commitments through 2005. Future payments due under these obligations at December 31, 2003 are as follows (in thousands):

In the past, Schlumberger funded our capital needs. However, following our acquisition from Schlumberger, it no longer provided funds to finance our working capital or other cash requirements. Our future capital requirements will depend on many factors, including our rate of revenue growth, the price received for our products and services, the timing and extent of spending to support product development efforts, the expansion of sales and marketing activities, the timing of introductions of new products and enhancement to existing products, the cost to ensure access to adequate manufacturing capacity, and the continuing market acceptance of our products. We currently expect that our existing cash and cash equivalents provided by our initial public offering together with our anticipated future cash flow from operations will be sufficient to satisfy our anticipated cash needs for at least the next 12 months. To the extent that our existing cash and cash equivalents, together with any cash flows from operations, are insufficient to fund our future activities, we may need to raise additional funds through public or private equity or debt financing. Future equity financings would be dilutive to the existing holders of our common stock. Future debt financings could involve restrictive covenants. We will likely not be able to obtain financing with interest rates as favorable as those in the past. If we cannot raise funds on acceptable terms, if and when needed, we may not be able to develop or enhance our products and services, take advantage of future opportunities, grow our business or respond to competitive pressures or unanticipated requirements, which could seriously harm our business.

As noted previously, on February 23, 2004, we announced that we have entered into a definitive agreement pursuant to which Credence Systems Corporation will acquire us. If consummated, this transaction would impact the matters described above significantly.

We have agreed to pay Credence a fee of $20 million if our board of directors determines, in the exercise of its fiduciary duties and subject to the terms and conditions of the merger agreement, to change its recommendation of the merger after receipt of a superior proposal from a third party before the consummation of the transaction (or if our stockholders fail to approve the merger after a such a proposal is publicly announced and that transaction is thereafter consummated within six months of the termination of the merger agreement).

As described more fully under “Transactions with Schlumberger—Stock Purchase and Sale Agreement,” as part of the consideration for the acquisition of the NPTest business from Schlumberger, we may be required to make additional payments to Schlumberger. We could be required to make a substantial payment when we have not actually received any additional funds. In the event we cannot satisfy these obligations in cash or elect not to do so, we may settle them by issuing shares of our common stock to Schlumberger resulting in dilution to our stockholders.

Although we are not a party to any agreement or letter of intent with respect to potential investments in, or acquisitions of, complementary businesses, products or technologies, we may enter into these arrangements in the future, which could also require us to seek additional equity or debt financing. Additional funds may not be available on terms favorable to us or at all.

Off-Balance Sheet Arrangements

Stock Purchase and Sale Agreement

In July 2003, NPTest Holding, LLC, a company controlled by Francisco Partners and Shah Management, purchased NPTest, Inc. from Schlumberger for approximately $220 million. In connection with the acquisition, we agreed that Schlumberger would have a right to participate, to a limited extent, in a portion of future increases in the value of the business.

In particular, under the agreement, we will be required to make payments to Schlumberger under the following scenarios:

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If Schlumberger makes a Value Increase Election or an Acquisition Election, we may choose to make the payment in any combination of cash or stock. If we make the payment in stock, we have agreed to use our reasonable efforts to give Schlumberger customary registration rights.

Factors Affecting Results, Including Risks and Uncertainties

Risks Related to our Proposed Merger with Credence Systems Corporation

Our proposed transaction with Credence Systems Corporation may otherwise not be consummated and may adversely affect our business.

We recently announced that we have entered into an agreement and plan of reorganization with Credence Systems Corporation. This announcement, and the uncertainty surrounding the proposed merger, may have a negative effect on our ability to sell our products and retain our key employees. The transaction is subject to various closing conditions, including, among other conditions, approval by Credence stockholders and our stockholders and expiration or termination of the applicable waiting period under the Hart-Scott-Rodino Antitrust Improvements Act. If the merger agreement is terminated under certain specified circumstances, we may be required to pay termination fees of up to $20.0 million.

Risks Related to Our Business

Our operating results could be harmed by the highly cyclical nature of the semiconductor industry and general economic slowdowns.

Our business and operating results depend in significant part upon capital expenditures of manufacturers of semiconductors, which in turn depend upon the current and anticipated market demand for these products. Historically, the semiconductor industry has been highly cyclical with recurring periods of over-supply, which often have had a severe negative effect on demand for test equipment, including systems manufactured and marketed by us. During these periods, we experienced significant reductions in customer orders. In the most recent downward cycle, our net product revenue decreased from approximately $216.4 million in 2000 to approximately $149.5 million in 2001. It then increased to approximately $180.0 million in 2002 and decreased to approximately $163.1 million in 2003. During industry downturns when our products are used less frequently, our services may also be adversely affected. The current industry slowdown has had, and future slowdowns may have, a material adverse effect on our operating results. The downturn in the semiconductor industry has affected the test equipment market more significantly than the overall capital equipment sector. The impact of this slowdown is magnified due to the high proportion of fixed costs in our industry, including significant research and development, manufacturing and sales costs. The uncertainty regarding the growth rate of economies throughout the world has caused companies to reduce capital investment and may cause further reduction of such investments. These reductions have been particularly severe in the semiconductor equipment industry. If the worldwide economies rebound in the near future, we do

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not know if our business will experience similar effects. If the worldwide economies do not rebound in the near future, we expect that the growth we have recently experienced may not be sustainable and that our business may be harmed.

Our quarterly operating results fluctuate significantly from period to period and this may cause our stock price to decline.

In the past we have experienced, and in the future we expect to continue to experience, fluctuations in revenue and operating results from quarter to quarter for a variety of reasons, including:

Each of the risks indicated in the foregoing list applies to us without regard to geographic or other boundaries as a result of the global nature of the semiconductor industry. As a result of these risks, we believe that quarter-to-quarter comparisons of our revenue and operating results may not be meaningful, and that these comparisons may not be an accurate indicator of our future performance. Also, sales of a relatively limited number of our systems account for a substantial portion of our net revenue in any particular quarter. Thus, changes in the timing or terms of a small number of transactions could disproportionately affect our operating results in any particular quarter. Moreover, our operating results in one or more future quarters may fail to meet the expectations of securities analysts or investors. If this occurs, we would expect to experience an immediate and significant decline in the trading price of our stock.

Variations in the amount of time it takes for us to sell our systems may cause fluctuations in our operating results.

Variations in the length of our sales cycles could cause our net sales, and therefore our business, financial condition, operating results and cash flows, to fluctuate widely from period to period. These variations often are based upon factors partially or completely outside our control. The factors that affect the length of time it takes for us to complete a sale depend upon many elements including:

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As a result of these and a number of other factors influencing our sales cycles with particular customers, the period between our initial contact with a potential customer and the time when we recognize revenue from that customer, if ever, varies widely. Our product sales cycle typically can range from six to 24 months. Sometimes our sales cycle can be much longer, particularly when the sales cycle involves developing new applications for our systems and technology or the introduction of new products. During these cycles, we commit substantial resources to our sales efforts before receiving any revenue, and we may never receive any revenue from a customer despite these sales efforts.

We rely on a small number of customers for a significant portion of our revenues, and the termination of any of these relationships would adversely affect our business.

Intel Corporation accounted for 37% in 2001, 52% in 2002, and 41% in the combined twelve months ended December 31, 2003 of our net revenue, and STMicroelectronics accounted for 18% in 2001, 10% in 2002, and 11% in the combined twelve months ended December 31, 2003 of our net revenue. The combined twelve months ended December 31, 2003 information represents the sum of the financial data for the January 1, 2003 to July 29, 2003 period for NPTest, Inc. and the financial data for the period from inception to December 31, 2003 for NPTest Holding Corporation. Our customers are generally not obligated by long-term contracts to purchase our systems and frequently evaluate competitive products prior to placing new orders. Furthermore, one of our competitors is working with our largest customer in the development and promotion of their open architecture initiative. If that initiative is successful, it could lead to that competitor gaining a larger percentage of that customer’s business for test equipment. The semiconductor industry is highly concentrated, and a small number of integrated circuit device manufacturers and assembly and test subcontractors account for a substantial portion of the purchases of integrated circuit test equipment generally, including our diagnostic and test equipment. Consequently, our business and operating results would be materially adversely affected by the loss of, or any reduction in orders by, any of our significant customers, particularly if we were not able to replace that lost revenue with additional orders from new or existing customers.

If we do not develop and maintain new customer relationships, our ability to generate revenue growth will be adversely affected.

Our ability to increase our sales will depend in part upon our ability to obtain orders from new customers. Obtaining orders from new customers is difficult because integrated circuit device manufacturers typically select one vendor’s systems for testing an entire generation of integrated circuits and make substantial investments to develop related test program software and interfaces. Once a manufacturer has selected a test system vendor for a generation of integrated circuits, that manufacturer is more likely to continue to purchase test systems from that vendor for that generation of integrated circuits, as well as subsequent generations of integrated circuits. If we are unable to obtain new customers that adopt and implement our products and technology, our business will be harmed.

New customer acquisition can be a costly process. The development of new customer relationships can require substantial investment in research, development and manufacturing without any assurance from prospective customers that they will place significant orders. In addition, the length of time required to complete a sale varies widely, with some sales taking up to two years.

If we do not continue to introduce new products and services that reflect advances in integrated circuit technology in a timely manner, our products and services will become obsolete, we will not achieve broad market penetration and our operating results will suffer.

The integrated circuit design and manufacturing industry into which we sell our products is characterized by rapid technological changes, frequent new product and service introductions and evolving industry standards. The success of our new product and service offerings will depend on several factors, including our ability to:

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Many of our products are used by our customers to develop, test and manufacture their new products. We therefore must anticipate industry trends and develop products in advance of the commercialization of our customers’ products. Development of new products generally requires a substantial investment before we can determine the commercial viability of these innovations. The future success of our new technologies, products and services depends on broad acceptance among our customers. In addition, new methods of testing integrated circuits such as self-testing integrated circuits may be developed which render our products uncompetitive or obsolete. If we fail to adequately predict our customers’ needs and technological advances, we may invest heavily in research and development of products and services that do not lead to significant revenue, or we may fail to invest in technology necessary to meet changing customer demands. Without the timely introduction of new products, services and enhancements that reflect these changes, our products and services will likely become technologically obsolete and our revenue and operating results would suffer.

If we are not able to successfully market and sell our new Sapphire NP platform, our revenue and financial condition will be adversely affected.

Our success will depend in large part upon broad adoption of our new Sapphire NP platform. We are currently devoting and intend to continue to devote significant resources to the development, production and commercialization of the Sapphire NP products. The sale of new products, such as the Sapphire NP tester, is subject to acceptance criteria, which could delay the recognition of revenue. Typically, these acceptance criteria will consist of testing to ensure the tester conforms to published specifications and will not include any customer-specific acceptance criteria. Only a small number of products in the integrated circuit test equipment market have achieved broad market acceptance. Accordingly, we cannot be sure that the Sapphire NP platform will achieve market acceptance or generate substantial revenue. Furthermore, existing and prospective customers may not order any of our current products as they assess the Sapphire NP platform and the degree to which it is accepted in the market. The success of Sapphire NP depends upon a number of factors, including:

Delays in introducing Sapphire NP or in our ability to obtain customer acceptance would delay the recognition of revenue by us. If the Sapphire NP platform has actual or perceived reliability, quality or other problems, we may suffer reduced orders, higher manufacturing costs, delays in collecting accounts receivable and higher service, support and warranty expenses, and/or inventory write-offs, among other effects. In addition, Sapphire NP runs on software that we developed internally, as well as Microsoft Windows-based operating software. If viruses or other problems develop in this software the operation of our Sapphire NP tester could be adversely affected. We believe that the acceptance, volume production, timely delivery and customer satisfaction of our Sapphire NP platform is of critical importance to our future financial results. As a result, our inability to correct any technical, reliability, parts shortages or other difficulties or to manufacture and ship the Sapphire NP testers on a timely basis to meet customer requirements could damage our relationships with current and prospective customers and would materially adversely affect our business, financial condition and results of operations.

If we discover problems in the design or development of our new Sapphire NP platform, our business would be harmed.

Our new Sapphire NP platform is continuing to undergo further development, modification and enhancement. Successful development of Sapphire NP is dependent on a number of factors, including:

We began to ship our Sapphire NP tester in the fourth quarter of 2003. As this is a new product, these shipments are likely to continue to be subject to acceptance criteria that could delay the recognition of revenue from these sales. Typically, these acceptance criteria will consist of testing to ensure the tester conforms to published specifications and will not include any customer-specific acceptance criteria. At introduction, Sapphire NP has been made available in less complex configurations targeted at markets that require cost effective test solutions. Our future operating results will depend in large part upon our

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ability to successfully introduce and commercialize a range of Sapphire NP products, many of which are not yet available and are under development. We experienced delays from time to time in the development of the Sapphire NP platform. More complex configurations of the Sapphire NP, which we plan to introduce in the future, will require additional software and hardware development and the development of new integrated circuits. Unanticipated difficulties or delays in further design and development of the Sapphire NP platform could lead to increased production costs and could adversely impact our ability to take customer orders, ship products and fulfill contractual obligations in a timely manner. As a result, our relationship with our customers could be harmed and our business, financial condition and results of operations could be materially adversely affected.

Existing customers may be unwilling to bear expenses associated with transitioning to a new product.

The expense to our customers of transitioning to a new product can be significant. Certain customers may be unwilling, or unable, to bear the increased costs of migrating to a new testing platform, particularly during the current industry downturn. This may make it difficult to market and sell new products, such as the Sapphire NP tester, to customers, including our existing customers, at least in the short-term. In addition, as we introduce new products, such as Sapphire NP testers, we cannot predict with certainty if and when our customers will transition to those products.

If we fail to plan the production of products accurately, we could incur inventory losses.

Given the nature of the markets in which we participate, we cannot reliably predict future revenue or profitability. Accordingly, we must order components and build some inventory in advance of the receipt of actual purchase orders. Furthermore, purchase orders may be cancelled or postponed, generally without penalty to the customer. If we do not obtain orders as we anticipate, we could have excess inventory for a specific product that we would not be able to sell to any other customer, likely resulting in inventory write-offs, which could have a material adverse effect on our business, financial condition and results of operations.

Failure in our ability to effectively design custom integrated circuits or to develop the software and hardware used for our products would harm our business.

We customize integrated circuits and develop software and hardware as part of the production of many of our products. Design defects in the custom integrated circuits or in the software used for our products could cause delays in the manufacturing and shipment of our products. Such delays may adversely affect customer relationships, as well as our business, financial condition and results of operations.

Products that do not meet customer specifications or contain defects that harm our customers could damage our reputation and cause us to lose customers and revenue.

The complexity and ongoing development of our products could lead to design or manufacturing problems. Our test equipment may fail to meet our customers’ technical requirements and may harm our customers’ business. If any of our products fail to meet specifications or have reliability or quality problems, our reputation could be damaged significantly and customers might be reluctant to buy our products, which could result in a decline in revenues, an increase in product returns and the loss of existing customers or the failure to attract new customers.

We may not be able to fund our future capital requirements from our operations, and financing from other sources may not be available on favorable terms or at all.

We made capital expenditures of $4.0 million in 2001, $5.3 million in 2002, and $5.6 million in the combined twelve months ended December 31, 2003. The combined twelve months ended December 31, 2003 information represents the sum of the financial data for the January 1, 2003 to July 29, 2003 period for NPTest, Inc. and the financial data for the period from inception to December 31, 2003 for NPTest Holding Corporation. During the periods in which Schlumberger owned us, it provided funds to finance our working capital or other cash requirements. However, since our acquisition by Francisco Partners, Schlumberger no longer provides these funds. Our future capital requirements will depend on many factors, including the timing and extent of spending to support product development efforts, the expansion of sales and marketing activities, the timing of introductions of new products and enhancement to existing products, the cost to ensure access to adequate manufacturing capacity, and the market acceptance of our products. To the extent that existing cash and cash equivalents, together with any cash from operations, are insufficient to fund our future activities, we may need to raise additional funds through public or private equity or debt financing. Future equity financings could be dilutive to the existing

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holders of our common stock. Future debt financings could involve restrictive covenants. We will likely not be able to obtain financing with interest rates as favorable as those that we have enjoyed in the past. If we cannot raise funds on acceptable terms, if and when needed, we may not be able to develop or enhance our products and services, take advantage of future opportunities, grow our business or respond to competitive pressures or unanticipated requirements, which could materially adversely affect our business, financial condition and results of operations.

We face substantial competition, which, among other things, may lead to price pressure and adversely affect our sales.

We face substantial competition throughout the world in each of our product areas. Our competitors include Advantest, Agilent Technologies, Credence Systems, FEI Company, Hamamatsu, LTX Corporation and Teradyne. As noted previously, on February 23, 2004, we announced that we have entered into a definitive agreement pursuant to which Credence Systems Corporation, a leading provider of design-to-test solutions for the worldwide semiconductor industry, will acquire us.

Some of our competitors have substantially greater financial resources and more extensive engineering, manufacturing, marketing and customer support capabilities than we do. We expect our competitors to continue to improve the performance of their current products and to introduce new products, new technologies or services that could adversely affect sales of our current and future products and services. We may not be able to compete effectively with these competitors.

Our competitors may also elect to reduce the price of their products leading to a reduction in average selling prices throughout our industry. The overall demand for test equipment is not likely to increase as prices are reduced. Accordingly, price reductions may limit our opportunities for growth as the overall size of the test equipment market may be reduced and could result in reduced sales.

Economic, political and other risks associated with international sales and operations, particularly in Asia, could adversely affect our sales.

Since we sell our products and services worldwide, our business is subject to risks associated with doing business internationally. Our revenue originating outside the United States, including export sales from our United States manufacturing facilities to foreign customers and sales by our foreign subsidiaries and branches, as a percentage of our total net revenue, was 60.7% in 2001, 47.6% in 2002, and 50.1% in the combined twelve months ended December 31, 2003. The combined twelve months ended December 31, 2003 information represents the sum of the financial data for the January 1, 2003 to July 29, 2003 period for NPTest, Inc. and the financial data for the period from inception to December 31, 2003 for NPTest Holding Corporation. In particular, the economies of Asia have been highly volatile and recessionary in the past, resulting in significant fluctuations in local currencies and other instabilities. Many countries in Asia have recently been affected by the occurrence of severe acute respiratory syndrome, or SARS. These instabilities continue and may occur again in the future. Our exposure to the business risks presented by the economies of Asia will increase to the extent that we continue to expand our operations in that region. An outbreak of SARS could result in delay in customer acceptance of our products or prevent us from installing or servicing our products sold in the affected region. International turmoil, exacerbated by the war in Iraq, and the escalating tensions in North Korea have contributed to an uncertain political and economic climate, both in the United States and globally, which may affect our ability to generate revenue on a predictable basis. In addition, terrorist attacks and the threat of future terrorist attacks both domestically and internationally have negatively impacted an already weakened worldwide economy. As we sell products both in the United States and internationally, the threat of future terrorist attacks may adversely affect our business. These conditions make it difficult for us and for our customers to accurately forecast and plan future business activities and could have a material adverse effect on our business, financial condition and results of operations.

We are subject to risks associated with currency fluctuations.

We sell our products and services and incur a variety of costs outside of the United States. Therefore we are exposed to foreign currency exchange movements, particularly in the Euro, the Japanese Yen and, to a lesser extent, the British Pound. With respect to revenue, our primary exposure exists during the period between execution of a purchase order denominated in a foreign currency and collection of the related receivable. During this period, changes in the exchange rates of the foreign currency to the U.S. Dollar will affect our revenue, cost of revenue and operating margins and could result in exchange losses. While a significant portion of our purchase orders to date have been denominated in U.S. Dollars, competitive conditions may require us to enter into an increasing number of purchase orders denominated in foreign currencies. We incur a variety of costs in foreign currencies, including some of our labor and manufacturing costs, components and sales

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costs. While we have not entered into foreign currency hedging arrangements in the past, we may do so in the future. We cannot assure you that any hedging transactions we may enter into will be effective or will not result in foreign exchange hedging losses.

The technology labor market is very competitive, and our business will suffer if we are not able to hire and retain key personnel.

Our future success depends in part on the continued service of our key executive officers, as well as our research, engineering, sales, marketing, manufacturing and administrative personnel, most of whom are not subject to employment or non-competition agreements. In addition, competition for qualified personnel in the technology area is intense, and we operate in several geographic locations where labor markets are particularly competitive, including the Silicon Valley region of Northern California where our headquarters and central research and development laboratories are located. Our business is particularly dependent on expertise, which only a very limited number of engineers possess. The loss of any of our key employees, or a broader loss of any of our employees who are highly skilled in our specialized sector of integrated circuit technology, would materially adversely affect our business, financial condition and results of operations.

Our dependence on subcontractors and sole source suppliers may prevent us from delivering an acceptable product on a timely basis.

We rely on subcontractors to manufacture certain subassemblies for our products, and we rely on both single source and sole source suppliers, some of whom are relatively small in size, for many of the components we use in our products. As custom integrated circuits are found in virtually every product that we sell, virtually all of our products contain some components from sole source suppliers. Our reliance on subcontractors gives us less control over the manufacturing process and exposes us to significant risks, especially inadequate capacity, late delivery, substandard quality and high costs. Additionally, our subcontractors and suppliers are generally under no obligation to provide us with material for as long as our requirements may exist. As a result, the loss or failure to perform by any of these providers could adversely affect our business and operating results.

In addition, the manufacturing of certain components and subassemblies is an extremely complex process. Therefore, if a supplier became unable to provide the volume of parts required on a timely basis, or at an acceptable price, we would have to identify and qualify acceptable replacements from alternative sources of supply, or manufacture such components internally. The process of qualifying new subcontractors and new suppliers, or initiating manufacturing internally for these complex components is a lengthy process and could also materially adversely affect our business, financial condition and results of operations.

Third parties may claim we are infringing their intellectual property, and we could suffer significant litigation or licensing expenses or be prevented from selling our products or services.

Third parties may claim that we are infringing their intellectual property rights and we may be unaware of intellectual property rights of others that may cover some of our technology, products and services. Any litigation regarding patents or other intellectual property could be costly and time-consuming, and divert our management and key personnel from our business operations. The complexity of the technology involved and the uncertainty of intellectual property litigation increase these risks. Claims of intellectual property infringement might also require us to enter into costly royalty or license agreements. However, we may not be able to obtain royalty or license agreements on terms acceptable to us, or at all. We also may be subject to significant damages or injunctions against development and sale of certain of our products and services.

We often rely on licenses of intellectual property useful for our business. These licenses may not be available in the future on favorable terms, or at all. In addition, our position with respect to the negotiation of licenses may change as a result of our acquisition from Schlumberger or as a result of Credence’s proposed acquisition of us. The loss of any of these licenses could harm our business, financial condition and results of operations.

Third parties may infringe our intellectual property, and we may expend significant resources enforcing our rights or suffer competitive injury.

Our success depends in large part on our proprietary technology. We rely on a combination of patents, copyrights, trademarks, trade secrets, confidentiality provisions and licensing arrangements to establish and protect our proprietary

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rights. If we fail to successfully enforce our intellectual property rights, our competitive position could suffer, which could harm our operating results.

Our pending patent and trademark registration applications may not be allowed or competitors may challenge the validity or scope of these patent applications or trademark registrations. In addition, our patents may not provide us with a significant competitive advantage.

We may be required to spend significant resources to monitor and protect our intellectual property rights. We may not be able to detect infringement and may lose competitive position in the market before we do so. In addition, competitors may design around our technology or develop competing technologies. Intellectual property rights may also be unavailable or limited in some foreign countries, which could make it easier for competitors to capture market share in those countries.

In the event that environmental contamination was to occur as a result of our ongoing operations, we could be subject to substantial liabilities in the future.

Our manufacturing processes involve the use of substances regulated under various international, federal, state and local laws governing the environment. The failure or inability to comply with existing or future laws could result in significant remediation liabilities, the imposition of fines or the suspension or termination of production. Schlumberger has agreed to indemnify us for up to three years from the acquisition date for environmental liabilities resulting from operations conducted prior to our acquisition of the NPTest business. However, we are responsible for any liabilities resulting from our operation of the business after the acquisition and also for future costs of compliance with these laws. In addition, we may not be aware of all conditions that could subject us to liability.

If our facilities were to experience catastrophic loss due to natural disasters, our operations would be seriously harmed.

Several of our facilities could be subject to a catastrophic loss caused by natural disasters, including fires and earthquakes. We have significant facilities in areas with above average seismic activity, such as our production facilities and headquarters in California. If any of these facilities were to experience a catastrophic loss, it could disrupt our operations, delay production and shipments, reduce revenue and result in large expenses to repair or replace the facility. We do not carry catastrophic insurance policies, which cover potential losses caused by earthquakes.

We may incur a variety of costs to engage in future acquisitions of companies, products or technologies, and the anticipated benefits of those acquisitions may never be realized.

We may make acquisitions of, or significant investments in, complementary companies, products or technologies, although no acquisition or investments are currently pending. Any future acquisitions would be accompanied by risks such as:

We cannot guarantee that we will be able to successfully integrate any business, products, technologies or personnel that we might acquire in the future, and our failure to do so could harm our business.

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Risks Related to Our Ownership by Francisco Partners and our Previous Ownership by Schlumberger

Our historical financial information may not be representative of our results as a separate company.

Our financial statements for periods prior to July 29, 2003 have been derived in part from the combined financial statements of Schlumberger. Accordingly, the historical financial information does not necessarily reflect what our financial position, operating results and cash flows would have been had we been a separate, stand-alone entity during the periods presented. Schlumberger did not account for us, and we were not operated, as a separate, stand-alone entity during the periods in which we were owned by Schlumberger.

During the periods in which we were owned by Schlumberger, certain amounts of Schlumberger’s corporate expenses, including legal, accounting, employee benefits, real estate, insurance services, information technology services, treasury and other corporate and infrastructure costs, although not directly attributable to our operations, were allocated to us until the third quarter of 2002 on a basis that Schlumberger and we considered to be a reasonable reflection of the utilization of services provided or the benefit received by us. However, the financial information included in this Form 10-K may not reflect our combined financial position, operating results, changes in equity and cash flows in the future or what they would have been had we been a separate, stand-alone entity during the periods in which we were owned by Schlumberger.

Our overall tax rate will increase as a result of our acquisition from Schlumberger.

When we were owned by Schlumberger, our tax rate was based on our earnings before taxes in the various tax jurisdictions in which we operate throughout the world. Part of the income that was previously recognized from Schlumberger’s foreign operations and that was not subject to U.S. taxation due to Schlumberger’s foreign incorporation became subject to U.S. taxation following our acquisition from Schlumberger due to our incorporation in Delaware. As a result, we expect that our overall tax rate will increase. For example, excluding for each period adjustments for purchase accounting and divestiture bonuses, we would have had a tax benefit for the January 1, 2003 to July 29, 2003 period, when we were part of Schlumberger, and an effective tax rate of 31% for the period from our inception to December 31, 2003. This may not be indicative of our overall tax rate for future periods.

We must create our own systems to operate as a stand-alone company and continue to enhance our financial reporting capabilities.

During the period in which Schlumberger owned us we used Schlumberger’s systems and processes to support our operations, including managing inventory, financial reporting, order processing and accounting. Many of these systems are critical to our business and very complex. We have created, and are continuing to upgrade, our systems and processes to perform these functions, which we need in order to operate as a stand-alone public company. In addition, we will need to continue to enhance our financial reporting capabilities and systems, as we become a public company. We have very recently hired a chief financial officer to help us satisfy our new responsibilities, but he is new to our company. To the extent that we are not successful in creating our own systems or in enhancing our financial reporting capabilities, our business, financial condition and results of operations may suffer.

NPTest Holding, LLC, will control us as long as it owns a significant percentage of our common stock, and our other stockholders will be unable to affect the outcome of stockholder voting during such time.

Francisco Partners beneficially owns approximately 63% of our outstanding common stock. Because we are a controlled company in accordance with the rules of the NASDAQ National Market, we are not required to comply with regulations that would otherwise require a majority of our board to be comprised of independent directors under rule 4350(c)(5) of the NASDAQ National Market. As long as NPTest Holding, LLC owns at least 25% of our outstanding common stock, it will continue to be able to nominate a majority of our board of directors in accordance with the terms of our stockholders’ agreement with NPTest Holding, LLC. To our

knowledge, NPTest Holding, LLC has no immediate plans to nominate additional directors to our board. As a result, NPTest Holding, LLC will control all matters affecting us, including:

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In addition, to the extent that NPTest Holding, LLC continues to beneficially own a significant portion of our outstanding common stock, although less than a majority, it will continue to have a significant influence over all matters submitted to our stockholders and to exercise significant control over our business policies and affairs. In particular, for so long as NPTest Holding, LLC holds at least 25% of our common stock the board of directors is prohibited from taking many significant corporate actions without the consent of NPTest Holding, LLC, including mergers, acquisitions or sales of assets outside of the ordinary course of business, the issuance of securities and the incurrence or refinancing of indebtedness in excess of $10 million. Such power could have the effect of delaying, deterring or preventing a change of control or other business combination that might otherwise be beneficial to our stockholders. NPTest Holding, LLC also is not prohibited from selling a controlling interest in us to a third party or a participant in our industry. For additional information regarding our relationship with NPTest Holding, LLC, you should read the section of this prospectus entitled “Certain Relationships and Related Transactions.”

NPTest Holding, LLC and its designees on our board of directors may have interests that conflict with our interests.

NPTest Holding, LLC and its designees on our board of directors may have interests that conflict with, or are different from, our own. Francisco Partners, which is the beneficial holder of 60.8% of our stock through its membership interest in NPTest Holding, LLC, has invested in or acquired other businesses that are involved in the semiconductor industry. Conflicts of interest between NPTest Holding, LLC and us may arise, and such conflicts of interest may not be resolved in a manner favorable to us, including potential competitive business activities, corporate opportunities, indemnity arrangements, registration rights, sales or distributions by NPTest Holding, LLC of our common stock and the exercise by NPTest Holding, LLC of its ability to control our management and affairs. Our certificate of incorporation does not contain any provisions designed to facilitate resolution of actual or potential conflicts of interest, or to ensure that potential business opportunities that may become available to NPTest Holding, LLC and us will be reserved for or made available to us. Pertinent provisions of law will govern any such matters if they arise. In addition, NPTest Holding, LLC and its director designees could delay or prevent an acquisition or merger even if the transaction would benefit other stockholders. In addition, NPTest Holding, LLC’s significant concentration of share ownership may adversely affect the trading price for our common stock because investors often perceive disadvantages in owning stock in companies with controlling stockholders. Please see “Principal and Selling Stockholders” for a more detailed description of our share ownership.

As part of our acquisition from Schlumberger, we may be required to make additional payments to Schlumberger under certain circumstances.

As part of the consideration for the acquisition of the NPTest business from Schlumberger, we may be required to make additional payments to Schlumberger. We will be required to make a payment if NPTest Holding, LLC, our parent company, distributes to its members our stock, or other consideration in respect of our stock, with an aggregate value in excess of $330 million. The payment would be an amount equal to 15% of the excess of the aggregate value of the distribution by NPTest Holding, LLC to its members over $330 million. Once the first payment to Schlumberger occurs, future distributions from NPTest Holding, LLC will only require payment of an amount equal to 15% of that future distribution. Alternatively, upon the first anniversary of the completion of our initial public offering or upon the first anniversary of an acquisition of our business, and in certain other circumstances, Schlumberger has the option to receive from us an amount equal to 15% of any excess over $330 million of the sum of the value of NPTest Holding, LLC’s then current holdings of our stock plus any proceeds previously received by NPTest Holding, LLC from our stock, including proceeds resulting from the transaction which triggered the payment obligation. We may generally settle this obligation in cash or shares of our common stock.

Risks Related to the Securities Markets and Ownership of Our Common Stock

Future sales of our common stock could depress our stock price.

Sales of substantial amounts of our common stock by Francisco Partners, or the perception that these sales might occur, may depress prevailing market prices of our common stock. Certain of our outstanding shares which are owned by NPTest Holding, LLC are subject to lock-up agreements with our underwriters that prohibit the resale of these shares for 180 days from the date of the closing of our initial public offering. The shares beneficially owned by Francisco Partners and Shah Management have the benefit of an agreement with us that provides for customary demand and piggyback registration rights. We will also be required to provide registration rights for any shares that may be issued to Schlumberger as part of the contingent consideration we may become obligated to pay them. Upon expiration of the 180-day lock-up, in addition to

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the shares beneficially owned by Francisco Partners and Shah Management that may be sold under a registration statement, shares underlying exercisable options to purchase our common stock will be available for resale without restriction or further registration under the Securities Act. Our underwriters may release all or a portion of the shares subject to lock-up agreements at any time without notice.

Provisions of our charter documents could discourage potential acquisition proposals and could delay, deter or prevent a change in control.

In addition to the provisions of our stockholders’ agreement with NPTest Holding, LLC described above, the provisions of our amended and restated certificate of incorporation and by-laws that became effective on the completion of our initial public offering could deter, delay or prevent a third party from acquiring us, even if doing so would benefit our stockholders. These provisions include:

Effect of Recent Accounting Pronouncements

In January 2003, the FASB issued Interpretation No. 46 (“FIN 46”), “Consolidation of Variable Interest Entities, an Interpretation of ARB No. 51.” FIN 46 requires certain variable interest entities to be consolidated by the primary beneficiary of the entity, if the equity investors in the entity do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. FIN 46 is effective for all new variable interest entities created or acquired after January 31, 2003. For variable interest entities created or acquired prior to February 1, 2003, the provisions of FIN 46 must be applied for the first interim or annual period beginning after December 15, 2003. The implementation of this statement did not have a material impact on the financial position, results of operations and cash flows of the Company.

In May 2003, the FASB issued Statement of Financial Accounting Standards No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity” (“SFAS 150”). This Statement establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. It requires that an issuer classify a financial instrument that is within its scope as a liability (or an asset in some circumstances). Many of those instruments were previously classified as equity. The Statement is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003. As a result of the adoption of SFAS 150, the Company classified its mandatory redeemable preferred stock as liability.

Market risk is the risk of loss arising from adverse changes in market rates and prices, such as interest rates, foreign currency exchange rates, and other relevant market rate or price changes. Market risk is directly influenced by the volatility and liquidity in the markets in which the related underlying assets are traded.

Foreign Exchange Rates

We are exposed to foreign currency exchange movements, primarily in the Euro, and the Japanese Yen, and to a lesser extent, the British Pound, as we enter into various contracts, which change in value as foreign currency exchange rates change. The primary exposure exists during the period between when a contract price is fixed in foreign currency and when the related receivable is collected. To mitigate this risk we only fix contracts in the above referenced foreign currencies, and normally fix prices for long-term contracts using U.S. dollar prices. The length of time between when a short-term contract price is contractually fixed, and when the equipment is delivered, typically ranges between two to four months, unless the equipment can be taken from finished goods inventory. Our standard terms of sale are 80% due 30 days after delivery, and 20% due 30 days after customer site acceptance, which is required within 30 days of delivery. In the future, we may seek to hedge our exposure to foreign currency rate fluctuations with forward contracts. We cannot assure you that any hedging

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transactions we may enter into will be effective or will not result in foreign exchange hedging losses. Our historical financial statements do not reflect any foreign currency arrangements.

Interest Rates

We have virtually no debt, and therefore our exposure to market risk related to interest rates is limited. If and when we do enter into future borrowing arrangements, we will seek to manage the exposure to interest rate changes by using a mix of debt maturities and variable- and fixed-rate debt together with interest rate swaps, where appropriate, to fix or lower borrowing costs.