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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

 

 

(Mark One)

x	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended October 31, 2014

OR

 

¨	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from              to             

Commission file number: 000-10761

 

 

XCERRA CORPORATION

(Exact name of registrant as specified in its charter)

 

 

 

Massachusetts		04-2594045
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)
825 University Ave Norwood, Massachusetts		02062
(Address of principal executive offices)		(Zip Code)

(781) 461-1000

(Registrant’s telephone number, including area code)

(Former name, former address and former fiscal year, if changed since last report)

 

 

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 whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer		¨		Accelerated filer		x
Non-accelerated filer		¨  (Do not check if a smaller reporting company)		Smaller reporting company		¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

Class		Outstanding at December 4, 2014
Common Stock, $0.05 par value per share		54,426,685 shares

 

 

 

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XCERRA CORPORATION

Index

 

				Page         Number
Part I.		FINANCIAL INFORMATION
Item 1.		Financial Statements
		Consolidated Balance Sheets as of October 31, 2014 and July 31, 2014			3
		Consolidated Statements of Operations and Comprehensive Income (Loss) for the Three Months Ended October 31, 2014 and October 31, 2013			4
		Consolidated Statements of Cash Flows for the Three Months Ended October 31, 2014 and October 31, 2013			5
		Notes to Consolidated Financial Statements			6-25
Item 2.		Management’s Discussion and Analysis of Financial Condition and Results of Operations			25
Item 3.		Quantitative and Qualitative Disclosures About Market Risk			39
Item 4.		Controls and Procedures			40
Part II.		OTHER INFORMATION			40
Item 1.		Legal Proceedings			40
Item 1A.		Risk Factors			40
Item 2.		Unregistered Sales of Equity Securities and Use of Proceeds			48
Item 6.		Exhibits			48
		SIGNATURE			49
		EXHIBIT INDEX			50

 

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XCERRA CORPORATION

CONSOLIDATED BALANCE SHEETS

(In thousands)

 

		October 31, 2014				July 31, 2014
		(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents		$	88,790			$	59,269
Marketable securities			57,899				39,659
Accounts receivable—trade, net of allowances of $139 and $139, respectively			80,290				88,081
Accounts receivable—other			171				99
Inventories			65,335				69,670
Prepaid expenses and other current assets			8,329				9,308
Total current assets			300,814				266,086
Property and equipment, net			41,021				40,883
Intangible assets, net			11,002				11,565
Goodwill			43,030				43,030
Other assets			2,561				2,579
Total assets		$	398,428			$	364,143
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Current portion of long-term debt		$	4,121			$	3,831
Accounts payable			25,352				29,617
Accrued expenses			37,860				40,785
Deferred revenue and customer advances			9,302				8,927
Total current liabilities			76,635				83,160
Term loan			25,898				46,917
Subordinated debt			18,000				18,000
Other long-term liabilities			11,814				11,447
Commitments and contingencies (Note 6)
Stockholders’ equity:
Common stock			2,708				2,422
Additional paid-in capital			804,253				751,511
Accumulated other comprehensive loss			(3,932)				(304)
Accumulated deficit			(536,948)				(549,010)
Total stockholders’ equity			266,081				204,619
Total liabilities and stockholders’ equity		$	398,428			$	364,143

See accompanying Notes to Consolidated Financial Statements.

 

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XCERRA CORPORATION

CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)

(Unaudited)

(In thousands, except per share data)

 

		Three Months Ended October 31,
		2014				2013
Net product sales		$	119,063			$	24,281
Net service sales			8,099				8,486
Net sales			127,162				32,767
Cost of sales			73,349				15,636
Gross profit			53,813				17,131
Engineering and product development expenses			16,065				12,878
Selling, general and administrative expenses			23,173				10,925
Amortization of purchased intangible assets			563				193
Restructuring			708				-
Income (loss) from operations			13,304				(6,865)
Other income (expense):
Interest expense			(915)				(62)
Interest income			96				187
Other income (expense), net			340				(20)
Income (loss) before provision for income taxes			12,825				(6,760)
Provision for income taxes			763				140
Net income (loss)		$	12,062			$	(6,900)
Net income (loss) per share:
Basic		$	0.24			$	(0.14)
Diluted		$	0.23			$	(0.14)
Weighted-average common and common equivalent shares used in computing net income (loss) per share:
Basic			51,128				47,900
Diluted			52,303				47,900
Comprehensive income (loss):
Net income (loss)		$	12,062			$	(6,900)
Unrealized (loss) gain on marketable securities			(11)				103
Change in pension liability			3				—
Unrealized loss on currency translation			(3,620)				—
Comprehensive income (loss)		$	8,434			$	(6,797)

See accompanying Notes to Consolidated Financial Statements.

 

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XCERRA CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

(In thousands)

 

		Three Months Ended October 31,
		2014				2013
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss)		$	12,062			$	(6,900)
Add non-cash items:
Stock-based compensation			1,933				1,109
Depreciation and amortization			2,476				1,623
Restructuring			708				—
Other			326				565
Changes in operating assets and liabilities:
Accounts receivable			8,493				509
Inventories			2,842				(1,146)
Prepaid expenses and other assets			(2,708)				(365)
Accounts payable			(6,985)				2,709
Accrued expenses			112				(839)
Deferred revenue and customer advances			1,479				(1,600)
Net cash provided by (used in) operating activities			20,738				(4,335)
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from sales and maturities of available-for-sale securities			—				24,031
Proceeds from sales and maturities of held-to-maturity securities			19,859				2,852
Purchases of available-for-sale securities			—				(18,386)
Purchases of held-to-maturity securities			(38,331)				—
Purchases of property and equipment			(2,196)				(1,045)
Net cash (used in) provided by investing activities			(20,668)				7,452
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds received from issuance of common stock			52,440				—
Principal payments on bank term loan			(20,730)				—
Payments of tax withholdings for vested RSUs, net of proceeds from stock option exercises			(942)				(793)
Net cash provided by (used in) financing activities			30,768				(793)
Effect of exchange rate changes on cash and cash equivalents			(1,317)				157
Net increase in cash and cash equivalents			29,521				2,481
Cash and cash equivalents at beginning of period			59,269				28,235
Cash and cash equivalents at end of period		$	88,790			$	30,716

See accompanying Notes to Consolidated Financial Statements.

 

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

1. THE COMPANY

Xcerra Corporation (“Xcerra” or the “Company”), formerly known as LTX-Credence Corporation, is a global provider of test and handling capital equipment, interface products, test fixtures, and services to the semiconductor, industrial, and electronics manufacturing industries. The Company designs, manufacturers, markets and services systems and products that address the broad, divergent requirements of the mobility, industrial, medical, automotive and consumer end markets, offering a comprehensive portfolio of solutions and technologies, and a global network of strategically deployed applications and support resources. Xcerra operates in the semiconductor and electronics manufacturing test markets and is the parent company to the atg-Luther & Maelzer, Everett Charles Technologies, LTX-Credence and Multitest businesses. Semiconductor designers and manufacturers worldwide use the Company’s test and handling equipment and interface products to test their devices during the manufacturing process. The Company’s interface products include the design, manufacture and marketing of load boards, contactors, and pins used in various types of test equipment, as well as in a wide variety of commercial and consumer applications. After testing, these semiconductor devices are incorporated into a wide range of products, including personal and tablet computers, mobile internet equipment such as wireless access points and interfaces, broadband access products such as cable modems and set top boxes, personal communication and entertainment products such as mobile phones and personal digital music players, consumer products such as televisions, videogame systems and digital cameras, automobile electronics and power management devices used in portable and automotive electronics. The Company also designs, manufactures and markets printed circuit board (“PCB”) test systems used in the testing of pre-assembly PCBs. These testers are used to verify the quality of the PCB prior to the installation of components. The types of PCBs that are tested using the Company’s systems include a diverse set of electronic products including network servers, personal computers, tablet computers and mobile phones. The Company’s test fixture products include the design, manufacture, and marketing of in-circuit and functional-circuit test fixtures for testing assembled PCBs. The Company also sells hardware and software support and maintenance services for its products.

Unless otherwise noted, the historical financial results in this Quarterly Report on Form 10-Q for the three months ended October 31, 2013 do not give effect to the completion of the Company’s purchase of assets (the “Dover Acquisition”) from Dover Printing & Identification, Inc. (“Dover”) and its specified affiliates used exclusively or primarily in connection with Dover’s Everett Charles Technologies (including atg Luther & Maelzer) and Multitest businesses on December 1, 2013 (collectively, the “Acquired Businesses” or “ECT and Multitest”). See Note 3 for additional information related to the Dover Acquisition.

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation

The accompanying unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States (“GAAP”). These footnotes condense or omit information and disclosures which substantially duplicate information provided in the Company’s latest audited financial statements. These unaudited consolidated financial statements should be read in conjunction with the financial statements and notes included in the Company’s Annual Report on Form 10-K for the fiscal year ended July 31, 2014. In the opinion of management, these unaudited consolidated financial statements reflect all adjustments, including normal recurring accruals, necessary for a fair presentation of the results for the interim periods presented. The operating results for the three months ended October 31, 2014 are not necessarily indicative of future trends or the Company’s results of operations for the entire fiscal year ending July 31, 2015.

Certain prior year amounts on the balance sheet have been reclassed to conform to the current year presentation. Net income and shareholders’ equity were not affected by these reclassifications.

The unaudited consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All significant inter-company transactions and balances have been eliminated in consolidation.

Revenue Recognition

The Company recognizes revenue based on guidance provided in Topic 605, Revenue Recognition, to the Financial Accounting Standards Board Codification (“FASB ASC”) and Accounting Standards Update 2009-13, Multiple-Deliverable Revenue Arrangements (“ASU 2009-13”). The Company recognizes revenue when persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, the seller’s price is fixed or determinable and collectability is reasonably assured.

 

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Revenue related to equipment sales is recognized when: (a) the Company has a written sales agreement; (b) delivery has occurred or service has been rendered; (c) the price is fixed or determinable; (d) collectability is reasonably assured; (e) the equipment delivered is a standard product with historically demonstrated acceptance; and (f) there is no unique customer acceptance provision or payment tied to acceptance or an undelivered element significant to the functionality of the system. Generally, payment terms are time based after product shipment. From time to time, sales to a customer may involve multiple elements, in which case revenue is recognized on the delivered element provided that (1) the undelivered element is a proven technology, (2) there is a history of acceptance on the equipment with the customer, (3) the undelivered element is not essential to the customer’s application, (4) the delivered item(s) has value to the customer on a stand-alone basis, and (5) if the arrangement includes a general right of return relative to the delivered item(s), delivery or performance of the undelivered item(s) is considered probable and substantially in the control of the Company. The arrangement consideration, or the amount of revenue to be recognized on each separate unit of accounting, is allocated at the inception of the arrangement to all deliverables on the basis of their relative selling price.

Revenue related to maintenance and service contracts is recognized ratably over the duration of the contracts. Net service sales as presented in the Company’s Consolidated Statement of Operations and Comprehensive Income (Loss) includes revenue associated with LTX-Credence maintenance or service contracts only, and excludes ECT and Multitest. ECT and Multitest generally do not provide maintenance and service contracts, but rather sell spare parts and other components, and as a result these sales are recognized as net product sales in the Company’s Consolidated Statement of Operations and Comprehensive Income (Loss). Revenue related to spare parts and components is recognized when the four main criteria listed above are met. Generally customer acceptance is not required for spare parts and component sales.

Inventories

Inventories are stated at the lower of cost or market, determined on the first-in, first-out (“FIFO”) method, and include materials, labor and manufacturing overhead. The components of inventories are as follows:

 

		October 31,                 2014				July 31,                    2014
		(in thousands)
Material and purchased components		$	26,159			$	22,394
Work-in-process			19,723				23,806
Finished equipment, including inventory consigned to customers			19,453				23,470
Total inventories		$	65,335			$	69,670

The Company establishes inventory reserves when conditions exist that indicate inventory may be in excess of anticipated demand or is obsolete based upon assumptions about future demand for the Company’s products or market conditions. The Company regularly evaluates its ability to realize the value of inventory based on a combination of factors, including forecasted sales or usage, estimated product end of life dates, estimated current and future market value, and new product introductions.

Purchasing and usage alternatives are also explored to mitigate inventory exposure. When recorded, reserves are intended to reduce the carrying value of inventory to its net realizable value. As of October 31, 2014 and July 31, 2014, inventory was stated net of inventory reserves of $45.6 million and $45.3 million, respectively. If actual demand for products deteriorates or market conditions are less favorable than projected, additional inventory reserves may be required. Such reserves are not reversed until the related inventory is sold or otherwise disposed of.

Goodwill and Other Intangibles

In accordance with FASB ASC Topic 350—Intangibles—Goodwill and Other (“ASC 350”), goodwill is not amortized. Rather, the Company’s goodwill is subject to periodic impairment testing. ASC 350 requires that the Company assign its goodwill to reporting units and test each reporting unit’s goodwill for impairment at least on an annual basis and between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount.

The testing of goodwill for impairment is performed at a level referred to as a reporting unit. As of October 31, 2014, the Company currently has one reporting unit to which the full balance of goodwill is allocated, its semiconductor test reporting unit. All of the goodwill recorded on the Company’s Consolidated Balance Sheet is related to its LTX-Credence business, since the Company did not change the underlying reporting structure of the Semiconductor Test reporting unit. Based on ASC 350-20-35-3A, as of October 31, 2014, there were no triggering events that required the Company to complete impairment testing.

 

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The Company’s goodwill consists of the following:

 

Goodwill		October 31, 2014				July 31, 2014
		(in thousands)
Merger with Credence Systems Corporation (August 29, 2008)		$	28,662			$	28,662
Acquisition of Step Tech Inc. (June 10, 2003)			14,368				14,368
Total goodwill		$	43,030			$	43,030

 

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Amortizable intangible assets which relate to the acquisition of the ECT and Multitest businesses and the Credence merger, consist of the following, and are included in intangibles asset, net on the Company’s Consolidated Balance Sheets:

 

						As of October 31, 2014
Description		Estimated     Useful Life				Gross Carrying Amount				Accumulated Amortization				Net Amount
		(in years)				(in thousands)				(in thousands)				(in thousands)
Developed technology—Multitest			10.0			$	1,400			$	(367)			$	1,033
Developed technology—ECT			10.0				600				(131)				469
Developed technology—atg- Luther & Maelzer			10.0				2,000				(518)				1,482
Customer Relationships – ECT, Multitest, atg-Luther & Maelzer			2.0				1,300				(684)				616
Developed technology—ASL			6.0				16,000				(16,000)				—
Developed technology—Diamond			9.0				9,400				(9,173)				227
Maintenance agreements—ASL & Diamond			7.0				1,900				(1,425)				475
Total intangible assets						$	32,600			$	(28,298)			$	4,302

 

						As of July 31, 2014
Description		Estimated     Useful Life				Gross Carrying Amount				Accumulated Amortization				Net Amount
		(in years)				(in thousands)				(in thousands)				(in thousands)
Developed technology—Multitest			10.0				1,400			$	(267)			$	1,133
Developed technology—ECT			10.0				600				(95)				505
Developed technology—atg- Luther & Maelzer			10.0				2,000				(377)				1,623
Customer Relationships – ECT, Multitest, atg-Luther & Maelzer			2.0				1,300				(498)				802
Developed technology—ASL			6.0				16,000				(16,000)				—
Developed technology—Diamond			9.0				9,400				(9,141)				259
Maintenance agreements—ASL & Diamond			7.0				1,900				(1,357)				543
Total intangible assets						$	32,600			$	(27,735)			$	4,865

Intangible assets, other than trademarks owned by the Company, are amortized based upon the pattern of estimated economic use over their estimated useful lives. The weighted average estimated remaining useful life over which these intangible assets will be amortized is 4.0 years.

The Company expects amortization for these intangible assets to be:

 

Year ending July 31,		Amount (in thousands)
2015		$	1,329
2016			1,171
2017			617
2018			414
Thereafter			771
Total		$	4,302

The identifiable intangible assets associated with the Dover Acquisition include $6.7 million of trademarks. The Company believes these trademarks will contribute to the Company’s cash flows indefinitely. Therefore, in accordance with ASC 350, the Company has assigned an indefinite useful life to the trademarks, and will not amortize the trademarks until their useful lives are no longer indefinite.

 

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Indefinite Lived Assets

On an on-going basis, management reviews the value of and period of amortization or depreciation of the Company’s long-lived assets. In accordance with Topic 360, Property, Plant and Equipment, to the FASB ASC, the Company reviews whether impairment losses exist on its long-lived assets other than goodwill when indicators of impairment are present. During this review, the Company assesses future cash flows and re-evaluates the significant assumptions used in determining the original cost of long-lived assets other than goodwill. Although the assumptions may vary, they generally include revenue growth, operating results, cash flows and other indicators of value. Management then determines whether there has been a permanent impairment of the value of long-lived assets based upon events or circumstances that have occurred since acquisition. The impairment amount recognized is based upon a determination of the impaired asset’s fair value compared to its carrying value. As of October 31, 2014, there were no indicators that required the Company to conduct a recoverability test.

Foreign Currency Remeasurement

The financial statements of the Company’s foreign subsidiaries are remeasured in accordance with Topic 830, Foreign Currency Matters, to the FASB ASC. The functional currency of the Company’s tester group is the U.S. dollar. Accordingly, the Company’s foreign subsidiaries that are included in this group remeasure monetary assets and liabilities at month-end exchange rates while long-term non-monetary items are remeasured at historical rates. Income and expense accounts are remeasured at the average rates in effect during the month. Net gains or losses resulting from foreign currency remeasurement and transaction gains or losses are included in the consolidated results of operations as a component of other expense, net, and were not significant for the three months ended October 31, 2014 and 2013. The functional currency of each of the Acquired Businesses is local currency, predominantly Euro, Malaysian Ringgitt and Singapore Dollars, and net gains or losses resulting from foreign currency remeasurement and translation gains or losses are recorded in stockholders’ equity as accumulated other comprehensive income (loss).

Product Warranty Costs

Certain of the Company’s products are sold with warranty provisions that require it to remedy deficiencies in quality or performance of products over a specified period of time at no cost to its customers. The Company generally offers a warranty for most of its products, the standard terms and conditions of which are based on the product sold and the customer. For all products sold, subject to a warranty, the Company accrues a liability for the estimated cost of standard warranty at the time of shipment. Factors that impact the warranty liability include the number of installed products, historical and anticipated product failure rates, material usage and service labor costs. The Company periodically assesses the adequacy of its recorded liability and adjusts as amounts as necessary.

The following table shows the change in the Company’s product warranty liability, as required by Topic 460, Guarantees, to the FASB ASC for the three months ended October 31, 2014 and 2013:

 

		Three Months Ended October 31,
Product Warranty Activity		2014				2013
		(in thousands)
Balance at beginning of period		$	3,240			$	1,217
Warranty expenditures for current period			(1,441)				(705)
Changes in liability related to pre-existing warranties			(108)				2
Provision for warranty costs in the period			1,806				781
Balance at end of period		$	3,497			$	1,295

Engineering and Product Development Expenses

The Company expenses all engineering and product development expenses as incurred. Expenses relating to certain software development costs, which were subject to capitalization in accordance with Topic 485, Software, to the FASB ASC, were insignificant.

Income Taxes

Provision for income taxes relates principally to operating results of profitable foreign entities in jurisdictions primarily in Asia and Europe partially offset by a tax benefit recorded as a result of the Dover Acquisition, and the release of reserves due to statute of limitation expirations.

 

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As of October 31, 2014 and July 31, 2014, the Company’s total liability for unrecognized income tax benefits was $6.4 million and $6.6 million, respectively (of which $2.8 million and $3.0 million, respectively, if recognized, would impact the Company’s income tax rate). The Company recognizes interest and penalties related to uncertain tax positions as a component of provision for income taxes. As of October 31, 2014 and July 31, 2014, the Company had accrued approximately $0.9 million and $1.0 million for potential payment of accrued interest and penalties.

The Company conducts business globally and, as a result, the Company and its subsidiaries or branches file income tax returns in the U.S. federal jurisdiction and various U.S. state and foreign jurisdictions. In the normal course of business the Company is subject to examination by taxing authorities throughout the world, including such major jurisdictions as the United States, Singapore, Malaysia, China, France and Germany. With few exceptions, the Company is no longer subject to U.S. federal, state and local or non-U.S. income tax examinations for the years prior to 1998.

As a result of the Company’s merger with Credence Systems Corporation (“Credence”) on August 29, 2008, a greater than 50% cumulative ownership change in both entities triggered a significant limitation on net operating loss carryforward utilization. The Company’s ability to use acquired U.S. net operating loss and credit carryforwards is subject to annual limitation as defined in sections 382 and 383 of the Internal Revenue Code. The Company currently estimates that the annual limitation on its use of net operating losses generated through August 29, 2008 will be approximately $10.1 million which, based on currently enacted federal carryforward periods, limits the amount of net operating losses that are available for utilization to approximately $202.0 million. The Company has recorded a valuation allowance against the full value of U.S. net operating loss and credit carryforwards, and will continue to assess the realizability of these carryforwards in subsequent periods.

Accounting for Stock-Based Compensation

The Company has equity awards outstanding under various stock-based compensation plans, including the 2010 Stock Plan (“2010 Plan”), 2004 Stock Plan, 2001 Stock Plan, 1999 Stock Plan, and 1993 Stock Plan. In addition, the Company assumed and has made awards that remain outstanding under the StepTech, Inc. Stock Option Plan as part of its acquisition of StepTech, Inc. (“StepTech”) in 2003 and the Credence 2005 Stock Incentive Plan in connection with its acquisition of Credence. The Company can only grant awards from the 2010 Plan.

During the three months ended October 31, 2014, the Company granted 763,940 Restricted Stock Units (“RSUs”) to certain employees, all of which are time and service-based, vesting in equal installments in each of the next four years. The stock-based compensation expense related to these awards is recognized over their vesting periods.

The Company recognizes stock-based compensation expense on its equity awards in accordance with the provisions of Topic 718, Compensation—Stock Compensation to the FASB ASC (“Topic 718”). Under Topic 718, the Company is required to recognize as expense the estimated fair value as of the grant date of all share-based awards to employees. In accordance with this standard, the Company recognizes the compensation cost of each service-based award on a straight-line basis over the vesting period of such award. For the three months ended October 31, 2014 and 2013, the Company recorded stock-based compensation expense of approximately $1.9 million and $1.1 million respectively, in connection with its share-based awards.

Net income (loss) per share

Basic net income (loss) per common share is computed by dividing net income (loss) available to common stockholders by the weighted average number of common shares outstanding for the period. Diluted net income (loss) per common share reflects the maximum dilution that would have resulted from the assumed exercise and share repurchase related to dilutive stock options and RSUs, and is computed by dividing net income (loss) by the weighted average number of common shares and the dilutive effect of all securities outstanding.

Reconciliation between basic and diluted net income (loss) per common share is as follows:

 

		Three Months Ended October 31,
		2014				2013
Net income (loss)		$	12,062			$	(6,900)
Basic EPS
Weighted average shares outstanding—basic			51,128				47,900
Basic EPS		$	0.24			$	(0.14)
Diluted EPS
Weighted average shares outstanding—basic			51,128				47,900
Plus: impact of stock options and unvested RSUs			1,175				—
Weighted average shares outstanding—diluted			52,303				47,900
Diluted EPS		$	0.23			$	(0.14)

 

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For the three months ended October 31, 2014 and 2013, options to purchase approximately 0.2 million shares and 0.7 million shares, respectively, of common stock were not included in the calculation of diluted net loss per share because the effect of including the options would have been anti-dilutive. These options could be dilutive in the future. The calculation of diluted net loss per share also excludes 2.2 million RSUs, for the three months ended October 31, 2013 in accordance with the contingently issuable shares guidance of Topic 260, Earnings Per Share, to the FASB ASC.

Cash and Cash Equivalents and Marketable Securities

The Company considers all highly liquid investments that are readily convertible to cash and that have original maturity dates of three months or less to be cash equivalents. Cash and cash equivalents consist primarily of operating cash and money market accounts. Marketable securities consist primarily of debt securities that are classified as available-for-sale and held-to-maturity, in accordance with Topic 320, Investments—Debt and Equity Securities, to the FASB ASC. The Company also holds certain investments in commercial paper or certificates of deposit that it considers to be held-to-maturity, based on their respective maturity dates. Securities available-for-sale include corporate, asset-backed, mortgage-backed, and governmental obligations with various contractual maturity dates, some of which are greater than one year. The Company considers the securities to be liquid and convertible to cash within 30 days. The Company has the ability and intent to liquidate any security that the Company holds to fund operations over the next twelve months, if necessary, and as such has classified all of its marketable securities as short-term. Governmental obligations include U.S. Government, State, Municipal and Federal Agency securities. The Company has an overnight sweep investment arrangement with its bank for certain accounts to allow the Company to enter into diversified overnight investments via a money market mutual fund which generally provides a higher investment yield than a regular operating account.

The market value and maturities of the Company’s marketable securities are as follows:

 

		Total Amount
		(in thousands)
October 31, 2014
Due in less than one year		$	29,388
Due in 1 to 3 years			28,511
Total marketable securities		$	57,899

 

		Total Amount
		(in thousands)
July 31, 2014
Due in less than one year		$	21,778
Due in 1 to 3 years			17,881
Total marketable securities		$	39,659

The market value and amortized cost of marketable securities are as follows:

 

		Market Value				Amortized Cost
		(in thousands)
October 31, 2014
Corporate		$	28,811			$	25,970
Government			10,344				4,491
Mortgage-Backed			2,276				1,960
Asset-Backed			16,468				15,136
Total		$	57,899			$	47,557

 

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		Market Value				Amortized Cost
		(in thousands)
July 31, 2014
Corporate		$	21,070			$	20,884
Government			5,045				5,038
Mortgage-Backed			1,920				1,923
Asset-Backed			11,624				11,609
Total		$	39,659			$	39,454

Unrealized gains and losses on investments held by the Company are reflected as a separate component of comprehensive income (loss) within Stockholders’ Equity. Realized gains, losses and interest on investments held by the Company are included in interest income in the Consolidated Statements of Operations and Comprehensive Income (Loss). The Company analyzes its investments for impairment on a quarterly basis or upon occurrence of indicators of possible impairment. There was no other than temporary impairment losses recorded in the three months ended October 31, 2014 or 2013.

 

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The following table summarizes marketable securities and related unrealized gains and losses as of October 31, 2014 and July 31, 2014:

 

October 31, 2014		Market Value				Unrealized Gain/(Loss)
		(in thousands)
Securities < 12 months unrealized losses		$	12,625				$        (22)
Securities > 12 months unrealized losses			13,611				(25)
Securities < 12 months unrealized gains			16,764				12
Securities > 12 months unrealized gains			14,899				22
Total		$	57,899			$	(13)

 

July 31, 2014		Market Value				Unrealized Gain/(Loss)
		(in thousands)
Securities < 12 months unrealized losses		$	5,101			$	(19)
Securities > 12 months unrealized losses			9,739				(24)
Securities < 12 months unrealized gains			16,677				20
Securities > 12 months unrealized gains			8,142				23
Total		$	39,659			$	—

Property and Equipment

Property and equipment acquired is recorded at cost. The Company provides for depreciation using the straight-line method. Charges are made to operating expenses in amounts that are sufficient to amortize the cost of the assets over their estimated useful lives. Equipment spares used for service and internally manufactured test systems used for testing components and engineering projects are recorded at cost and depreciated over three to seven years. Repair and maintenance costs that do not extend the lives of property and equipment are expensed as incurred. The Company’s property and equipment as of October 31, 2014 and July 31, 2014 are summarized as follows:

 

		October 31, 2014				July 31, 2014				Estimated Useful Lives
		(in thousands)								(in years)
Equipment spares		$	45,517			$	45,572			5 or 7
Machinery, equipment and internally manufactured systems			42,500				43,388			3-7
Land			8,641				8,152			-
Building			10,668				11,157			10-40
Office furniture and equipment			3,133				3,209			3-8
Purchased software			455				455			3
Leasehold improvements			9,430				7,414			Lesser of lease term or useful life, not to exceed 10 years
Property and equipment, gross			120,344				119,347
Less: accumulated depreciation and amortization			(79,323)				(78,464)
Property and equipment, net		$	41,021			$	40,883

3. BUSINESS COMBINATION

Acquisition of Everett Charles Technologies LLC and Multitest

On September 6, 2013, in connection with the Dover Acquisition, the Company entered into a Master Sale and Purchase Agreement (the “Purchase Agreement”) with Dover and, solely for the limited purposes set forth in the Purchase Agreement, Dover Corporation (“Dover Parent”). Pursuant to the Purchase Agreement, the Company purchased from Dover or its specified affiliates

 

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(collectively, the “Sellers”) all assets of the Sellers used exclusively or primarily in connection with the research and development, design, manufacture, assembly, production, marketing, distribution, sale and repair of probes, assembled board and bare board test equipment, and fixturing products and the provision of services related thereto (the “ECT Business,” and such assets and intellectual property, the “ECT Assets”) and all assets of the Sellers used exclusively or primarily in connection with the research and development, design, manufacture, assembly, production, marketing, distribution, sale and repair of semiconductor test handlers, semiconductor test contactors and sockets and semiconductor test load boards, and the provision of services related thereto (the “MT Business,” and such assets and intellectual property, the “MT Assets”). The Company also assumed certain specified liabilities of the Sellers related primarily or exclusively to the Acquired Businesses or the Acquired Assets (as defined below). Under the Purchase Agreement, the Company also acquired all of the issued and outstanding capital stock and other equity interests of specified indirect subsidiaries of Dover Parent and its affiliates engaged in the Acquired Businesses, including Everett Charles Technologies LLC (such capital stock and other equity interests, the “Acquired Shares”). The ECT Assets, the MT Assets and the Acquired Shares are collectively referred to as the “Acquired Assets.”

On December 1, 2013, the Company acquired the Multitest and ECT businesses of Dover for $93.5 million, of which $73.5 million was paid in cash through a combination of existing cash-on-hand and bank debt and $20.0 million was paid by the issuance of promissory notes. Pursuant to the Purchase Agreement, the cash purchase price was increased by $12.5 million to reflect, among other required adjustments, specified cash balances held by the Acquired Businesses, acquired indebtedness, certain transaction costs, employee related liabilities, working capital adjustments and reductions in the principal amount of the promissory notes payable to Dover in connection with the satisfaction of certain conditions.

Subject to certain conditions, the original principal amount of the promissory notes is subject to reduction upon written certification from the Company to Dover prior to January 1, 2015 of certain specified events related to the Company’s relocation from or refurbishment of certain properties of the Acquired Businesses, or the prepayment of the promissory notes in full prior to such date. In January 2014, the Company executed leases for two new facilities, and in February 2014, the Company provided Dover with written certification of a planned relocation from certain properties of the Acquired Businesses. Consequently, the original principal amount of the promissory notes issued to Dover was reduced by $2.0 million. The promissory notes may be reduced by an additional $1.75 million upon certification from the Company to Dover of other specified events that have not yet occurred. The promissory notes accrue interest on the unpaid balance for each day that they remain outstanding after December 1, 2014 at a per annum rate equal to the London Interbank Offered Rate plus 10%, and may be prepaid by the Company at any time without penalty prior to May 1, 2019.

After giving effect to the post-Closing purchase price adjustments described above, and including the principal amount reduction of the promissory notes to Dover, the aggregate purchase price paid to the Sellers as of the date of this report is $106.0 million.

The Company, Dover, and certain of their affiliates, also entered into a transition services agreement, an intellectual property termination agreement and a license agreement which govern certain ongoing relationships between the Company and Dover and their respective affiliates following the Closing.

In accordance with Topic 805, Business Combinations, to the FASB ASC and based on the terms of the Dover Acquisition, the Company is the accounting acquirer.

The following is a summary of the purchase price for the Acquired Assets:

 

		(in thousands)
Cash paid for Acquired Assets		$	88,009
Seller financing – Dover promissory notes			18,000
Purchase price		$	106,009

The following table summarizes the amounts recognized for the Acquired Assets and liabilities assumed as of the date of Closing.

 

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The purchase price has been allocated based on the fair value of net assets acquired as follows:

 

Allocation of purchase consideration		(in thousands)
Fair value of assets acquired as of December 1, 2013:
Cash		$	18,024
Accounts receivable			51,069
Inventory			41,642
Property, plant and equipment			22,859
Identifiable intangible assets			12,000
Other assets			3,410
Assets acquired:		$	149,004
Fair value of liabilities acquired:
Liabilities			(32,260)
Deferred taxes			(2,114)
Adjusted net assets acquired		$	114,630
Purchase price			(106,009)
Bargain purchase gain		$	8,621

The overall fair value of the net assets acquired by the Company exceeded the amount paid, which resulted in the recognition of a bargain purchase gain by the Company during fiscal 2014. This bargain purchase gain was recorded as a component of the other (expense) income section on the Company’s Consolidated Statement of Operations and Comprehensive Income (Loss). The Company believes it was able to acquire ECT and Multitest for less than the fair value of their net assets since ECT and Multitest had been held as discontinued operations by Dover Parent for more than one year.

Valuation of Intangible Assets and Goodwill

The overall fair value of the Multitest and ECT businesses of Dover has been allocated to tangible assets acquired, assumed liabilities, and identifiable intangible assets, based upon a detailed valuation that uses information and assumptions provided by management, as further described below.

Identifiable Intangible Assets

As part of the purchase price allocation, identifiable intangible assets of the Acquired Businesses include developed technology, customer relationships and trademarks.

The consolidated financial statements include estimated identifiable intangible assets with a fair value at acquisition of $12.0 million, which are being amortized based on the pattern and period over which the economic benefits of the intangible assets are realized. The current estimated weighted average period is 7.1 years. The Company engaged independent valuation advisors to assist the Company in estimating the identifiable intangible asset value. The estimated identifiable intangible asset value was primarily based on information and assumptions developed by the Company’s management, certain publicly available information, and discussions with management of the Acquired Businesses.

The Company used the income approach to value the developed technology and other acquired identifiable intangible assets of the Acquired Businesses. This approach calculates fair value by estimating future cash flows attributable to each intangible asset and discounting the future cash flows to present value using a risk adjusted discount rate.

In estimating the useful life of the acquired intangible assets of the Acquired Businesses, the Company considered paragraph 11 of FASB ASC 350, which lists the pertinent factors to be considered when estimating the useful life of an intangible asset. These factors include a review of the expected use by the combined company of the assets acquired, the expected useful life of another asset (or group of assets) related to the acquired assets, legal, regulatory or other contractual provisions that may limit the useful life of an acquired asset or may enable the extension of the useful life of an acquired asset without substantial cost, the effects of obsolescence, demand, competition and other economic factors, and the level of maintenance expenditures required to obtain the expected future cash flows from the asset. The Company is amortizing these intangible assets over their estimated useful lives using a method that is based on estimated future cash flows as the Company believes this amortization methodology approximates the pattern in which the economic benefits of the intangible assets will be derived.

 

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The identifiable intangible assets associated with the Dover Acquisition include $6.7 million of trademarks. The Company believes these trademarks will contribute to the Company’s cash flows indefinitely. Therefore, in accordance with ASC 350, the Company has assigned an indefinite useful life to the trademarks, and will not amortize the trademarks until their useful lives are no longer indefinite.

Supplemental Pro Forma Information

The following unaudited pro forma information presents the consolidated results of operations of the Company, and the Acquired Businesses, as if the Dover Acquisition had occurred at the beginning of the three months ended October 31, 2013, with pro forma adjustments to give effect to amortization of intangible assets and certain other adjustments (in thousands):

 

		Three Months Ended October 31,
		2014				2013
Net sales		$	127,162			$	105,525
Net income (loss)		$	12,062			$	(4,644)

The unaudited pro forma results are not necessarily indicative of the results that the Company would have attained had the Acquisition occurred at the beginning of the periods presented.

4. SEGMENT REPORTING AND GEOGRAPHIC INFORMATION

Segment Reporting

In accordance with the provisions of Topic 280, Segment Reporting to the FASB ASC (“ASC 280”), starting in fiscal 2014, the Company determined that it has seven operating segments (Semiconductor Test, Semiconductor Handlers, Contactors, Interface Boards, PCB Test, Probes / Pins, and Fixtures). Based on the aggregation criteria of ASC 280, the Company determined that several of the operating segments can be aggregated due to these segments having similar economic characteristics and meeting all of the other aggregation criteria in ASC 280. Consequently, the Company has two reportable segments: the Semiconductor Test Solutions (STS) reportable segment, which is comprised of the Semiconductor Test, Semiconductor Handlers, Contactors, and Interface Boards operating segments, and the Electronic Manufacturing Solutions (EMS) reportable segment, which is comprised of the PCB Test, Probes / Pins and Fixtures operating segments. This financial reporting structure was implemented effective as of December 1, 2013, the acquisition date of Multitest and ECT.

For the three months ended October 31, 2013, the Company operated as one reportable segment, that is, the design, manufacture and sale of automated test equipment for the semiconductor industry that is used to test system-on-a-chip, digital, analog and mixed signal integrated circuits. This reportable segment is now known as the Semiconductor Test operating segment which is now aggregated into the STS reportable segment.

The Semiconductor Test segment includes operations related to the design, manufacture and sale of automated test equipment for the semiconductor industry that is used to test system-on-a-chip, digital, analog and mixed signal integrated circuits. The Semiconductor Handlers segment includes operations related to the design, manufacture and sale of test handlers used in the testing of integrated circuits. The Contactors segment includes operations related to the design, manufacture and sale of test contactors which serve as the interface between the test handler and the semiconductor device under test. The Interface Boards segment includes operations related to the design, manufacture and sale of circuit boards designed to serve as an interface between the tester and the semiconductor device under test. The PCB test segment includes operations related to design, manufacture and sale of equipment used in the testing of bare and loaded printed circuit boards. The Probes / Pins segment includes operations related to the design, manufacture and sale of the physical devices used to connect electronic test equipment to the device under test. The Fixtures segment includes operations related to the design, manufacture and sale of PCB test fixtures that enable the transmission of test signals from the loaded PCB to the tester. Each operating segment has a segment manager who is directly accountable to and maintains regular contact with the Company’s chief operating decision maker (chief executive officer and chief operating officer) to discuss operating activities, financial results, forecasts, and plans for the segment.

The Company evaluates performance using several factors, of which the primary financial measures are revenue and operating segment operating income. The accounting policies of the operating segments are the same as those described in Note 2 “Summary of Significant Accounting Policies”.

Segment information for the three months ended October 31, 2014 and 2013 is as follows (in thousands):

 

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		Semiconductor     Test Solutions				Electronic     Manufacturing Solutions				Consolidated
Three months ended October 31, 2014
Net sales		$	104,111			$	23,051			$	127,162
Income (loss) from operations		$	11,569			$	1,645			$	13,304
Depreciation and amortization expense		$	2,243			$	255			$	2,498
Three months ended October 31, 2013
Net sales		$	32,767			$	—			$	32,767
Income (loss) from operations		$	(6,865)			$	—			$	(6,865)
Depreciation and amortization expense		$	1,623			$	—			$	1,623

The Company is not disclosing total assets for each of its reportable segments as total assets by reportable segment is not a key metric utilized by the Company’s chief operating decision maker.

 

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Geographic Information

The Company’s net sales to geographic area for the three months ended October 31, 2014 and 2013, along with its long-lived assets by location at October 31, 2014 and July 31, 2014, are summarized as follows:

 

		Three Months Ended October 31,
		2014				2013
		(in thousands)
Net sales:
United States		$	39,057			$	4,434
Taiwan			14,054				12,623
Philippines			12,481				3,153
Malaysia			6,250				1,922
Thailand			8,718				1,583
Hong Kong/China			12,744				2,743
Germany			10,836				1,396
Singapore			6,508				3,379
All other countries			16,514				1,534
Total Net Sales		$	127,162			$	32,767

 

		October 31, 2014				July 31, 2014
		(in thousands)
Long-lived assets:
United States		$	25,567			$	25,300
Malaysia			3,479				3,598
Germany			9,035				9,198
China			644				711
Japan			710				446
Philippines			359				391
Singapore			768				689
Taiwan			9				107
All other countries			450				443
Total long-lived assets		$	41,021			$	40,883

Transfer prices on products sold to foreign subsidiaries are intended to produce profit margins that correspond to the subsidiary’s sales and support efforts.

5. RESTRUCTURING

In accordance with the provisions of Topic 420, Exit or Disposal Cost Obligation, to the FASB ASC, the Company recognizes certain costs associated with headcount reductions, office vacancies and other costs to move or relocate operations or employees as restructuring costs in the period in which such actions are initiated and approved by management or the obligations are incurred, as applicable.

As of October 31, 2014, the Company’s restructuring accrual represents obligations related to remaining lease and property tax payments associated with the Company’s decision to vacate facilities during the fiscal years ended July 31, 2014 and 2009, as well as severance obligations payable related to headcount reductions from actions undertaken during fiscal 2014 and the three months ended October 31, 2014.

During the three months ended October 31, 2014, the Company relocated to other offices in certain jurisdictions, and incurred approximately $0.4 million in relocation costs, which were included in restructuring expense for the period. The remainder of the expense incurred during the three months ended October 31, 2014 is related to severance and other post- employment obligations for certain headcount reductions implemented during the period.

 

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The following table sets forth the Company’s restructuring accrual activity for the three months ended October 31, 2014 and October 31, 2013:

 

		Severance Costs				Facility Leases				Total
						(in thousands)
Balance July 31, 2014		$	421			$	2,131			$	2,552
Additions to expense			357				351				708
Accretion			—				78				78
Cash paid			(253)				(701)				(954)
Balance October 31, 2014		$	525			$	1,859			$	2,384
Included in the Company’s Consolidated Balance Sheet:
Accrued expenses		$	525			$	995			$	1,520
Other long-term liabilities			—				864				864
Balance October 31, 2014		$	525			$	1,859			$	2,384
		Severance Costs				Facility Leases				Total
		(in thousands)
Balance July 31, 2013		$	2			$	2,772			$	2,774
Additions to expense			—				—				—
Accretion			—				62				62
Cash paid			(2)				(310)				(312)
Balance October 31, 2013		$	—			$	2,524			$	2,524
Included in the Company’s Consolidated Balance Sheet:
Accrued expenses		$	—			$	960			$	960
Other long-term liabilities			—				1,564				1,564
Balance October 31, 2013		$	—			$	2,524			$	2,524

6. COMMITMENTS AND CONTINGENCIES

From time to time, the Company is subject to certain legal proceedings and other contingencies, the outcomes of which are subject to significant uncertainty. The Company accrues for estimated losses if it is probable that an asset has been impaired or a liability has been incurred and the amount of the loss can be reasonably estimated. The Company uses judgment and evaluates, with the assistance of legal counsel, whether a loss contingency arising from litigation should be disclosed or recorded. The outcome of legal proceedings and other contingencies is inherently uncertain and often difficult to estimate. Accordingly, if the outcome of legal proceedings and other contingencies is different than is anticipated by the Company, the Company would record the difference between any previously recorded amount and the full amount at which the matter was resolved, in earnings in the period resolved, which could negatively impact the Company’s results of operations and financial position for the period.

The Company is a defendant in a litigation matter incidental to the business that is related to customer expectations of test system performance for product that was shipped in 2006 by Credence. The Company does not believe the plaintiff’s claims have merit and is vigorously defending its position. An estimate of any potential loss cannot be made, and accordingly the Company has not accrued any amounts related to this matter.

In the ordinary course of business, the Company agrees from time to time to indemnify certain customers against certain third party claims for property damage, bodily injury, personal injury or intellectual property infringement arising from the operation or use of the Company’s products. Also, from time to time in agreements with suppliers, licensors, and other business partners, the Company

 

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agrees to indemnify these partners against certain liabilities arising out of the sale or use of the Company’s products. The maximum potential amount of future payments the Company could be required to make under these indemnification obligations is theoretically unlimited; however, the Company has general and umbrella insurance policies that enable it to recover a portion of any amounts paid, and many of its agreements contain a limit on the maximum amount, as well as limits on the types of damages recoverable. Based on the Company’s experience with such indemnification claims, it believes the estimated fair value of these obligations is minimal. Accordingly, the Company has no liabilities recorded for these agreements as of October 31, 2014 or July 31, 2014.

Subject to certain limitations, the Company indemnifies its current and former officers and directors for liability or costs that may incur in certain circumstances in connection with their services as directors and officers of the Company. Although the maximum potential amount of future payments the Company could be required to make under these agreements is theoretically unlimited, as there were no known or pending claims, the Company has not accrued a liability for these agreements as of October 31, 2014 or July 31, 2014.

As of October 31, 2014, the Company had approximately $34.2 million of non-cancelable inventory commitments with its suppliers. The Company expects to consume this inventory through normal operating activity.

As a result of restructuring actions taken by the Company during the three months ended October 31, 2014, and balances remaining from actions taken during fiscal 2014, the Company had approximately $0.5 million in accrued severance at October 31, 2014 related to headcount reductions. The Company expects to pay these obligations through the fourth quarter of fiscal 2015.

The Company has operating lease commitments for certain facilities and equipment that expire at various dates through 2024. The Company has an option to extend the term for its Norwood, Massachusetts facility lease for a single extension term of five years provided that the Company notifies its landlord at least 425 days prior to expiration of the current extension term. Minimum lease payment obligations under non-cancelable leases as of October 31, 2014, are as follows:

 

Fiscal year ending July 31,		Facilities				Equipment				Total Operating Leases
		(in thousands)
2015		$	5,568			$	531			$	6,099
2016			7,048				440				7,488
2017			5,519				236				5,755
2018			2,640				43				2,683
2019			2,017				2				2,019
Thereafter			4,526				—				4,526
Total minimum lease payments		$	27,318			$	1,252			$	28,570

7. ACCRUED EXPENSES

Accrued expenses consisted of the following at October 31, 2014 and July 31, 2014:

 

		(in thousands)
		October 31, 2014				July 31, 2014
Accrued compensation		$	18,358			$	19,987
Warranty reserve			3,497				3,240
Accrued restructuring			1,520				1,497
Accrued commissions			2,540				2,154
Accrued vendor liability			1,356				1,120
Accrued income and other taxes			2,849				3,672
Accrued professional fees			1,222				1,912
Other accrued expenses			6,518				7,203
Total accrued expenses		$	37,860			$	40,785

 

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8. LONG-TERM DEBT

Long-term debt consists of the following:

 

		October 31, 2014				July 31, 2014
		(in thousands)
Bank Term Loan under Credit Agreement		$	27,500			$	48,518
Bank Term Loan – Commerzbank			3,721				3,448
Seller Financing - Promissory Notes			18,000				18,000
Total debt			49,221				69,966
Less: financing fees			(1,202)				(1,218)
Less: current portion			(4,121)				(3,831)
Total long-term debt		$	43,898			$	64,917

The debt principal payments for the next five years and thereafter are as follows:

 

Payments due by fiscal year		Debt Principal   Payments
		(in thousands)
2015		$	4,340
2016			7,557
2017			8,807
2018			10,057
Thereafter			18,460
Total		$	49,221

Credit Agreement

On November 27, 2013, in anticipation of the completion of the Dover Acquisition and to fund a portion of the purchase price therefore the Company entered into a credit agreement (the “Credit Agreement”) with Everett Charles Technologies LLC (together with the Company, the “Borrowers”), Silicon Valley Bank, as lender, administrative agent and issuing lender (“SVB”), and the several lenders from time to time party thereto (the “Lenders”). The Credit Agreement provides for a senior secured credit facility in the aggregate principal amount of up to $55 million (the “Facility”).

The Facility consists of a term loan facility for $50 million that was advanced to the Company on November 27, 2013 (the “Term Loan”) and a revolving credit facility (including a letter of credit facility) for up to $5 million (the “Revolving Loan” and, together with the Term Loan, the “Loans”) that is available from time to time for five years after November 27, 2013 (the “Closing Date”). Under the terms of the Credit Agreement, not more than one time during the period commencing on the Closing Date until the close of business on the date that is one day prior to the 42 month anniversary of the Closing Date, the Facility may be increased by an aggregate amount not to exceed $20 million through an additional facility on a pari passu basis with the Term Loan, subject to specified conditions and the agreement of one or more Lenders to participate therein. At October 31, 2014, approximately $0.6 million was outstanding in the form of standby letters of credit. The standby letters of credit have various expiration dates, of which the last to expire is January 2015.

All obligations under the Facility are secured by a first priority security interest in substantially all of the Borrowers’ existing and future assets, including a pledge of the stock or other equity interests of the Borrowers’ domestic subsidiaries and of any first tier foreign subsidiaries, provided that not more than 66% of the voting stock of any such foreign subsidiaries shall be required to be pledged.

The Credit Agreement requires that the Term Loan be repaid in quarterly installments, with 5% of the principal due the first year, 7.5% of principal due the second year, 10% of principal due the third year, 12.5% of principal due the fourth year, 15% of principal due the fifth year, and a final payment of $25 million due on the fifth anniversary of the Closing Date (the “Maturity Date”). All outstanding Loans under the Facility mature on the Maturity Date unless earlier payment is required under the terms of the Credit Agreement. The Term Loan is subject to optional and mandatory prepayment in whole and part as described in the Credit Agreement, subject to certain criteria. Loans outstanding under the Facilities may, at the Borrowers’ option, be prepaid at any time in whole or in part without premium or penalty, other than customary breakage costs, if any, subject to the terms and conditions of the Credit Agreement.

 

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Borrowings under the Facility bear interest, at a base rate plus a margin of up to 2.50% per annum, or at the London Interbank Offered Rate (“LIBOR”) plus a margin of up to 3.50% per annum, in either case based on the Company’s ratio of consolidated senior debt to consolidated earnings before interest, taxes, depreciation and amortization (EBITDA) (the “Leverage Ratio”), or at a LIBOR rate plus a margin (such margin not to exceed a per annum rate of 3.50%) based on the Leverage Ratio. The selection of the interest rate formula is at the Company’s discretion. The interest rate otherwise payable under the Facility will be subject to increase by 2.0% per annum during the continuance of a payment default and may be subject to increase by 2.0% per annum during the continuance of any other event of default under the Credit Agreement. Certain customary fees and expenses are also payable in connection with the Facility. At October 31, 2014, the interest rate in effect on the Facility was 3.15%.

The obligations of the Company under the Facility may be accelerated upon the occurrence of an event of default under the Credit Agreement, which includes customary events of default, including payment defaults, the inaccuracy of representations or warranties, the failure to comply with covenants, ERISA defaults, judgment defaults, bankruptcy and insolvency defaults and cross defaults to material indebtedness.

Covenants

The Credit Agreement contains customary affirmative and negative covenants, subject in certain cases to baskets and exceptions, including negative covenants with respect to indebtedness, liens, fundamental changes, dispositions, restricted payments, investments, ERISA matters, matters relating to subordinated debt, affiliate transactions, sale and leaseback transactions, swap agreements, accounting changes, negative pledge clauses, clauses restricting subsidiary distributions, lines of business, amendments to certain documents and use of proceeds. The Credit Agreement also contains customary reporting and other affirmative covenants. The Credit Agreement contains a consolidated fixed charge coverage ratio, consolidated leverage ratio and liquidity requirements. The Credit Agreement required the Company to maintain a consolidated leverage ratio of less than 3.00 to 1.00 as of the end of four consecutive fiscal quarters ending January 31, 2014. At January 31, 2014, the Company’s consolidated leverage ratio exceeded this ratio threshold, resulting in an event of default under the Credit Agreement. On April 15, 2014, the Company executed a First Amendment to Credit Agreement and Waiver (the “Credit Agreement Amendment and Waiver”) pursuant to which the parties thereto agreed, among other things, to waive the occurrence of the event of default resulting from the Company’s failure to meet the above described financial covenant in the Credit Agreement provided, that the Company’s consolidated leverage ratio for the four fiscal quarters ending on January 31, 2014 did not exceed 3.66 to 1.00. Pursuant to the Credit Agreement Amendment and Waiver, the parties also agreed to modify the definition of “consolidated net income” to include, in the calculation of consolidated net income for periods following the closing of the Dover Acquisition, net income (or loss) attributable to the Acquired Businesses for specified periods prior to the closing of the Dover Acquisition.

As of October 31, 2014, the Company was in compliance with all covenants under the Credit Agreement and Credit Agreement Amendment and Waiver, including the consolidated leverage ratio.

Seller Financing – Promissory Notes

As described in Note 3 above, pursuant to the Purchase Agreement, in connection with the closing of the Dover Acquisition, the Company issued promissory notes having an aggregate principal amount of $20.0 million to certain of the Sellers.

Subject to certain conditions, the original principal amount of the promissory notes are subject to reduction upon written certification from the Company to Dover prior to January 1, 2015 of certain specified events related to the Company’s relocation from or refurbishment of certain properties of the Acquired Businesses, or the prepayment of the promissory notes in full prior to such date. In January 2014, the Company executed leases for two new facilities, and in February 2014, the Company provided written certification to Dover of a planned relocation from certain properties of the Acquired Businesses. Accordingly, the Company was released from $2.0 million of the promissory note obligations. The promissory notes may be reduced by an additional $1.75 million upon certification from the Company to Dover of other specified events that have not occurred as of October 31, 2014. The promissory notes accrue interest on the unpaid balance for each day that they remain outstanding after December 1, 2014 at a per annum rate equal to the LIBOR plus 10%, and may be prepaid by the Company at any time without penalty prior to May 1, 2019. The promissory notes are subject to repayments of $1.3 million on December 1 and June 1 of each year starting in June 2015, until the notes are paid in full. Refer to Note 12, Subsequent Events for information regarding payment of the promissory notes in November 2014.

 

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9. FAIR VALUE MEASUREMENTS

The Company determines its fair value measurements for assets and liabilities based upon the provisions of Topic 820, Fair Value Measurements and Disclosures to the FASB ASC.

The Company holds short-term money market investments and certain other financial instruments which are carried at fair value. The Company determines fair value based upon quoted prices, when available or through the use of alternative approaches when market quotes are not readily accessible or available.

Valuation techniques for fair value are based upon observable and unobservable inputs. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect the Company’s best estimate, considering all relevant information. These valuation techniques involve some level of management estimation and judgment. The valuation process to determine fair value also includes making appropriate adjustments to the valuation model outputs to consider risk factors.

The fair value hierarchy of the Company’s inputs used in the determination of fair value for assets and liabilities during the current period consists of three levels. Level 1 inputs are composed of unadjusted, quoted prices in active markets for identical assets or liabilities at the measurement date. Level 2 inputs include quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, inputs other than quoted prices that are observable for the asset or liability, and inputs that are derived principally from or corroborated by observable market data by correlation or other means. Level 3 inputs incorporate the Company’s own best estimate of what market participants would use in pricing the asset or liability at the measurement date where consideration is given to the risk inherent in the valuation technique and the risk inherent in the inputs to the model. If inputs used to measure an asset or liability fall within different levels of the hierarchy, the categorization is based on the lowest level input that is significant to the fair value measurement of the asset or liability. The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment and consideration of factors specific to the asset or liability.

The following table presents financial assets and liabilities measured at fair value and their related valuation inputs as of October 31, 2014 and July 31, 2014:

 

						Fair Value Measurements at Reporting Date Using (in thousands)
October 31, 2014		Total Fair Value of Asset     or Liability				Quoted Prices in Active     Markets for Identical Assets (Level 1)				Significant Other     Observable Inputs     (Level 2)				Significant     Unobservable Inputs     (Level 3)
Cash and cash equivalents (1)		$	88,790			$	88,790			$	—			$	—
Marketable securities			57,899				5,245				52,654				—
Total assets		$	146,689			$	94,035			$	52,654			$	—
July 31, 2014		Total Fair Value of Asset or Liability				Quoted Prices in Active Markets for Identical Assets (Level 1)				Significant Other Observable Inputs (Level 2)				Significant Unobservable Inputs (Level 3)
Cash and cash equivalents (1)		$	59,269			$	59,269			$	—			$	—
Marketable securities			39,659				3,974				35,685				—
Total assets		$	98,928			$	63,243			$	35,685			$	—

 

(1)	Cash and cash equivalents as of October 31, 2014 and July 31, 2014 included cash held in operating accounts of approximately $87.8 million and $56.0 million, respectively, that are not subject to fair value measurements. For purposes of this disclosure, they are included as having level 1 inputs.

The carrying value of accounts receivable, prepaid expenses, accounts payable, and accrued expenses approximate fair value due to their short-term nature.

There were no assets or liabilities not measured at fair value but for which fair value is required to be disclosed, except for the Company’s long-term debt, which includes term loans and seller-financed promissory notes. The fair value of the Company’s long-term debt at October 31, 2014 and July 31, 2014 was $48.0 and $68.7 million, respectively, and was estimated using inputs derived principally from market observable data, including current rates offered to the Company for debt of the same or similar maturities. Within the hierarchy of fair value measurement, these are level 2 inputs.

 

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10. STOCKHOLDERS’ EQUITY

Equity Offering

On September 17, 2014, the Company closed an underwritten public offering of 4,682,927 shares of its common stock at $10.25 per share. The Company also granted to the underwriters a 30-day option to purchase up to an aggregate of 702,439 additional shares of common stock to cover over-allotments which they exercised on September 22, 2014. All of the shares were sold by the Company pursuant to an effective shelf registration statement previously filed with the SEC.

The offering, and the follow-on option to sell additional shares, resulted in net proceeds to Xcerra, after deducting underwriting discounts and commissions and offering expenses, of approximately $52.4 million. Xcerra used approximately $20 million of the net proceeds from the offering to repay a portion of the outstanding principal of the Company’s bank term loan.

Stock Repurchases

On September 15, 2011, the Company announced that its Board of Directors had authorized a stock repurchase program for up to $25 million of shares of the Company’s common stock. Under this program, the Company is authorized to repurchase shares of its common stock from time to time in open market transactions. The Company will determine the timing and amount of the transactions based on its evaluation of market conditions and other factors. The repurchase program may be suspended or discontinued at any time and has no expiration date. During the three months ended October 31, 2014 or the three months ended October 31, 2013, the Company did not repurchase any shares under this program. Cumulatively, as of October 31, 2014, the Company has repurchased 3,294,666 shares of common stock for a total purchase price of $18.7 million since the inception of the program.

11. RECENT ACCOUNTING PRONOUNCEMENTS

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606), which will replace numerous requirements in U.S. GAAP, including industry-specific requirements, and provide companies with a single revenue recognition model for recognizing revenue from contracts with customers. The core principle of the new standard is that a company should recognize revenue to show the transfer of promised goods or services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods or services. The new standard will be effective for annual reporting periods beginning after December 15, 2016, including interim periods within that reporting period. For Xcerra, the standard will be effective for the fiscal year starting August 1, 2017. The two permitted transition methods under the new standard are the full retrospective method, in which case the standard would be applied to each prior reporting period presented, or the modified retrospective method, in which case the cumulative effect of applying the standard would be recognized at the date of initial application. The Company has not yet selected a transition method. The Company is currently evaluating the impact of this ASU on its financial position and results of operations.

12. SUBSEQUENT EVENTS

On November 26, 2014, the Company repaid in full all outstanding amounts under the promissory notes issued to Dover. The $16.25 million payoff amount reflected the principal amount of $18 million that was outstanding under the original promissory notes, less $1.75 million pursuant to a reduction in principal for which the Company was entitled under the original promissory notes. Such reduction related to potential build-out costs for the Company’s Rosenheim facility.

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

The following discussion should be read together with the Consolidated Financial Statements and Notes thereto appearing in this Quarterly Report on Form 10-Q. Certain statements in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” are forward-looking statements that involve risks and uncertainties. Words such as may, will, could, should, would, anticipates, expects, intends, plans, predicts, projects, believes, seeks, estimates and similar expressions identify such forward-looking statements. The forward-looking statements contained herein are based on current expectations and entail various risks and uncertainties that could cause actual results to differ materially and adversely from those expressed in such forward-looking

 

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statements. Factors that might cause such a difference include, among other things, those set forth under “Risk Factors” and those appearing elsewhere in this Quarterly Report on Form 10-Q. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof and reflect management’s estimates and analysis only as of the date hereof. We assume no obligations to update any forward-looking statements to reflect actual results or changes in factors or assumptions affecting forward-looking statements.

Overview

We are a global provider of test and handling capital equipment, interface products, test fixtures and related services to the semiconductor and electronics manufacturing industries. We design, manufacture and market products and services that address the broad, divergent requirements of the mobility, industrial, medical, automotive and consumer end markets, offering a comprehensive portfolio of solutions and technologies, and a global network of strategically deployed applications and support resources. We operate in the semiconductor and electronics manufacturing test markets through our atg-Luther & Maelzer, Everett Charles Technologies (ECT), LTX-Credence and Multitest businesses. We have a broad spectrum of semiconductor and printed circuit board (PCB) test expertise that drives innovative new products and services and our ability to deliver fully integrated semiconductor test solutions.

On December 1, 2013, we acquired the Multitest and ECT businesses from Dover Printing & Identification, Inc. (Dover Corporation or Dover) for $93.5 million, of which $73.5 million was paid in cash through a combination of existing cash-on-hand and bank debt, and $20.0 million was paid by the issuance of promissory notes. Pursuant to the Master Sale and Purchase Agreement entered into with Dover Corporation on September 6, 2013, the cash purchase price was increased by $12.5 million to reflect, among other required adjustments, specified cash balances held by the acquired businesses, acquired indebtedness, certain transaction costs, employee-related liabilities, working capital adjustments and reductions in the principal amount of the promissory notes payable to Dover Corporation in connection with the satisfaction of certain conditions.

Our Multitest business designs and manufactures products used in the testing of integrated circuits, including test handlers, test contactors and semiconductor load boards. Our ECT business designs and manufactures equipment and consumables that are used in the testing of bare and loaded printed circuit boards. ECT, which operates under the brand names atg-Luther & Maelzer and Everett Charles Technologies, offers a complete line of PCB testing solutions, including flying probe and universal grid testers, test fixtures and probes.

The Dover Acquisition

On September 6, 2013, we entered into a Master Sale and Purchase Agreement (the Purchase Agreement) with Dover and, solely for the limited purposes set forth in the Purchase Agreement, Dover Corporation (Dover Parent). Pursuant to the Purchase Agreement, we purchased from Dover or its specified affiliates (collectively, the Sellers) all assets of the Sellers used exclusively or primarily in connection with the research and development, design, manufacture, assembly, production, marketing, distribution, sale and repair of probes, assembled board and bare board test equipment, and fixturing products and the provision of services related thereto (the ECT Business, and such assets and intellectual property, the ECT Assets) and all assets of the Sellers used exclusively or primarily in connection with the research and development, design, manufacture, assembly, production, marketing, distribution, sale and repair of semiconductor test handlers, semiconductor test contactors and sockets and semiconductor test load boards, and the provision of services related thereto (the MT Business, and such assets and intellectual property, the MT Assets). We also assumed certain specified liabilities of the Sellers related primarily or exclusively to the ECT Business and MT Business (together, the Acquired Businesses) or the Acquired Assets (as defined below). Under the Purchase Agreement, we also acquired all of the issued and outstanding capital stock and other equity interests of specified indirect subsidiaries of Dover Parent and its affiliates that are engaged in the Acquired Businesses, including Everett Charles Technologies LLC (such capital stock and other equity interests, the Acquired Shares). The ECT Business and the MT Business are collectively referred to as the Acquired Businesses and the ECT Assets, the MT Assets and the Acquired Shares are collectively referred to as the Acquired Assets. The asset and share purchase transactions effected pursuant to the Purchase Agreement are collectively referred to as the “Dover Acquisition.” On December 1, 2013, we completed the Dover Acquisition pursuant to the Purchase Agreement.

On November 27, 2013, in anticipation of the completion of the Dover Acquisition and to fund the purchase price therefore we entered into a credit agreement (Credit Agreement) with Everett Charles Technologies LLC (ECT and together with us, the Borrowers), Silicon Valley Bank, as lender, administrative agent and issuing lender (SVB), and the several lenders from time to time party thereto (the Lenders). The Credit Agreement provides for a senior secured credit facility in favor of the Borrowers in the aggregate principal amount of up to $55.0 million (the Facility). See the Liquidity and Capital Resources for more information regarding our obligations and expected impact to our liquidity from the Credit Agreement.

 

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Pursuant to the Purchase Agreement, in connection with the closing of the Dover Acquisition, we paid the Sellers an aggregate purchase price of $93.5 million, of which $73.5 million was paid in cash through a combination of existing cash-on-hand and bank debt and $20.0 million was paid by the issuance of promissory notes by us to the certain Sellers in the original principal amount of $20.0 million. Pursuant to the Purchase Agreement entered into with Dover Corporation on September 6, 20143, the cash purchase price was increased by $12.5 million, to reflect, among other required adjustments, specified cash balances held by the Acquired Businesses as of the closing of the Dover Acquisition, acquired indebtedness, certain transaction costs, employee-related liabilities, working capital adjustments and reductions in the principal amount of the promissory notes payable to Dover Corporation in connection with the satisfaction of certain conditions. After giving effect to the post-closing purchase price adjustments described above, and including the reduction in the promissory notes, the aggregate purchase price paid to the Sellers was $106.0 million.

Subject to certain conditions, the original principal amount of the promissory notes were also subject to reduction upon written certification from us to Dover prior to January 1, 2015 of certain specified events related to our relocation from or refurbishment of certain properties of the Acquired Businesses, or the prepayment of the promissory notes in full prior to such date. In January 2014, we executed leases for two new facilities, and in February 2014, we provided Dover with written certification of a planned relocation from certain properties of the Acquired Businesses. Consequently, the original principal amount of the promissory notes issued to Dover was reduced by $2.0 million. The promissory notes were further reduced by $1.75 million as a result of our plans to renovate the recently purchased Rosenheim facility, which was a condition of the original notes. The promissory notes accrue interest on the unpaid balance for each day that they remain outstanding after December 1, 2014 at a per annum rate equal to the LIBOR plus 10%, and may be prepaid by us at any time without penalty prior to May 1, 2019. The promissory notes are subject to payments of $1.3 million due on December 1 and June 1 of each year, until the notes are paid in full. On November 26, 2014 we repaid the promissory notes in full.

On or prior to December 1, 2013, we and Dover, or their affiliates, respectively, also entered into a transition services agreement, an intellectual property termination agreement and a license agreement which govern certain on-going relationships between us and Dover and their respective affiliates following the closing. Pursuant to the Purchase Agreement, we also assumed certain liabilities related to the Acquired Businesses. See Liquidity and Capital Resources section for more information regarding our obligations and expected impact to our liquidity pursuant to the Purchase Agreement.

See Note 3 to the Consolidated Financial Statements included in this Quarterly Report on Form 10-Q for additional information related to the Dover Acquisition.

There were no acquisition costs incurred during the three months ending October 31, 2014. Through July 31, 2014 we incurred an aggregate of approximately $4.2 million in expenses in connection with the Dover Acquisition, all of which were recognized in selling, general and administrative expenses in our Consolidated Statement of Operations and Comprehensive Income (Loss). We expect to incur additional expenses relating to the integration of the Acquired Businesses into our operations.

 

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Industry Conditions and Outlook

We provide test solutions to the large and growing electronics manufacturing industry, of which semiconductors and PCBs are key components.

Sales of capital equipment products are driven by the expansion of manufacturing and test capacity, or when customers replace existing equipment with new equipment. Sales of consumable products, which include service, are driven by the level of manufacturing and test activity, and need to be replaced based on usage levels or to accommodate new designs or test techniques. Therefore, overall demand for our capital equipment and consumable products and services is generally dependent on growth in the semiconductor and electronics industry.

Critical Accounting Policies and the Use of Estimates

The preparation of financial statements in conformity with United Statesgenerally accepted accounting principles requires management to make estimates and assumptions that affect the reported amount of assets, liabilities, revenues, and expenses, and related disclosure of contingent assets and liabilities. We base these estimates and assumptions on historical experience and evaluate them on an on-going basis to ensure they remain reasonable under current conditions. Actual results could differ from those estimates. We believe that our most critical accounting policies upon which our financial reporting depends and which involve the most complex and subjective judgmentsor assessments are as follows: revenue recognition, inventory reserves, income taxes, product warranty costs, goodwill and other identifiable intangible assets, impairment of long-lived assets, and allowances for doubtful accounts.

A summary of those accounting policies and estimates that we believe to be most critical to fully understand and evaluate our financial results is set forth below. The summary should be read in conjunction with our Consolidated Financial Statements and Notes and related disclosures elsewhere in this Quarterly Report on Form 10-Q.

Revenue Recognition

We recognize revenue when persuasive evidence of an arrangement exists, delivery or customer acceptance (if required) has occurred or services have been rendered, the price is fixed or determinable and collectability is reasonably assured. Our revenue recognition policy is described in Note 2, Summary of Significant Accounting Policies, contained in the Notes to Consolidated Financial Statements included in this Quarterly Report on Form 10-Q and is incorporated herein by reference.

Inventory Reserves

We are exposed to a number of economic and industry factors that could result in portions of our inventory becoming either obsolete or in excess of anticipated customer demand. These factors include changes in our customers’ capital expenditures, technological changes in our markets, our ability to meet changing customer requirements, competitive pressures in products and prices, and the availability of key components from our suppliers. Our policy is to establish inventory reserves when conditions exist that suggest our inventory may be in excess of anticipated demand or is obsolete based upon our assumptions about future demand for our products or market conditions. We regularly evaluate the ability to realize the value of our inventory based on a combination of factors including the following: historical usage rates, forecasted sales or usage, estimated product end of life dates, estimated current and future market values, and new product introductions. Purchasing and alternative usage options are also explored to mitigate inventory exposure. When recorded, our reserves are intended to reduce the carrying value of our inventory to its net realizable value. These reserves are not reversed until the related inventory is sold or otherwise disposed. Our inventory reserves policy is described in Note 2, Summary of Significant Accounting Policies, contained in the Notes to the Consolidated Financial Statements included in this Quarterly Report on Form 10-Q and is incorporated herein by reference.

Foreign Currency Remeasurement

The financial statements of our foreign subsidiaries are remeasured in accordance with Topic 830, Foreign Currency Matters, to the FASB ASC. The functional currency of our tester group is the U.S. dollar. Accordingly, our foreign subsidiaries that are included in this group remeasure monetary assets and liabilities at month-end exchange rates while long-term non-monetary items are remeasured at historical rates. Income and expense accounts are remeasured at the average rates in effect during the month. Net gains or losses resulting from foreign currency remeasurement and transaction gains or losses are included in the consolidated results of operations as a component of other expense, net, and were not significant for the three months ended October 31, 2014 and 2013. The functional currency of each of our acquired businesses is local currency, predominantly Euro, Malaysian Ringitt and Singapore dollars, and net gains or losses resulting from foreign currency remeasurement and translation gains or losses are recorded in stockholders’ equity as accumulated other comprehensive income (loss).

 

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Income Taxes

In accordance with Topic 740, Income Taxes to the FASB ASC (“Topic 740”), we recognize deferred income taxes based on the expected future tax consequences of differences between the financial statement basis and the tax basis of assets and liabilities calculated using enacted tax rates for the year in which the differences are expected to be reflected in the tax return. Valuation allowances are established when necessary to reduce deferred taxes to the amount expected to be realized.

 

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We have deferred tax assets resulting from tax credit carryforwards, net operating losses and other deductible temporary differences, which are available toreduce taxable income in future periods. Topic 740 requires that a valuation allowance be established when it is “more likely than not” that all or a portion of deferred tax assets will not be realized. A review of all available positive and negative evidence needs to be considered, including a company’s performance, the market environment in which it operates, the length of carryback and carryforward periods, existing sales backlog and future sales projections. Where there have been cumulative losses in recent years, Topic 740 creates a strong presumption that a valuation allowance is needed. This presumption can be overcome in very limited circumstances. As a result of our cumulative loss position in recent years and the increased uncertainty relative to the timing of profitability in future periods, we continue to maintain a valuation allowance for our entire U.S. net deferred tax assets, and full valuation allowance against the net deferred tax assets of foreign jurisdictions without a history of profitability. The valuation allowance for deferred tax assets increased from $204.5 million at July 31, 2013, to $211.9 million at July 31, 2014. The increase in our valuation allowance compared to the prior year was primarily due to an increase in U.S. deferred tax assets associated with the current year taxable loss generated and other book-tax basis differences partially off-set by a release of valuation allowance in conjunction with the Dover Acquisition. The acquisition of the atg-Luther & Maelzer, ECT and Multitest businesses from Dover resulted in a $0.5 million release of valuation allowance against our U.S. deferred tax assets. We recorded a valuation allowance of $0.1 million in purchase accounting against acquired deferred tax assets.

We expect to record a full valuation allowance on future U.S. tax benefits and in foreign tax jurisdictions until we sustain an appropriate level of profitability. We will continue to monitor the recoverability of our deferred tax assets on a periodic basis. As a result of the merger with Credence in 2008 and Internal Revenue Service Code Section 382 guidance, the future utilization of our net operating losses will be subject to annual limitation.

Business Combinations

We account for acquired businesses using the purchase method of accounting which requires that the assets acquired and liabilities assumed be recorded at the date of the acquisition at their respective estimated fair values. The judgments made in determining the estimated fair value assigned to each class of assets acquired, as well as the estimated life of each asset, can materially impact the net income of the periods subsequent to the acquisition through depreciation and amortization, and in certain instances through impairment charges, if the asset becomes impaired in the future. In determining the estimated fair value for intangible assets, we typically utilize the income approach, which discounts the projected future net cash flow using an appropriate discount rate that reflects the risks associated with such projected future cash flow.

Determining the useful life of an intangible asset also requires judgment, as different types of intangible assets will have different useful lives and certain assets may even be considered to have indefinite useful lives. Intangible assets determined to have an indefinite useful life are reassessed periodically based on the expected use of the asset by us, legal or contractual provisions that may affect the useful life or renewal or extension of the asset’s contractual life without substantial cost, and the effects of demand, competition and other economic factors.

Valuation of Goodwill and Indefinite Lived Assets

We perform our annual goodwill impairment test as required under the provisions of Topic 350-10, Intangibles—Goodwill and Other to the FASB ASC (Topic 350) as of July 31 of each fiscal year or more often if there are interim indicators of impairment. Goodwill is considered to be impaired when the net book value of a reporting unit exceeds its estimated fair value. Our goodwill represents the excess of acquisition costs over estimated fair value of net assets acquired from StepTech, Inc on June 10, 2003, and from our merger with Credence Systems Corporation (Credence) on August 29, 2008. During the three months ended October 31, 2014 we did not identify any triggering events that would result in an interim test of goodwill.

There was no goodwill associated with the acquisition of the ECT, Multitest or atg-Luther & Maelzer businesses in the Dover Acquisition on December 1, 2013. As of October 31, 2014, we have one reporting unit to which the full balance of goodwill is allocated, our semiconductor test reporting unit which is related to our LTX-Credence business.

Valuation of Identifiable Intangible Assets

Our identifiable intangible assets include developed technology, distributor and key customer relationships, and trademarks.

We primarily use the income approach to value the existing technology and other intangible assets as of the date of acquisition. This approach calculates fair value by estimating future cash flows attributable to each intangible asset and discounting them to present value at a risk-adjusted discount rate.

 

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In estimating the useful life of the acquired intangible assets, we considered paragraph 11 of Topic 350, which lists the pertinent factors to be considered when estimating the useful life of an intangible asset. These factors include a review of the expected use by the combined company of the assets acquired, the expected useful life of another asset (or group of assets) related to the acquired assets, legal, regulatory or other contractual provisions that may limit the useful life of an acquired asset or may enable the extension of the useful life of an acquired asset without substantial cost, the effects of obsolescence, demand, competition and other economic factors, and the level of maintenance expenditures required to obtain the expected future cash flows from the asset. We have amortized these intangible assets over their estimated useful lives using a method that is based on estimated future cash flows as we believe this amortization methodology approximates the pattern in which the economic benefits of the intangible assets will be derived.

 

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Impairment of Long-Lived Assets Other Than Goodwill

On an on-going basis, our management reviews the carrying value and period of amortization or depreciation of long-lived assets. In accordance with Topic 360, Property, Plant and Equipment, to the FASB ASC, we review whether impairment losses exist on long-lived assets when indicators of impairment are present. During this review, we re-evaluate the significant assumptions used in determining the original cost and estimated useful life of long-lived assets. Although the assumptions may vary, they generally include revenue growth, operating results, cash flows and other indicators of value. Management then determines whether there has been a permanent impairment of the value of long-lived assets based upon events or circumstances that have occurred since acquisition. The extent of the impairment amount recognized is based upon the difference of the impaired asset’s estimated fair value and its carrying value. As of October 31, 2014 and July 31, 2014, there were no indicators that required us to conduct a recoverability test as of these dates.

Product Warranty Costs

We provide standard warranty coverage on our systems, providing labor and parts necessary to repair the systems during the warranty period. We account for the estimated warranty cost as a charge to cost of sales when the revenue is recognized. Our product warranty cost policy is described in Note 2, Summary of Significant Accounting Policies, contained in the Notes to Consolidated Financial Statements included in this Quarterly Report on Form 10-Q and is incorporated herein by reference.

Trade Accounts Receivable and Allowance for Doubtful Accounts

Trade accounts receivable are recorded at the invoiced amount, do not bear interest, and typically have a contractual maturity of ninety days or less. A majority of our trade receivables are derived from sales to large multinational semiconductor manufacturers throughout the world. The volatility of the industries that we serve can cause certain of our customers to experience shortages of cash, which can impact their ability to make required payments. In order to monitor potential credit losses, we perform on-going credit evaluations of our customers’ financial condition. An allowance for doubtful accounts is maintained for potential credit losses based upon our assessment of the expected collectability of all accounts receivable. The allowance for doubtful accounts is reviewed periodically to assess the adequacy of the allowances. In any circumstances in which we are aware of a customer’s inability to meet its financial obligations, we provide an allowance, which is based on the age of the receivables, the circumstances surrounding the customer’s financial situation and our historical experience. If circumstances change, and the financial condition of our customers were adversely affected resulting in their inability to meet their financial obligations to us, we may need to record additional allowances. Account balances are charged off against the allowance when it is determined the receivable will not be recovered.

Recent Accounting Pronouncements

Our recent accounting pronouncements are described in Note 11, Recent Accounting Pronouncements, contained in the Notes to the Consolidated Financial Statements included in the Quarterly Report on Form 10-Q and is incorporated herein by reference.

 

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Results of Operations

The following table sets forth for the periods indicated the principal items included in the Consolidated Statements of Operations and Comprehensive Income (Loss) in thousands, except for percentage changes and per share data:

Statement of Operations

 

		Three Months Ended October 31,
		2014				2013				% Change
Net product sales		$	119,063			$	24,281				390.4%
Net service sales			8,099				8,486				(4.6)
Net sales			127,162				32,767				288.1
Cost of sales			73,349				15,636				369.1
Gross profit			53,813				17,131				214.1
Engineering and product development expenses			16,065				12,878				24.7
Selling, general and administrative expenses			23,173				10,925				112.1
Amortization of purchased intangible assets			563				193				191.7
Restructuring			708				—				—
Income (loss) from operations			13,304				(6,865)				293.8
Other income (expense):
Interest expense			(915)				(62)				1,375.8
Interest income			96				187				(48.7)
Other income (expense), net			340				(20)				1,800.0
Income (loss) before provision for income taxes			12,825				(6,760)				289.7
Provision for income taxes			763				140				445.1
Net income (loss)		$	12,062			$	(6,900)				274.8
Net income (loss) per share:
Basic			$    0.24			$	(0.14)
Diluted			$    0.23			$	(0.14)

 

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The following table sets forth for the periods indicated the principal items included in the Consolidated Statements of Operations and Comprehensive Income (Loss) expressed in each case as a percentage of net sales:

 

		Percentage of Net Sales
		Three Months Ended October 31,
		2014				2013
Net sales			100.0%				100.0%
Cost of sales			57.7				47.7
Gross profit			42.3				52.3
Engineering and product development expenses			12.6				39.3
Selling, general and administrative expenses			18.2				33.3
Amortization of purchased intangible assets			0.4				0.6
Restructuring			0.6				-
Income (loss) from operations			10.5				(20.9)
Other income (expense):
Interest expense			(0.7)				(0.2)
Interest income			0.0				0.5
Other income (expense), net			0.3				0.0
Income (loss) before provision for income taxes			10.1				(20.6)
Provision for income taxes			0.6				0.4
Net income (loss)			9.5%				(21.1)%

Three Months Ended October 31, 2014 Compared to the Three Months Ended October 31, 2013

Net sales. The increase in net sales for the three months ended October 31, 2014 compared to the three months ended October 31, 2013 was due principally to the completion of the Dover Acquisition in December 2013. During the three months ended October 31, 2014, $56.6 million of net sales were generated by the former LTX-Credence business and $70.6 million of net sales resulted from the operations of the Acquired Businesses, for total net sales of $127.2 million. Excluding net sales from the Acquired Businesses, our net sales of $56.6 million for the three months ended October 31, 2014 increased 72.6% as compared to net sales of $32.8 million for the three months ended October, 2013, driven by increased net sales due to higher customer demand for our test equipment resulting from higher demand in our customers’ end markets, particularly in the PAx and Diamond_x product lines.

Gross profit. The increase in gross profit for the three months ended October 31, 2014 compared to the three months ended October 31, 2013 was due principally to the completion of the Dover Acquisition in December 2013. During the three months ended October 31, 2014, gross profit for the former LTX-Credence business was $31.7 million and $22.1 million resulted from the operations of the Acquired Businesses, for a total gross profit of $53.8 million. Excluding the gross profit of the Acquired Businesses, our gross profit of $31.7 million for the three months ended October 31, 2014 increased 85% as compared to gross profit of $17.1 million for the three months ended October 31, 2013. This increase was driven by higher net sales from the former LTX-Credence business of $56.6 million for the three months ended October 31, 2014, as compared to net sales of $32.8 million for the three months ended October 31, 2013. The higher net sales of the former LTX-Credence business year over year led to higher absorption of fixed costs of sales of that business.

The decrease in the gross profit percentage for the three months ended October 31, 2014 compared to the three months ended October 31, 2013 is the result of sales from the Acquired Businesses of lower margin products.

Engineering and product development expenses. The increase in engineering and product development expenses for the three months ended October 31, 2014 compared to the three months ended October 31, 2013 was due primarily to product development expenses incurred by the Acquired Businesses. Excluding product development expenses associated with the Acquired Businesses, engineering and product development expenses for LTX-Credence were $11.9 million for the three months ended October 31, 2014, compared to the $12.9 million for the three months ended October 31, 2013. This decrease was due to lower personnel related expenses in the three months ending October 31, 2014 resulting from headcount reductions completed at the end of January 2014.

 

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Selling, general and administrative expenses. The increase in selling, general and administrative expenses for the three months ended October 31, 2014 compared to the three months ended October 31, 2013 was due principally to expenses incurred by the Acquired Businesses. During the three months ended October 31, 2014, the LTX-Credence business had selling, general and administrative expenses of $11.2 million and the Acquired Businesses had selling, general and administrative expenses of $12.0 million, for total selling, general and administrative expenses of $23.2 million. Excluding the selling, general and administrative expenses of the Acquired Businesses, our selling, general and administrative expenses of $11.2 million for the three months ended October 31, 2014 increased 4% as compared to selling, general and administrative expense of $10.9 million for the three months ended October 31, 2013. This increase in LTX-Credence selling, general and administrative expenses was due to higher variable commissions on higher revenue, higher insurance premiums and other corporate-related expenses associated with the Acquired Businesses. The increased selling, general and administrative expenses in the three months ended October 31, 2014 did not include $1.7 million of acquisition related expenses that were incurred in the three months ended October 31, 2013.

Amortization of purchased intangible assets. The increase in amortization for the three months ended October 31, 2014 compared to the three months ended October 31, 2013 is a result of the addition of intangible assets from the Dover Acquisition, which is being amortized over their expected useful lives.

Restructuring. The restructuring expense recorded in the three months ended October 31, 2014 included $0.4 million of estimated severance and post-employment obligations related to headcount reductions during the period. The remainder of the expense for the three months ended October 31, 2014 of $0.3 million was associated with costs to relocate certain facilities as well as remaining lease obligations on the vacated facility.

Interest expense. The increase in interest expense for the three months ended October 31, 2014 compared to the three months ended October 31, 2013 presented was driven by interest incurred on the bank term loan and the seller financing promissory notes, which closed in the three months ended January 31, 2014, proceeds of which were used to fund the Dover Acquisition in November 2013. Accordingly there was no interest expense incurred related to the term loan or the promissory notes in the three months ended October 31, 2013.

Interest income. Interest income decreased in the periods presented due to a decrease in marketable securities held within our portfolio. We used approximately $35.0 million of marketable securities to fund a portion of the purchase price for the Dover Acquisition.

Other income (expense), net. The increase in other income (expense) for the three months ended October 31, 2014 compared to the three months ended October 31, 2013 was related to foreign exchange gains associated with the weakening of the Euro compared to the U.S. Dollar.

 

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Provision for income taxes. We recorded an income tax provision of $0.8 million in the three months ended October 31, 2014, which was primarily due to operating results of profitable foreign entities in jurisdictions primarily in Asia and Europe partially offset by a tax benefit recorded as a result of the Dover Acquisition, and the release of reserves due to statute of limitation expirations.

As of October 31, 2014 and July 31, 2014 our liability for unrecognized income tax benefits was $6.4 million and $6.6 million, respectively (of which $2.8 million and $3.0 million, respectively, if recognized, would impact our income tax rate).

We expect to maintain a full valuation allowance on U.S. deferred tax benefits and in certain foreign jurisdictions until we can sustain an appropriate level of profitability. We will continue to monitor the recovery of our deferred tax assets on a periodic basis.

Liquidity and Capital Resources

The following is a summary of significant items impacting our liquidity and capital resources for the three months ended October 31, 2014 (in millions):

 

Cash, cash equivalents and marketable securities at July 31, 2014		$	98.9
Proceeds from Equity Offering, net of commissions paid			52.4
Capital expenditures			(2.6	)
Principal payments on bank term loan			(20.6	)
Other cash provided by operating activities, net			18.6
Cash, cash equivalents and marketable securities at October 31, 2014		$	146.7

As of October 31, 2014, we had $146.7 million in cash and cash equivalents and marketable securities and net working capital of $224.2 million, as compared to $98.9 million of cash and cash equivalents and marketable securities and net working capital of $182.9 million at July 31, 2014. The increase in cash and cash equivalents and marketable securities was primarily due to proceeds received from our equity offering completed in September 2014, as well as cash provided by operations, partially offset by a paydown of our bank term loan during the three months ended October 31, 2014.

Accounts receivable from trade customers, net of allowances, was $80.3 million at October 31, 2014 as compared to $88.1 million at July 31, 2014. This decrease was driven by strong customer collections during the three months ended October 31, 2014.

Purchases of property and equipment totaled $2.2 million for the three months ended October 31, 2014, as compared to $1.0 million for the three months ended October 31, 2013. Capital expenditures for the three months ended October 31, 2014 were composed primarily of leasehold improvements for our Fontana facility of approximately $1.5 million, as well as capital related to certain engineering projects. Capital expenditures for the three months ended October 31, 2013 were primarily related to capital related to certain engineering projects and spare parts to support our post-warranty support contracts.

Net cash provided by operating activities for the three months ended October 31, 2014 was $20.7 million, as compared to net cash used in operating activities of $4.3 million for the three months ended October 31, 2013. The net cash provided by operating activities for the three months ended October 31, 2014 was primarily related to our net income of $12.1 million adjusted for non-cash items including depreciation, amortization and stock-based compensation of approximately $5.4 million, as well as a decrease in working capital of $3.2 million. The net cash used in operating activities for the three months ended October 31, 2013 was primarily related to our net loss of $6.9 million, adjusted for non-cash items including depreciation, amortization and stock-based compensation of approximately $3.3 million, and offset by a decrease in working capital of $0.7 million.

 

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Net cash used in investing activities for the three months ended October 31, 2014 was $20.7 million, as compared to net cash provided by investing activities of $7.5 million for the three months ended October 31, 2013. The net cash used in investing activities for the three months ended October 31, 2014 was primarily related to $38.3 million of purchases of available-for-sale securities, and $2.2 million of purchases of property and equipment. This cash use was offset by $19.9 million from sales and maturities of marketable securities. The net cash provided by investing activities for the three months ended October 31, 2013 was primarily related to $24.0 million of proceeds from sales and maturities of available-for-sale securities and $2.9 million in proceeds from sales of held-to-maturity securities, offset in part by $18.4 million of purchases of available-for-sale securities, and $1.0 million of purchases of property and equipment.

Net cash provided by financing activities for the three months ended October 31, 2014 was $30.8 million, as compared to net cash used in financing activities of $0.8 million for the three months ended October 31, 2013. The net cash provided by financing activities for the three months ended October 31, 2014 was related to $52.4 million of net proceeds from our issuance of common stock, offset in part by principal payments of the bank term loan of $20.7 million, as well as payments of tax withholdings for vested RSUs, net of proceeds from stock option exercises of $0.9 million. The net cash used in financing activities for the three months ended October 31, 2013 was primarily related to payments of tax withholdings for vested RSUs of $0.8 million.

Credit Agreement

On November 27, 2013, in anticipation of the completion of the Dover Acquisition and to fund the purchase price therefore, we entered into the Credit Agreement with ECT, SVB, as lender, administrative agent and issuing lender, and the Lenders from time to time party thereto. The Credit Agreement provides for a senior secured credit facility in the aggregate principal amount of up to $55.0 million (the Facility).

The Facility consists of a term loan facility for $50.0 million that was advanced to us on November 27, 2013 (the Term Loan) and a revolving credit facility (including a letter of credit facility) for up to $5.0 million (the Revolving Loan and, together with the Term Loan, the Loans) that is available from time to time for five years after November 27, 2013 (the Closing Date). Under the terms of the Credit Agreement, not more than one time during the period commencing on the Closing Date until the close of business on the date that is one day prior to the 42-month anniversary of the Closing Date, the Facility may be increased by an aggregate amount not to exceed $20.0 million through an additional facility on a pari passu basis with the Term Loan, subject to specified conditions and the agreement of one or more Lenders to participate therein. At October 31, 2014, approximately $0.5 million was outstanding in the form of standby letters of credit under the Facility. The standby letters of credit have various expiration dates, the latest of which is January 2015.

All obligations under the Facility are secured by a first priority security interest in substantially all of the Borrowers’ existing and future assets, including a pledge of the stock or other equity interests of the Borrowers’ domestic subsidiaries and of any first tier foreign subsidiaries, provided that not more than 66% of the voting stock of any such foreign subsidiaries shall be required to be pledged.

The Credit Agreement requires that the Term Loan be repaid in quarterly installments, with 5% of the principal due the first year, 7.5% of principal due the second year, 10% of principal due the third year, 12.5% of principal due the fourth year, 15% of principal due the fifth year, and a final payment of $25.0 million due on the fifth anniversary of the Closing Date (the Maturity Date). All outstanding Loans under the Facility mature on the Maturity Date unless earlier payment is required under the terms of the Credit Agreement. The Term Loan is subject to optional and mandatory prepayment in whole and part as described in the Credit Agreement subject to certain criteria. Loans outstanding under the Facilities may, at the Borrowers’ option, be prepaid at any time in whole or in part without premium or penalty, other than customary breakage costs, if any, subject to the terms and conditions of the Credit Agreement.

Borrowings under the Facility bear interest, at a base rate plus a margin of up to 2.50% per annum, or at LIBOR plus a margin of up to 3.50% per annum, in either case based on our ratio of consolidated senior debt to consolidated earnings before interest, taxes, depreciation and amortization (EBITDA) (the Leverage Ratio). The interest rate otherwise payable under the Facility will be subject to increase by 2.0% per annum during the continuance of a payment default and may be subject to increase by 2.0% per annum during the continuance of any other event of default under the Credit Agreement. Certain customary fees and expenses are also payable in connection with the Facility.

The proceeds of the Term Loan were primarily used to fund the purchase price with respect to the Dover Acquisition.

 

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The Credit Agreement contains customary affirmative and negative covenants, subject in certain cases to baskets and exceptions, including negative covenants with respect to indebtedness, liens, fundamental changes, dispositions, restricted payments, investments, ERISA matters, matters relating to subordinated debt, affiliate transactions, sale and leaseback transactions, swap agreements, accounting changes, negative pledge clauses, clauses restricting subsidiary distributions, lines of business, amendments to certain documents and use of proceeds. The Credit Agreement also contains customary reporting and other affirmative covenants. The Credit Agreement contains a consolidated fixed charge coverage ratio, consolidated leverage ratio and liquidity requirements including the covenant that we maintain approximately $50 million in domestic cash and cash equivalents to meet the minimum level of liquidity covenant. The Credit Agreement required that we maintain a consolidated leverage ratio of less than 3.00 to 1.00 as of the end of four consecutive fiscal quarters ended January 31, 2014. At January 31, 2014, our consolidated leverage ratio exceeded this ratio threshold, resulting in an event of default under the Credit Agreement. On April 15, 2014, we executed a First Amendment to Credit Agreement and Waiver (Credit Agreement Amendment and Waiver) pursuant to which the parties thereto agreed, among other things, to waive the occurrence of the event of default resulting from our failure to meet the above described financial covenant in the Credit Agreement provided, that our consolidated leverage ratio for the four fiscal quarters ended on January 31, 2014 did not exceed 3.66 to 1.00. Pursuant to the Credit Agreement Amendment and Waiver, the parties also agreed to modify the definition of “consolidated net income” to include, in the calculation of consolidated net income for periods following the closing of the Dover Acquisition, net income (or loss) attributable to the Acquired Businesses for specified periods prior to the closing of the Dover Acquisition. As of October 31, 2014 we were in compliance with all covenants under the Credit Agreement and Credit Agreement Amendment and Waiver including the consolidated leverage ratio.

Our obligations under the Facility may be accelerated upon the occurrence of an event of default under the Credit Agreement, which includes customary events of default, including payment defaults, the inaccuracy of representations or warranties, the failure to comply with covenants, ERISA defaults, judgment defaults, bankruptcy and insolvency defaults and cross defaults to material indebtedness.

Subject to certain conditions, the original principal amount of the promissory notes are also subject to reduction upon written certification from us to Dover prior to January 1, 2015 of certain specified events related our relocation from or refurbishment of certain properties of the Acquired Businesses, or the prepayment of the promissory note in full prior to such date. In January 2014, we executed leases for two new facilities, and in February 2014, we provided Dover with written certification of our planned relocation from certain properties of the Acquired Businesses. Consequently, the original principal amount of the promissory note issued to Dover was reduced by $2.0 million. In November 2014, the promissory notes were further reduced by $1.75 million as a result of our plans to renovate the recently purchased Rosenheim facility, which was a condition of the original notes. The promissory notes accrue interest on the unpaid balance for each day that they remain outstanding after December 1, 2014 at a per annum rate equal to the LIBOR plus 10%, and may be prepaid by us at any time without penalty prior to May 1, 2019. The promissory notes are subject to payments of $1.3 million due on December 1 and June 1 of each year, until the notes are paid in full. On November 26, 2014 we repaid the promissory notes in full.

We expect the debt obligations resulting from the Acquisition in accordance with the Purchase Agreement and Credit Agreement to have a material impact on our liquidity and capital resources in the near future.

Commitments and Contingencies

As of October 31, 2014, our major outstanding contractual obligations are related to our bank term loan, rental properties, other operating leases, inventory purchase commitments, and severance obligations.

In the ordinary course of business, we agree from time to time to indemnify certain customers against certain third party claims for property damage, bodily injury, personal injury or intellectual property infringement arising from the operation or use of our products. Also, from time to time in agreements with suppliers, licensors and other business partners, we agree to indemnify these partners against certain liabilities arising out of the sale or use of our products. The maximum potential amount of future payments we could be required to make under these indemnification obligations is theoretically unlimited; however, we have general and umbrella insurance policies that enable it to recover a portion of any amounts paid and many of these agreements contain a limit on the maximum amount, as well as limits on the types of damages recoverable. Based on our experience with such indemnification claims, we believe the estimated fair value of these obligations is minimal. Accordingly, we have no liabilities recorded for these agreements as of October 31, 2014.

We are a defendant in a litigation matter incidental to our business that is related to customer expectations of test system performance for product that was shipped in 2006 by Credence. We do not believe the plaintiff’s claims have merit and we are vigorously defending our position. An estimate of any potential loss cannot be made; we do not believe a loss is probable, and accordingly we have not accrued any amounts related to this matter.

 

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Subject to certain limitations, we indemnify our current and former officers and directors for liability or costs they may incur upon certain events or occurrences encountered in the course of performing their duties to us. Although the maximum potential amount of future payments we could be required to make under these agreements is theoretically unlimited, as there were no known or pending claims, we have not accrued a liability for these agreements as of October 31, 2014.

The aggregate outstanding amount of our contractual obligations was $121.1 million as of October 31, 2014. These obligations and commitments represent maximum payments based on current operating forecasts. Certain of the commitments could be reduced if changes to our operating forecasts occur in the future.

The following summarizes our contractual obligations as of October 31, 2014 and the effect such obligations are expected to have on our liquidity and cash flows in future periods:

 

		Total				2015				2016-2017				2018-2019				Thereafter
		(in thousands)
Contractual Obligations:
Operating leases		$	28,570			$	6,099			$	13,243			$	4,702				$    4,526
Inventory commitments			34,217				26,893				7,131				193				—
Severance			525				525				—				—				—
Bank Term Loan- principal and interest			33,988				3,785				12,809				15,326				2,068
Promissory Notes- principal and interest			23,825				2,164				8,065				13,596				—
Total Contractual Obligations		$	121,125			$	39,466			$	41,248			$	33,817				$      6,594

The promissory notes accrue interest on the unpaid balance for each day that they remain outstanding after December 1, 2014 at a per annum rate equal to the London Interbank Offered Rate plus 10%, and may be prepaid by us at any time without penalty prior to May 1, 2019. The promissory notes were paid in full, for $16.25 million, prior to November 30, 2014, so no interest was due.

Off-Balance Sheet Arrangements

As of October 31, 2014 we did not have any off-balance sheet arrangements.

 

Item 3.

Quantitative and Qualitative Disclosures about Market Risk

There has been no material change in our quantitative and qualitative disclosures about market risk exposure since the filing of our Annual Report on Form 10-K for the fiscal year ended July 31, 2014.

 

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Item 4.

Controls and Procedures

Evaluation of Disclosure Controls and Procedures. Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures as of October 31, 2014. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e)) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), means controls and other procedures of a company that are designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time period specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to our management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure. Management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives and management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on the evaluation of our disclosure controls and procedures as of October 31, 2014, our Chief Executive Officer and Chief Financial Officer concluded that, as of such date, our disclosure controls and procedures were effective at the reasonable assurance levels.

Changes in Internal Controls. There was no change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f)) under the Exchange Act) during the three months ended October 31, 2014 that has materially affected, or is reasonably likely to materially affect our internal control over financial reporting.

Limitations on the Effectiveness of Controls

Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures or our internal controls over financial reporting can prevent all error and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. The inherent limitations in all control systems include the realities that judgments in decision-making can be faulty and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons or by collusion of two or more people. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected.

PART II—OTHER INFORMATION

 

Item 1.

Legal Proceedings

We are subject to various legal proceedings, claims and litigation which arise in the ordinary course of operations. We believe we have meritorious defenses against all pending claims and intend to vigorously pursue them. While it is not possible to predict or determine the outcomes of any pending actions, we believe the amount of liability, if any, with respect to such actions, would not materially affect our financial position, results of operations or cash flows.

 

Item 1A.

Risk Factors

This Quarterly Report includes or incorporates forward-looking statements that involve substantial risks and uncertainties and fall within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Act. You can identify these forward-looking statements by our use of the words “believes,” “anticipates,” “plans,” “expects,” “may,” “will,” “would,” “should,” “intends,” “estimates,” “seeks” or similar expressions, whether in the negative or affirmative. We cannot guarantee that we actually will achieve these plans, intentions or expectations. Actual results or events could differ materially from the plans, intentions and expectations disclosed in the forward-looking statements we make. We have included below important factors that we believe could cause our actual results to differ materially from the forward-looking statements that we make. If any of these risks were to occur, our business, financial condition, results of operations or prospects, could be materially and adversely affected. These risks and uncertainties may be interrelated or co-related, and as a result, the occurrence of one risk might directly affect other risks described below, make them more likely to occur or magnify their impact. Moreover, the risks and uncertainties described below are not the only ones we face. Additional risks and uncertainties not presently known to us or that we currently deem immaterial may also affect our business. We do not assume any obligation to update any forward-looking statement we make.

 

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Our mergers and acquisitions may be costly, be difficult to integrate, disrupt our business, dilute stockholder value, and divert management attention, which may limit our ability to realize the anticipated benefits of such transactions.

On December 1, 2013, we acquired the Multitest and ECT businesses of Dover Printing & Identification, Inc. (Dover) and its specified affiliates pursuant to a Master Sale and Purchase Agreement.

This acquisition was substantial in size, scope, and complexity, and entails many changes, including the integration of the Multitest and ECT businesses, Dover personnel and Dover systems with our operations. These transition activities are complex and we have incurred and will continue to incur significant costs related to the acquisition. The commercial and financial success of the acquisition is subject to many risks including those set forth below:

 

•

We might not be successful in integrating employees, products and technology with our existing business, and such integration may divert significant management attention from our existing business;

 

•

We may realize greater expenses than we anticipated from the transaction;

 

•

We may fail to realize synergies that we anticipated from the transaction;

 

•

We may fail to retain key executives and employees, which could reduce the likelihood of success of the acquisition;

 

•

We may encounter difficulties in the assimilation of employees and corporate cultures;

 

•

The combination of the companies may not deliver to our customers the benefits that we have anticipated, which may result in customers reducing their aggregate spending with the ECT Business, the MT Business and/or with our existing businesses;

 

•

We may have difficulty in developing, manufacturing and marketing the products of newly acquired companies in a manner that enhances the performance of our combined businesses or product lines and allows us to realize value from expected synergies;

 

•

We may assume unforeseen legal, regulatory, intellectual property or other liabilities;

 

•

We will have less cash available for other purposes, including acquisitions of technologies or businesses.

If any of these or other factors impair our ability to integrate our operations successfully or on a timely basis, we may not be able to realize the anticipated synergies, business opportunities, revenue, net income, and growth prospects from combining the businesses. In addition, we may be required to spend additional time or money on integration that otherwise would be spent on the development and expansion of our business.

In addition, the market price of our common stock may decline if the integration of the Multitest and ECT businesses are unsuccessful, take longer than expected or fails to achieve financial benefits to the extent anticipated by financial analysts or investors, or the effect of the business combination on the financial results of the combined company is otherwise not consistent with the expectations of financial analysts or investors.

We have in the past, and may in the future, seek to acquire or invest in additional businesses, products, technologies or engineers which could put a strain on our resources, result in one-time charges (such as acquisition-related expenses, write-offs or restructuring charges) or in the future, impairment of goodwill, cause ownership dilution to our stockholders and adversely affect our financial results. Additionally, we may fund future acquisitions by utilizing our cash, raising debt, issuing shares of our common stock, or by other means, which could subject us to the risks described below in “We may need financing, which could be difficult to obtain.” We have also incurred and may continue to incur certain liabilities or other expenses in connection with acquisitions, which could materially adversely affect our business, financial condition and results of operations.

Mergers and acquisitions of high-technology companies are inherently risky, and future mergers or acquisitions may not be successful and could materially adversely affect our business, operating results or financial condition. Integrating newly acquired businesses, products or technologies into our company could put a strain on our resources, could be expensive and time consuming, may cause delays in product delivery and might not be successful. Future acquisitions and investments could divert management’s attention from other business concerns and expose our business to unforeseen liabilities (including liabilities related to acquired intellectual property and other assets), unanticipated costs associated with transactions, and risks associated with entering new markets. In addition, we might lose key employees while integrating new organizations. We might not be successful in integrating any acquired businesses, products and product development projects, technologies, personnel, operations, or systems, and might not achieve anticipated revenues and cost benefits. Investments that we make may not result in a return consistent with our projections upon which such investments are made, or may require additional investment that we did not originally anticipate. In addition, future acquisitions could result in customer dissatisfaction, performance problems with an acquired company, potentially dilutive issuances of equity securities or the incurrence of debt, contingent liabilities, possible impairment charges related to goodwill or other intangible assets or other unanticipated events or circumstances, any of which could harm our business, financial condition, results of operations, and could cause the price of our common stock to decline.

 

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One of our markets is the highly cyclical semiconductor industry, which causes a cyclical impact on our financial results.

We sell capital equipment and peripheral connectivity products to companies that design, manufacture, assemble, and test semiconductor devices. The semiconductor industry is highly cyclical, causing a cyclical impact on our financial results. Although industry conditions began to improve during the second half of fiscal 2014, industry conditions were weak in the fiscal year ended July 31, 2012 (fiscal 2012), fiscal 2013 and the first half of fiscal 2014. Although industry conditions improved in the second half of fiscal 2014 and into the first quarter of fiscal 2015, industry conditions may not continue to improve, and if they do improve, a sustained industry recovery may not occur. The ability to forecast the business outlook for our industry is typically limited to three months. Regardless of our outlook and forecasts, any failure to expand in cycle upturns to meet customer demand and delivery requirements or contract in cycle downturns at a pace consistent with the industry could have an adverse effect on our business.

Any significant downturn in the markets for our customers’ semiconductor devices or in general economic conditions would likely result in a reduction in demand for our products and would negatively impact our business. Downturns in the semiconductor test equipment and electronics manufacturing industries have been characterized by diminished product demand, excess production capacity, accelerated erosion of selling prices and excessive inventory levels. We believe the markets for newer generations of semiconductor devices and electronic products will also have similar characteristics. Our market is also characterized by rapid technological change and changes in customer demand. In the past, we have experienced delays in purchase commitments, delays in collecting accounts receivable and significant declines in demand for our products during these downturns, and we may not be able to maintain or exceed our current level of sales.

Additionally, as a capital equipment provider, our revenue is driven by the capital expenditure budgets and spending patterns of our customers who often delay or accelerate purchases in reaction to variations in their businesses. Because a high portion of our costs are fixed, we are limited in our ability to reduce expenses and inventory purchases quickly in response to decreases in orders and revenues. In an economic contraction, we may not be able to reduce our significant fixed costs, such as continued investment in research and development, capital equipment requirements and materials purchased from our suppliers.

The market for capital equipment is highly concentrated, and we have limited opportunities to sell our products.

The semiconductor and electronics manufacturing industries are highly concentrated, and a small number of semiconductor device manufacturers, contract assemblers, and electronics manufacturers account for a substantial portion of the purchases of capital equipment generally, including our equipment. Our top customer in fiscal 2014 was Spirox, which accounted for 15% of our net sales. In fiscal 2013, our top customers were Spirox and Texas Instruments, which accounted for 27% and 12% of our net sales, respectively. In fiscal 2012, our top customers were Spirox and Texas Instruments, which accounted for 22%, and 21% of our net sales, respectively. Sales to the top ten customers were 50%, 70%, and 68%, of net sales in fiscal 2014, 2013, and 2012, respectively. Our customers may cancel orders with few or no penalties. If a major customer reduces orders for any reason, our revenues, operating results, and financial condition may be negatively affected.

Our ability to increase our sales will depend, in part, on our ability to obtain orders from new customers. Semiconductor and electronics manufacturers typically select a particular vendor’s product for testing and handling its new generations of a device and make substantial investments to develop related test program applications and interfaces. Once a manufacturer has selected a test and/or handling system vendor for a new generation of a device, that manufacturer is more likely to purchase systems from that vendor for that generation of the device, and, possibly, subsequent generations of that device as well. Therefore, the opportunities to obtain orders from new customers may be limited, which may impair our ability to grow our revenue.

Our substantial debt and financial obligations could adversely affect our financial condition and ability to operate our business, we may not be able to pay our debt and other obligations, and we may incur additional debt.

As of October 31, 2014, our outstanding indebtedness was approximately $49 million. On November 26, 2014 we repaid $16.25 million of this amount using a portion of the proceeds that we received from our follow-on public offering in September 2014. Although we repaid a portion of our outstanding indebtedness, we may incur additional indebtedness in the future. Our existing indebtedness and any additional indebtedness that we may incur in the future could have important consequences, including:

 

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making it more difficult for us to satisfy our obligations under our debt agreements, including financial and operational restrictions;

 

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making it difficult for us to obtain any necessary future financing for working capital, capital expenditures, debt service requirements or other purposes;

 

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limiting our future ability to refinance our indebtedness on terms acceptable to us or at all;

 

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requiring us to dedicate a substantial portion of any cash flow from operations to pay principal and interest on our indebtedness, thereby reducing the amount of cash flow available for other purposes, including capital expenditures;

 

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limiting our flexibility in planning for, or reacting to changes in, our business and the industries in which we compete;

 

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placing us at a possible competitive disadvantage with respect to less leveraged competitors and competitors that have better access to capital resource; and

 

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making us more vulnerable in the event of a downturn in our business.

Our debt level and the terms of our financing arrangements could adversely affect our financial condition and limit our ability to successfully implement our growth strategy.

We may not be able to meet our debt service obligations, including our obligations under the Credit Agreement with SVB. If we are unable to maintain certain financial covenants, we would be in default under Facility , which could permit the Lenders to accelerate the maturity of the Facility. Any such default could have material adverse effect on our business, prospects, financial position and operating results, and could force us to refinance all or part of our existing debt, sell our assets, borrow more money or raise equity. There is no guarantee that we would be able to take any of these actions on a timely basis, on terms satisfactory to us, or at all. In addition, we may not be able to repay amounts due in respect of our obligations, if payment of those obligations were to be accelerated following the occurrence of any other event of default as defined in the instruments creating those obligations.

We may need additional financing, which could be difficult to obtain or limit our operational flexibility.

We believe our cash, cash equivalents, and marketable securities balance of $146.7 million as of October 31, 2014 will be sufficient to fund our ongoing operations for at least the next twelve months. However, we may need to raise additional funds in the future and, in such event, we may not be able to obtain such financing on favorable terms, if at all. Further, if we issue additional equity or equity-linked securities to obtain financing, stockholders may experience dilution. If we incur substantial additional indebtedness in the future, the risks described above under “Our substantial debt and financial obligations could adversely affect our financial condition and ability to operate our business, we may not be able to pay our debt and other obligations, and we may incur additional debt” would intensify.

Our sales and operating results have fluctuated significantly from period to period, including from one quarter to another, and they may continue to do so.

Our quarterly and annual operating results are affected by a wide variety of factors that have had and could continue to have material and adverse effects on our financial condition and stock price or lead to significant variability in our operating results or our stock price, including the following:

 

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the fact that sales of a limited number of test systems may account for a substantial portion of our net sales in any particular fiscal quarter;

 

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order cancellations by customers;

 

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lower gross margins in any particular period due to changes in:

 

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our product mix;

 

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the configurations of test systems sold;

 

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the customers to whom we sell our test systems; or

 

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volume;

 

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a long sales cycle due to the significant investment made by our customers in installing our test systems and the time required to incorporate our systems into our customers’ design or manufacturing process; and

 

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changes in the timing of product orders due to:

 

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unexpected delays in the introduction of products by our customers,

 

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excess production capacity by our customers,

 

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shorter than expected lifecycles of our customers’ semiconductor devices,

 

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uncertain market acceptance of products developed by our customers, or

 

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our own research and development.

We cannot predict the impact of these and other factors on our sales and operating results in any future period. Results of operations in any period, therefore, should not be considered indicative of the results to be expected for any future period. Because of this difficulty in predicting future performance, our operating results may fall below expectations of securities analysts or investors in some future quarter or quarters. Our failure to meet these expectations would likely adversely affect the market price of our common stock.

 

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A substantial amount of the shipments of our systems for a particular quarter may occur late in the quarter. Our shipment pattern may expose us to significant risks of not meeting our expected financial results for each quarter in the event of problems during the complex process of final, test and acceptance prior to revenue recognition. If we were to experience problems of this type late in our quarter, shipments could be delayed and our operating results could fall below expectations.

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

We rely on one subcontractor to manufacture our test systems and multiple other subcontractors for the manufacture of the components and subassemblies used to produce our test systems. Certain of the suppliers for certain components and subassemblies are sole source suppliers. We have no long term supply agreements with our test system contract manufacturers and purchase products through individual purchase orders. For all of our products, we may be required to qualify new or additional subcontractors and suppliers due to capacity constraints, competitive or quality concerns or other risks that may arise, including as a result of a change in control of, or deterioration in the financial condition of, a supplier or subcontractor. The process of qualifying subcontractors and suppliers is lengthy. 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. In addition, the manufacture of certain of these components and subassemblies is an extremely complex process. If a supplier became unable to provide parts in the volumes needed, at the required standards of quality or at an acceptable price, we would have to identify and qualify acceptable replacement parts from alternative sources of supply or manufacture such components or subassemblies internally. The failure to qualify acceptable replacement subcontractors or suppliers quickly would delay the manufacturing and delivery of our products, which could cause us to lose revenues and customers.

We also may be unable to engage alternative sources for the production of our products on a timely basis or upon terms favorable to us, if at all. If we are required for any reason to seek a new manufacturer of our products, an alternate manufacturer may not be available and, in any event, transitioning to a new manufacturer would require a significant lead time of nine months or more and would involve substantial expense and disruption of our business. Our test systems are highly sophisticated and complex capital equipment, with many custom components, and final assembly requires specific technical know-how and expertise. These factors could make it more difficult for us to find a new manufacturer of our systems if our relationship with our outsource suppliers is terminated for any reason, which would cause us to lose revenues and customers.

We are dependent on certain semiconductor device manufacturers as sole source suppliers of certain sub-assemblies and components used in our test systems which are manufactured in accordance with our proprietary design and specifications. We have no written supply agreement with these sole source suppliers and purchase our custom components through individual purchase orders. If one of our sole source suppliers were to fail to produce or provide the parts they agreed to build for us at the specifications, price or volume required, we would face a significant delay in the final production of our products because we do not have redundant capacity available, and our revenue and results of operations would be materially and adversely affected.

Compliance with current and future environmental regulations may be costly and disruptive to our operations.

We may be subject to environmental and other regulations due to our production and marketing of products in certain states and countries that limit or restrict the amount of hazardous material in certain electronic components such as PCBs. One such regulation is Directive 2002/95/EC of the European Parliament and of the Council of 27 January 2003 that restricts the use of certain hazardous substances in electrical and electronic equipment. “RoHS” is short for restriction of hazardous substances. The RoHS Directive banned the placing on the EU market of new electrical and electronic equipment containing more than agreed levels of lead, cadmium, mercury, hexavalent chromium, polybrominated biphenyl (PBB) and polybrominated diphenyl ether (PBDE), except where exemptions apply, from July 1, 2006. Manufacturers are required to ensure that their products, including their constituent materials and components, do not contain more than the minimum levels of the nine restricted materials in order to be allowed to export goods into the Single Market (i.e. of the European Community’s 28 Member States). Any interruption in supply due to the unavailability of restriction free products could have a significant impact on the manufacturing and delivery of our products. If a supplier became unable to provide parts in the volumes needed or at an acceptable price, we would have to identify and qualify acceptable replacements from alternative sources of supply or manufacture such components internally. As previously discussed, the failure to qualify acceptable replacements quickly would delay the manufacturing and delivery of our products, which could cause us to lose revenues and customers.

New regulations related to conflict minerals may adversely affect us.

The SEC recently adopted disclosure rules for companies that use conflict minerals in their products, with substantial supply chain verification requirements in the event that the materials come from, or could have come from, the Democratic Republic of the Congo or adjoining countries. These new rules and verification requirements, which applied to our activities in calendar 2013 and will apply to our activities going forward, will impose additional costs on us and on our suppliers, and may limit the sources or increase the prices of materials used in our products. Further, if we are unable to certify that our products are conflict free, we may face challenges with our customers, which could place us at a competitive disadvantage, and our reputation may be harmed.

 

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We may not be able to deliver custom hardware options and related applications to satisfy specific customer needs in a timely manner.

The success of our business relies in substantial part on our ability to develop and deliver customized hardware and applications to meet our customers’ specific requirements. Our equipment may fail to meet our customers’ technical or cost requirements and may be replaced by competitive equipment or an alternative technology solution. Our inability to provide a test system that meets requested performance criteria when required by a device manufacturer would severely damage our reputation with that customer. This loss of reputation together with the risks discussed above under, “The market for capital equipment is highly concentrated, and we have limited opportunities to sell our products” may make it substantially more difficult for us to sell systems to that manufacturer for a number of years. We have, in the past, experienced delays in introducing some of our products and enhancements.

Our dependence on international sales and non-U.S. suppliers involves significant risk.

International sales have constituted a significant portion of our revenues in recent years, and we expect that to continue. International sales accounted for 76% of our revenues for fiscal 2014, 83% of our revenues for fiscal 2013 and 77% of our revenues for fiscal 2012. In addition, we rely on non-U.S. suppliers for several components of the equipment we sell. As a result, a major part of our revenues and the ability to manufacture our products are subject to the risks associated with international commerce. These international relationships make us particularly sensitive to economic, political, regulatory and environmental changes in the countries from which we derive sales and obtain supplies. Our sole source final assembly manufacturing supplier for our test systems in Malaysia increases our exposure to these types of international risks. International sales and our relationships with suppliers may be hurt by many factors, including:

 

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changes in law or policy resulting in burdensome government controls, tariffs, restrictions, embargoes or export license requirements;

 

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political and economic instability in our target international markets;

 

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longer payment cycles common in foreign markets;

 

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difficulties of staffing and managing our international operations;

 

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less favorable foreign intellectual property laws making it harder to protect our technology from appropriation by competitors;

 

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difficulties collecting our accounts receivable;

 

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the impact of the Foreign Corrupt Practices Act of 1977 and similar laws; and

 

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adverse weather and climate events.

In the past, we have incurred expenses to meet new regulatory requirements in Europe, experienced periodic difficulties in obtaining timely payment from non-U.S. customers, and been affected by economic conditions in several Asian countries. Our foreign sales are typically invoiced and collected in U.S. dollars. A strengthening in the U.S. dollar relative to the currencies of those countries where we do business would increase the prices of our products as stated in those currencies and could hurt our sales in those countries. Significant fluctuations in the exchange rates between the U.S. dollar and foreign currencies could cause us to lower our prices and thus reduce our profitability. These fluctuations could also cause prospective customers to push out or delay orders because of the increased relative cost of our products. In the past, there have been significant fluctuations in the exchange rates between the U.S. dollar and the currencies of countries in which we do business. From time to time we may enter into foreign currency hedging arrangements.

Our market is highly competitive, and we have limited resources to compete.

The semiconductor equipment and electronics manufacturing industries are highly competitive in all areas of the world. There are other domestic and foreign companies that participate in the markets for each of our products. Our competitors include Advantest Corporation and Teradyne Inc., Johnstech, MicroCraft, Cohu, Inc., SPEA, Shenzhen Mason Electronics Co., Ltd., Bojay, OXO, Sanmina, IDI, QA Technology, and Ingun. Some of these competitors have substantially greater financial resources and more extensive engineering, manufacturing, marketing, and customer support capabilities than we have.

We expect our competitors to enhance their current products and to introduce new products that may have comparable or better price and performance. The introduction of competing products could hurt sales of our current and future products. In addition, new competitors, including semiconductor and electronics manufacturers themselves, may offer new technologies, which may in turn reduce the value of our products. Increased competition could lead to intensified price-based competition, which would hurt our business and results of operations. Unless we are able to invest significant financial resources in developing products and maintaining customer support centers worldwide, we may not be able to compete effectively.

 

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We are exposed to the risks associated with the volatility of the U.S. and global economies.

Slow or negative growth in the domestic or global economies may continue to materially and adversely affect our business, financial condition and results of operations for the foreseeable future. The strength of the domestic and global economies impact business capital spending and the sale of electronic goods and information technology equipment, which impacts our sales, revenues, and profits. The lack of visibility regarding whether there will be sustained growth in domestic and global economies creates uncertainty regarding the amount of our sales, and underscores the need for caution in predicting growth in the semiconductor test equipment industry in general and in our revenues and profits specifically. Our results of operations would be further adversely affected if we were to experience lower than anticipated order levels, cancellations of orders in backlog, extended customer delivery requirements or pricing pressure as a result of a slowdown. At lower levels of revenue, there is a higher likelihood that these types of changes in our customers’ requirements would adversely affect our results of operations because in any particular quarter a limited number of transactions accounts for an even greater portion of sales for the quarter.

Development of our products requires significant lead-time and expenditures, and we may fail to correctly anticipate the technical needs of our customers.

Our systems are used by our customers to develop, test and manufacture their new semiconductor and electronics devices. We therefore must anticipate industry trends and develop products in advance of the commercialization of our customers’ semiconductor and electronics devices, requiring us to make significant capital investments to develop new equipment for our customers well before their devices are introduced. If our customers fail to introduce their devices in a timely manner or the market does not accept their devices, we may not recover our capital investment, in whole or in part. In addition, even if we are able to successfully develop enhancements or new generations of our products, these enhancements or new generations of products may not generate revenue in excess of the costs of development, and they may be quickly rendered obsolete by changing customer preferences or the introduction of products embodying new technologies or features by our competitors. Furthermore, if we were to make announcements of product delays, or if our competitors were to make announcements of new systems, these announcements could cause our customers to defer or forego purchases of our systems, which would also hurt our business.

We may not be able to recover capital expenditures.

We continue to make capital expenditures in the ordinary course of our business. We may not be able to recover the expenditures for capital projects within the assumed timeframe, or at all, which may have an adverse impact on our profitability.

We have significant guarantees, indemnification and customer confidentiality obligations.

From time to time, we make guarantees to customers regarding the delivery and performance of our products and guarantee certain indebtedness, performance obligations or lease commitments of our subsidiary and affiliate companies. We also have agreed to provide indemnification to our officers, directors, employees and agents, to the extent permitted by law, arising from certain events or occurrences while the officer, director, employee or agent, is or was serving at our request in such capacity. Additionally, we have confidentiality obligations to certain customers. If we become liable under any of these obligations, it could materially and adversely affect our business, financial condition or operating results.

Our success depends on attracting and retaining key personnel.

Our success depends substantially upon the continued service of our executive officers and key personnel, none of whom is bound by an employment or non-competition agreement. Our success also depends on our ability to attract and retain highly qualified managers and technical, engineering, marketing, sales and support personnel. Competition for such specialized personnel is intense, and it may become more difficult for us to hire or retain them. Our volatile business cycles only aggravate this problem. If we implement layoffs during an industry downturn, our ability to hire or retain qualified personnel may be diminished. Our business, financial condition and results of operations could be materially adversely affected by the loss of any of our key employees, by the failure of any key employee to perform in his or her current position, or by our inability to attract additional skilled employees.

We may not be able to protect our intellectual property rights.

Our success depends in part on our ability to obtain intellectual property rights and licenses and to preserve other intellectual property rights covering our products and development and testing tools. To that end, we have obtained certain domestic and international patents and may continue to seek patents on our inventions when appropriate. We have also obtained certain trademark registrations. The process of seeking intellectual property protection can be time consuming and expensive. We cannot ensure that:

 

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patents will issue from currently pending or future applications;

 

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our existing patents or any new patents will be sufficient in scope or strength to provide meaningful protection or any commercial advantage to us;

 

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foreign intellectual property laws will protect our intellectual property rights; or

 

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others will not independently develop similar products, duplicate our products or design around our technology.

 

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If we do not successfully enforce our intellectual property rights, our competitive position could suffer, which could harm our operating results. We also rely on trade secrets, proprietary know-how and confidentiality provisions in agreements with employees and consultants to protect our intellectual property. Other parties may not comply with the terms of their agreements with us, and we may not be able to adequately enforce our rights against these parties.

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

Intellectual property rights are uncertain and involve complex legal and factual questions. We may be unknowingly infringing on the intellectual property rights of others and may be liable for that infringement, which could result in a significant liability for us. If we do infringe the intellectual property rights of others, we could be forced to either seek a license to intellectual property rights of others or alter our products so that they no longer infringe the intellectual property rights of others. A license could be very expensive to obtain or may not be available at all. Similarly, changing our products or processes to avoid infringing the rights of others may be costly or impractical.

If we were to become involved in a dispute regarding intellectual property, whether ours or that of another company, we may have to participate in legal proceedings. These types of proceedings may be costly and time consuming for us, even if we eventually prevail. If we do not prevail, we might be forced to pay significant damages, obtain licenses, modify our products or processes, stop making products or stop using processes.

In the future we may be subject to litigation that could have an adverse effect on our business.

From time to time, we may be subject to litigation or other administrative and governmental proceedings that could require significant management time and resources and cause us to incur expenses and, in the event of an adverse decision, pay damages in an amount that could have a material adverse effect on our financial position or results of operations.

Product defects and any damages stemming from product liability could harm our reputation among existing and potential customers and could have a material adverse effect upon our business results and financial condition

We cannot guarantee that there are no defects in the products we manufacture or that our product liability insurance will sufficiently cover the ultimate amount of any damages caused by such defects. Large scale accidents due to product defects or any discovery of defects in our products could harm our reputation, result in claims for damages, and have a material adverse effect upon our business results and financial condition.

Our operations and the operations of our customers and suppliers are subject to risks of natural catastrophic events, widespread health epidemics, acts of war, and the threat of domestic and international terrorist attacks, any one of which could result in cancellation of orders, delays in deliveries or other business activities, or loss of customers and could negatively affect our business and results of operations.

Our operations and those of our customers and suppliers are subject to disruption for a variety of reasons, including work stoppages, acts of war, terrorism, health epidemics, fires, earthquakes, hurricanes, volcanic eruptions, energy shortages, telecommunication failures, tsunamis, flooding or other natural disasters. Such disruption could materially increase our costs and expenses as well as cause delays in, among other things, shipments of products to our customers, our ability to perform services requested by our customers, or the installation and acceptance of our products at customer sites. Any of these conditions could have a material adverse effect on our business, financial conditions or results of operations.

Damage, interference or interruption to our information technology networks and systems could hinder business continuity and lead to substantial costs or harm to our reputation

We rely on various information technology networks and systems, some of which are managed by third parties, to process, transmit and store electronic information, including confidential data, and to carry out and support a variety of business activities, including manufacturing, research and development, supply chain management, sales and accounting. Attacks by hackers or computer viruses, wrongful use of the information security system, careless use, accidents or disasters could undermine the defenses we have established for these systems and disrupt business continuity, which could not only risk leakage or tampering of information but could also result in a legal claim, litigation, damages liability or an obligation to pay fines. If this were to occur, our reputation could be harmed, we could incur substantial costs, and it may have a material adverse effect upon our financial condition and results of operation.

 

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Our stock price is volatile.

In the twelve months ended October 31, 2014, our stock price ranged from a low of $6.04 to a high of $10.95. The price of our common stock has been and likely will continue to be subject to wide fluctuations in response to a number of events and factors, such as:

 

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quarterly variations in operating results;

 

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variances of our quarterly results of operations from securities analysts’ estimates;

 

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changes in financial estimates and recommendations by securities analysts;

 

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announcements of technological innovations, new products, acquisitions or strategic alliances; and

 

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news reports relating to trends in our markets.

In addition, the stock market in general, and the market prices for semiconductor-related and electronics manufacturing companies in particular, have experienced significant price and volume fluctuations that often have been unrelated to the operating performance of the companies affected by these fluctuations. These broad market fluctuations may adversely affect the market price of our common stock, regardless of our operating performance.

We may record impairment charges, which would adversely impact our results of operations.

We review our goodwill, intangible assets and long-lived assets for impairment at least annually, or whenever events or changes in circumstances indicate that the carrying amounts of these assets may not be recoverable, in accordance with Topic 350, Intangibles—Goodwill and Other to the FASB ASC.

One potential indicator of goodwill impairment is whether our fair value, as measured by our market capitalization, has remained below our net book value for a significant period of time. Whether our market capitalization triggers an impairment charge in any future period will depend on the underlying reasons for the decline in stock price, the significance of the decline, and the length of time the stock price has been trading at such prices.

In the event that we determine in a future period that impairment exists for any reason, we would record an impairment charge, which would reduce the underlying asset’s value in the period such determination is made, which would adversely impact our financial position and results of operations.

Internal control deficiencies or weaknesses that are not yet identified could emerge.

Over time we may identify and correct deficiencies or weaknesses in our internal controls and, where and when appropriate, report on the identification and correction of these deficiencies or weaknesses. However, our internal control procedures can provide only reasonable, and not absolute, assurance that deficiencies or weaknesses are identified. Deficiencies or weaknesses that have not been identified by us could emerge and the identification and correction of these deficiencies or weaknesses could have a material impact on our results of operations. If our internal control over financial reporting are not considered adequate, we may experience a loss of public confidence, which could have an adverse effect on our business and stock price.

 

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

There were no repurchases of common stock in the three months ended October 31, 2014.

 

Item 6.

Exhibits

The exhibits filed as part of this Quarterly Report on Form 10-Q are set forth on the Exhibit Index immediately preceding such exhibits, and are incorporated herein by reference.

 

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SIGNATURE

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

				Xcerra Corporation
Date: December 10, 2014				By:		/S/    MARK J. GALLENBERGER
						Mark J. Gallenberger
						Senior Vice President, Chief Operating Officer, Chief Financial Officer and Treasurer (Principal Financial Officer)

 

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EXHIBIT INDEX

 

Exhibit     Number		Description
31.1 *		Certification of the Chief Executive Officer pursuant to Rule 13a-14(a) of the Exchange Act
31.2 *		Certification of the Chief Financial Officer pursuant to Rule 13a-14(a) of the Exchange Act
32 *		Certification of the Chief Executive Officer and Chief Financial Officer pursuant to Rule 13a-14(b) of the Exchange Act and 18 U.S.C. Section 1350
101.INS		XBRL Instance Document
101.SCH		XBRL Taxonomy Extension Schema Document
101.CAL		XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF		XBRL Taxonomy Extension Definition Linkbase
101.LAB		XBRL Taxonomy Extension Label Linkbase Document
101.PRE		XBRL Taxonomy Extension Presentation Linkbase Document

 

*	Filed herewith

 

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