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FormFactor Inc.’s (FORM - Analyst Report) second quarter 2013 loss of 7 cents per share was narrower than the Zacks Consensus Estimate of 9 cents loss per share.

Revenues of $62.7 million were up 19.2% sequentially and 14.4% from the year-ago quarter.

Revenues by End User

System on chip (SoC), DRAM and Flash customers generated 44%, 43% and 13% of second-quarter revenues, respectively.

The SoC business generated revenues of $27.5 million, up 4.2% sequentially. FormFactor is reaping the benefits of its MicroProbe acquisition, by virtue of which it became the largest supplier of probe cards to the fast growing SoC probe card market. Overall strength in this market is currently being driven by the move from PC applications toward mobile application processors where probe card solutions are more complex and require higher parallelism.

The DRAM business rose 21.4% sequentially to $26.7 million. The strength in DRAM probe cards resulted from stronger mobile demand and higher pricing of DRAM devices from fourth quarter 2012 onwards. FormFactor is witnessing a rise in demand for DRAM consumption in smartphones compared to PCs.

We believe that the DRAM market may recover as the industry is undergoing a structural shift from PC centered computing to mobile and cloud centered computing.

The Flash business was up 102.4% sequentially to $8.5 million. NOR revenues were $3.6 million while NAND accounted for the balance. Revenues increased at more or less the same rate in both product lines.

Margins

GAAP gross margin increased 890 basis points (bps) sequentially but dropped 334 bps year over year to 26.2%. Higher revenues and a favorable product mix contributed to the sequential expansion in gross margins.

Total operating expenses of $24.9 million were down 15.8% sequentially but up 9.9% from the year-ago quarter. The operating margin was (13.6%), up 2541 bps sequentially but down 172 bps from the year-ago quarter. Research and development (R&D) expenses as a percentage of sales declined both sequentially and year over year. While selling, general and administrative (SG&A) expense declined sequentially, it increased from last year.

Net Income

Pro forma net loss was $3.4 million or 5.4% of sales, compared to a loss of $9.9 million or 18.8% in the previous quarter and a loss of $4.0 million or 7.3% in the year-ago quarter.

Including restructuring charges and impairment of long-lived assets on a tax-adjusted basis, GAAP net loss per share came to 16 cents in the last quarter compared to 37 cents in the prior quarter and 8 cents in the year-ago quarter.

Balance Sheet

Inventories of $26.1 million were up 5.8% in the second quarter of 2013. The company exited the quarter with cash and marketable securities of $154.5 million versus $153.6 million in the prior quarter. FormFactor has no debt. Long-term liabilities totaled $10.3 million at quarter end.

Cash generated from operations was $1.0 million in the second quarter compared with ($11.1) million in the prior quarter.

Guidance

For the third quarter, FormFactor expects revenues in the range of $65.0−$69.0 million. Non-GAAP gross margin is expected to be in the range of 32%–35%. Non-GAAP operating expenses are expected to be $21.0–$22.0 million. Cash generation in the quarter is expected to be $2.0 million.

Our Recommendation

FormFactor is an original equipment manufacturer (OEM) of automated wafer probe cards used in the semiconductor integrated circuits (ICs) manufacturing process. It is well-positioned in the semiconductor industry and has further solidified its position with the addition of MicroProbe’s SoC probe card segment. The acquisition will make FormFactor a bigger player in the SoC probe card market.

However, the lingering macroeconomic weakness and softness in the PC market that affected FormFactor’s results in the quarter are expected to continue in the next. Therefore, FormFactor’s core business (probe cards for DRAM and Flash) is likely to remain under pressure in the near term.

FormFactor shares carry a Zacks Rank #3 (Hold). Other technology stocks worth considering include Arm Holdings Plc. Ads (ARMH - Snapshot Report), Advanced Micro Devices (AMD - Analyst Report), Analog Devices Inc. (ADI - Analyst Report) each with a Zacks Rank #2 (Buy).

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