Thank you and welcome everyone to FormFactor's Third Quarter 2018 Earnings Conference Call. On today's call are Chief Executive Officer, Mike Slessor; and Chief Financial Officer, Shai Shahar. Before we begin, Jason Cohen, the company's General Counsel will remind you of some important information.

Thank you. Today, the company will be discussing GAAP P&L results and some important non-GAAP results intended to supplement your understanding of the company's financials. Reconciliations of GAAP to non-GAAP measures and other financial information are available in the press release issued today by the company and on the Investor Relations section of our website. Today's discussion contains forward-looking statements within the meaning of the Federal Securities Laws. Examples of such forward-looking statements include those with respect to the projections of financial and business performance, future macroeconomic condition, foreign exchange rates, business momentum, business seasonality, the anticipated demand for products, customer requirements, our future ability to produce and sell products, the development of future products and technologies; and the assumptions upon which such statements are based. These statements are subject to known and unknown risks and uncertainties that could cause actual results to differ materially from those expressed during this call. Information on Risk Factors and uncertainties is contained in our most recent filing on Form 10-K with the SEC for the fiscal year ended 2017 and our other SEC filings, which are available on the SEC's website at www.sec.gov and in our press release issued today. Forward-looking statements are made as of today, October 31, 2018, and we assume no obligation to update them. With that, we will now turn the call over to FormFactor's CEO, Mike Slessor.

Thanks, Jason, and thank you everyone for joining us today. As we anticipated during last quarter's conference call, FormFactor delivered third quarter results comparable to our second quarter on the top and bottom lines. The expected gross margin reduction due to product mix was mostly offset by good operating expense control enabling us to deliver non-GAAP earnings per share at the high end of our outlook. And as you saw from our press release earlier today, we expect a modest sequential increase in fourth quarter revenue. Given the volatile industry backdrop in a quarter that is often seasonally weak, these healthy results and outlook are a direct demonstration of our leadership across attractive served markets in advanced probe cards and Engineering Systems. The primary driver of our financial performance is the structural demand for FormFactor's products and technologies. As we've described in the past, probe cards are consumable that is specific to each and every new IC design. As a result, we benefit from both node transitions and the release of new designs on existing mature nodes. With the stalling of Moore's Law, our opportunities on mature nodes are especially important, providing demand even when new nodes are delayed, an event we saw twice with major customers this year. Our third quarter results offer a strong example of this demand for probe cards on existing nodes as our largest customer released several new designs on their 14-nanometer node, which is now nearly five-years old. This new design activity resulted in third quarter volumes that returned to the levels we delivered in the first half of 2017 and in the current quarter we expect this strong 14-nanometer activity to continue. We also benefitted from node transitions of course, and we expect to generate demand as our largest customer transitions to 10-nanometer…

Thank you, Mike, and good afternoon. As you saw from our press release and heard from Mike's comments, our third quarter results were comparable to our second quarter. FormFactor's revenues for the third quarter of 2018 were $135 million basically flat with the second quarter. Probe card segment revenues of $111.6 million and systems segment revenues of $23.4 million were both comparable to the Q2 levels. Within the probe card segment, we also saw very similar revenue levels in each of the markets we serve. Foundry and Logic revenues of $61.2 million decreased less than 2% compared to our second quarter, and were 45% of total company revenues in the third quarter slightly down from 46% in Q2. DRAM revenues were $37.4 million in Q3, down $0.7 million or 1.8% sequentially. In both Q2 and Q3, we experienced sustained DRAM demand as our customers released new designs for data center and mobile application. DRAM revenues were 28% of total company revenues in the third quarter consistent with the second quarter. Flash revenues of $13 million were $1.6 million higher than in the second quarter, a 14% increase. We continued to see stronger demand for our technology due to stringent test requirements for high layer accounts we demand. We are being opportunistic and capitalizing on winning additional flash designs where we have a technology advantage. Approximately $8 million of the flash revenues in Q3 were from NAND flash applications. Looking ahead, we believe flash will be a single-digit percentage of our revenue in the mid and long-term. GAAP gross margin for the third quarter of 2018 was $53 million or 39.2% of revenue down 2.3% compared to 41.5% in the second quarter. Similar to Q2, Q3 cost of revenues included $6 million of GAAP to non-GAAP reconciling items which we outlined…

[Operator Instructions]. Our first question comes from the line of Craig Ellis from B. Riley FBR. Your line is open.

Thank you for taking the question and congratulations on the steady results in what was a very dynamic environment in the third quarter. Mike, I wanted to go back to your points on the Foundry and Logic business and just see if I could dig into some of the details that we have coming up. So nice to see a strong performance from your U.S. customer, the question is since they’ve been public in August with their three-year roadmap with a late 2018, late 2019, and 2020, 14, 14 and 10 transition, what does that mean for that part of foundry and logic? Does it mean it should be steady from levels we're seeing in the back half of the year or is there an opportunity to grow that part of that business?

Thanks for the question, Craig. Obviously with that customer, it has been a very volatile year starting with the 10-nanometer delay at the beginning of the year. As you've seen, we're pretty pleased with the growth of that business as they've transitioned some products into 14-nanometer and generated probe card demand on these new designs. I think, as you say, the cadence is going forward of continued 14-nanometer designs and then transitioning much of the wafer store volume to 10-nanometer is something that the customer has been fairly transparent publicly about their plans in 2019, and we continue to stay very, very close in from a planning perspective with them to make sure we're prepared to make that transition in lockstep with them. There may be some upside associated with a 10-nanometer transition. As we've discussed in the past, typically node transitions have higher test intensities. Given that the bulk of our volume right now is on 14-nanometer, there is some potential upside to 10-nanometer, but I want to caution people that it's also not purely additive, it's not going to be 10-nanometer on top of 14-nanometer. There will largely be a substitution factor there with maybe a little more test intensity.

Got it. That's helpful. And then switching gears to Taiwan foundry, that's been a nice growth story for you, and it sounds like there's good 7-nanometer traction. That customer seems to have a growing customer base itself, so can you talk about the potential for that business as you look out over the next three to four quarters to provide growth, and what are the prospects that business can provide solid year-on-year growth in 2019 versus 2018?

Yes. So you're absolutely right. That is one of the nice growth stories in our business in 2018. I think there’s two components to it. First of all, our opportunity in serving this foundry is really associated with 10-nanometer, 7-nanometer, and below with a very strong growth vector around advanced packaging, in particular, integrated fan-out. So as we see more of that foundry’s wafer starts and more fabless customer designs moving to those nodes and the advanced packaging technologies that grows the opportunity for us. We've said in the past, we expect long-term this opportunity to be comparable to the business we have with our largest customer and nothing we've seen so far has changed us, has changed our view on that. We continue to make good progress towards it, and I think you'll see us having gained share in 2018 over 2017 with that customer growing the business and we expect in our planning to do the same thing in 2019 as we grow towards again the magnitude of business we have with our largest customer.

That's helpful. And then Shai, I will flip it over to you with two clarifications. One, with respect to gross margin, it seems like gross margin is performing well, you've got certainly volume working more to your favor. Can you give us a sense for just the gross margin gives and takes in the fourth quarter and sticking with the middle of the income statement, were there any one-time or special items in the meaningful decrease in the third quarter's operating expense and is that an operating expense level that it is sustainable going forward? Thank you.

Yes, thanks for the two questions, I think, Craig. I will start with the gross margin, and so as I said in my remarks and we said before mix has the biggest impact on our gross margin, and we saw that evident in the difference between Q2 and Q3 gross margin, and Q4 gross margin in expected to stay in the same level because of these changes of the mix, and that -- this has been consistent, no surprises there. When it comes to OpEx, we have communicated before, range of $36 million to $39 million of quarterly OpEx. We are within that range in Q3 and Q4, no special one-time items that we saw. We continue to monitor our OpEx, and we remain disciplined, and we are keeping our expenses, and that's our plan to keep our expenses in line with our revenue going forward.

Your next question comes from the line of Edgar Roesch from Sidoti & Company. Your line is open.

Thanks and I'll add my congrats on a very steady quarter. On that theme, I wanted to ask because your guidance implies you'd have kind of three quarters in a row, right around the $135 million, $136 million, if you use the midpoint for Q4. So I wanted to ask if the phasing of revenues within the quarter also was pretty evenly distributed or if you saw any kind of falloff and then acceleration towards the end of the quarter or vice versa. Any color would be appreciated.

Sure. Thanks, Ed. I think I'll start by summarizing that although the topline results, Q2 to Q3 to our midpoint view of Q4 are very similar at sort of this mid-130s stretching to $136 million in Q4 are very similar to each other. There are an awful lot of moving parts underneath there. In the fourth quarter in particular, we're expecting to see a substantial shift from memory to Foundry and Logic, and inside each of the markets we serve there is quite a bit of variability in between each customer and individual designs and some of the cadences they go through on even a week-to-week basis. So the ebbs and flows both from a mix perspective and from a timing perspective within the quarter are much more dynamic than the topline results would lead you to believe.

Okay, I appreciate that. And then, your business touches a lot of different aspects of the industry here. And I was just wondering if you could provide any kind of color on the issue of tariffs and whether, if you can even offer some general comments on any kind of change in behavior or demand modification that you're -- that you borne witnessed to maybe not in your own business but that you would say you've seen as a result of some tariff issue? Thanks.

In particular the tariff issue for us is pretty squarely focused as I think it is for most people on China. We've had a significant footprint in the region for more than a decade and has been investing fairly heavily in that business as the indigenous Chinese semiconductor industry sort of bootstraps itself up especially in memory to full production. Just a benchmark people, it still typically represents less than 10% of our revenue in any given time period, but we do view it as most other suppliers in the space view as a [indiscernible].

Okay. And then one final question. Engineering Systems revenues year-to-date are pretty flat year-over-year. The original intent seemed like that might be an interesting area to consolidate. I was wondering if the viewpoint on that industry is still pretty consistent and once you get your balance sheet where you want it maybe could get more active on that front.

Yes, maybe, Ed, I don't know whether we had some technical difficulties there, but I wouldn't mind finishing my thought on the tariffs issue. We have seen -- no, no problem. We have seen a few discussions with mostly with suppliers where we're importing from a region. I would say limited impact to our customer engagements at this point but it's something we're monitoring and evaluating pretty closely because I think, we along with most suppliers operating in a global industry have a hard time viewing this as being positive. So moving then [indiscernible] third priority we've talked about continuing to de-lever being a useful use -- being a use of our capital. We applied essentially all of our free cash flow to de-levering in the third quarter, but we continue to be pretty active in prospecting and building an M&A funnel around the themes of electrical test and measurement in some of these emerging growth year markets. So I'd agree with you, I think there are some opportunities there. We're still in the prospecting phase and debt reduction de-levering still remains our top priority.

Our next question comes from the line of David Duley from Steelhead. Your line is open.

Thanks for taking my questions. You mentioned that you've done well with Taiwan foundry, but when we look at your breakout of results in the quarter geographically. Taiwan is down pretty strong. Could you just elaborate a little bit more on the timing of your business there? And as a follow-on with a lot more people adopting 7-nanometres with that foundry than at 10-nanometres, would you expect that business to smooth out or be less first half loaded?

Yes. And I think the second part of your question hits on the core issue are historical even through the middle part of 2018 engagement with this customer has been pretty focused and concentrated in essentially a handful of application process or projects. And part of what we're trying to convey about the fourth quarter is we see for the first time us having a significant fourth quarter contribution from that customer as we broaden the relationship, as we generally gain market share there, but also as the relationship expands and we serve more customers and more designs. We do expect it to start to smooth out as we move through the fourth quarter and into 2019.

Excellent. And then did you have 10% customers during the quarter and what percentages were they?

Yes, this is Shai. We had our largest customer Intel adds -- so if you give me just a second, 24% in the quarter, and Micron was number two this quarter at 12%.

Excellent. And then the flash revenue that you're capturing now that you've seen growth in versus last year I think you mentioned it had to do with higher layer counts? Would you expect your flash revenue to perhaps ramp up with 96-layer flash parts or is that this is some correlation between this or what is the driver to this business to grow further. Thank you.

Yes, it's a very good question, David, and one that we do a lot internally. Certainly our flash business today as we've opportunistically gone after designs in parts of the market where we really have a differentiated advantage have been pretty strongly correlated to higher layer accounts. They've also been correlated pretty strongly to higher densities in higher test speeds associated with certain customers in their test strategy. So I'm not sure I'd draw one to one correlation between 96-layer flash and FormFactor flash growth. I think it's one of the components that certainly helps us as it drives up complexity and the required performance at the wafer test step where we participate.

And I guess one final question from me is along those two lines it sounds like not only the higher layer counts help but that these flash parts have higher speeds so longer test times. And so my question is do you see an increase in test time intensity with these flash parts and maybe you could share with us what that increase in intensity is? And then just to double check in the past I think you've mentioned that advanced packaging such as Intel are roughly 20% or 25% more test intensive and probe card intensive. I was wondering if that is still the view or that's the accurate view. Thank you.

Sure. So generally on test intensity and test time increases associated with different things. It's a pretty complicated function of a whole bunch of variables not the least of which is what the yield of the native dye. I think you know the ballpark estimate associated with advanced packaging being 20%, 25% more test intensitive -- more test intensive than if you like a plain silicon dye. I think is a reasonable estimate and that's been triangulated by I think a couple of other test suppliers as well. 3D NANDs are a little bit more complicated because it goes to the yield round, the layer counts, and then of course the individual architectural decisions that each of the customers are making and their test strategies where they choose to spend their test dollars whether it be a wafer test or final test. So that one is a little more variable, it does seem to be more test intensive as you go up in layers and certainly as we see dye stacking and advanced packaging moving into some of the regions of non-volatile memory that offers the opportunity associated with advanced packaging as well.

[Operator Instructions]. Your next question comes from the line of Patrick Ho from Stifel. Your line is open.

Thank you very much and congrats on the nice quarter and outlook. Mike maybe as a follow-up to Dave’s comments about test intensity on the memory side if we can look at DRAM for a second. Obviously the industry is undergoing a lot of no transitions which helps you in the design phase. But talking to people in the industry test intensity for DRAM is also becoming higher with the higher speeds and bandwidth and things of that nature. Can you comment on how that potentially can increase I guess the market opportunity especially the near-term as you're going through several no transitions in the industry.

Yes. So similar themes in the last question, as you noted, Patrick. I think DRM because of the node transitions that all the major customers are going through, we do see generally the test intensity going up there, anytime there's a move to a new node higher densities and higher speeds this does demand increased test intensity to make sure customers are resolving their yield challenges and ramping effectively. That's part of FormFactor's value proposition for them. I think the other thing I'd like to highlight though in DRAM is a theme that you've seen in our DRAM business in 2018 and that's high bandwidth memory which is one of these advanced packaging applications, each of those dye, as we've discussed in the past that goes into the stack dye HDM or High Bandwidth Memory package requires significantly higher test intensity, essentially to make sure that it doesn't kill its neighbors in this stack. And so that's one of the other big drivers associated with test intensity in DRAM is the innovation associated with advanced packaging like HDM driving the need to ensure maybe not quite known good dye, but pretty good -- pretty close to known good dye.

Great, that's helpful. And maybe going to the Engineering Systems business for a bit there is I guess multiple applications and multiple product suites you have whether it's on way for advanced packaging. Is it any one of those segments or any one of those segments I guess outperforming in the near-term are you seeing more advanced packaging applications more so than the others or is it pretty balanced.

I think overall what we're seeing is something I tried to convey in the prepared remarks. A lot of our engineering systems business both the interaction with customers and the development and shipment of system is really starting to shift towards photonics applications, whether they be sensors like vixels or CMOS image sensors. Some of the stuff we're doing with next-generation displays like micro LED. We're seeing that be a fairly strong segment both from an activity perspective but also from a business perspective, it's starting to impact our results in a pretty significant way which is why we tried to draw attention to it. In particular the silicon photonics example driving an installed base now of more than 10 systems which for an Engineering business is a significant footprint worldwide.

Great. And final question maybe for Shai in terms of the free cash flow and CapEx needs given that we're a few -- a couple of years from the Cascade Microtech deal as your free cash continues to grow I guess where some of the priorities is there a need to increase CapEx at some of your product and markets grow. Where are we looking at putting that cash to use?

So specifically about CapEx our plans in the last couple of years and going forward will be to invest between $16 million to $20 million a year on capital expenditures. I see that way -- I see ourselves staying in that range next year as well. And regarding capital, how we deploy our cash. We said before our first priority is to deleverage our balance sheet and repay the loan. We've been prepaying our loan in the last few quarters. Q3 of 2018 will be the last quarter we're going to do advanced prepayments on the loan. Going forward we are going back to the original motivation schedule and moving into our second priority which is to expand our Sam through an M&A as Mike discussed before and we believe it will can create more value to our shareholders.

Your next question comes from the line of Christian Schwab from Craig-Hallum. Your line is open.

This is Tyler on for Christian. Congrats on the quarter and thanks for letting me ask a couple of questions. So first your largest customer moving at 10-nanometer as you spoke about their, their timeline has been pretty well transparent but I just wonder if you could remind us what the timeline for your business in relation to that customer's 10-nanometer products.

Sure, thanks Tyler. Well, I mean as we've said about this node transition and the transition to 10-nanometer, historical comparisons of -- let us say a couple of times. But if I do rely on some of the historical node transitions we've been through as a four generation supplier with this customer. Typically, I'd expect us to lead their broad market launch products by a quarter or two maybe three. So we see this put a different way as long as they stay on track with the late 2019 production release they've talked about publicly. We see this probably being a mid-2019 event where you'll start to see significant activity for us. Now that's true more generally throughout much of our customer base. There are some projects in our apps that have shorter cycle times or lead times between probe card delivery and customer shipment. But by and large, you'll see us -- our business leading our customer product releases by a quarter or two sometimes three.

Great. And then second one, on the memory side on the DRAM side, this quarter your DRAM business is pretty stable, I believe you guys -- due to largely some new devices, so I was just wondering as we go into next year and memory cards make the transition to next node, how -- what's the magnitude of that or what's the expected magnitude of the DRAM business versus normal new devices on the current node?

That’s also a situation that’s been pretty dynamic over 2018 and even over the last couple of years. It used to be four, five years ago that our business was purely driven by node transitions. But as nodes, as strings have gotten tougher as node transitions have been drawn out, we try to draw people's attention to the fact but we also drive significant demand from new designs on existing nodes. And currently, there is a awful lot of our DRAM revenue that's supporting new designs on existing nodes. I think if we expect some of the node transitions to things like 1Y in the first part of 2019 maybe the first half of 2019, I think those will be events that probably cause a little bit of growth in our DRAM business off the fourth quarter levels again reminding you that we're seeing a little bit of weakness off the third quarter levels going to fourth quarter in our DRAM probe card demand. We see those node transitions kick-in; I think you could see it come back up to the Q2, Q3 levels.

Your next question comes from the line of Craig Ellis from B. Riley FBR. Your line is open.

Thanks for taking the follow-up question. Mike, I just wanted to cycle back, you touched a number of times in different comments on the automotive opportunity and mobility and advanced packaging but I just wanted to go back to the $130 million opportunity that you see longer-term there and can you just catch-us up on where you think the company is in terms of harvesting some of the growth that exists in those three areas?

Sure. So to get everybody on the same page, we talked about these three components advanced packaging, mobile data and automotive but essentially being the constituent growth drivers to get us to our target model which delivers $650 million on the top-line and $1.50 of non-GAAP earnings per share. As I break down the three of those, I think far and away the leader from our perspective in executing against those opportunities is advanced packaging whether it would be HBM in memory which we talked about previously, and a little bit on this call, or integrated fan-out which is one of the key drivers for our expanding foundry business at 10 and 7-nanometer, advanced packaging were probably two-thirds, three quarters of the way there to achieving the opportunity that we laid out, but we see more headroom beyond that with advanced packaging. This is a very exciting trend for us. Mobility with the pull-back in handset growth over the past year or so anybody who follows the industry knows that I think RF components growth has slowed a little bit. But I think that's offset going forward especially here in 2019 by some really exciting 5G projects. We're working now on First Silicon with all the leaders in the industry as they build not just the filters, but the modems and some of the 5G unique beam steering silicon, which really going to be part of what gives 5G the inherent advantages. So we're still probably early in our achievement of the incremental mobile demand and automotive I know there's been customers talking about the weakening of that market continues to be pretty steady eddy for us. The business that not growing as fast is the other two opportunities in advanced packaging and mobile data but we continue to see some solid performance out of that.

That’s a real helpful summary and Shai maybe I can just get your commentary. I don't know as we look at target gross margin level of 46% how can we think about bridging that gap between where we are today with gross margins around 43.5% up to another 250 basis points to 46%, if we broke that down into three or four buckets, how would we get from where we are now to 46%?

So first, I want to remind you that in prior quarter, we have reached 45.9% right of gross margin. So that was a great indicative for us that we can reach that target model and we -- one of the things that will impact, improving our gross margin as a target model is of course the volume, $650 million, we can achieve more leverage and that will contribute to the increase. And mix, as I mentioned before, will continue to have a big impact on our business and operational execution, it's also something that we focus a lot on improving yields in our factories and we think we can also achieve more and more leverage by cost initiatives that we're taking with our companywide initiatives such as ERP integration that we made it our progress this year and we've been continuing to invest in next year plus specific BU initiatives, cost reductions in specific areas.

I'm showing no further questions at this time. I would now like to turn the conference back to Mike Slessor.

Great. Thank you everyone for joining today and we’ll talk to you again in the quarter.

This concludes today's conference call. You may now disconnect.