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INTT > SEC Filings for INTT > Form 10-Q on 13-Nov-2013All Recent SEC Filings

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Form 10-Q for INTEST CORP


13-Nov-2013

Quarterly Report


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

Risk Factors and Forward-Looking Statements

In addition to historical information, this discussion and analysis contains statements relating to possible future events and results that are considered "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. These statements can often be identified by the use of forward-looking terminology such as "believes," "expects," "intends," "may," "will," "should" or "anticipates" or similar terminology. See Part I, Item 1 - "Business - Cautionary Statement Regarding Forward-Looking Statements" in our 2012 Form 10-K for examples of statements made in this report which may be "forward-looking statements." These statements involve risks and uncertainties and are based on various assumptions. Although we believe that our expectations are based on reasonable assumptions, investors and prospective investors are cautioned that such statements are only projections, and there cannot be any assurance that these events or results will occur.

Information about the primary risks and uncertainties that could cause our actual future results to differ materially from our historic results or the results described in the forward-looking statements made in this report or presented elsewhere by Management from time to time are included in Part I, Item 1A - "Risk Factors" in our 2012 Form 10-K. Material changes to such risk factors may be reported in subsequent Quarterly Reports on Form 10-Q in Part II, Item 1A. There have been no such changes from the risk factors set forth in our 2012 Form 10-K.

Overview

This MD&A should be read in conjunction with the accompanying consolidated financial statements.

Our business and results of operations are substantially dependent upon the demand for ATE by semiconductor manufacturers and companies that specialize in the testing of ICs. Demand for ATE is driven by semiconductor manufacturers that are opening new, or expanding existing, semiconductor fabrication facilities or upgrading existing equipment, which in turn is dependent upon the current and anticipated market demand for semiconductors and products incorporating semiconductors. In the past, the semiconductor industry has been highly cyclical with recurring periods of oversupply, which often have a severe impact on the semiconductor industry's demand for ATE, including the products we manufacture. This can cause wide fluctuations in both our orders and net revenues and, depending on our ability to react quickly to these shifts in demand, can significantly impact our results of operations. These industry cycles are difficult to predict and in recent years have become more volatile and, in certain cases, shorter in duration. Because the industry cycles are generally characterized by sequential periods of growth or declines in orders and net revenues during each cycle, year over year comparisons of operating results may not always be as meaningful as comparisons of periods at similar points in either up or down cycles. In addition, during both downward and upward cycles in our industry, in any given quarter, the trend in both our orders and net revenues can be erratic. This can occur, for example, when orders are canceled or currently scheduled delivery dates are accelerated or postponed by a significant customer or when customer forecasts and general business conditions fluctuate during a quarter.

We believe that purchases of most of our products are typically made from semiconductor manufacturers' capital expenditure budgets. Certain portions of our business, however, are generally less dependent upon the capital expenditure budgets of the end users. For example, purchases of certain related ATE interface products, such as sockets and interface boards, which must be replaced periodically, are typically made from the end users' operating budgets. In addition, purchases of certain of our products, such as docking hardware, for the purpose of upgrading or improving the utilization, performance and efficiency of existing ATE, tend to be counter cyclical to sales of new ATE. Moreover, we believe a portion of our sales of thermal products results from the increasing need for temperature testing of circuit boards and specialized components that do not have the design or quantity to be tested in an electronic device handler. In addition, we market our Thermostream temperature management systems in industries outside the semiconductor test industry, such as the automotive, consumer electronics, defense/aerospace, energy and telecommunications industries. We believe that these industries usually are less cyclical than the ATE industry.

While the majority of our orders and net revenues are derived from the ATE market, our operating results do not always follow the overall trend in the ATE market in any given period. We believe that these anomalies may be driven by a variety of changes within the ATE market, including, for example, changing product requirements, longer time periods between new product offerings by OEMs and changes in customer buying patterns. In particular, demand for our mechanical and electrical products, which are sold exclusively within the ATE industry, and our operating margins in these product segments have been affected by shifts in the competitive landscape, including (i) customers placing heightened emphasis on shorter lead times (which places increased demands on our available engineering and production capacity increasing unit costs) and ordering in

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inTEST CORPORATION

Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS. (Continued)

smaller quantities (which prevents us from acquiring component materials in larger volumes at lower cost and increasing unit costs), (ii) the practice of OEM manufacturers to specify other suppliers as primary vendors, with less frequent opportunities to compete for such designations, (iii) the role of third-party test and assembly houses in the ATE market and their requirement of products with a greater range of use at the lowest cost,
(iv) customer supply chain management groups demanding lower prices and spreading purchases across multiple vendors, and (v) certain competitors aggressively reducing their products' sales prices (causing us to either reduce our products' sales price to be successful in obtaining the sale or causing loss of the sale). These shifts in market practices have had, and may continue to have, varying levels of impact on our operating results and are difficult to quantify or predict from period to period. Management has taken, and will continue to take, such actions it deems appropriate to adjust our strategies, products and operations to counter such shifts in market practices as they become evident.

     Net Revenues and Orders

     The following table sets forth, for the periods indicated, a breakdown of
     the net revenues from unaffiliated customers both by product segment and
     geographic area (based on the location to which the goods are shipped).

                                                                (in 000's)
                                                    Three Months Ended     Nine Months Ended
                                                   Sept. 30,      June 30,     Sept. 30,
      Net revenues from unaffiliated customers:   2013     2012     2013     2013      2012
      Thermal Products                          $ 5,844  $ 6,037  $ 5,772   $17,514  $18,651
      Mechanical Products                         2,193    2,677    3,798     7,784    8,267
      Electrical Products                         1,863    2,085    1,648     4,793    8,188
                                                $ 9,900  $10,799  $11,218   $30,091  $35,106
      Net revenues from unaffiliated customers:
      U.S.                                      $ 3,098  $ 4,123  $ 3,504   $ 9,816  $12,052
      Foreign                                     6,802    6,676    7,714    20,275   23,054
                                                $ 9,900  $10,799  $11,218   $30,091  $35,106

Our consolidated net revenues for the quarter ended September 30, 2013 decreased $899,000 or 8% as compared to the same period in 2012. For the quarter ended September 30, 2013, the net revenues of our Thermal, Mechanical and Electrical Products segments decreased $193,000 or 3%, $484,000 or 18% and $222,000 or 11%, respectively, as compared to the same period in 2012. Our consolidated net revenues for the quarter ended September 30, 2013 decreased $1.3 million or 12% as compared to the quarter ended June 30, 2013. The net revenues of our Thermal and Electrical Products segments increased $72,000 or 1% and $215,000 or 13%, respectively, for the third quarter of 2013 as compared to the second quarter of 2013, while the net revenues of our Mechanical Products segment decreased $1.6 million or 42% during this time period. Net revenues from customers in various industries outside of the ATE industry and those net revenues as a percentage of our total consolidated net revenues were $3.6 million or 37%, respectively, for the quarter ended September 30, 2013, compared to $2.5 million or 22%, respectively, for the quarter ended June 30, 2013, and $1.3 million or 12%, respectively, for the quarter ended September 30, 2012.

We believe the decline in the level of net revenues for all of our product segments in the third quarter of 2013 as compared to the same period in 2012 primarily reflects reduced levels of demand within the ATE industry. We experienced a softening in demand during the third quarter of 2013 which became more pronounced as the quarter progressed. We currently expect this reduced level of demand to impact the level of both orders and shipments for all of our product segments in the fourth quarter of 2013.

The increase in the level of net revenues of our Thermal and Electrical Products segments for the third quarter of 2013 as compared to the second quarter of 2013 was due primarily to two factors: in our Thermal Products segment, this increase was due to a higher level of net revenues from the various industries outside of the ATE industry to which this segment sells, while in our Electrical Products segment, the increase was driven by significantly increased demand from one large OEM customer. These improvements in net revenues in the third quarter of 2013 as compared to the second quarter of 2013 were not large enough to offset the reduction in net revenues in our Mechanical Products segment, however, resulting in an overall decrease in our consolidated net revenues as compared to the second quarter of 2013.

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inTEST CORPORATION

Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS. (Continued)

We believe the decline in the net revenues of our Mechanical Products segment during the third quarter of 2013 as compared to the second quarter of 2013 reflects weakened demand for this segment's products. We believe this weakened demand is indicative not only of overall weakness in the ATE industry but also the increasing captive manufacturing of manipulators by some tester manufacturers. While this trend began several years ago, it is only since 2012 that these actions have begun to significantly reduce the size of the available market for non-captive manufactured manipulator products. We have seen a similar trend develop in the available market for docking hardware products as well, but to date, our net revenues for docking hardware products have not been as negatively affected as those of our manipulator products. We are currently exploring various options with the goal of both increasing our level of net revenues as well as reducing our overall level of variable and fixed costs for this product segment.

Total orders for the quarter ended September 30, 2013 were $10.4 million compared to $11.0 million for the quarter ended June 30, 2013 and $8.7 million for the quarter ended September 30, 2012. For the quarter ended September 30, 2013, orders for our Thermal, Mechanical and Electrical Products segments were $6.5 million, $1.8 million and $2.1 million, respectively, compared to $5.4 million, $3.7 million and $1.9 million for the quarter ended June 30, 2013, respectively, and $5.7 million, $1.7 million and $1.3 million for the quarter ended September 30, 2012, respectively. Orders from customers in various industries outside of the ATE industry and those orders as a percentage of our total consolidated orders were $3.8 million or 36%, respectively, for the quarter ended September 30, 2013, compared to $2.2 million or 20%, respectively, for the quarter ended June 30, 2013, and $1.6 million or 19%, respectively, for the quarter ended September 30, 2012.We cannot be certain what the level of our orders or net revenues will be in any future period for any of our product segments.

Backlog

At September 30, 2013, our backlog of unfilled orders for all products was approximately $3.2 million compared with approximately $2.7 million at June 30, 2013 and $3.2 million at September 30, 2012. Our backlog includes customer orders which we have accepted, substantially all of which we expect to deliver in 2013. While backlog is calculated on the basis of firm purchase orders, a customer may cancel an order or accelerate or postpone currently scheduled delivery dates. Our backlog may be affected by the tendency of customers to rely on short lead times available from suppliers, including us, in periods of depressed demand. In periods of increased demand, there is a tendency towards longer lead times that has the effect of increasing backlog. As a result, our backlog at a particular date is not necessarily indicative of sales for any future period.

Product/Customer Mix

Our three product segments each have multiple products that we design, manufacture and sell to our customers. The gross margin on each product we offer is affected by a number of factors including the amount of intellectual property (such as patents) utilized in the product, the number of units ordered by the customer at one time, and the amount of inTEST designed and fabricated material included in our product compared with the amount of third-party designed and fabricated material included in our product. The weight of each of these factors, as well as the current market conditions, determines the ultimate sales price we can obtain for our products and the resulting gross margin.

The mix of products we sell in any period is ultimately determined by our customers' needs. Therefore, the mix of products sold in any given period can change significantly from the prior period. As a result, our consolidated gross margin can be significantly impacted in any given period by a change in the mix of products sold in that period.

We sell most of our products to semiconductor manufacturers and third-party test and assembly houses (end user sales) and to ATE manufacturers (OEM sales) who ultimately resell our equipment with theirs to semiconductor manufacturers. Our Thermal Products segment also sells into a variety of other industries including the automotive, consumer electronics, defense/aerospace, energy and telecommunications industries. The mix of customers during any given period will affect our gross margin due to differing sales discounts and commissions. For the nine months ended September 30, 2013 and 2012, our OEM sales as a percentage of net revenues were 11% and 16%, respectively.

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inTEST CORPORATION

Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS. (Continued)

OEM sales generally have a lower gross margin than end user sales, as OEM sales historically have had a more significant discount. Our current net operating margins on most OEM sales, however, are only slightly less than margins on end user sales because of the payment of third party sales commissions on most end user sales. We have also continued to experience demands from our OEM customers' supply chain managers to reduce our sales prices to them. If we cannot further reduce our manufacturing and operating costs, these pricing pressures will continue to reduce our gross and operating margins.

Results of Operations

The results of operations for our three product segments are generally affected by the same factors. Separate discussions and analyses for each product segment would be repetitive and obscure any unique factors that affected the results of operations of our different product segments. The discussion and analysis that follows, therefore, is presented on a consolidated basis and includes discussion of factors unique to each product segment where significant to an understanding of that segment.

The following table sets forth, for the periods indicated, the principal items included in the Consolidated Statements of Operations as a percentage of total net revenues.

                                                          Percentage of Net Revenues
                                           Quarters Ended Sept. 30,   Nine Months Ended Sept. 30,
                                               2013         2012          2013           2012
      Net revenues                              100.0%       100.0%         100.0%         100.0%
      Cost of revenues                           52.0         55.9           52.4           55.7
      Gross margin                               48.0         44.1           47.6           44.3
      Selling expense                            12.7         12.2           13.2           12.2
      Engineering and product development         9.5          9.3            9.5            8.3
      expense
      General and administrative expense         14.8         13.4           15.1           14.5
      Restructuring and other charges             0.0          0.0            0.0            1.0
      Operating income                           11.0          9.2            9.8            8.3
      Other income                                0.3          0.2            0.1            0.1
      Earnings before income tax expense         11.3          9.4            9.9            8.4
      Income tax expense                          0.3          3.2            2.0            2.8
      Net earnings                               11.0%         6.2%           7.9%           5.6%

Quarter Ended September 30, 2013 Compared to Quarter Ended September 30, 2012

Net Revenues. Net revenues were $9.9 million for the quarter ended September 30, 2013 compared to $10.8 million for the same period in 2012, a decrease of $899,000 or 8%. We believe the decrease in our net revenues during the third quarter of 2013 primarily reflects the factors previously discussed in the Overview.

Gross Margin. Gross margin was 48% for the quarter ended September 30, 2013 compared to 44% for the same period in 2012. The improvement in the gross margin was primarily the result of a reduction in our component material costs as a percentage of net revenues, which decreased from 37% of net revenues in the third quarter of 2012 to 33% of net revenues in the third quarter of 2013. We attribute the decrease to changes in product and customer mix. In addition, the improvement in gross margin reflects a lower level of charges for obsolete and excess inventory in the third quarter of 2013 as compared to the same period in 2012. The reduction in these charges primarily reflects fewer items falling into our standard objective criteria. These decreases were partially offset by an increase in our fixed operating costs as a percentage of net revenues. Although these costs decreased $57,000 in absolute dollar terms, they increased from 15% of net revenues for the third quarter of 2012 to 16% of net revenues for the third quarter of 2013 reflecting that they were less fully absorbed due to the lower net revenue levels in the third quarter of 2013.

Selling Expense. Selling expense was $1.3 million for each of the quarters ended September 30, 2013 and 2012, respectively. Reductions in commissions due to the lower net revenue levels in the third quarter of 2013 were offset by higher levels of salary and benefits expense as a result of an increase in our sales staff in our Thermal and Electrical Products segments.

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inTEST CORPORATION

Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS. (Continued)

Engineering and Product Development Expense. Engineering and product development expense was $945,000 for the quarter ended September 30, 2013 compared to $1.0 million for the same period in 2012, a decrease of $61,000 or 6%. The decrease primarily reflects reduced spending on third party product development consultants.

General and Administrative Expense. General and administrative expense was $1.5 million for the quarter ended September 30, 2013 compared to $1.4 million for the same period in 2012, a decrease of $24,000 or 2%. The decrease primarily reflects the discontinuation of the profit sharing contributions in our Thermal Products segment effective January 1, 2013.

Income Tax Expense. For the quarter ended September 30, 2013, we recorded income tax expense of $24,000 compared to $348,000 for the same period in 2012. Our effective tax rate was 2% for the quarter ended September 30, 2013 compared to 34% for the same period in 2012. On a quarterly basis, we record income tax expense or benefit based on the expected annualized effective tax rate for the various taxing jurisdictions in which we operate our businesses. The reduction in our effective tax rate for the third quarter of 2013 primarily reflects additional benefits recorded in connection with the finalization of an audit of our German operation as well as, to a lesser extent, the filing of our 2012 federal income tax return, both of which occurred in September 2013.

Nine Months Ended September 30, 2013 Compared to Nine Months Ended September 30, 2012

Net Revenues. Net revenues were $30.1 million for the nine months ended September 30, 2013 compared to $35.1 million for the same period in 2012, a decrease of $5.0 million or 14%. For the nine months ended September 30, 2013, the net revenues of our Thermal, Mechanical and Electrical Products segments decreased $1.1 million or 6%, $483,000 or 6% and $3.4 million or 42%, respectively, as compared to the same period in 2012. We believe the decrease in our net revenues during the first nine months of 2013 primarily reflects the factors previously discussed in the Overview. In addition, we attribute the higher percentage decrease for our Electrical Products segment in the first nine months of 2013 as compared to the same period in 2012 to the fact that during the first nine months of 2012, our Electrical Products segment experienced an unusually high level of demand from one particular OEM customer which was non-recurring.

Gross Margin. Gross margin was 48% for the nine months ended September 30, 2013 compared to 44% for the same period in 2012. The improvement in the gross margin was primarily the result of a reduction in our component material costs as a percentage of net revenues, which decreased from 37% of net revenues for the first nine months of 2012 to 34% of net revenues for the same period in 2013. We attribute the decrease to changes in customer and product mix. In addition, the improvement in gross margin reflects a lower level of charges for obsolete and excess inventory in the first nine months of 2013 as compared to the same period in 2012. The reduction in these charges primarily reflects fewer items falling into our standard objective criteria. Finally, although our fixed operating costs were relatively unchanged at 15% of net revenues for the first nine months of 2013 and 2012, in absolute dollar terms these costs declined $766,000 for the nine months ended September 30, 2013 as compared to the same period in 2012. This decrease primarily reflects reduced headcount in our Thermal and Mechanical Products segments.

Selling Expense. Selling expense was $4.0 million for the nine months ended September 30, 2013 compared to $4.3 million for the same period in 2012, a decrease of $311,000 or 7%. The decrease primarily reflects lower levels of commission expense reflecting the lower net revenue levels in the first nine months of 2013 as compared to the same period in 2012. This decrease was partially offset by higher levels of salary and benefits expense as a result of an increase in our sales staff in our Thermal and Electrical Products segments.

Engineering and Product Development Expense. Engineering and product development expense was relatively unchanged at $2.9 million for each of the nine months ended September 30, 2013 and 2012, respectively. Increases in spending on matters related to our intellectual property were offset by reductions in the use of third party product development consultants.

General and Administrative Expense. General and administrative expense was $4.5 million for the nine months ended September 30, 2013 compared to $5.1 million for the same period in 2012, a decrease of $553,000 or 11%. During the first nine months of 2012, we recorded $337,000 in costs associated with the acquisition of Thermonics and $55,000 in costs related to the relocation of our Electrical Products segment's operation in California. There were no similar costs recorded in the first nine months of 2013. To a lesser extent, the decrease also reflects lower levels of professional fees and a reduction in salary and benefits expense.

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inTEST CORPORATION

Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS. (Continued)

Restructuring and Other Charges. Restructuring and other charges were $359,000 for the first nine months of 2012. There were no similar charges for the first nine months of 2013. The restructuring and other charges recorded during the first nine months of 2012 represent facility closure costs related to the closure of the Sunnyvale, California facility occupied by Thermonics at the time of our acquisition of this operation.

Income Tax Expense. For the nine months ended September 30, 2013, we recorded income tax expense of $586,000 compared to $980,000 for the same period in 2012. Our effective tax rate was 20% for the first nine months of 2013 compared to 33% for the same period in 2012. On a quarterly basis, we record income tax expense or benefit based on the expected annualized effective tax rate for the various taxing jurisdictions in which we operate our businesses. The reduction in our effective tax rate in the first nine months of 2013 as compared to the same period in 2012 reflects the recording of the effect of the reinstatement of certain domestic research and development tax credits which was enacted in January 2013, as well as the recording of additional benefits in connection with the finalization of an audit of our German operation and, to a lesser extent, the filing of our 2012 federal income tax return, both of which occurred in September 2013.

Liquidity and Capital Resources

Net cash provided by operations for the nine months ended September 30, 2013 was $1.4 million compared to $4.8 million for the same period in 2012. During the first nine months of 2013, we recorded net earnings of $2.4 million. However, the positive impact on cash of our net earnings was partially offset by an increase of $1.9 million in accounts receivable and $612,000 in inventories. These increases reflect increased business activity during the third quarter of 2013 as compared to the fourth quarter of 2012. These increases were partially offset by a $465,000 increase in accounts payable during the first nine months of 2013, also reflecting the increased business activity as compared to the fourth quarter of 2012. During the first nine months of 2013, domestic and foreign income taxes payable increased $249,000 reflecting the accrual of income tax due on our earnings. Finally, during the first nine months of 2013, we recorded a . . .

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