---

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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 July 31, 2000

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 0-22366

CREDENCE SYSTEMS CORPORATION(Exact name of registrant as specified in its charter)

Delaware
    94-287849(State
      or other jurisdiction)
    (IRS Employerof
      incorporation or organization)
    Identification
      No.)215
      Fourier Ave., Fremont, California
    94539(Address
      of principal executive offices)
    (Zip Code)


Registrant's telephone number,
including area code (510) 657-7400

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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 Sections 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 [   ]

APPLICABLE ONLY TO CORPORATE
ISSUERS:

At September 4, 2000, there were approximately
50,048,932 shares of the Registrant's common stock, $0.001 par value per share,
outstanding.



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1

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CREDENCE SYSTEMS CORPORATION

|         | INDEX                                                                            | PAGE NO.
|-------- | -------------------------------------------------------------------------------- | --------
|         |                                                                                  |         
|         |                                                                                  |         
|         |                                                                                  |         
|PART I.  | FINANCIAL INFORMATION                                                            |         
|Item 1.  | Financial
      Statements                                                       | 3       
|         | Condensed
      Consolidated Balance Sheets                                      | 3       
|         | Condensed
      Consolidated Statements of Operations                            | 4       
|         | Condensed
      Consolidated Statements of Cash Flows                            | 5       
|         | Notes
      to Condensed Consolidated Financial Statements                       | 6       
|Item 2.  | Management's
      Discussion and Analysis of Financial Condition and Results of |         
|         | Operations                                                                       |         
|Item 3.  | Quantitative
      and Qualitative Disclosures about Market Risk                 | 24      
|         |                                                                                  |         
|         |                                                                                  |         
|PART II. | OTHER INFORMATION                                                                |         
|Item 1.  | Legal Proceedings                                                                |         
|Item 2.  | Changes in
      Securities                                                      |         
|Item 3.  | Defaults Upon Senior Securities                                                  |         
|Item 4.  | Submission of
      Matters to a Vote of Securityholders                         |         
|Item 5.  | Other Information                                                                |         
|Item 6.  | Exhibits and
      Reports on Form 8-K                                           |         

2

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PART I - FINANCIAL INFORMATION

ITEMI
- FINANCIALSTATEMENTS

CREDENCE
SYSTEMS CORPORATION 
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands)

|                                                 |  | July
      31, |         | October
      31, |  
|------------------------------------------------ |  | -------------- | ------- | ----------------- | -
|                                                 |  | 2000           |         | 1999a             |  
|                                                 |  |                |         |                   |  
|                                                 |  | (unaudited)    |         |                   |  
|ASSETS                                           |  |                |         |                   |  
|Current assets:                                  |  |                |         |                   |  
|Cash and
      cash equivalents                  |  | $              | 133,498 |                   | $
|Short-term investments                           |  |                | 142,112 |                   |  
|Accounts
      receivable, net                   |  |                | 160,248 |                   |  
|Inventories                                      |  |                | 73,392  |                   |  
|Other
      current assets                       |  |                | 24,707  |                   |  
|                                                 |  |                |         |                   |  
|Total
      current assets                       |  |                | 533,957 |                   |  
|Long-term investments                            |  |                | 137,344 |                   |  
|Property and equipment, net                      |  |                | 54,488  |                   |  
|Other assets                                     |  |                | 89,452  |                   |  
|                                                 |  |                |         |                   |  
|Total
      assets                               |  | $              | 815,241 |                   | $
|                                                 |  |                |         |                   |  
|                                                 |  |                |         |                   |  
|LIABILITIES AND STOCKHOLDERS' EQUITY             |  |                |         |                   |  
|Current liabilities:                             |  |                |         |                   |  
|Accounts
      payable                           |  | $              | 41,948  |                   | $
|Accrued liabilities                              |  |                | 57,428  |                   |  
|Income
      taxes payable                       |  |                | 13,430  |                   |  
|                                                 |  |                |         |                   |  
|Total
      current liabilities                  |  |                | 112,806 |                   |  
|Convertible subordinated
      notes             |  |                | 96,021  |                   |  
|Long term deferred tax liability and other       |  |                | 14,454  |                   |  
|Minority interest                                |  |                | 312     |                   |  
|Stockholders' equity                             |  |                | 591,648 |                   |  
|                                                 |  |                |         |                   |  
|Total
      liabilities and stockholders' equity |  | $              | 815,241 |                   | $
|                                                 |  |                |         |                   |  

See accompanying notes.

|a) | Derived from the audited consolidated balance
sheet included in the Companys Form 10-K/A for the year ended October 31,
1999.
|-- | ------------------------------------------------------------------------------------------------------------------------------

3

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CREDENCE SYSTEMS CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share amounts)
  (unaudited)

|                                                               |  | Three Months Ended |            | Nine
      Months Ended |  
|-------------------------------------------------------------- |  | ------------------ | ---------- | ----------------------- | -
|                                                               |  | July
      31,     |            | July
      31,          |  
|                                                               |  |                    |            |                         |  
|                                                               |  | 2000               |            | 1999                    |  
|                                                               |  |                    |            |                         |  
|Net sales                                                      |  | $                  | 204,000    |                         | $
|Cost of goods sold                                             |  |                    | 80,765     |                         |  
|                                                               |  |                    |            |                         |  
|Gross margin                                                   |  |                    | 123,235    |                         |  
|Operating expenses:                                            |  |                    |            |                         |  
|Research and development                                       |  |                    | 19,490     |                         |  
|Selling,
      general and administrative                      |  |                    | 29,885     |                         |  
|Amortization of purchased
    intangibles                      |  |                    | 3,360      |                         |  
|Acquired
    in-process research and development               |  |                    | 8,282      |                         |  
|Special charges                                                |  |                    |           |                         |  
|                                                               |  |                    |            |                         |  
|Total
    operating expenses                                   |  |                    | 61,017     |                         |  
|                                                               |  |                    |            |                         |  
|Operating income (loss)                                        |  |                    | 62,218     |                         |  
|Interest and other income (expenses), net                      |  |                    | 5,874      |                         |  
|                                                               |  |                    |            |                         |  
|Income (loss) before income
    tax provision (benefit)        |  |                    | 68,092     |                         |  
|Income tax provision (benefit)                                 |  |                    | 27,113     |                         |  
|Minority interest (benefit)                                    |  |                    | (18        | )                       |  
|                                                               |  |                    |            |                         |  
|Net income (loss) before extraordinary items                   |  |                    | 40,997     |                         |  
|Gain on extinguishment of
    debt (net of tax of $275 & $926) |  |                    |           |                         |  
|                                                               |  |                    |            |                         |  
|Net income (loss)                                              |  | $                  | 40,997     |                         | $
|                                                               |  |                    |            |                         |  
|Net income (loss) per share                                    |  |                    |            |                         |  
|Basic
    (before extraordinary items)                         |  |                    | $
    0.82 |                         | $
|Basic
    (extraordinary items)                                |  |                    |           |                         |  
|                                                               |  |                    |            |                         |  
|Basic                                                          |  |                    | $
    0.82 |                         | $
|                                                               |  |                    |            |                         |  
|Diluted
    (before extraordinary items)                       |  |                    | $ 0.74     |                         | $
|Diluted
    (extraordinary items)                              |  |                    |           |                         |  
|                                                               |  |                    |            |                         |  
|Diluted                                                        |  |                    | $ 0.74     |                         | $
|                                                               |  |                    |            |                         |  
|Number of shares used in computing per share
    amount        |  |                    |            |                         |  
|Basic                                                          |  |                    | 49,802     |                         |  
|                                                               |  |                    |            |                         |  
|Diluted                                                        |  |                    | 55,101     |                         |  
|                                                               |  |                    |            |                         |  

See accompanying notes.

4

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CREDENCE SYSTEMS CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Increase (decrease) in cash and cash equivalents 
(unaudited, in thousands)

|                                                                                        |  | Nine
      Months Ended 
      July 31, |         
|--------------------------------------------------------------------------------------- |  | --------------------------------------- | --------
|                                                                                        |  |                                         |         
|                                                                                        |  | 2000                                    |         
|                                                                                        |  |                                         |         
|Cash flows from
      operating activities:                                             |  |                                         |         
|Net income (loss)                                                                       |  | $                                       | 91,353  
|Adjustments
      to reconcile net income (loss) to net cash used in operating activity |  |                                         |         
|Depreciation and amortization                                                           |  |                                         | 22,972  
|Special charges                                                                         |  |                                         |        
|(Gain) loss on disposal of property and
      equipment                                 |  |                                         | (1,156  
|Gain on extinguishment of debt                                                          |  |                                         |        
|Minority interest                                                                       |  |                                         | 29      
|Changes in operating assets and liabilities:                                            |  |                                         |         
|Accounts receivable, inventories and other
      current assets                         |  |                                         | (128,480
|Accounts
      payable, accrued liabilities and income taxes payable                    |  |                                         | 51,887  
|                                                                                        |  |                                         |         
|Net cash provided by operating activities                                               |  |                                         | 36,605  
|Cash flows from
      investing activities:                                             |  |                                         |         
|Purchases
      of available-for-sale securities                                        |  |                                         | (241,081
|Maturities of available-for-sale short-term
      securities                            |  |                                         | 33,792  
|Sales
      of available-for-sale securities                                            |  |                                         | 17,612  
|Acquisition of property and equipment                                                   |  |                                         | (20,664 
|Purchases
      of intangible assets and other assets                                   |  |                                         | (47,398 
|Proceeds from sale of property and equipment                                            |  |                                         | 2,188   
|                                                                                        |  |                                         |         
|Net
      cash used in investing activities                                             |  |                                         | (255,551
|Cash flows from
      financing activities:                                             |  |                                         |         
|Issuance of common & treasury stock                                                     |  |                                         | 300,259 
|Other                                                                                   |  |                                         | 81      
|                                                                                        |  |                                         |         
|Net
      cash provided by financing activities                                         |  |                                         | 300,340 
|                                                                                        |  |                                         |         
|Net increase in
      cash and cash equivalents                                         |  |                                         | 81,394  
|Cash
      and cash equivalents at beginning of period                                  |  |                                         | 52,104  
|                                                                                        |  |                                         |         
|Cash and cash
      equivalents at end of period                                        |  | $                                       | 133,498 
|                                                                                        |  |                                         |         
|Supplemental
      disclosures of cash flow information:                                |  |                                         |         
|Interest paid                                                                           |  | $                                       | 2,536   
|Income
      taxes paid (refunded)                                                      |  | $                                       | 38,447  
|Noncash
      activities:                                                               |  |                                         |         
|Net transfers of inventory to property and
      equipment                              |  | $                                       | 5,501   
|Income
      tax benefit from employee stock activity                                   |  | $                                       | 7,964   
|Issuance of common or treasury stock for
      convertible subordinated notes           |  | $                                       | 589     
|Exchange
      of convertible sub. notes for common stock plus issuance costs           |  | $                                       | (589    

See accompanying notes.

5

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NOTES TO CONDENSED CONSOLIDATED
FINANCIAL STATEMENTS

July 31,
        2000
      
      
      October 31,
        1999(unaudited)Raw materials
      
      $
      34,578
      
      $
      13,772Work-in-process
      
      
      26,505
      
      
      21,281Finished goods
      
      
      12,309
      
      
      5,231Total
      
      $
      73,392
      
      $
      40,284


3.  Net
Income (Loss) Per Share
     On
March 23, 2000, the Company announced a two-for-one stock split effected by a
stock dividend paid on May 17, 2000. All share and per share data has been
adjusted to give effect to the stock split. Net income (loss) per basic share is
based upon the weighted average number of common shares outstanding during the
period. Net income (loss) per diluted share is based upon the weighted average
number of common and dilutive potential common shares outstanding during the
period. The Companys convertible subordinated notes are potential dilutive
common shares and, accordingly, are included in the fiscal 2000 calculation of
net income per diluted share. For the fiscal 1999 calculation, the convertible
subordinated notes are not dilutive potential common shares and, accordingly,
are excluded from the calculation of net income (loss) per diluted share.
Options to purchase approximately 4,024,000 shares at an average price of $8.40
per share were outstanding at July 31, 1999 but were not included in the
computation of diluted net loss per share because options are antidilutive in
periods when the Company incurs a net loss.

6

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The
following table sets forth the computation of basic and dilutive income (loss)
per share (in thousands, except per share amounts):

|                                                                   |  | Three Months
      Ended 
      July 31, |        | Nine Months
      Ended 
      July 31, |  
|------------------------------------------------------------------ |  | ---------------------------------------- | ------ | --------------------------------------- | -
|                                                                   |  |                                          |        |                                         |  
|                                                                   |  | 2000                                     |        | 1999                                    |  
|                                                                   |  |                                          |        |                                         |  
|Numerator:                                                         |  |                                          |        |                                         |  
|Numerator
      for basic and diluted net income (loss) per share- |  |                                          |        |                                         |  
|net
      income (loss)                                            |  | $                                        | 40,997 |                                         | $
|                                                                   |  |                                          |        |                                         |  
|Denominator:                                                       |  |                                          |        |                                         |  
|Denominator for basic net
      income (loss) per share-           |  |                                          |        |                                         |  
|weighted-average shares                                            |  |                                          | 49,802 |                                         |  
|Effect
      of dilutive securities-employee stock options         |  |                                          | 3,648  |                                         |  
|Effect of dilutive
      securities-subordinated convertible notes |  |                                          | 1,651  |                                         |  
|                                                                   |  |                                          |        |                                         |  
|                                                                   |  |                                          |        |                                         |  
|Denominator for diluted
      earnings per share-adjusted          |  |                                          |        |                                         |  
|weighted-average shares
      and assumed conversions              |  |                                          | 55,101 |                                         |  
|                                                                   |  |                                          |        |                                         |  
|Basic net income (loss)
      per share                            |  | $                                        | 0.82   |                                         | $
|                                                                   |  |                                          |        |                                         |  
|Diluted
      net income (loss) per share                          |  | $                                        | 0.74   |                                         | $
|                                                                   |  |                                          |        |                                         |  

4.  Recent
Accounting Pronouncements
     In
June 1998, the FASB issued SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities, (SFAS 133), which is required to be
adopted in fiscal years beginning after June 15, 2000. SFAS 133 will require the
Company to recognize all derivatives on the balance sheet at fair value.
Derivatives that are not hedges must be adjusted to fair value through earnings.
If the derivative is a hedge, depending on the nature of the hedge, changes in
the fair value of derivatives will either be offset against the change in the
fair value of the hedged assets, liabilities or firm commitments through
earnings, or recognized in other comprehensive income (loss) until the hedged
item is recognized in earnings. The ineffective portion of a derivatives
change in fair value will be immediately recognized in earnings. Adoption of
SFAS 133 is not expected to have a material impact on the Companys financial
condition or results of operations.     In
December 1999, the Securities and Exchange Commission issued Staff Accounting
Bulletin 101 (SAB 101) Revenue Recognition in Financial Statements.
SAB 101 provides guidance on the recognition, presentation, and disclosure of
revenue in financial statements. All registrants are expected to apply the
accounting principles and disclosure described in SAB 101. Because the Company
has complied with generally accepted accounting principles for its historical
revenue recognition, the change if any, in its revenue policy resulting from SAB
101 will be reported as a change in accounting principle in the fourth quarter
of fiscal 2001. The Company is assessing the impact of SAB 101 on its financial
statements, but currently such impact is uncertain.

6.  Special
Charges and Extraordinary Item
     During
the third fiscal quarter of 1999, the Company recorded an extraordinary gain of
$488,000, net of tax of $275,000 on the exchange of 275,000 shares of the
Company's common stock held in treasury for an aggregate of $9,350,000 of its 5
1/4% Convertible Subordinated Notes due 2002 (the Notes). For the nine
month period ended July 31, 1999, the Company recorded an extraordinary gain of
$1,646,000, net of tax of $926,000 on the exchange of

7

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603,000 shares of the Company's common stock held
in treasury for an aggregate of $18.4 of its Notes.  The Company may engage
in similar transactions in the future.

For the nine month period ended July 31, 1999,
the Company recorded special charges of $6.2 million.  These charges were
primarily from costs relating to the disposal of excess facilities and
severance.

July 31,
      
      October 31,2000
      
      1999Unrealized gain (loss)
        on available-for-sale securities
      
      $
      (479
      )
      $
      (517
      )Foreign currency translation adjustments
      
      
      (103
      )
      
      (144
      )Total
      
      $
      (582
      )
      $
      (661
      )


8.  Acquisitions
     On
May 12, 2000, Credence acquired TMT, Inc., a company involved in the design and
manufacture of linear and mixed signal and RF test systems for high volume,
production testing of analog integrated circuits. The transaction was accounted
for as a purchase and accordingly, the accompanying financial statements include
the results of operations of TMT subsequent to the acquisition date. The total
purchase price of $80.0 million included consideration of $70.0 million in cash
and the assumption of 1.2 million TMT stock options valued at $10.0 million.
Additionally, Credence created a $13.2 million deferred tax liability through
the accounting for the acquisition. The net tangible assets purchased on May 12,
2000 were approximately $10.2 million.The total purchase cost of the TMT merger is as follows (in thousands):

Cash paid
      
      $
      69,981Deferred tax liability
      
      
      13,217Assumption of TMT
        options
      
      
      9,995Total purchase cost
      
      $
      93,193


The purchase price allocation is as follows (in
thousands):

Purchase Price Allocation:

|                                    |  |   | Amount |  |   | Annual 
      Amortization |  |  | Useful 
      Lives | 
|----------------------------------- |  | - | ------ |  | - | -------------------------- |  |  | ------------------- | 
|                                    |  |   |        |  |   |                            | 
|Tangible net assets                 |  | $ | 10,167 |  |   |                           |  |  |                    | 
|                                    |  |   |        |  |   |                            |  |  |                     | 
|Deferred compensation               |  |   | 8,362  |  | $ | 3,041                      |  |  | 2.75                | 
|                                    |  |   |        |  |   |                            |  |  |                     | 
|Intangible assets acquired:         |  |   |        |  |   |                            |  |  |                     | 
|Developed technology                |  |   | 23,498 |  |   | 2,350                      |  |  | 10                  | 
|Assembled workforce                 |  |   | 1,439  |  |   | 480                        |  |  | 3                   | 
|Customer relationships              |  |   | 6,052  |  |   | 1,513                      |  |  | 4                   | 
|Trade name                          |  |   | 2,053  |  |   | 411                        |  |  | 5                   | 
|In-process research and development |  |   | 8,282  |  |   |                           |  |  |                    | 
|Goodwill                            |  |   | 33,340 |  |   | 3,334                      |  |  | 10                  | 
|                                    |  |   |        |  |   |                            |  | 
|Total purchase price allocation     |  | $ | 93,193 |  | $ | 11,129                     |  |  |                     | 
|                                    |  |   |        |  |   |                            |  | 

8

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A
valuation of the purchased assets was undertaken to assist the Company in
determining the fair value of each identifiable intangible asset and in
allocating the purchase price among the acquired assets, including the portion
of the purchase price attributed to in-process research and development
projects. Standard valuation procedures and techniques were utilized in
determining the fair value of the acquired in-process research and development.
To determine the value of the technology in the development stage, the Company
considered, among other factors, the stage of development of each project, the
time and resources needed to complete each project, expected income and
associated risks. Associated risks included the inherent difficulties and
uncertainties in completing the project and thereby achieving technological
feasibility, and the risks related to the viability of and potential changes to
future target markets. The analysis resulted in $8.3 million of the purchase
price being charged to acquired in-process research and development. The
intangible assets, consisting primarily of developed technology, assembled
workforce, and goodwill, were assigned a value of $66.4 million and will be
amortized over their estimated useful lives, ranging from three to ten years.     The
deferred compensation amount represents the intrinsic value of the unvested
stock options assumed in the transaction. The useful life is the weighted
average remaining future vesting period of the unvested options.

The
pro forma combined results of operations for the Company for the nine months
ended July 31, 2000 and 1999, had the acquisition occurred at the beginning of
each fiscal year presented (in thousands, except per share amounts):

Nine Months
        Ended 
        July 31,2000
      
      1999Pro forma net sales
      
      $
      486,108
      
      $
      127,674Pro forma net income
      
      
      99,017
      
      
      (15,397
      )Pro forma diluted net
        income (loss)per
        share
      
      $
      1.90
      
      
      ($0.37
      )


The
pro forma combined results for the nine months ended July 31, 2000 and 1999
exclude the effects of the write-off acquired in-process research and
development of $8.3 million, as such amounts are non-recurring.  The pro
forma information is presented for illustrative purposes only and is not
necessarily indicative of the operating results that would have occurred has the
transaction been completed at the beginnings of the periods indicated, nor is it
necessarily indicative of future operating results.

9.  Subsequent
Events
     On
August 1, 2000, the Company completed the acquisition of Modulation Instruments,
Inc. for $20 million in cash. The acquisition will be accounted for under the
purchase method of accounting. Modulation Instruments, located in Colorado
Springs, Colorado, specializes in advanced RF technology for the wireless device
market. Modulation Instruments was founded in 1999 and currently has 21
employees.
     On
August 10, 2000, the Company announced that its Board of Directors had approved
the redemption, on September 20, 2000, of all of its outstanding 5-1/4%
Convertible Subordinated Notes due 2002. On that date, the notes will be
redeemed at a redemption price equal to 102.10% of their principal amount plus
accrued interest from September 15, 2000 to September 20, 2000. The notes are
convertible into shares of common stock until 5:00 p.m. Eastern Standard Time on
September 18, 2000 at a conversion price of $34.575 per share.
     On
August 16, 2000, the Company completed an investment in NewMillenia Solutions,
Inc., of Irvine, California. The Company invested $4 million in Series A shares
of NewMillenia which equates to a 19.8 percent equity stake. The two companies
will work together to develop a new line of test solutions tailored to
high-volume, high-performance ASIC applications.

9

---

On
August 25, 2000, the Company completed the acquisition of its former European
subsidiaries. Credence Europa was purchased from its management team for $8.4
million in cash.

10

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ITEM2 - MANAGEMENT'SDISCUSSION ANDANALYSIS
OFFINANCIALCONDITION
ANDRESULTS OFOPERATIONS

The following discussion may
contain predictions, estimates and other forward-looking statements that involve
a number of risks and uncertainties. While this discussion represents the
Companys current judgment on the future direction of the business, such risks
and uncertainties could cause actual results to differ materially from any
future performance suggested herein. Factors that could cause actual results to
differ are identified throughout the discussion below, as well as in the section
entitled Risk Factors below, and elsewhere in this report. The Company
undertakes no obligation to publicly revise any forward-looking statements to
reflect events or circumstances after the date hereof or to reflect the
occurrence of unanticipated events.

The following table sets forth
items from the Condensed Consolidated Statements of Operations as a percentage
of net sales for the periods indicated:

|                                                    |  | Three Months Ended |       | Nine Months Ended | 
|--------------------------------------------------- |  | ------------------ | ----- | ----------------- | 
|                                                    |  | July 31,           |       | July 31,          | 
|                                                    |  |                    |       |                   | 
|                                                    |  | 2000               |       | 1999              | 
|                                                    |  |                    |       |                   | 
|                                                    |  |                    |       |                   | 
|Net sales                                           |  |                    | 100.0 | %                 | 
|                                                    |  |                    |       |                   | 
|Cost of goods sold                                  |  |                    | 39.6  |                   | 
|                                                    |  |                    |       |                   | 
|Gross margin                                        |  |                    | 60.4  |                   | 
|                                                    |  |                    |       |                   | 
|Operating expenses                                  |  |                    |       |                   | 
|Research and development                            |  |                    | 9.6   |                   | 
|Selling, general and
      administrative           |  |                    | 14.6  |                   | 
|Amortization of purchased intangibles               |  |                    | 1.6   |                   | 
|                                                    |  |                    |       |                   | 
|Acquired in-process
      research and development  |  |                    | 4.1   |                   | 
|Special charges                                     |  |                    |      |                   | 
|                                                    |  |                    |       |                   | 
|Operating
      expenses                            |  |                    | 29.9  |                   | 
|                                                    |  |                    |       |                   | 
|Operating income (loss)                             |  |                    | 30.5  |                   | 
|Interest and other income                           |  |                    | 2.9   |                   | 
|                                                    |  |                    |       |                   | 
|Income (loss) before income tax provision (benefit) |  |                    | 33.4  |                   | 
|Income tax provision (benefit)                      |  |                    | 13.3  |                   | 
|                                                    |  |                    |       |                   | 
|Net income (loss) before extraordinary items        |  |                    | 20.1  |                   | 
|                                                    |  |                    |       |                   | 
|                                                    |  |                    |       |                   | 
|Gain on extinguishment of debt                      |  |                    |      |                   | 
|                                                    |  |                    |       |                   | 
|                                                    |  |                    |       |                   | 
|Net income (loss)                                   |  |                    | 20.1  | %                 | 
|                                                    |  |                    |       |                   | 

RESULTS OF OPERATIONS

NET SALES

Net sales consist of revenues
from systems sales, spare parts sales, maintenance contracts and software sales.
Net sales were $204.0 million for the third quarter of fiscal 2000, representing
an increase of 289% from the net sales of $52.4 million in the comparable third
quarter of fiscal 1999. During fiscal 1999 and through the third quarter of
fiscal 2000, our net sales improved each sequential quarter because of three
principal factors:

- a significant increase in the worldwide demand for
    semiconductor ATE;
- improved business and economic conditions in Asia and
    particularly in Taiwan; and
- the launch of three major products: the Quartet
    high-performance mixed signal tester, the Kalos memory tester, and the
    Valstar high-performance digital tester.

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These factors resulted in our
experiencing increasing net sales activity through fiscal 1999 and into the
first three quarters of fiscal 2000. The improved worldwide demand for
semiconductor ATE has led to customers purchasing for increased capacity and the
launch of our new products has led to some customers purchasing products with
new features or capabilities.

International net sales
accounted for approximately 81%, 64% and 69% of total net sales in the first
nine months of 2000 and fiscal years 1999 and 1998, respectively. Our net sales
to the Asia-Pacific region accounted for approximately 72%, 55% and 60% of total
net sales in the first nine months of fiscal 2000 and fiscal years 1999 and
1998, respectively, and thus are subject to the risk of economic instability in
that region that materially adversely affected the demand for our products in
1998. Capital markets in Korea and other areas of Asia have been highly
volatile, resulting in economic instabilities. These instabilities may reoccur,
which could materially adversely affect demand for our products.

Our net sales by product line in
the first nine months of fiscal 2000 and fiscal years 1999 and 1998 consisted
of:

|                     |  |                |     | Fiscal Years Ended | 
|-------------------- |  | -------------- | --- | ------------------ | 
|                     |  | Nine Months    |     | October 31,        | 
|                     |  | Ended July 31, |     |                    | 
|                     |  | 2000           |     | 1999               | 
|                     |  |                |     |                    | 
|Mixed-Signal         |  |                | 70  | %                  | 
|Logic                |  |                | 15  |                    | 
|Memory               |  |                | 10  |                    | 
|Service and software |  |                | 5   |                    | 
|                     |  |                |     |                    | 
|Total                |  |                | 100 | %                  | 
|                     |  |                |     |                    | 

The increase in the memory
percentage and the high percentage of net sales attributable to mixed-signal
products is principally derived from the sales of the new Kalos and Quartet
products. In addition, the mixed signal category includes the TMT products which
contributed to this category in the third fiscal quarter of 2000. Revenues from
software were not material to our operations in the first nine months of fiscal
2000 and fiscal years 1999 and 1998, representing no more than 4% of our net
sales in each period.

GROSS MARGIN

The Company's gross margin has
been and will continue to be affected by a variety of factors, including
manufacturing efficiencies, pricing by competitors or suppliers, new product
introductions, product sales mix, production volume, customization and
reconfiguration of systems, international and domestic sales mix and field
service margins. Our gross margin was 60.4% and 59.4% for the three and nine
months ended July 31, 2000, respectively, compared with 52.6%, 49.5%, and 51.7%
for the three months, nine months, and year ended October 31, 1999,
respectively. The increase in gross margin as a percent of sales was due to
lower average selling prices in fiscal 1999 as well as significantly higher
costs caused by under-absorption of manufacturing expenses and product
development delays.

RESEARCH AND DEVELOPMENT

Research and development
(R&D) expenses were $48.2 million in the first nine months of fiscal
2000, an increase of $21.4 million or 80.2% over the same period of fiscal 1999.
The lower level of spending in 1999 reflects cutbacks in project expenses as
well as savings generated by a two-week plant shutdown in the first quarter of
fiscal 1999. These project expense cutbacks were initiated in fiscal 1998 while
the Company was reacting to a severe downturn in the industry. As a percentage
of net sales, R&D expenses were 10.5% for the first nine months of fiscal
2000, a decrease from 22.9% in the first nine months of fiscal 1999. The
decrease in these expenses as a percentage of net sales is attributable
primarily to the significantly lower net sales in the first nine months of
fiscal 1999 as compared with the same period of fiscal 2000. The Company
currently intends to continue to invest significant resources in the development
of new products and enhancements for the foreseeable future. These investments

12

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typically include hiring additional staff as well as
contracting specific projects to outside parties. Accordingly, the Company
expects these expenses to increase in absolute dollars for the remainder of
fiscal 2000.

SELLING, GENERAL AND ADMINISTRATIVE

Selling, general and
administrative expenses (SG&A) were $74.1 million in the first nine
months of fiscal 2000, representing a $33.8 million or 84% increase from the
comparable period of fiscal 1999. The lower spending in 1999 was primarily due
to reduced sales commissions on lower sales volumes and reduced payroll related
expenses from reduced headcount as well as the savings generated by a two-week
plant shutdown in the first quarter of fiscal 1999. As a percentage of net
sales, SG&A expenses were 16.1% for the first nine months of fiscal 2000,
compared with 34.4% for the corresponding period in fiscal 1999. This decrease
as a percentage of net sales is attributable primarily to the significantly
lower net sales in the first nine months of fiscal 1999 as compared with the
same period of fiscal 2000. The Company expects SG&A expenses for the
remainder of fiscal 2000 to increase in absolute dollars as we hire additional
staff and incur additional expense to support the current business activity.

AMORTIZATION OF PURCHASED INTANGIBLES

Amortization of purchased
intangibles was $5.5 million in the first nine months of fiscal 2000,
representing a $4.4 million or 426% increase from the comparable period of
fiscal 1999. The increase is primarily due to $2.8 million of expense arising
from the TMT acquisition.

ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT

During the quarter, the Company
recorded $8.3 million of acquired in-process research and development expense
resulting from the acquisition of TMT. These amounts were expensed because the
acquired technology had not yet reached technological feasibility and had no
future alternative uses.

INTEREST AND OTHER INCOME EXPENSES, NET

The Company generated net
interest and other income of $9.4 million for the first nine months of fiscal
2000, as compared to a loss of $0.1 million for the first nine months of fiscal
1999. The increase is primarily due to lower interest expense caused by lower
average debt balances as well as higher interest income generated by larger cash
and investment balances. The Company received approximately $288 million on
February 25, 2000 when an aggregate of 5,290,000 shares of common stock were
issued in a public offering at $57.50 per share.

INCOME TAXES

Excluding the impact of
in-process research and development, the Companys estimated effective tax
rate for the third quarter and first nine months of fiscal 2000 was 35.5%,
compared to 36% in the first nine months of fiscal 1999. The tax rate applied to
pre-tax book income for the first nine months is computed based on a projected
effective tax rate for the year.

Realization of the net deferred
tax assets at July 31, 2000, is dependent on the Companys ability to generate
approximately $12,500,000 of future taxable income. Management believes that it
is more likely than not that the assets will be realized based on forecasted
income. However, there can be no assurance that the Company will meet its
expectations of future income. A valuation allowance was established in both
fiscal 1999 and 1998 to offset a portion of the deferred tax assets attributable
to the in-process research and development. Due to the period over which these
tax benefits will be recognized, sufficient uncertainty exists regarding the
realizability of a portion of these assets to warrant a valuation allowance.
Management will evaluate the realizability of the deferred tax assets on a
quarterly basis and assess the need for additional valuation allowances.

LIQUIDITY AND CAPITAL RESOURCES

Net cash provided by operating
activities was $36.6 million and $21.4 million for the nine months ended July
31, 2000 and 1999, respectively. Net cash flows provided by operating activities
for the first nine months of fiscal

13

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2000 were primarily due to net income before depreciation and
amortization of $114.3 million, offset by an increase in net operating assets
and liabilities of $76.6 million. The increased requirement for net operating
assets and liabilities reflects the Companys current higher business activity
levels in fiscal 2000.

Investing activities used net
cash flows of approximately $255.6 million and $11.7 million in the nine months
ended July 31, 2000 and 1999, respectively. For fiscal 2000, approximately
$189.7 million was for net purchases of available-for-sale securities, $20.7
million was for purchases of property and equipment, and approximately $62.0
million of cash was used for the acquisition of TMT.

Net cash flows from financing
activities provided $300.3 million and $8.0 million for the nine months ended
July 31, 2000 and 1999, respectively. The increase in net cash flows primarily
represents the issuance of common stock through the public offering on February
25, 2000 of approximately $288 million, as well as issuances under the
Companys employee equity plans.

As of July 31, 2000, the Company
had working capital of approximately $421.2 million, including cash and
short-term investments of $275.6 million, and accounts receivable and
inventories representing $233.6 million. The Company expects its accounts
receivable to continue to represent a significant portion of working capital.
The Company believes that because of the relatively long manufacturing cycles of
many of its testers and the new products it has and plans to continue to
introduce, investments in inventories will also continue to represent a
significant portion of working capital. Significant investments in accounts
receivable and inventories may subject the Company to increased risks which
could materially adversely affect the Company's business, financial condition
and results of operations. Total current liabilities of $112.8 million as of
July 31, 2000 increased from $61 million as of October 31, 1999.

The Company's principal sources
of liquidity as of July 31, 2000 consisted of approximately $133.5 million of
cash and cash equivalents, and short-term investments of $142.1 million. In
addition, the Company has $137.3 million of available-for-sale securities,
classified as long-term at July 31, 2000.

On February 25, 2000, the
Company issued an aggregate of 5,290,000 shares of its common stock in a public
offering at $57.50 per share. The net proceeds to the Company after expenses
were approximately $288 million.

RECENT ACCOUNTING PRONOUNCEMENTS

In June 1998, the FASB issued
SFAS No. 133, Accounting for Derivative Instruments and Hedging
Activities, (SFAS 133), which is required to be adopted in fiscal years
beginning after June 15, 2000. SFAS 133 will require the Company to recognize
all derivatives on the balance sheet at fair value. Derivatives that are not
hedges must be adjusted to fair value through earnings. If the derivative is a
hedge, depending on the nature of the hedge, changes in the fair value of
derivatives will either be offset against the change in the fair value of the
hedged assets, liabilities or firm commitments through earnings, or recognized
in other comprehensive income (loss) until the hedged item is recognized in
earnings. The ineffective portion of a derivatives change in fair value will
be immediately recognized in earnings. Adoption of SFAS 133 is not expected to
have a material impact on the Companys financial condition or results of
operations.

In December 1999, the Securities
and Exchange Commission issued Staff Accounting Bulletin 101 (SAB 101)
Revenue Recognition in Financial Statements. SAB 101 provides guidance on
the recognition, presentation, and disclosure of revenue in financial
statements. All registrants are expected to apply the accounting principles and
disclosure described in SAB 101. Because the Company has complied with generally
accepted accounting principles for its historical revenue recognition, the
change if any, in its revenue policy resulting from SAB 101 will be reported as
a change in accounting principle in the fourth quarter of fiscal 2001. The
Company is assessing the impact of SAB 101 on its financial statements, but
currently such impact is uncertain.

14

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RISK FACTORS

Our operating results may fluctuate significantly which may
adversely affect our stock price

A variety of factors affect our results of operations. The
above graph illustrates that our quarterly net sales and operating results have
fluctuated significantly. We believe they will continue to fluctuate for a
number of reasons, including:

- economic conditions in the semiconductor industry in
    general and capital equipment industry specifically;
- manufacturing capacity and ability to volume produce
    systems, including our newest systems, and meet customer requirements;
- timing of new product announcements and new product
    releases by us or our competitors;
- market acceptance of our new products and enhanced versions
    of existing products;
- manufacturing inefficiencies associated with the start-up
    of our new products, changes in our pricing or payment terms and cycles, and
    those of our competitors, customers and suppliers;
- write-offs of excess and obsolete inventories and accounts
    receivable that are not collectible;
- supply constraints;
- ability to obtain adequate facilities;
- patterns of capital spending by our customers, delays,
    cancellations or reschedulings of customer orders due to customer financial
    difficulties or otherwise;
- changes in overhead absorption levels due to changes in the
    number of systems manufactured, the timing and shipment of orders,
    availability of components including custom ICs, subassemblies and services,
    customization and reconfiguration of our systems and product reliability;
- expenses associated with acquisitions and alliances;
- operating expense reductions associated with cyclical
    industry downturns, including costs relating to facilities consolidations
    and related expenses;
- the proportion of our direct sales and sales through third
    parties, including distributors and OEMS, the mix of products sold, the
    length of manufacturing and sales cycles, product discounts;
- natural disasters, political and economic instability,
    currency fluctuations, regulatory changes and outbreaks of hostilities; and

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- ability to hire and retain employees in a competitive
    market.

We presently intend to introduce
new products and product enhancements in the future, the timing and success of
which will affect our business, financial condition and results of operations.
Our gross margins on system sales have varied significantly and will continue to
vary significantly based on a variety of factors including:

- manufacturing inefficiencies;
- pricing concessions by us and our competitors and pricing
    by our suppliers;
- hardware and software product sales mix;
- inventory write-downs;
- production volumes;
- new product introductions;
- product reliability;
- absorption levels and the rate of capacity utilization;
- customization and reconfiguration of systems;
- international and domestic sales mix and field service
    margins; and
- facility relocations and expansions.

New and enhanced products
typically have lower gross margins in the early stages of commercial
introduction and production. Although we have recorded and continue to record
provisions for estimated sales returns, accounts receivable that might not be
collectible, and product warranty costs, we cannot be certain that our estimates
will be adequate.

We cannot forecast with any
certainty 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 the 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.
In addition, our need for continued significant expenditures for research and
development, marketing and other expenses for new products, capital equipment
purchases and worldwide training and customer service and support will impact
our sales and operations results in the future. Other significant expenditures
may make it difficult for us to reduce our significant fixed expenses in a
particular period if we do not meet our net sales goals for that period. These
other expenditures include:

- research and development;
- distribution channels;
- marketing and other expenses for new products;
- capital equipment purchases and world-wide training; and
- customer support and service.

As a result, we cannot be certain that we will be profitable
in the future.

We have a limited backlog and obtain most of our net sales
from a relatively few number of system sales transactions which can result in
fluctuations of quarterly results

Other than some memory products
and software products, for which the price range is typically below $50,000, we
obtain most of our net sales from the sale of a relatively few number of systems
that typically range in price from $350,000 to $3.6 million. This has resulted
and could continue to result in our net sales and operating results for a
particular period being significantly impacted by the timing of recognition of
revenue from a single transaction. Our net sales and operating results for a
particular period could also be materially adversely affected if an anticipated
order from just one customer is not received in time to permit shipment during
that period. Backlog at

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the beginning of a quarter typically does not include all
orders necessary to achieve our sales objectives for that quarter. In addition,
orders in backlog are subject to cancellation, delay, deferral or rescheduling
by customers with limited or no penalties. Consequently, our quarterly net sales
and operating results have in the past and will in the future depend upon our
obtaining orders for systems to be shipped in the same quarter that the order is
received.

We believe that some of our
customers may from time to time, place orders with us for more systems than they
will ultimately require, or they will order a more rapid delivery than they will
ultimately require. For this reason, our backlog may include customer orders in
excess of those actually delivered to them or other customers.

Furthermore, we generally ship
products generating most of our net sales near the end of each quarter.
Accordingly, our failure to receive an anticipated order or a delay or
rescheduling in a shipment near the end of a particular period may cause net
sales in a particular period to fall significantly below expectations, which
could have a material adverse effect on our business, financial condition or
results of operations. The relatively long manufacturing cycle of many of our
testers has caused and could continue to cause future shipments of testers to be
delayed from one quarter to the next. Furthermore, as we and our competitors
announce new products and technologies, customers may defer or cancel purchases
of our existing systems. We cannot forecast the impact of these and other
factors on our sales and operating results.

The semiconductor industry has been cyclical

Our business and results of
operations depend largely upon the capital expenditures of manufacturers of
semiconductors and companies that specialize in contract packaging and/or
testing of semiconductors. This includes manufacturers and contractors that are
opening new or expanding existing fabrication facilities or upgrading existing
equipment, which in turn depend upon the current and anticipated market demand
for semiconductors and products incorporating semiconductors. The semiconductor
industry has been highly cyclical with recurring periods of oversupply, which
often have had a severe effect on the semiconductor industrys demand for test
equipment, including the systems we manufacture and market. We believe that the
markets for newer generations of semiconductors will also be subject to similar
fluctuations.

We have experienced shipment
delays, delays in commitments and restructured purchase orders by customers and
we expect this activity to continue. Accordingly, we cannot be certain that we
will be able to achieve or maintain our current or prior level of sales or rate
of growth. We anticipate that a significant portion of new orders may depend
upon demand from semiconductor device manufacturers building or expanding
fabrication facilities and new device testing requirements that are not
addressable by currently installed test equipment, and there can be no assurance
that such demand will develop to significant degree, or at all. In addition, our
business, financial condition or results of operations may be adversely affected
by any factor adversely affecting the semiconductor industry in general or
particular segments within the semiconductor industry. For example, the
1997/1998 Asian financial crisis contributed to widespread uncertainty and, in
part, a slowdown in the semiconductor industry. This slowdown in the
semiconductor industry resulted in reduced spending for semiconductor capital
equipment, including ATE which we sell. This industry slowdown had and may in
the future have a material adverse effect on our product backlog, balance sheet,
financial condition and results of operations. Therefore, there can be no
assurance that our operating results will not be materially adversely affected
if downturns or slowdowns in the semiconductor industry occur again in the
future.

We have experienced over the last several years significant
fluctuations in our operating results and an increased scale of operations

In fiscal 2000, we have
generated revenue of $101.8 million in the first fiscal quarter and $204.0
million in the third fiscal quarter, an increase of 100%. In fiscal 1999, we
generated revenue of $26.5 million in the first quarter and $80.2 million in the
fourth quarter, an increase of 203%. In fiscal 1998, we generated revenue of
$82.4 million for the first quarter and $22.4 million for the fourth quarter, a
decrease of 73%. Since 1993, except for cost-cutting efforts during fiscal 1998
and most of 1999, we have overall significantly increased the scale of our
operations in general to support periods of generally increased sales levels and
expanded product offerings and have expanded operations to address critical
infrastructure and other requirements, including the hiring of additional
personnel, significant investments in research and development to support
product development, the new facilities in Oregon, a new ERP system and numerous
acquisitions. These fluctuations in our sales and operations have placed and are

17

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placing a considerable strain on our management, financial,
manufacturing and other resources. In order to effectively deal with the changes
brought on by the cyclical nature of the industry, we have been required to
implement and improve a variety of highly flexible operating, financial and
other systems, procedures and controls capable of expanding, or contracting
consistent with our business. However, we cannot be certain that any existing or
new systems, procedures or controls, including our ERP system, will be adequate
to support fluctuations in our operations or that our systems, procedures and
controls will be cost-effective or timely. Any failure to implement, improve and
expand or contract such systems, procedures and controls efficiently and at a
pace consistent with our business could have a material adverse effect on our
business, financial condition or results of operations.

We are expanding and intend to continue the expansion of
our product lines

We are currently devoting and
intend to continue to devote significant resources to the development,
production and commercialization of new products and technologies. During fiscal
1999, we launched three major new products. We invested and continue to invest
significant resources in plant and equipment, leased facilities, inventory,
personnel and other costs to begin or prepare to increase production of these
products. A significant portion of these investments will provide the marketing,
administration and after-sales service and support required for these new
hardware and software products. Accordingly, we cannot be certain that gross
profit margin and inventory levels will not be adversely impacted by delays in
new product introductions or start-up costs associated with the initial
production and installation of these new product lines. We also cannot be
certain that we can manufacture these systems per the time and quantity required
by our customers. The start-up costs include additional manufacturing overhead,
additional inventory and warranty reserve requirements and the enhancement of
after-sales service and support organizations. In addition, the increases in
inventory on hand for new hardware and software product development and customer
support requirements have increased and will continue to increase the risk of
inventory write-offs. We cannot be certain that our net sales will increase or
remain at recent levels or that any new products will be successfully
commercialized or contribute to revenue growth or that any of our additional
costs will be covered.

There are limitations on our ability to find the supplies
and services necessary to run our business

We obtain certain components,
subassemblies and services necessary for the manufacture of our testers from a
limited group of suppliers. We do not maintain long-term supply agreements with
most of our vendors and we purchase most of our components and subassemblies
through individual purchase orders. The manufacture of certain of our components
and subassemblies is an extremely complex process. We also rely on outside
vendors to manufacture certain components and subassemblies and to provide
certain services. We have recently experienced and continue to experience
significant reliability, quality and timeliness problems with several critical
components including certain custom integrated circuits. In addition, we and
certain of our subcontractors are experiencing significant shortages and delays
in delivery of various components and subassemblies. We cannot be certain that
these or other problems will not continue to occur in the future with our
suppliers or outside subcontractors. Our reliance on a limited group of
suppliers and on outside subcontractors involves several risks, including an
inability to obtain an adequate supply of required components, subassemblies and
services and reduced control over the price, timely delivery, reliability and
quality of components, subassemblies and services. Shortages, delays,
disruptions or terminations of the sources for these components and
subassemblies have delayed and could continue to delay shipments of our systems
and new products and could continue to have a material adverse effect on our
business. Our continuing inability to obtain adequate yields or timely
deliveries or any other circumstance that would require us to seek alternative
sources of supply or to manufacture such components internally could also have a
material adverse effect on our business, financial condition or results of
operations. Such delays, shortages and disruptions would also damage
relationships with current and prospective customers and have and could continue
to allow competitors to penetrate our customer accounts. We cannot be certain
that our internal manufacturing capacity or that of our suppliers and
subcontractors will be sufficient to meet customer requirements.

The ATE industry is intensely competitive which can
adversely affect our revenue growth

With the substantial investment
required to develop test application software and interfaces, we believe that
once a semiconductor manufacturer has selected a particular ATE vendors
tester, the manufacturer is likely to use that tester for a majority of its
testing requirements for the market life of that semiconductor and, to the
extent possible, subsequent generations of similar products. As a result, once
an ATE customer chooses a system for the

18

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testing of a particular device, it is difficult for competing
vendors to achieve significant ATE sales to such customer for similar use. Our
inability to penetrate any large ATE customer or achieve significant sales to
any ATE customer could have a material adverse effect on our business, financial
condition or results of operations.

We face substantial competition
from ATE manufacturers throughout the world, as well as several of our
customers. We do not currently compete in the testing of microprocessors, linear
ICs or DRAMs. Moreover, a substantial portion of our net sales are derived from
sales of mixed-signal testers. Many competitors have substantially greater
financial and other resources with which to pursue engineering, manufacturing,
marketing and distribution of their products. Certain competitors have recently
introduced or announced new products with certain performance or price
characteristics equal or superior to products we currently offer. These
competitors have recently introduced products that compete directly against our
products. We believe that if the ATE industry continues to consolidate through
strategic alliances or acquisitions, we will continue to face significant
additional competition from larger competitors that may offer product lines and
services more complete than ours. Our competitors are continuing to improve the
performance of their current products and to introduce new products,
enhancements and new technologies that provide improved cost of ownership and
performance characteristics. New product introductions by our competitors could
cause a decline in our sales or loss of market acceptance of our existing
products.

Moreover, our business,
financial condition, or results of operations could continue to be materially
adversely affected by increased competitive pressure and continued intense
price-based competition. We have experienced and continue to experience
significant price competition in the sale of our testers. In addition, pricing
pressures typically become more intense at the end of a products life cycle
and as competitors introduce more technologically advanced products. We believe
that, to be competitive, we must continue to expend significant financial
resources in order to, among other things, invest in new product development and
enhancements and to maintain customer service and support centers worldwide. We
cannot be certain that we will be able to compete successfully in the future.

The ATE market is subject to rapid technological change

Our ability to compete in this
market depends upon our ability to successfully develop and introduce new
hardware and software products and enhancements and related software tools with
greater features on a timely and cost-effective basis, including products under
development internally as well as products obtained in acquisitions. Our
customers require testers and software products with additional features and
higher performance and other capabilities. We are therefore required to enhance
the performance and other capabilities of our existing systems and software
products and related software tools. Any success we may have in developing new
and enhanced systems and software products and new features to our existing
systems and software products will depend upon a variety of factors, including:

- product selection;
- timely and efficient completion of product design;
- implementation of manufacturing and assembly processes;
- successful coding and debugging of software;
- product performance;
- reliability in the field; and
- effective sales and marketing.

Because we must make new product
development commitments well in advance of sales, new product decisions must
anticipate both future demand and the availability of technology to satisfy that
demand. We cannot be certain that we will be successful in selecting,
developing, manufacturing and marketing new hardware and software products or
enhancements and related software tools. Our inability to introduce new products
and related software tools that contribute significantly to net sales, gross
margins and net income would have a material adverse effect on our business,
financial condition and results of operations. New product or technology
introductions by our competitors could cause a decline in sales or loss of
market acceptance of our existing products. In addition, if we introduce new
products, existing customers may curtail purchases of the older products and
delay new product

19

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purchases. Any unanticipated decline in demand for our
hardware or software products could have a materially adverse effect on our
business, financial condition or results of operations.

Significant delays can occur between the time we introduce
a system and the time we are able to produce that system in volume

We have in the past experienced
significant delays in the introduction, volume production and sales of our new
systems and related feature enhancements. We have experienced significant delays
in the introduction of our VS2000 and Kalos series testers as well as certain
enhancements to our existing testers. These delays have been primarily related
to our inability to successfully complete product hardware and software
engineering within the time frame originally anticipated, including design
errors and redesigns of ICs. As a result, some customers have experienced
significant delays in receiving and using our testers in production. We cannot
be certain that these or additional difficulties will not continue to arise or
that delays will not continue to materially adversely affect customer
relationships and future sales. Moreover, we cannot be certain that we will not
encounter these or other difficulties that could delay future introductions or
volume production or sales of our systems or enhancements and related software
tools. We have incurred and may continue to incur substantial unanticipated
costs to ensure the functionality and reliability of our testers and to increase
feature sets. If our systems continue to have reliability, quality or other
problems, or the market perceives our products to be feature deficient, we may
suffer reduced orders, higher manufacturing costs, delays in collecting accounts
receivable and higher service, support and warranty expenses, or inventory
write-offs, among other effects. Our failure to have a competitive tester and
related software tools available when required by a customer could make it
substantially more difficult for us to sell testers to that customer for a
number of years. We believe that the continued acceptance, volume production,
timely delivery and customer satisfaction of our newer digital, mixed signal and
non-volatile memory testers are of critical importance to our future financial
results. As a result, our inability to correct any technical, reliability, parts
shortages or other difficulties associated with our systems or to manufacture
and ship the systems on a timely basis to meet customer requirements could
damage our relationships with current and prospective customers and would
continue to materially adversely affect our business, financial condition and
results of operations.

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

We must develop and deliver
customized hardware and software to meet our customers specific test
requirements. We must be able to manufacture these systems on a timely basis.
Our test 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 meet such hardware and software
requirements could impact our ability to recognize revenue on the related
equipment. 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 may make it
substantially more difficult for us to sell test systems to that manufacturer
for a number of years.

We rely on Spirox Corporation for a significant portion of
our revenues and the termination of this distribution relationship would
materially adversely affect our business

One distributor, Spirox
Corporation, a distributor in Taiwan that sells to end-user customers in Taiwan
and China, accounted for approximately 49%, 39%, 34% and 30% of our net sales in
the first nine months of fiscal 2000 and fiscal years 1999, 1998, and 1997,
respectively. Our agreement with Spirox can be terminated for any reason on 90
days prior written notice. The semiconductor industry is highly concentrated,
and a small number of semiconductor device manufacturers and contract assemblers
account for a substantial portion of the purchases of semiconductor test
equipment generally, including our test equipment. Our top ten end user
customers have recently accounted for a substantial portion of our net sales.
Consequently, our business, financial condition and results of operations could
be materially adversely affected by the loss of or any reduction in orders by
Spirox or any other significant customer, including losses, the potential for
reductions in orders by assembly and tester service companies which that
customer may utilize or reductions due to continuing or other technical,
manufacturing or reliability problems with our products or continued slow-downs
in the semiconductor industry or in other industries that manufacture products
utilizing semiconductors. Our ability to maintain or increase sales levels will
depend upon:

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- our ability to obtain orders from existing and new
    customers;
- our ability to manufacture systems on a timely and
    cost-effective basis;
- our ability to complete the development of our new hardware
    and software products;
- our customers financial condition and success;
- general economic conditions; and
- our ability to meet increasingly stringent customer
    performance and other requirements and shipment delivery dates.

Our long and variable sales cycle depends upon factors
outside of our control and could cause us to expend significant time and
resources prior to earning associated revenues

Sales of our systems depend in
part upon the decision of semiconductor manufacturers to develop and manufacture
new semiconductor devices or to increase manufacturing capacity. As a result,
sales of our testers are subject to a variety of factors we cannot control. The
decision to purchase a tester generally involves a significant commitment of
capital, with the attendant delays frequently associated with significant
capital expenditures. For these and other reasons, our systems have lengthy
sales cycles during which we may expend substantial funds and management effort
to secure a sale, subjecting us to a number of significant risks. We cannot be
certain that we will be able to maintain or increase net sales in the future or
that we will be able to retain existing customers or attract new ones.

If we engage in acquisitions, we will incur a variety of
costs, and the anticipated benefits of the acquisitions may never be realized

We have developed in significant
part through mergers and acquisitions of other companies and businesses. We
intend in the future to pursue additional acquisitions of complementary product
lines, technologies and businesses. We may have to issue debt or equity
securities to pay for future acquisitions, which could be dilutive. We have also
incurred and may continue to incur certain liabilities or other expenses in
connection with acquisitions, which have and could continue to materially
adversely affect our business, financial condition and results of operations.

In addition, acquisitions involve numerous other risks,
including:

- difficulties assimilating the operations, personnel,
    technologies and products of the acquired companies;
- diversion of our managements attention from other
    business concerns;
- risks of entering markets in which we have no or limited
    experience; and
- the potential loss of key employees of the acquired
    companies.

For these reasons, we cannot be
certain what effect future acquisitions may have on our business, financial
condition and results of operations.

Changes to financial accounting standards may effect our
reported results of operations

We prepare our financial
statements to conform with generally accepted accounting principles, or GAAP.
GAAP are subject to interpretation by the American Institute of Certified Public
Accountants, the SEC and various bodies formed to interpret and create
appropriate accounting policies. A change in those policies can have a
significant effect on our reported results and may even affect our reporting of
transactions completed before a change is announced. Accounting policies
affecting many other aspects of our business, including rules relating to
purchase and pooling-of-interests accounting for business combinations,
in-process research and development charges, revenue recognition, employee stock
purchase plans and stock option grants have recently been revised or are under
review. Changes to those rules or the questioning of current practices may have
a material adverse effect on our reported financial results or on the way we
conduct our business. In addition, our preparation of financial statements in
accordance with GAAP requires that we make estimates and assumptions that affect
the recorded amounts of assets and liabilities, disclosure of those assets and
liabilities at the date of the financial statements and the recorded

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amounts of expenses during the reporting period. A change in
the facts and circumstances surrounding those estimates could result in a change
to our estimates and could impact our future operating results.

Our executive officers and certain key personnel are
critical to our business

Our future operating results
depend substantially upon the continued service of our executive officers and
key personnel, none of whom are bound by an employment or non-competition
agreement. Our future operating results also depend in significant part upon our
ability to attract and retain qualified management, manufacturing, technical,
engineering, marketing, sales and support personnel. Competition for personnel
is intense, and we cannot ensure success in attracting or retaining personnel.
There may be only a limited number of persons with the requisite skills to serve
in these positions and it may be increasingly difficult for us to hire personnel
over time. 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 and retain skilled employees.

Our international business exposes us to additional risks

International sales accounted
for approximately 81%, 64%, 69% and 70% of our total net sales for the first
nine months of fiscal 2000 and fiscal years 1999, 1998 and 1997, respectively.
As a result, we anticipate that international sales will continue to account for
a significant portion of our total net sales in the foreseeable future. These
international sales will continue to be subject to certain risks, including:

- changes in regulatory requirements;
- tariffs and other barriers;
- political and economic instability;
- an outbreak of hostilities;
- integration of foreign operations of acquired businesses;
- foreign currency exchange rate fluctuations;
- difficulties with distributors, joint venture partners,
    original equipment manufacturers, foreign subsidiaries and branch
    operations;
- potentially adverse tax consequences; and
- the possibility of difficulty in accounts receivable
    collection.

We are also subject to the risks
associated with the imposition of domestic and foreign legislation and
regulations relating to the import or export of semiconductor equipment. We
cannot predict whether the import and export of our products will be subject to
quotas, duties, taxes or other charges or restrictions imposed by the United
States or any other country in the future. Any of these factors or the adoption
of restrictive policies could have a material adverse effect on our business,
financial condition or results of operations. Net sales to the Asia-Pacific
region accounted for approximately 72%, 55%, 60% and 66% of our total net sales
in the first nine months of fiscal 2000 and fiscal years 1999, 1998 and 1997,
respectively, and thus demand for our products is subject to the risk of
economic instability in that region and could continue to be materially
adversely affected. Countries in the Asia-Pacific region, including Korea and
Japan, have experienced weaknesses in their currency, banking and equity markets
in the recent past. These weaknesses could continue to adversely affect demand
for our products, the availability and supply of our product components, and our
consolidated results of operations. The 1997 / 1998 Asian financial crisis
contributed to a widespread uncertainty and a slowdown in the semiconductor
industry. This slowdown resulted in reduced spending on semiconductor capital
equipment, including ATE, and has had, and may in the future have, a material
adverse effect on our product backlog, balance sheet and results of operations.

In addition, one of our major
distributors, Spirox Corporation, is a Taiwanese based company. This subjects a
significant portion of our receivables and future revenues to the risks
associated with doing business in a foreign country, including political and
economic instability, currency exchange rate fluctuations and regulatory
changes. Disruption of business in Asia caused by the previously mentioned
factors could continue to have a material impact on the Companys business,
financial condition or results of operations.

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If the protection of proprietary rights is inadequate, our
business could be harmed

We attempt to protect our
intellectual property rights through patents, copyrights, trademarks,
maintenance of trade secrets and other measures, including entering into
confidentiality agreements. However, we cannot be certain that others will not
independently develop substantially equivalent intellectual property or that we
can meaningfully protect our intellectual property. Nor can we be certain that
our patents will not be invalidated, deemed unenforceable, circumvented or
challenged, or that the rights granted thereunder will provide us with
competitive advantages, or that any of our pending or future patent applications
will be issued with claims of the scope we seek, if at all. Furthermore, we
cannot be certain that others will not develop similar products, duplicate our
products or design around our patents, or that foreign intellectual property
laws, or agreements into which we have entered will protect our intellectual
property rights. Inability or failure to protect our intellectual property
rights could have a material adverse effect upon our business, financial
condition and results of operations. We have been involved in extensive,
expensive and time-consuming reviews of, and litigation concerning, patent
infringement claims.

Our business may be harmed if we are found to infringe
proprietary rights of others

We have at times been notified
that we may be infringing intellectual property rights of third parties and we
have litigated patent infringement claims in the past. We expect to continue to
receive notice of such claims in the future. In July 1998, inTEST IP
Corporation, or inTEST, alleged in writing that one of our products is
infringing a patent held by inTEST. We may also be obligated to other third
parties relating to this allegation. We believe we have meritorious defenses to
the claims. However, we cannot be certain of success in defending this patent
infringement claim or claims for indemnification resulting from infringement
claims.

Some of our customers have
received notices from Mr. Jerome Lemelson alleging that the manufacture of
semiconductor products and/or the equipment used to manufacture semiconductor
products infringes certain patents issued to Mr. Lemelson. We have been notified
by customers that we may be obligated to defend or settle claims that our
products infringe Mr. Lemelsons patents, and that if it is determined that
the customers infringe Mr. Lemelsons patents, that customer intends to seek
indemnification from us for damages and other related expenses.

We cannot be certain of success
in defending current or future patent infringement claims or claims for
indemnification resulting from infringement claims. Our business, financial
condition and results of operations could be materially adversely affected if we
must pay damages to a third party or suffer an injunction or if we expend
significant amounts in defending any such action, regardless of the outcome.
With respect to any claims, we may seek to obtain a license under the third
partys intellectual property rights. We cannot be certain, however, that the
third party will grant us a license on reasonable terms or at all. We could
decide, in the alternative, to continue litigating such claims. Litigation has
been and could continue to be extremely expensive and time consuming, and could
materially adversely affect our business, financial condition or results of
operations, regardless of the outcome.

Our high capital expenditures may require us to obtain
additional financing which may not be available on terms satisfactory to us

Developing and manufacturing new
ATE systems and enhancements is highly capital intensive. In order to be
competitive, we must make significant investments in, among other things:

- capital equipment;
- expansion of operations;
- systems;
- procedures and controls;
- research and development and worldwide training; and
- customer service and support.

We may be unable to obtain
additional financing in the future on acceptable terms, or at all. In connection
with our issuance in September 1997 of convertible promissory notes, we
currently have outstanding $96 million of these notes which resulted in a ratio
of long-term debt to total capitalization at July 31, 2000 of approximately 14%.
As a result, our principal and interest obligations are substantial. The degree
to which we are leveraged could

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materially adversely affect our ability to obtain financing
for working capital, acquisitions or other purposes and could make our business
more vulnerable to industry downturns and competitive pressures. Our ability to
meet debt service obligations will be dependent upon our future performance,
which will be subject to financial, business and other factors affecting our
operations, many of which are beyond our control. If we raise additional funds
by issuing equity securities, our stockholders could be significantly diluted.
We intend to redeem the notes which may also dilute stockholders.

If we are unable to obtain
adequate funds, we may be required to delay, scale back or eliminate certain of
our research and development, acquisition or manufacturing programs. We may also
need to obtain funds through arrangements with partners or others and we may be
required to relinquish rights to certain of our technologies or potential
products or other assets.

A variety of factors may cause the price of our stock to be
volatile

In recent years, the stock
market in general, and the market for shares of high-tech companies in
particular, including ours, have experienced extreme price fluctuations, which
have often been unrelated to the operating performance of affected companies.
For example, in fiscal 1999, the price of our common stock ranged from a closing
high of $24.94 to a closing low of $7.19. In fiscal 2000 through August 29,
2000, the price of our common stock ranged from a closing high of $74.60 to a
closing low of $22.22. The market price of our common stock is likely to
continue to fluctuate significantly in the future, including fluctuations
unrelated to our performance.

We believe that fluctuations of our stock price may be caused
by a variety of factors, including:

- announcements of developments related to our business;
- fluctuations in our financial results;
- general conditions or developments in the semiconductor and
    capital equipment industry and the general economy;
- sales or purchases of our common stock in the marketplace;
- announcements of our technological innovations or new
    products or enhancements or those of our competitors;
- developments in patents or other intellectual property
    rights;
- developments in our relationships with customers and
    suppliers; or
- a shortfall or changes in revenue, gross margins or
    earnings or other financial results from analysts expectations or an
    outbreak of hostilities or natural disasters.

We are subject to anti-takeover provisions that could delay
or prevent an acquisition of our company

Provisions of our amended and
restated certificate of incorporation, shareholders rights plan, equity
incentive plans, bylaws and Delaware law may discourage transactions involving a
change in corporate control. In addition to the foregoing, our classified board
of directors, the stockholdings of our officers, directors and persons or
entities that may be deemed affiliates, our shareholder rights plan and the
ability of our board of directors to issue preferred stock without further
stockholder approval could have the effect of delaying, deferring or preventing
a third party to acquire us and may adversely affect the voting and other rights
of holders of our common stock.

ITEM 3 - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT
MARKET RISK

The Companys exposure to
market risk for changes in interest rates relates primarily to the Companys
investment portfolio and long-term debt obligations. The Company maintains a
strict investment policy which ensures the safety and preservation of its
invested funds by limiting default risk, market risk, and reinvestment risk. The
Companys investments consists primarily of commercial paper, medium term
notes, asset backed securities, US. Treasury notes and obligations of U.S.
Government agencies, bank certificates of deposit, auction rate preferred
securities, corporate bonds and municipal bonds. The table below presents
notional amounts and related weighted-

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average interest rates by year of maturity for the Companys
investment portfolio and long-term debt obligations (in thousands, except
percent amounts):

|                            |  | 2000 |         | 2001 |   | 2002    |   | 2003 |        | 2004 |   | Thereafter |  
|--------------------------- |  | ---- | ------- | ---- | - | ------- | - | ---- | ------ | ---- | - | ---------- | -
|                            |  |      |         |      |   |         |   |      |        |      |   |            |  
|Cash Equivalents            |  |      |         |      |   |         |   |      |        |      |   |            |  
|Fixed rate                  |  | $    | 133,498 |      |   |        |   |      |       |      |   |           |  
|Average rate                |  |      | 6.29    | %    |   |        |   |      |       |      |   |           |  
|Short term investments      |  |      |         |      |   |         |   |      |        |      |   |            |  
|Fixed rate                  |  | $    | 53,948  |      | $ | 88,164  |   |      |       |      |   |           |  
|Average rate                |  |      | 6.43    | %    |   | 6.25    | % |      |       |      |   |           |  
|Long term investments       |  |      |         |      |   |         |   |      |        |      |   |            |  
|Fixed rate                  |  | $    | 3,905   |      | $ | 35,375  |   | $    | 67,720 |      | $ | 18,468     |  
|Average rate                |  |      | 6.24    | %    |   | 6.37    | % |      | 6.68   | %    |   | 6.71       | %
|                            |  |      |         |      |   |         |   |      |        |      |   |            |  
|Total investment securities |  | $    | 191,351 |      | $ | 123,539 |   | $    | 67,720 |      | $ | 18,468     |  
|Average rate                |  |      | 6.33    | %    |   | 6.28    | % |      | 6.68   | %    |   | 6.71       | %
|                            |  |      |         |      |   |         |   |      |        |      |   |            |  
|Long term debt - Fixed rate |  |      |        |      |   |        |   | $    | 96,021 |      |   |           |  
|Average rate                |  |      |        |      |   |        |   |      | 5.25   | %    |   |           |  

The Company mitigates default
risk by attempting to invest in high credit quality securities and by constantly
positioning its portfolio to respond appropriately to a significant reduction in
a credit rating of any investment issuer or guarantor. The portfolio includes
only marketable securities with active secondary or resale markets to ensure
portfolio liquidity and maintains a prudent amount of diversification.

The Company has no cash flow
exposure due to rate changes for its $96 million of Convertible Subordinated
Notes.

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|PART II. - OTHER INFORMATION
|----------------------------
|                            
|Item 1.                     
|                            
|                            
|                            
|Item 2.                     
|                            
|                            
|                            
|Item 3.                     
|                            
|                            
|                            
|Item 4.                     
|                            
|                            
|                            
|Item 5.                     
|                            
|                            
|                            
|Item 6.                     

|                               |  |                             
|------------------------------ |  | ----------------------------
|(a)  Exhibits                 
|                               |  |                             
|                               |  | See Exhibit Index on page 29
|                               |  |                             
|(b)  Reports
      on Form 8-K

| |                                                                                                                                                                                                                                                                                                                         
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | 1) The Company filed a report on Form 8-K on June 26,
      2000 announcing the signing of a Letter of Intent to become the investor
      in Series A financing for New Millenia Solutions, Inc.                                                                                                                       
| |                                                                                                                                                                                                                                                                                                                         
| | 2) The Company filed a report on Form 8-K/A on June 20,
      2000 providing the TMT, Inc. financial statements and certain pro forma
      financial information.                                                                                                                                                      
| |                                                                                                                                                                                                                                                                                                                         
| | 3) The Company filed a report on Form 8-K on May 12,
      2000 announcing the completion of its acquisition of TMT, Inc., a
      California corporation (TMT) pursuant to the terms of the previously
      reported Agreement and Plan of Reorganization dated as of March 27, 2000
      (the Merger Agreement).



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(a)  SIGNATURES

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

|                   |  | CREDENCE SYSTEMS CORPORATION              | 
|------------------ |  | ----------------------------------------- | 
|                   |  |                                           | 
|                   |  | (Registrant)                              | 
|                   |  |                                           | 
|                   |  |                                           | 
|September 11, 2000 |  | /S/ DENNIS P. WOLF                        | 
|                   |  |                                           | 
|Date               |  | Dennis P. Wolf                            | 
|                   |  | Dennis P. Wolf, Executive Vice President, | 
|                   |  | Chief Financial Officer and Secretary     | 

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EXHIBIT INDEX

|Exhibit  |  |                                                                              | 
|-------- |  | ---------------------------------------------------------------------------- | 
|Number   |  |                                                                              | 
|         |  |                                                                              | 
|2.14 (1) |  | Agreement and Plan of Reorganization dated as of March
      27, 2000, among | 
|         |  | Credence, TMT and Champagne Acquisition Corporation                          | 
|         |  |                                                                              | 
|27.1     |  | EDGAR Financial Data Schedule                                                | 
|         |  |                                                                              | 

(1) Incorporated by reference to an exhibit to the Companys
Current Report on Form 8-K as filed with the Commission on May 12, 2000.

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