<PAGE>
 
                       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 April 30, 1997
                                       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                           94-2878499
            (State or other jurisdiction)          (IRS  Employer
            of 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

________________________________________________________________________________
   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 April 30, 1997, there were 21,846,841 shares of the Registrant's common
stock, $0.001 par value per share outstanding.

________________________________________________________________________________


                                       1

<PAGE>
 
CREDENCE SYSTEMS CORPORATION
----------------------------

<TABLE>
<CAPTION>
                                        INDEX                                          PAGE NO.
                                        -----                                          --------
 
<S>         <C>                                                                         <C>
PART I.     FINANCIAL INFORMATION
Item 1.     Financial Statements......................................................   3
            Condensed Consolidated Balance Sheets.....................................   3
            Condensed Consolidated Income Statements..................................   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................................................................   8
 
PART II.    OTHER INFORMATION
Item 1.     Legal Proceedings.........................................................  18
Item 2.     Changes in Securities.....................................................  18
Item 3.     Defaults Upon Senior Securities...........................................  18
Item 4.     Submission of Matters to a Vote of Securityholders........................  18
Item 5.     Other Information.........................................................  18
Item 6.     Exhibits and Reports on Form 8-K..........................................  19
</TABLE>

                                       2

<PAGE>
 
PART I  - FINANCIAL INFORMATION

ITEM I  - FINANCIAL STATEMENTS

                          CREDENCE SYSTEMS CORPORATION
                     CONDENSED CONSOLIDATED BALANCE SHEETS
                                 (IN THOUSANDS)

<TABLE>
<CAPTION>
                                             APRIL 30,            OCTOBER 31,
                                               1997                  1996
                                            -----------           -----------
ASSETS                                      (UNAUDITED)
<S>                                         <C>                    <C>
Current assets:
  Cash and cash equivalents................     $ 57,501           $ 48,649
  Short-term investments...................       32,219             37,643
  Accounts receivable, net.................       41,244             49,025
  Inventories..............................       35,668             35,721
  Other current assets.....................        8,103              6,845
                                              -----------         --------- 
    Total current assets...................      174,735            177,883
Long-term investments......................           --              4,284
Property and equipment, net................       37,587             32,764
Other assets...............................        9,421              8,111
                                              -----------         ---------    
    Total assets...........................     $221,743           $223,042
                                              ===========         =========    
 
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
  Accounts payable.........................     $  8,879           $ 13,842
  Accrued liabilities......................       15,122             17,829
  Income taxes payable.....................        2,642              1,589
    Total current liabilities..............       26,643             33,260
Commitments................................
Stockholders' equity.......................      195,100            189,782
    Total liabilities and stockholders'         
     equity................................     $221,743           $223,042
                                              ============        =========
 </TABLE>



                            See accompanying notes.



                                       3
<PAGE>
 
                          CREDENCE SYSTEMS CORPORATION
                    CONDENSED CONSOLIDATED INCOME STATEMENTS
                    (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
                                  (UNAUDITED)
<TABLE>
<CAPTION>
                                            THREE MONTHS ENDED         SIX MONTHS ENDED 
                                                  APRIL  30,              APRIL  30,
                                           ---------------------------------------------------
                                              1997            1996         1997         1996
                                           -----------      ---------    ---------    --------
<S>                                        <C>              <C>          <C>          <C>
Net sales.................................     $43,355       $66,475      $83,616     $127,386
Cost of goods sold........................      18,374        26,531       37,813       50,904
                                           -----------      ---------    ---------    --------

Gross margin..............................      24,981        39,944       45,803       76,482
Operating expenses:
   Research and development...............       8,953         9,413       17,759       17,730
   Selling, general and administrative....      11,989        14,094       23,420       26,896

       Total operating expenses...........      20,942        23,507       41,179       44,626
                                           -----------       --------     --------     -------

Operating income..........................       4,039        16,437        4,624       31,856
Interest income, net......................         874         1,046        1,901        2,101
                                           -----------       --------     --------     -------

Income before income taxes................       4,913        17,483        6,525       33,957
Income taxes..............................       1,627         6,154        2,185       12,084
Net income................................     $ 3,286       $11,329      $ 4,340     $ 21,873
                                           ===========       ========     ========    ========
Net income per share......................       $0.15         $0.52        $0.20        $1.00
Number of shares used in computing per
 share amount.............................      22,265        21,913       22,242       21,932
                                           ===========       ========     ========    ========
 </TABLE>



                            See accompanying notes.

                                       4
<PAGE>
 
                         CREDENCE SYSTEMS CORPORATION
                CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
               INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
                                (IN THOUSANDS)
                                  (UNAUDITED)

<TABLE>
<CAPTION>
                                                                                            SIX MONTHS ENDED
                                                                                                APRIL 30,
                                                                                       --------------------------
                                                                                           1997           1996
                                                                                       ------------   -----------
<S>                                                                                    <C>            <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
   Net income.......................................................................     $  4,340      $  21,873
   Adjustments to reconcile net income to net cash provided by
     operating activities:
     Depreciation and amortization..................................................        5,784          4,753
     Gain on disposal of property and equipment.....................................          (18)             -
     Changes in operating assets and liabilities:
       Accounts receivable, inventories and other current assets....................          988        (11,589)
       Accounts payable, accrued liabilities and income taxes payable...............       (6,468)         4,635
                                                                                         ----------    ----------
         Net cash provided by operating activities..................................        4,626         19,672
CASH FLOWS FROM INVESTING ACTIVITIES:
   Purchases of available-for-sale securities.......................................      (22,907)      (104,334)
   Maturities of available-for-sale short-term investments..........................       29,503         81,284
   Sales of available-for-sale securities...........................................        3,112              -
   Maturities of held-to-maturity securities........................................            -         10,519
   Acquisition of property and equipment............................................       (5,018)       (12,694)
   Other assets.....................................................................       (1,533)          (498)
   Proceeds from sale of property and equipment.....................................          240              -
                                                                                         ----------     ----------
         Net cash provided (used) in investing activities...........................        3,397        (25,723)
CASH FLOWS FROM FINANCING ACTIVITIES:
   Principal payments under capital lease obligations...............................            -           (498)
   Issuance of common stock.........................................................          829            627
                                                                                         ----------     ----------
         Net cash provided by financing activities..................................          829            129
                                                                                         ----------     ----------
Net increase (decrease) in cash and cash equivalents................................        8,852         (5,922)
Cash and cash equivalents at beginning of period....................................       48,649         54,534
                                                                                         ----------     ----------
Cash and cash equivalents at end of period..........................................     $ 57,501       $ 48,612
                                                                                         ==========     ==========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
   Interest paid....................................................................     $      1      $      23
   Income taxes paid................................................................     $    972      $  12,249
NONCASH INVESTING ACTIVITIES:
   Net transfers of inventory to property and equipment.............................     $  5,588      $   1,095
NONCASH FINANCING ACTIVITIES:
   Income tax benefit from stock option exercises...................................     $    149      $      57
</TABLE>

                            See accompanying notes.

                                       5
<PAGE>
 
              NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

1.  QUARTERLY FINANCIAL STATEMENTS

     The condensed consolidated financial statements and related notes for the
three months and six months ended April 30, 1997 and 1996 are unaudited but
include all adjustments (consisting solely of normal recurring adjustments)
which are, in the opinion of management, necessary for a fair presentation of
financial position and results of operations of the Company for the interim
periods. The results of operations for the three months and six months ended
April 30, 1997 and 1996 are not necessarily indicative of the operating results
to be expected for the full fiscal year. The information included in this report
should be read in conjunction with the Company's audited consolidated financial
statements and notes thereto for the fiscal year ended October 31, 1996 included
in the Annual Report on Form 10-K and the additional risk factors, including,
without limitation, risks relating to fluctuations in operating results, rapid
technological change, importance of timely product introduction, risks of
delays, limited system sales, backlog, cyclicality of semiconductor industry,
expansion of operations, management of growth, sole or limited sources of
supply, reliance on subcontractors, highly competitive industry, dependence on
key customers, lengthy sales cycle, dependence on key personnel, management
changes, international sales, proprietary rights, acquisitions, future capital
needs and volatility of stock price, as set forth in this Report. Any party
interested in reviewing these publicly available documents should write to the
SEC or the Chief Financial Officer of the Company.

     USE OF ESTIMATES - The preparation of the accompanying unaudited
consolidated condensed financial statements requires management to make
estimates and assumptions that affect the amounts reported in the financial
statements.  Actual results could differ from those estimates.

2.  INVENTORIES

     Inventories are stated at the lower of standard cost (which approximates
first-in, first-out cost) or market.  Inventories consist of the following (in
thousands):

<TABLE>
<CAPTION>
                                                     APRIL 30,      OCTOBER 31, 
                                                       1997            1996    
                                                   ------------    ------------
          <S>                                      <C>             <C>        
          Raw materials..........................    $24,493          $20,482 
          Work-in-process........................      9,186           10,222 
          Finished goods.........................      1,989            5,017 
                                                   -----------     ------------
                                                     $35,668          $35,721  
                                                   ===========     ============
</TABLE> 


3.  NET INCOME PER SHARE
        
     Net income per share is based upon the weighted average number of common
and common equivalent shares (stock options) outstanding during the period.


     In March 1997, the Financial Accounting Standards Board ("FASB") released
Statement of Financial Accounting Standards No. 128 "Earnings Per Share" ("FAS
128"), which is  required to be adopted on December 31, 1997.  At that time, the
Company will be required to change the method currently used to compute earnings
per share and to restate all prior periods.  Under the new requirements for
calculating primary net income per share (basic earnings per share), the
dilutive effect of stock options will be excluded.  The Company's basic and
diluted earnings per share as calculated according to FAS 128 would be as
follows:

<TABLE>
<CAPTION>
                               THREE MONTHS ENDED       SIX MONTHS ENDED   
                                    APRIL 30,               APRIL 30,   
                               ------------------                
                                 1997      1996           1997     1996  
                               -------    -------       -------   -------
     <S>                       <C>       <C>            <C>      <C>     
     Basic                      $0.15      $0.53         $0.20     $1.02 
     Diluted                    $0.15      $0.52         $0.20     $1.00  
</TABLE>

                                       6
<PAGE>
 
4.  CONTINGENCIES

     The Company filed suit against Micro Component Technology, Inc. ("MCT") in
the United States District Court for the Northern District of California on July
6, 1994. The complaint alleged that MCT was infringing United States Letters
Patent No. 4,724,378 owned by the Company for a "Calibrated Automatic Test
System" (the "'378 Patent"). The Company sought both injunctive relief and
monetary damages. On January 4, 1995, MCT answered the complaint, denying
infringement and alleging as a defense that the '378 Patent is invalid and
unenforceable. MCT further alleged that it had sold all of its rights to the
allegedly infringing product to Megatest Corporation ("Megatest"). Accordingly,
on January 30, 1995, the Company filed a motion to amend its complaint to add
Megatest as a defendant, seeking injunctive relief and monetary damages. On
March 22, 1995, the Court granted the Company's motion to amend its complaint.
Megatest answered the amended complaint on April 24, 1995, denying the claim of
infringement and asserting a counterclaim for declaratory judgment, declaring
that it has not infringed the '378 Patent and that the '378 Patent is invalid
and unenforceable. On May 25, 1995, Credence and MCT executed a settlement
agreement pursuant to which MCT paid a royalty for past sales and agreed to the
entry of an injunction against it regarding the '378 Patent. Credence and
Megatest subsequently negotiated a settlement, and settlement documents were
transmitted for execution in November 1995.  In December 1995, Megatest rejected
the settlement and refused to execute the settlement documents. On February 21,
1996, the Company filed a motion to enforce the terms of the negotiated
settlement between the Company and Megatest, which motion was denied by the
Court after a hearing on April 12, 1996. The Company thereafter amended its
complaint with leave of Court to assert a claim against Megatest for breach of
the settlement agreement to which the Company contends the parties agreed.
Accordingly, Credence is now pursuing its breach of settlement agreement claim
and its patent infringement claim against Megatest.  Trial on Credence's
settlement agreement claims and patent related claims has been bifurcated, such
that the former will be tried first.  Megatest has filed a motion for summary
judgment on the settlement claims, which is scheduled for hearing on July 1,
1997.  Trial on the settlement claims is currently scheduled to commence on July
14, 1997.

     On June 11, 1996, a lawsuit was commenced against the Company by Megatest
in the United States District Court for the Northern District of California, in
an action styled Megatest Corporation v. Credence Systems Corporation, Civil
Action No. C-96-20472.  The complaint alleges that the Company has, in
connection with its sales of the Vista and Duo Series Testers, infringed United
States Letters Patent Number 4,806,852 (the "'852 Patent"), issued on February
21, 1989, which patent is directed to an "Automatic Test System With Enhanced
Performance Of Timing Generators." The complaint includes a claim for injunctive
relief, as well as claims for an accounting, lost profits and damages, an
assessment of interest and costs, and an award of attorneys' fees pursuant to 35
U.S.C. (S)285.  The Company answered the complaint on July 3, 1996, denying the
claim of infringement, and asserting a counterclaim for a declaratory judgment
that it has not infringed the '852 Patent and that the '852 Patent is invalid
and unenforceable.  The parties have recently commenced fact discovery, which is
not expected to end until January 5, 1998.  Trial is scheduled for June 1, 1998.
Based upon information known at this time, the Company believes that it has
meritorious defenses to Megatest's claims.

     On June 11, 1996, a lawsuit was commenced against the Company by Teradyne,
Inc. ("Teradyne") in the United States District Court for the Central District
of California, in an action styled Teradyne, Inc. v. Credence Systems
Corporation, Civil Action No. C-96-4121JGD(Ex).  The complaint alleges that the
Company has, in connection with its sales of the Vista and Duo Series Testers,
infringed United States Letters Patent Number 4,231,104 (the "'104 Patent"),
issued on October 28, 1980, which patent is directed to "Generating Timing
Signals."  The complaint includes a claim for injunctive relief, as well as
claims for an accounting, lost profits and damages, an assessment of interest
and costs, and an award of attorneys' fees pursuant to 35 U.S.C. (S)285.  The
Company answered the complaint on July 9, 1996, denying the claim of
infringement, and asserting a counterclaim for a declaratory judgment that it
has not infringed the '104 Patent and that the '104 Patent is invalid and
unenforceable.  Discovery is ongoing. A trial date has been set for December 2,
1997.  Based on information known at this time, the Company believes that it has
meritorious defenses to Teradyne's claims.

     On November 8, 1996, Credence filed a complaint against Teradyne in the
United States District Court for the Northern District of California, in an
action styled Credence Systems Corporation v. Teradyne, Inc., Civil Action No.
C96-4061 (SBA).  The complaint alleges that Teradyne is infringing United States
Letters Patent No. 4,902,986 (the "'986 patent") owned by the Company and
directed toward a "Phased Locked Loop to Provide Precise Frequency and Phase
Tracking of Two Signals."  The Company's complaint seeks injunctive relief, as
well as an 

                                       7
<PAGE>
 
accounting, lost profits and damages, an assessment of interest and costs, and
an award of attorneys' fees pursuant to 35 U.S.C. (S)285. In response, Teradyne
served a motion to dismiss or for more definite statement. On May 2, 1997,
Credence filed an amended complaint which includes additional claims for unfair
competition and antitrust violations. In response, Teradyne served a motion to
dismiss. Teradyne brought its defenses to the original complaint in the form of
a separate complaint seeking a declaration of invalidity of the '986 Patent.
This lawsuit, styled Teradyne, Inc. v. Credence Systems Corporation, Civil
Action No. 97-00149, brought in the United States District Court for the
Northern District of California, was consolidated with the prior pending action.

     The Company is involved in various claims arising in the ordinary course of
business, none of which, including the above Megatest and Teradyne litigation
matters, in the opinion of management, if determined adversely against the
Company, will have a material adverse effect on the Company's business,
financial condition or results of operations.

5.  SUBSEQUENT EVENTS

     On May 19, 1997, the Company and one of its subsidiaries and Summit Design,
Inc. and one of its subsidiaries entered into a definitive agreement for the
Company to acquire certain assets and assume certain liabilities of Test Systems
Strategies, Inc., an Oregon developer of software products for test equipment,
for $5.0 million.

     The Companies also announced that they have entered into definitive
agreements for the Company to purchase approximately $20.0 million of Summit's
Visual Testbench product licences and related interfaces and maintenance
services.

     The consummation of these transactions are subject to customary closing 
conditions.

ITEM 2  - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
          RESULTS OF OPERATIONS

     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 the section entitled "Future Operating Results" and
"Additional Risk Factors" below. The Company undertakes no obligation to
publicly release the result of any revisions to these forward-looking statements
which may be made 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 Income
Statements as a percentage of net sales for the periods indicated:

<TABLE>
<CAPTION>
                                                       THREE MONTHS ENDED APRIL 30,  SIX MONTHS ENDED APRIL 30,
                                                      ---------------------------------------------------------
                                                           1997           1996          1997           1996
                                                      ------------     ----------    ----------     -----------
     <S>                                              <C>               <C>          <C>            <C>
     Net sales.......................................     100.0%         100.0%        100.0%          100.0% 
     Cost of goods sold..............................      42.4           39.9          45.2            40.0  
                                                          -----          -----         -----           -----  
     Gross margin....................................      57.6           60.1          54.8            60.0  
     Operating expenses                                                                                       
        Research and development.....................      20.7           14.2          21.2            13.9  
        Selling, general, and administrative.........      27.6           21.2          28.0            21.1  
                                                          -----          -----         -----           -----  
           Operating expenses........................      48.3           35.4          49.2            35.0  
                                                          -----          -----         -----           -----  
     Operating income................................       9.3           24.7           5.6            25.0  
     Interest income, net............................       2.0            1.6           2.2             1.7  
                                                          -----          -----         -----           -----  
     Income before income taxes......................      11.3           26.3           7.8            26.7  
     Income taxes....................................       3.7            9.3           2.6             9.5  
                                                          -----          -----         -----           -----  
     Net income......................................       7.6%          17.0%          5.2%           17.2% 
                                                          =====          =====         =====           =====   
</TABLE>

                                       8
<PAGE>
 
RESULTS OF OPERATIONS

NET SALES

     Net sales consist of revenues from systems sales, spare parts sales and
maintenance contracts. Net sales were $43.4 million for the second quarter and
$83.6 for the first six months of fiscal 1997, representing decreases of 34.8%
and 34.4%, respectively, over the comparable periods of fiscal 1996. These
decreases were due primarily to delays in commitments to new test capacity by
customers as a result of the recent downturn in the semiconductor industry.
International net sales accounted for approximately 71.0% and 73.0% of the total
net sales for the second quarter and first six months of fiscal 1997,
respectively, compared to approximately 66.5% and 67.2% for the comparable
period a year ago. The Company's international sales of its products and spare
parts and its service revenues are denominated primarily in United States
dollars.

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. Gross margin was 57.6% for the second quarter and
54.8% for the first six months of fiscal 1997, compared with 60.1% for the
second quarter and 60.0% for the first six months of fiscal 1996.  The reduction
in gross margin as a percent of sales was due primarily to an increase in the
first quarter of fiscal 1997 in inventory reserves on slower moving parts of
older products and changes in product mix.

RESEARCH AND DEVELOPMENT

     Research and development expenses were $8.9 million in the second quarter
of fiscal 1997,  a slight decrease of $0.5 million or 5.3% as compared to the
second quarter of fiscal 1996.  Research and development expenses were $17.8
million in the first six months of fiscal 1997, which was comparable, in
dollars, to expenses for the first six months of fiscal 1996.  As a percentage
of net sales, these expenses were 20.7% for the second quarter and 21.2% for the
first six months of fiscal 1997, compared with 14.2% for the second quarter and
13.9% for the first six months of 1996.  The increase of these expenses as a
percentage of net sales is attributable primarily to the significant decrease in
net sales in fiscal 1997 as compared with the comparable periods of fiscal 1996.
The Company currently intends to continue to invest significant resources in the
development of new products and enhancements for the foreseeable future.
Accordingly, the Company expects these expenses to increase in dollars for the
remainder of fiscal 1997 as compared to fiscal 1996 due to the introduction of
new products in the latter half of the year.

SELLING, GENERAL AND ADMINISTRATIVE

     Selling, general and administrative expenses were $12.0  million in the
second quarter and $23.4 million for the first six months of fiscal 1997,
representing decreases of $2.1 million or 14.9% and $3.5 million or 12.9%,
respectively, over the comparable periods of fiscal 1996.  As a percentage of
net sales, these expenses were 27.6% for the second quarter and 28.0% for the
first six months of fiscal 1997, compared with 21.2% and 21.1%, respectively,
for the corresponding periods in fiscal 1996. The increase of these expenses as
a percentage of net sales is attributable primarily to the significant decrease
in net sales in fiscal 1997 as compared with the comparable periods of fiscal
1996. The Company expects selling, general and administrative expenses for the
rest of fiscal 1997 to increase slightly in dollars as compared to fiscal 1996
due to the introduction of new products in the latter half of the year.

INTEREST INCOME, NET

     The Company generated net interest income of $0.9 million for the second
quarter and $1.9 million for the first six months of fiscal 1997, compared to
$1.0 million and $2.1 million, respectively, for the corresponding periods of
fiscal 1996. The slight decrease was due primarily to interest earned on lower
average cash and cash equivalents and short-term investments balances during the
period. The lower cash and cash equivalents and short-term investments balances
reflected decreased cash provided by operations.

                                       9
<PAGE>
 
INCOME TAXES

     The Company's provision for income taxes for the second quarter and for the
first six months of fiscal 1997 is computed based on the projected annualized
effective tax rate of 33.5% applied to fiscal year-to-date book income.  The
effective tax rate for the second quarter and the six months of fiscal 1996 was
35.1% and 35.6%, respectively.  The projected effective tax rate for fiscal 1997
is expected to be less than the combined federal and state statutory rate
primarily due to the projected benefit of the Company's foreign sales
corporation.

LIQUIDITY AND CAPITAL RESOURCES

     Net cash provided by operating activities was $4.6 million and $19.7
million for the six months ended April 30, 1997 and 1996, respectively. Net cash
flows provided by operating activities for the six months ended April 30, 1997
were primarily attributable to a decrease in accounts receivable, offset in sort
by an increase in inventory, some of which was transfered to property and
equipment ($5.6 million), and reductions in accounts payable and accrued
liabilities. Investing activities provided net cash of $3.4 million and used net
cash of $25.7 million for the six months ended April 30, 1997 and 1996,
respectively.  In the first six months of fiscal 1997, the Company experienced a
net reduction of $9.7 million in short-term investments while also purchasing
$5.0 million of property and equipment. Net cash provided by financing
activities was $0.8 million and $0.1 million for the six months ended April 30,
1997 and 1996, respectively.

     As of April 30, 1997, the Company had working capital of approximately
$148.1 million, including cash and short-term investments of $89.7 million,
$41.2 million of accounts receivable and $35.7 million of inventories. The
Company expects 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, investments in inventories
will also continue to represent a significant portion of working capital.
Additionally, the Company expects to continue investing in inventories for its
new products, which may be slower moving at the beginning of the product
introduction cycle.  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 liabilities of $33.3 million as of October 31, 1996 decreased
to $26.6 million as of April 30, 1997. The $6.7 million decrease was due
primarily to decreases in accounts payable by $5.0 million and accrued
liabilities by $2.7 million.

     The Company's principal sources of liquidity as of April 30, 1997 consisted
of approximately $57.5 million of cash and cash equivalents, short-term
investments of $32.2 million and $20.0 million available under the Company's
unsecured working capital line of credit expiring on July 25, 1997. As of April
30, 1997, no amounts were outstanding under the secured line of credit.
Additionally, as of April 30, 1997, the Company has operating leases for test
and other equipment totalling approximately $7.4 million.

FUTURE OPERATING RESULTS

     The Company's operating results have in the past fluctuated significantly
and will in the future fluctuate significantly depending upon a variety of
factors, including the timing of new product announcements and releases by the
Company or its competitors; market acceptance of new products and enhanced
versions of the Company's products; manufacturing inefficiencies associated with
the start up of new products; changes in pricing by the Company, its
competitors, customers or suppliers; manufacturing capacity; the ability to
produce systems in volume and meet customer requirements; inventory
obsolescence; patterns of capital spending by customers; delays, cancellations
or rescheduling of 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,
subassemblies and services; expenses associated with acquisitions and alliances;
product discounts; customization and reconfiguration of systems; the proportion
of direct sales and sales through third parties, including distributors and
original equipment manufacturers; the mix of products sold; the length of
manufacturing and sales cycles; cyclicality or downturns in the semiconductor
market and the markets served by the Company's customers; natural disasters;
political and economic instability; regulatory changes; and outbreaks of
hostilities.  The Company presently intends to introduce many new products and
product enhancements in this current fiscal year which will affect its business
condition.  The Company's gross margin on system sales has varied and will
continue to vary based on a variety of factors, including manufacturing
efficiencies, pricing by competitors 

                                       10
<PAGE>
 
or suppliers, product sales mix, production volume, new product introductions,
customization and reconfiguration of systems, international and domestic sales
mix and field service margins. In addition, new and enhanced products typically
have lower gross margins in the early stages of commercial introduction and
production. While the Company has recorded and continues to record allowances
for estimated sales returns and uncollectible accounts, there can be no
assurance that such estimates regarding allowances will be adequate.

ADDITIONAL RISK FACTORS

Limited System Sales; Backlog

     The Company derives a substantial portion of its net sales from the sale of
a relatively small number of systems that typically range in price from $350,000
to $2.0 million, excluding the current memory products for which the price range
is typically below $100,000. As a result, the timing of recognition of revenue
from a single transaction could have a significant impact on the Company's net
sales and operating results for a particular period. The Company's net sales and
operating results for a particular period could be materially adversely affected
if an anticipated order for even one system is not received in time to permit
shipment during that period. The Company's backlog at the beginning of a quarter
typically does not include all tester orders needed to achieve the Company's
sales objectives for that quarter. In addition, orders in backlog are subject to
cancellation, delay, deferral or rescheduling by a customer with limited or no
penalties. Consequently, the Company's net sales and operating results for a
quarter have in the past and will in the future depend upon the Company
obtaining orders for systems to be shipped in the same quarter that the order is
received. Furthermore, products generating most of the Company's net sales
continue to be shipped near the end of each quarter. Accordingly, as experienced
in the first quarter of 1997, the failure to receive an anticipated order or a
delay or rescheduling in a shipment near the end of a particular period due, for
example, to an order cancellation, a delay by a customer, manufacturing,
technical, reliability or other difficulties, including difficulties relating to
customization and reconfiguration of systems, a delay in the supply of
components, subassemblies or services or a delay due to competitive or economic
factors, may cause net sales in a particular period to fall significantly below
the Company's expectations, which would have a material adverse effect upon the
Company's business, financial condition or results of operations. The relatively
long manufacturing cycle of many of its testers has caused and could continue to
cause future shipments of such products to be delayed from one quarter to the
next, which could materially adversely affect the Company's business, financial
condition or results of operations. Furthermore, announcements by the Company or
its competitors of new products and technologies could cause customers to defer
or cancel purchases of the Company's existing systems, which could also have a
material adverse effect on the Company's business, financial condition or
results of operations. The impact of these and other factors on the Company's
sales and operating results in any future period cannot be forecasted with
certainty. In addition, the need for continued significant expenditures for
research and development, marketing expenses for new products, capital equipment
purchases and worldwide training and customer service and support, among other
factors, will make it difficult for the Company to reduce significantly its
fixed expenses in a particular period if the Company's net sales goals for such
period are not met.  Accordingly, there can be no assurance that the Company
will be able to remain profitable or that it will not sustain losses in future
periods. Due to all of the foregoing factors, it is likely that in some future
quarter the Company's operating results will be below the expectations of public
market analysts and investors, as they were in the first quarter of 1997. In
such event, the price of the Company's common stock may be materially adversely
affected.

Cyclicality of Semiconductor Industry

     The Company's business and results of operations depend in significant part
upon the capital expenditures of manufacturers of semiconductors and companies
which specialize in contract packaging and/or testing of semiconductors,
including 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. Historically, 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 manufactured and marketed by the Company. The Company
believes that the markets for newer generations of semiconductors will also be
subject to similar fluctuations.  Although the most recent monthly book-to-bill
ratios have exceeded billings, bookings levels for the semiconductor industry
remain significantly below levels from the comparable period one year ago.
Additional evidence of an existing industry downturn is exhibited by
announcements by several semiconductor manufacturers of delays or 

                                       11
<PAGE>
 
cancellations of previously planned capacity additions and continued weakness in
pricing. The Company has in the past experienced shipment delays and purchase
order restructurings by several of its customers and anticipates that this trend
may continue. Accordingly, the Company can give no assurance that it will be
able to achieve or maintain its current or prior level of sales, or rate of
growth. Additionally, based on current market conditions, the Company presently
expects that future quarterly comparisons, through at least the third quarter of
1997, will indicate a period-over-comparable period decline in the Company's net
sales. Prior to the recent downturn, the semiconductor industry had experienced
significant growth which, in turn, had caused significant growth in the capital
equipment industry in the three years preceding the downturn. There can be no
assurance that such growth will resume. The Company anticipates that a
significant portion of new orders may depend upon demand from semiconductor
device manufacturers building or expanding fabrication facilities, new device
testing requirements not addressable by currently installed test equipment, and
there can be no assurance that such demand will exist. In addition, any factor
adversely affecting the semiconductor industry or particular segments within the
semiconductor industry may adversely affect the Company's business, financial
condition or results of operations. Therefore, there can be no assurance that
the Company's operating results will not be materially adversely affected if
downturns or slowdowns in the semiconductor industry occur again in the future.

     The Company has over the last three years experienced a period of annual
growth. Since 1993, the Company has significantly increased the scale of its
operations to support increased sales levels and has expanded its 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 March 1995 acquisition of EPRO and the
Company's establishment of relationships in Asia.  In this regard, the Company
relocated its principal office in Fremont, California and EPRO's operations in
Santa Clara, California to a larger facility in Fremont, California in July
1996.  Due to the recent slowdown in the semiconductor industry, the Company has
experienced contractions which have placed considerable strain on its
management, financial, manufacturing and other resources.  In order to
effectively deal with the changes brought on by the cyclical nature of the
industry, the Company has been required to implement and improve a variety of
operating, financial and other systems, procedures and controls. There can be no
assurance that any existing or new systems, procedures or controls will be
adequate to support the Company's operations or that its systems, procedures and
controls will be designed, implemented or improved in a cost effective and
timely manner. Any failure to implement, improve and expand or contract such
systems, procedures and controls in an efficient manner at a pace consistent
with the Company's business could have a material adverse effect on the
Company's business, financial condition or results of operations.

Expansion of Operations

     Currently, the Company is devoting significant resources to the development
of new products and technologies.  During 1997, the Company will conduct
evaluations of these products and may decide to invest significant additional
resources in plant and equipment, inventory, personnel and other costs, to begin
production of these products and to provide the marketing, administration and
after-sales support required to support these new products.  According, there
can be no assurance that gross profit margin and inventory levels will not be
adversely impacted in the future by start-up costs associated with the initial
production of these new product lines.  These start-up costs include, but are
not limited to, additional manufacturing overhead, additional inventory reserve
requirements and the creation of after-sales  support organizations.
Additionally, there can be no assurance that operating expenses will not
increase, relative to sales, as a result of adding additional marketing and
administrative personnel, among other costs, to support the Company's additional
products.  If the Company is unable to achieve significantly increased net sales
or its sales fall below expectations, the Company's operating results will be
materially adversely affected.

     There can be no assurance that net sales will increase or remain at recent
levels or that the Company's systems, procedures and controls will be adequate
to support the Company's operations.  The Company's financial results depend
significantly on its ability to continue to implement, improve and expand its
systems, procedures and controls in an efficient manner and failure to do so
could have a material adverse effect on the Company's business, financial
condition and results of operations.

                                       12
<PAGE>
 
Limited Sources of Supply; Reliance on Subcontractors

     Certain components, subassemblies and services necessary for the
manufacture of the Company's testers are obtained from a limited group of
suppliers. The Company does not maintain any long-term supply agreements with
any of its vendors and purchases its components and subassemblies through
individual purchase orders. The manufacture of certain of the Company's
components and subassemblies is an extremely complex process. The Company also
relies on outside vendors to manufacture certain components and subassemblies
and to provide certain services. In addition, the Company and certain of its
subcontractors  periodically experience significant shortages and delays in
delivery of various components and subassemblies.  There can be no assurance
that these or other problems will not continue to occur in the future with these
or the Company's other suppliers or outside subcontractors. The Company's
reliance on a limited group of suppliers, and the Company's reliance 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 has delayed and could
continue to delay shipments of the Company's systems and could have a material
adverse effect on the Company's business, financial condition or results of
operations. Any continuing inability to obtain adequate yields or timely
deliveries or any other circumstance that would require the Company to seek
alternative sources of supply or to manufacture such components internally,
could have a material adverse effect on the Company's business, financial
condition or results of operations. Such delays, shortages and disruptions would
also damage relationships with current and prospective customers and could allow
competitors to penetrate such customer accounts. There can be no assurance that
the Company's internal manufacturing capacity and that of its suppliers and
subcontractors will be sufficient to meet customer requirements.

Highly Competitive Industry

     The ATE industry is intensely competitive. Because of the substantial
investment required to develop test application software and interfaces, the
Company believes that once a semiconductor manufacturer has selected a
particular ATE vendor's tester, the semiconductor 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
testing of a particular device, it is difficult for competing vendors to achieve
significant ATE sales to such customer for similar use. The inability of the
Company to achieve significant sales to each ATE customer could have a material
adverse effect on the Company's business, financial condition or results of
operations.

     The Company faces substantial competition throughout the world, primarily
from ATE manufacturers located in the United States, Europe and Japan, as well
as several of the Company's customers. Many of the Company's competitors have
substantially greater financial and other resources with which to pursue
engineering, manufacturing, marketing and distribution of their products.
Certain of the Company's competitors have recently introduced or announced new
products with certain performance or price characteristics equal or superior to
certain products currently offered by the Company. The Company believes that if
the ATE industry continues to consolidate through strategic alliances or
acquisitions, as evidenced by acquisitions of a tester product line of Micro
Component Technology, Inc. by Megatest Corporation ("Megatest") and of Megatest
by Teradyne, the Company will continue to face significant additional
competition from larger competitors that may offer more complete product lines
and services than the Company. The Company's 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 the Company's
competitors could continue to cause a decline in sales or loss of market
acceptance of the Company's existing products. Moreover, increased competitive
pressure could continue to lead to intensified price-based competition, which
could materially adversely affect the Company's business, financial condition or
results of operations. The Company has experienced and continues to experience
significant price competition in the sale of all of its testers. In addition, at
the end of a product life cycle and as competitors introduce more
technologically advanced products, pricing pressures typically become more
intense. The Company believes that to be competitive, it will continue to
require significant financial resources in order to, among other items, invest
in new product development and enhancements and to maintain customer service and
support centers worldwide. There can be no assurance that the Company will be
able to compete successfully in the future.

                                       13
<PAGE>
 
Rapid Technological Change; Importance of Timely Product Introduction

     The ATE market is subject to rapid technological change and new product
introductions and enhancements and related software tools. The Company's ability
to be competitive in this market will depend in significant part upon its
ability to successfully develop and introduce new products and enhancements and
related software tools with greater features on a timely and cost-effective
basis, including the products under development acquired in the EPRO merger. The
Company's customers require testers with additional features and higher
performance and other capabilities. The Company is therefore required to enhance
the performance and other capabilities of its existing systems and related
software tools. Any success by the Company in developing new and enhanced
systems and related software tools and new features to its existing systems
depends upon a variety of factors, including product selection, timely and
efficient completion of product design, timely and efficient implementation of
manufacturing and assembly processes, product performance in the field and
effective sales and marketing. Because new product development commitments must
be made well in advance of sales, new product decisions must anticipate both
future demand and the availability of technology to satisfy that demand. There
can be no assurance that the Company will be successful in selecting,
developing, manufacturing and marketing new products or enhancements and related
software tools. The inability of the Company 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 the Company's business,
financial condition or results of operations. In addition, new product or
technology introductions by the Company's competitors could cause a decline in
sales or loss of market acceptance of the Company's existing products.

     Significant delays can occur between a system's introduction and the
commencement by the Company of volume production of such system. The Company has
been and is experiencing significant delays in the introduction, volume
production and sales of its systems and related feature enhancements, including
new models within the digital, mixed-signal and non-volatile memory product
lines, due to technical, manufacturing, parts shortages, component reliability
and other difficulties and may continue to experience similar delays in the
future. As a result, certain of the Company's significant customers have
experienced significant delays in receiving and using certain of the Company's
testers in production. There can be no assurance that these or additional
difficulties will not continue to arise in the future with respect to the
Company's systems and that such delays will not materially adversely affect
customer relationships and future sales. Moreover, there can be no assurance
that the Company will not encounter these or other difficulties that could delay
future introductions or volume production or sales of its systems or
enhancements and related software tools. The Company has incurred and may
continue to incur substantial unanticipated costs to ensure the functionality
and reliability of its testers and to increase feature sets. If the Company's
systems continue to have reliability, quality or other problems, or the market
perceives certain of the Company's products to be feature deficient, reduced
orders, higher manufacturing costs, delays in collecting accounts receivable and
higher service, support and warranty expenses, or inventory write-offs, among
other items, could result. The Company's failure to have a competitive tester
and related software tools available when required by a semiconductor
manufacturer could make it substantially more difficult for the Company to sell
testers to that manufacturer for a number of years. The Company believes that
the continued acceptance, volume production, timely delivery and customer
satisfaction of its newer digital, mixed signal and non-volatile memory testers
are of critical importance to its future financial results. As a result, an
inability to correct any technical, reliability, parts shortages or other
difficulties associated with the Company's systems or to manufacture and ship
the Company's systems on a timely basis to meet customer requirements could
damage relationships with current and prospective customers and would materially
adversely affect the Company's business, financial condition or results of
operations.

Customer Concentration; Lengthy Sales Cycle

     During the six months ended April 30, 1997, one customer accounted for 15%
of the Company's net sales.  Another customer (a distributor) accounted for 25%,
17% and 13% of the Company's net sales in fiscal 1996, 1995 and 1994,
respectively. The loss of or any reduction in orders by a significant customer,
including losses or reductions due to continuing or other technical,
manufacturing, reliability or other difficulties associated with the Company's
products or market, economic or competitive conditions in the semiconductor
industry or in other industries that manufacture products utilizing
semiconductors could materially adversely affect the Company's business,
financial condition or results of operations. The Company's ability to maintain
or increase its sales levels in the future will depend in significant part upon
its ability to obtain orders from existing and new customers and to manufacture
systems on a timely and cost-effective basis, the financial condition and
success of its customers, 

                                       14
<PAGE>
 
general economic conditions, and the Company's ability to meet increasingly
stringent customer performance and other requirements and shipment delivery
dates. There can be no assurance that the Company will be able to maintain or
increase the level of its net sales in the future or that the Company will be
able to retain existing customers or attract new ones.

     Sales of the Company's systems depend in significant part upon the decision
of a semiconductor manufacturer to develop and manufacture new semiconductor
devices or to increase manufacturing capacity. As a result, sales of the
Company's testers are subject to a variety of factors outside of the Company's
control. In addition, 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,
the Company's systems have lengthy sales cycles during which the Company may
expend substantial funds and management effort to secure a sale and subject the
Company to a number of significant risks.

Dependence on Key Personnel;

     The Company's future operating results depend in significant part upon the
continued service of its key personnel, none of whom are bound by an employment
or non-competition agreement. The Company's future operating results also depend
in significant part upon its ability to attract and retain qualified management,
manufacturing, technical, engineering and marketing and sales and support
personnel. Competition for such personnel is intense, and there can be no
assurance that the Company will be successful in attracting or retaining such
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 the
Company to hire such personnel over time. The loss of any key employee, the
failure of any key employee to perform in his or her current position, or the
Company's inability to attract and retain skilled employees, as needed, could
materially adversely affect the Company's business, financial condition or
results of operations.

     Recently, the Company has experienced an increased level of employee
turnover.  The Company believes that this increase is due to several factors,
including the recent semiconductor industry slowdown; an expanding economy
within the geographic area that the Company maintains its principal business
offices, making it more difficult for the Company to retain its employees; and
the declining value of stock options granted to employees, relative to their
total compensation, as a result of full vesting of options granted prior to the
Company's initial public offering and significant numbers of options granted at
prices in excess of the current market value of the Company's stock.  Due to
these and other factors, the Company may continue to experience high levels of
employee turnover, which could materially adversely impact the Company's
business, financial condition and results of operations.

International Sales

     International sales accounted for approximately 73%, 67% and 55% of total
net sales for the first six months of fiscal 1997, 1996 and 1995, respectively.
The Company anticipates that international sales will continue to account for a
significant portion of total net sales in the foreseeable future. As a result,
these 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, original equipment manufacturers, foreign subsidiaries and
branch operations, potentially adverse tax consequences and the possibility of
difficulty in accounts receivable collection. The Company is also subject to the
risks associated with the imposition of legislation and regulations relating to
the import or export of semiconductor equipment. The Company cannot predict
whether quotas, duties, taxes or other charges or restrictions will be
implemented by the United States or any other country upon the importation or
exportation of the Company's products in the future. Any of these factors or the
adoption of restrictive policies could have a material adverse effect on the
Company's business, financial condition or results of operations.

Proprietary Rights

     The Company attempts to protect its intellectual property rights through
patents, trade secrets and other measures, including confidentiality agreements.
There can be no assurance that others will not independently develop
substantially equivalent proprietary information and techniques or otherwise
gain access to the Company's trade 

                                       15
<PAGE>
 
secrets and other intellectual property rights or disclose such technology or
that the Company can meaningfully protect its trade secrets or other
intellectual property rights. In connection with the Company's patent
infringement litigation cases, Megatest and Teradyne challenged the validity and
enforceability of two of the Company's patents. There can be no assurance that
these or any other patents owned by the Company will not be invalidated, deemed
unenforceable, circumvented or challenged, or that the rights granted thereunder
will provide competitive advantages to the Company or that any of the Company's
pending or future patent applications will be issued with claims of the scope
sought by the Company, if at all. Furthermore, there can be no assurance that
others will not develop similar products, duplicate the Company's products or
design around the patents owned by the Company. In addition, there can be no
assurance that foreign intellectual property laws or the Company's agreements
will protect the Company's intellectual property rights. Failure to protect the
Company's intellectual property rights could have a material adverse effect upon
the Company's business, financial condition or results of operations. In
addition to those patent infringement suits discussed in Item 4 hereof, the
Company has been involved in extensive, expensive and time consuming review of
patent infringement claims. In addition, the Company has at times been notified
of other claims that it may be infringing intellectual property rights possessed
by third parties.

     The European patent application relating to one of the proprietary CMOS
stabilization methods owned by the Company was abandoned by the prior owner
after the European patent examiner cited prior art. This prior art was not
referenced in the corresponding United States patent application. Based upon its
review to date of the cited prior art and the European examiner's objections,
and in part upon the advice of Smith-Hill and Bedell, P.C., outside patent
counsel to the Company ("SHB"), the Company believes that such prior art is
unlikely to affect the validity or scope of the claims of the United States
issued patent.

     This prior art may, however, render invalid or significantly narrow the
scope of certain claims set forth in the United States patent covering the
Company's other proprietary CMOS stabilization method. The European examiner
referred to this prior art in the corresponding European patent application. The
European application was approved, but with narrower claims than the United
States patent. This prior art was not referenced in the corresponding United
States patent. Based in part upon the advice of SHB, and on the Company's review
of its current products, the Company believes that this patent will continue to
be valuable to the Company in preventing imitation of the Company's products
covered by this patent. Additionally, in mid-1992, a third party suggested that
certain claims set forth in this patent might be invalid as a result of other
alleged prior art. The Company believes, based in part upon the advice of SHB,
that the prior art alleged by the third party is less relevant than the prior
art referenced by the European examiner.  However, there can be no assurance
that any of the aforementioned prior art or other prior art will not be
successfully asserted and used to invalidate or narrow the scope of any claim of
the United States patents or any other patents or other patent applications of
the Company.

     Certain of the Company's customers have received notices of infringement
from Jerome Lemelson alleging that the manufacture of semiconductor products
and/or the equipment used to manufacture semiconductor products infringes
certain patents issued to such person. The Company was notified by a customer in
1990 and a different customer in late 1994 that the Company may be obligated to
defend or settle claims that the Company's products infringe such person's
patents, and, in the event it is subsequently determined that the customer
infringes such person's patents, such customer intends to seek reimbursement
from the Company for damages and other related expenses. There can be no
assurance that the Company will be successful in defending current or future
patent infringement claims or claims for indemnification resulting from
infringement claims.  An award of damages, injunctive relief or expenditures by
the Company of significant amounts in defending any such action could materially
adversely affect the Company's business, financial condition or results of
operations, regardless of the outcome of any litigation. With respect to any
claims, the Company may seek to obtain a license under the third party's
intellectual property rights. There can be no assurance, however, that a license
will be available on reasonable terms or at all. The Company could decide, in
the alternative, to continue to resort to litigation to challenge such claims.
Such challenges have been and could continue to be extremely expensive and time
consuming, and could materially adversely affect the Company's business,
financial condition or results of operations, regardless of the outcome of any
litigation.

                                       16
<PAGE>
 
Acquisitions

     The Company has developed in significant part through mergers and
acquisitions.  It intends to acquire certain assets and assume certain
liabilities of Test Systems Strategies, Inc., an Oregon developer of software
products for test equipment, in July, 1997.  The Company intends in the future
to pursue additional acquisitions of complementary product lines, technologies
or businesses. Any future acquisitions by the Company, if any, could result in
potentially dilutive issuances of equity securities, the incurrence of debt and
contingent liabilities, expenditures and reserves, and amortization expenses
related to goodwill and other intangible assets, which could materially
adversely affect the Company's business, financial condition or results of
operations. In addition, acquisitions involve numerous risks, including
difficulties in the assimilation of the operations, technologies and products of
the acquired companies, the diversion of management's attention from other
business concerns, risks of entering markets in which the Company has no or
limited direct prior experience, and the potential loss of key employees of the
acquired company. From time to time, the Company has engaged in and may continue
to engage in discussions with third parties concerning potential acquisitions of
product lines, technologies and businesses. In the event that such an
acquisition does occur, however, there can be no assurance as to the effect
thereof on the Company's business, financial condition or results of operations.

Future Capital Needs

     The development and manufacture of new ATE systems and enhancements are
highly capital intensive. In order to be competitive, the Company must make
significant investments in capital equipment, expansion of operations, systems,
procedures and controls, research and development and worldwide training,
customer service and support, among many items. The Company expects that cash on
hand, short-term investments, its bank line of credit, anticipated cash flow
from operations and equipment lease arrangements will satisfy its financing
requirements for at least the next 12 months.

Volatility of Stock Price

     The Company believes that factors such as announcements of developments
related to the Company's business, fluctuations in the Company's financial
results, general conditions or developments in the semiconductor and capital
equipment industry and the general economy, sales of the Company's common stock
into the marketplace, an outbreak of hostilities, natural disasters,
announcements of technological innovations or new products or enhancements by
the Company or its competitors, developments in patents or other intellectual
property rights, developments in the Company's relationships with its customers
and suppliers, or a shortfall or changes in revenue, gross margins or earnings
or other financial results from analysts' expectations could cause the price of
the Company's common stock to fluctuate, perhaps substantially. In recent years
the stock market in general, and the market for shares of small capitalization
stocks in particular, including the Company, have experienced extreme price
fluctuations, which have often been unrelated to the operating performance of
affected companies. There can be no assurance that the market price of the
Company's common stock will not continue to experience significant fluctuations
in the future, including fluctuations that are unrelated to the Company's
performance.

Effects of Certain Anti-Takeover Provisions

     Certain provisions of the Company's Certificate of Incorporation, equity
incentive plans, Bylaws and Delaware law may discourage certain transactions
involving a change in control of the Company.  In addition to the foregoing, the
Company's classified board of directors, the shareholdings of the Company's
officers, directors and persons or entities that may be deemed affiliates and
the ability of the Board of Directors to issue "blank check" preferred stock
without further stockholder approval could have the effect of delaying,
deferring or preventing a change in control of the Company and may adversely
affect the voting and other rights of holders of Common Stock.

                                       17
<PAGE>
 
PART II.  - OTHER INFORMATION


ITEM 1. LEGAL PROCEEDINGS

  Reference is made to Note 4 of notes to condensed consolidated financial
statements.

ITEM 2. CHANGES IN SECURITIES

  None

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

  None

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITYHOLDERS

     The following proposals were voted upon by the Company's stockholders at
the Annual Meeting of Stockholders held on March 26, 1997:

     1.   The following persons were duly elected as directors of the Company to
          serve for a three-year term ending upon the year 2000 Annual
          Stockholders' Meeting, until their successors are elected and
          qualified:

                                           Votes For              Votes Withheld
                                          ----------              --------------
          Henk J. Evenhuis                16,911,385                  876,716
          Bernard V. Vonderschmitt        16,907,220                  880,881

     2.   A proposal to amend the Company's 1993 Stock Option Plan to increase
          the number of shares of Common Stock reserved for issuance thereunder
          by an additional 500,000 shares to a total of 4,125,001 shares, among
          other features.

                          In Favor           Opposed               Withheld
                         ----------         --------               -------- 
                         15,457,582         1,647,032              456,368

     3.   A proposal to amend the Company's Employee Stock Purchase Plan to
          increase the number of shares reserved for issuance by an additional
          200,000 shares and to extend the termination date of such plan from
          December 31, 1998 to December 31, 2003, among other features.

                          In Favor           Opposed               Withheld
                        ----------           -------               --------
                        16,589,970           822,633               148,379

     4.   A proposal to ratify the election of Ernst & Young LLP, as the
          Company's independent auditors for the fiscal year ending October 31,
          1997 was approved as follows:

                          In Favor           Opposed               Withheld
                        ----------           -------               -------- 
                        17,731,043            29,700                27,358

ITEM 5. OTHER INFORMATION

     On May 19, 1997, the Company and one of its subsidiaries and Summit Design,
Inc. and one of its subsidiaries entered into a definitive agreement for the
Company to acquire certain assets and assume certain liabilities of Test Systems
Strategies, Inc., an Oregon developer of software products for test equipment,
for $5.0 million.

     The Company plans to continue marketing the TDS products and will provide
support to current TDS customers.  The acquisition of the TDS assets is subject
to standard closing conditions and is scheduled to close in early July, 1997.

     The companies also announced that they have entered into definitive
agreements for the Company to purchase approximately $20.0 million of Summit's
Visual Testbench product licenses and related interfaces and 

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<PAGE>
 
maintenance services. In addition, the Company and Summit will jointly develop
and market Summit's Visual Testbench product for integrated circuit (IC) test
purposes.

     The transactions will allow Credence to bundle TDS products and Summit's
Visual Testbench products with its automatic test equipment products.

     The consummation of these transactions are subject to customary closing 
conditions.

ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K

     (a)  See Exhibit Index on page 21.

     (b)  No reports on Form 8-K have been filed during the quarter ended April
          30, 1997.

                                       19
<PAGE>
 
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)
 

          June 13, 1997                         RICHARD Y.  OKUMOTO
    ----------------------------     -------------------------------------------
                Date                            Richard Y.  Okumoto
                                      Executive  Vice President, Chief Financial
                                                Officer and Secretary

                                       20
<PAGE>
 
EXHIBIT INDEX

 EXHIBIT
  NUMBER                                                                    PAGE
----------                                                                  ----

11.1           Computation of Net Income Per Share..........................  22

27.1           EDGAR Financial Data Schedule................................  23

99.1/(1)/      1993 Stock Option Plan.

99.2/(1)/      Form of Notice of Grant to be generally used in
               connection with the 1993 Stock Option Plan.

99.3/(1)/      Form of Stock Option Agreement to be generally used
               in connection with the 1993 Stock Option Plan.

99.4/(1)/      Addendum to Stock Option Agreement (Special Tax Elections).

99.5/(1)/      Addendum to Stock Option Agreement (Limited Stock
               Appreciation Rights).

99.6/(1)/      Addendum to Stock Option Agreement (Change in Control).

99.7/(1)/      Addendum to Stock Option Agreement (Financial Assistance).

99.8/(1)/      Form of Notice of Grant of Stock Option (Non-Employee
               Director) to be generally used in connection with the
               automatic option grant program of the 1993 Stock Option Plan.

99.9/(1)/      Form of Stock Option Agreement (Non-Employee Director) to be
               generally used in connection with the automatic option grant
               program to the 1993 Stock Option Plan.

99.10          Employee Stock Purchase Plan.................................  24

99.11/(1)/     Form of Stock Purchase Agreement.

99.12/(1)/     Form of Enrollment/Change Form.




___________________________________

/(1)/  Exhibits 99.1 through 99.9 and Exhibit 99.11 and 99.12 are incorporated
       herein by reference to identically numbered exhibits included in the
       Company's Registration Statement on Form S-8 (File No. 333-27499)
       declared effective with the Securities and Exchange Commission on 
       May 20, 1997.

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