UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

(Mark One)

For the fiscal year ended December 27, 2008January 2, 2010

OR

For the transition period from                    to                    

Commission file number: 0-13470

NANOMETRICS INCORPORATED

(Exact name of registrant as specified in its charter)

Registrant’s telephone number, including area code: (408) 545-6000

Securities registered pursuant to Section 12(b) of the Act:

Common Stock, $0.001 par value per share

The NASDAQ Stock Market LLC

(NASDAQ Global Market)

Securities registered pursuant to Section 12(g) of the Act:

None

Indicate by check mark if the Registrant is a well-known seasoned issuer as defined in Rule 405 of the Securities Act.    Yes  ¨    No  x.

Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.    Yes  ¨    No  x.

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 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  ¨.

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ¨    No  ¨.

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  ¨

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definitions of “large accelerated filer”, “accelerated filer”, and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer¨        Accelerated filer¨        Non-accelerated filerx        Smaller reporting company¨

Indicate by check mark whether the Registrant is a shell company (as defined by Rule 12b-2 of the Securities Exchange Act of 1934)    Yes  ¨    No  x.

As of June 28, 2008,27, 2009, the last business day of the Registrant’s most recently completed second fiscal quarter, the aggregate market value of the common stock of Registrant held by non-affiliates, based upon the closing sales price for the Registrant’s common stock for such date, as quoted on the NASDAQ Global Market, was $47,263,063.$35,537,595. Shares of common stock held by each officer and director and by each person who owned 5% or more of the outstanding common stock have been excluded because such persons may be deemed to be “affiliates” as that term is defined under the rules and regulations of the Exchange Act. This determination of affiliate status is not necessarily a conclusive determination for any other purpose.

The number of shares of the Registrant’s common stock outstanding as of March 17, 200919, 2010 was 18,501,717.21,572,108.

DOCUMENTS INCORPORATED BY REFERENCE

The Registrant has incorporated by reference into Part III of this Annual Report on Form 10-K portions of its Proxy Statement for its 20092010 Annual Meeting of Stockholders to be filed pursuant to Regulation 14A. The Proxy Statement will be filed within 120 days of Registrant’s fiscal year ended December 27, 2008.

January 2, 2010.

NANOMETRICS INCORPORATED

FORM 10-K

FOR THE FISCAL YEAR ENDED DECEMBER 27, 2008JANUARY 2, 2010

TABLE OF CONTENTS

Forward-Looking Statements

Certain statements contained in this Annual Report on Form 10-K that are not purely historical are “forward-looking statements” within the meaning of the federal securities laws, including, without limitation, statements regarding our expectations, beliefs, anticipations, commitments, intentions and strategies regarding the future. In some cases you can identify forward-looking statements by terms such as “may,” “could,” “would,” “might,” “will,” “should,” “expect,” “plan,” “intend,” “forecast,” “anticipate,” “believe,” “estimate,” “predict,” “potential,” “continue” or the negative of these terms or other comparable terminology. Actual results could differ from those projected in any forward-looking statements for the reasons, among others, detailed in “Risk Factors” in Item 1A. The forward-looking statements are made as of the date of this Form 10-K and we assume no obligation to update the forward-looking statements, or to update the reasons why actual results could differ from those projected in the forward-looking statements.

3

PART I

Overview

Nanometrics is a leading supplier of advanced process control metrology systems used primarily in the manufacturing of semiconductors, solar photovoltaics (PVs) and(“PV”), high-brightness LEDs (HB-LEDs)(“HB-LED”), advanced wafer scale packaging, as well as by customers in the silicon wafer and data storage industries. Nanometrics standalone and integrated metrology systems measure various thin film properties, critical dimensions, overlay control and optical, electrical and material properties, including the structural composition of silicon, compound semiconductor and PV devices, during various steps of the manufacturing process. These systems enable device manufacturers to improve yields, increase productivity and lower their manufacturing costs.

Nanometrics was incorporated in California in 1975, has been publicly traded since 1984 (NASDAQ: NANO), and reincorporated in Delaware in 2006. We have been a pioneer and innovator in the field of optical metrology. Nanometrics has an extensive installed base of over 6,000 systems in over 150 production factories worldwide. Our major customers and OEMoriginal equipment manufacturer (“OEM”) partners include Samsung Electronics Co. Ltd., Toshiba Semiconductor,Intel Corporation, Hynix Semiconductor, Inc., Western Digital Corporation, Toshiba Corporation, Applied Materials, Inc., Semiconductor Manufacturing International Corporation, Micron Technology, Inc., Intel CorporationTaiwan Semiconductor Manufacturing Company Limited, and Renesas Technology Corp.Philips Lumileds Lighting Company.

Additional information about Nanometrics is available on our website at http://www.nanometrics.com. The information that can be accessed through our website, however, is not part of this Annual Report. Our investor relations websiteweb page is located at http://www.nanometrics.com/investor.html. We make available free of charge through our investor relations website ourOur Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and any amendments to those reports are available on our web page as soon as reasonably practicable after we electronically file or furnish such materials to the United States Securities and Exchange Commission (“SEC”).

Industry Background

We participate in one principle reporting segment metrology for semiconductor manufacturing. Semiconductor devices are primarily packaged as chips within electronic devices, including cell phones, MP3 players and personal computers. Chips are made up of semiconductor material layers integrating millions or billions of transistors and other electronic components, connected through a complex wiring scheme of small copper or aluminum wires, ultimately packaged into thin form factors to be mounted on circuit boards. Our core focus is the measurement and control of the structure, composition, and geometry of the devices from the transistor layer through advanced wafer-scale packaging to improve device performance and manufacturing yield. Our end customers manufacture many types of chips for a multitude of applications, each having unique manufacturing challenges. This includes chips to enable information management (logic chip), data storage (NAND, NOR, and DRAM memory), and analog devices (i.e. Wi-Fi and 3G radio chips).

Semiconductors are also the principle component in solar photovoltaic cells (Solar PV) for power generation and used in devices for power control (compound semiconductors) and HB-LEDs for consumer, architectural, and industrial lighting applications. Our systems measure properties of these devices for improving efficiency and manufacturing yield.

Demand for our products continues to be driven by our customers’ ever increasing desire for higher chip performance, improvements in power efficiency, logic processing capability, and the data storage volume of chips. To facilitate the manufacturing of these chips, our customers use more complex materials and processing methods in their manufacturing flow. The majority of our chip customers manufacture devices with features as small as 65nm-45nm. New materials and methods are being implemented in high volume manufacturing including high-k materials and double patterning lithography with features as small as 32nm. The use of these new materials and methods require additional levels of process control and metrology and increase demand for our products. Currently, next-generation devices based on 22nm are in development, which in turn will require new advancements in metrology capabilities.

Our Business

We offer a comprehensive line of metrology products and technologies to address the manufacturing requirements of the high-techsemiconductor manufacturing industry. Our systems measure and characterize the physical dimensions, material

composition, optical and electrical characteristics and other critical parameters of semiconductors from initial wafer substrate manufacturing through final packaging. For the photolithographic process, overlay and critical dimension systems provide control of layer alignment and device dimensions. Advanced packaging technology requires metrology systems to control wafer scale features for through silicon via (“TSV”) and flip chip technologies. Our metrology systems can be categorized as follows:for materials monitor the physical, optical, and electrical characteristics of materials including compound semiconductor, and silicon wafers.

We are continually working to strengthen our competitive position by developing new technologies and products in our market segment. We have expanded our product offerings to address growing applications within the semiconductor manufacturing industry. We have:

We believe that there are numerous characteristics of the semiconductor, solar PV, high-brightness LED and other component manufacturing markets that drive a growing need for process control metrology. As films and film materials become thinner and more exotic, along with more demanding critical dimension control and overlay requirements, advanced process control metrology will continue to grow in importance, especially as wafers become more expensive to manufacture. We expect these factors will continue to drive the demand for our advanced standalone and integrated metrology products. Additionally, customers can deploy our products into their R&D lines to accelerate the process development cycle and enable faster production ramp.

Additional demands for better film uniformity, tighter dimensional and overlay control, tool-to-tool matching and within-tool chamber uniformity is driving the need for integrated process control metrology. TheseIntroduced new tool requirements will drive the need to place metrology inside the processing tools for real-time, integrated, process control metrology, using both feed-forward and feedback of the collected metrology data to control the process equipment.

We have made several strategic business decisions to enable us to further address these metrology trends, including:

Demand for our products continues to be driven by the increasing use of multiple thin film technologies by semiconductor manufacturers, and by the increased adoption of both integrated metrology and real-time process control. With feature sizes shrinking below 32 nanometers (nm), there is an increasing need for very tight process tolerances as well as productivity improvements in semiconductor fabrication facilities (fabs). As a result, semiconductor device and wafer manufacturers are investing in process control and metrology systems that improve their manufacturing efficiency by detecting process variations sooner and facilitating rapid diagnosis and corrective action. Our process control and metrology systems measure and characterize the physical dimensions, material composition, optical and electrical characteristics and other critical parameters of semiconductor devices during their fabrication. For the photolithography process, overlay and critical dimension systems provide enhanced control of layer alignment and device dimensions. For lattice engineering applications, metrology systems monitor the physical, optical, electrical and material characteristics of compound semiconductor, strained silicon and silicon-on-insulator (SOI) devices, including composition, crystal structure, layer thickness, dopant concentration, contamination and electron mobility.

Industry Background

Semiconductor Growth

The semiconductor industry continues to be driven by the need for increasingly higher performance chips as well as the need to produce these chips with increased production efficiencies at reduced costs. However, the semiconductor equipment industry is not immune to broader economic factors, and contracted in 2008 as a result of a net decline of 27% in capital spending by the semiconductor industry, down to $46.1 billion according to Gartner/Dataquest. However, we believe that the technology development cycles of our end customers will continue in the longer term, with an increasing focus on productivity and cost of ownership helping to drive demand for our products. Our product line was completely refreshed in 2008 with a focus on key markets for both productivity and advanced technology node metrology, and consequently we believe we are well positioned for future growth as the semiconductor industry recovers and as the markets for solar PVs and HB-LEDs continue to grow.

Semiconductor devices are enabling a wide variety of advanced computing, communications and consumer electronics products such as high-performance computing clusters, engineering workstations, routers, switches, cell phones, digital cameras, portable MP3 players, game consoles, DVD players, high-definition televisions, global positioning systems and flat panel displays. In the past, demand for Internet access, personal computers, telecommunications, and new consumer electronic products and services fueled growth of the semiconductor industry. New display technologies, consumer electronics, automotive electronics and personal electronics will likely continue as the primary drivers in the near-term for the semiconductor industry. We believe that consumer desire for high performance electronics drives technology advancement in semiconductor design and manufacturing and, in turn, promotes the purchasing of capital equipment featuring the latest advances in technology.

5

The two significant factors affecting demand for our semiconductor measurement systems are new construction or refurbishment of semiconductor manufacturing facilities and the increasing complexity of the manufacturing process as a result of the demand for higher performance semiconductor devices and integrated circuits. Demand from our customers in the solar PV, silicon wafer, high-brightness LEDHB-LED, and data storage industries is affected primarily by the increasing complexity of the manufacturing process.industries.

Drive toward Productivity and Control

Increased Use of Integrated Metrology in Manufacturing

We believe that continually rising wafer costs are forcing semiconductor manufacturers to re-evaluate their manufacturing strategies at all levels, from individual process steps to fab-wide process optimization. Many major semiconductor manufacturers are adopting feed-forward and feedback process control of film thickness and critical dimensions, or CDs, based on real-time data from metrology systems. Major benefits of these new metrology strategies are higher manufacturing efficiencies from reduced rework, reduced headcount to perform at the same quality level and increased device performance. Additional benefits include process tool matching and more precise control of the overall manufacturing process. This product line sampling increases with additional mask steps, tighter control requirements and greater process complexity due to ever-shrinking process node requirements, resulting in an escalating need for additional metrology.

Cluster Metrology for High-Throughput Monitoring

Many key process steps require more than one type of measurement, e.g. the need for both critical dimension control and overlay control in certain lithography processing steps. Traditionally, customers buy multiple separate measurement systems for these control steps. The additional time to process data for multiple steps is a significant contributor to total processing time and the drive for greater efficiency results in a need to reduce time and cost associated with process control. Our customers are employing APC (advanced process control) schemes, adding algorithms and increasing the amount of measurement and sampling to enable a greater degree of process control on key steps; however, these improvements on process control typically reduce fab productivity. To complement the APC schemes and enable higher levels of customer control as well as higher productivity, Nanometrics has developed a cluster metrology solution in the Lynx™ platform. The Lynx platform enables our customers to combine the key process monitoring steps onto one system to reduce data latency, reduce fab footprint and reduce process monitoring complexity. Key solutions for overlay, thin film, optical CD (“OCD^®”) and others can be enabled for optimizing process monitoring in the various segments of the fab. The modules are also interchangeable with our Integrated Metrology^® systems, enabling seamless support for the highest possible productivity.

Adoption of Immersion Lithography and Development of Double Patterning for Critical Photolithographic Layers

In an effort to reduce costs and increase device performance, semiconductor manufacturers are decreasing both the die size and feature size. Both immersion processing and double patterning techniques are being implemented to achieve the requisite device linear dimension and density. The additional rigors of these technologies increase the burden on overlay and registration capability as well as critical dimension monitoring and control. These techniques are shrinking total available process windows faster than the scaling predicted by Moore’s Law, resulting in the need for additional metrology and process control for both overlay and OCD systems.

Drive toward In-Device Metrology

For many years, semiconductor manufacturers have sought to improve performance by exerting additional levels of control on key processing steps. Traditionally, the thin film metrology segment has been a key aspect of our customers’ ability to drive process control. With recent changes in device requirements, the thin film market is experiencing a shift to metrology on structures. Nanometrics participates in this market with the deployment of our OCD scatterometry solutions. Our NanoCD™ suite extends our existing integrated and standalone products into these new market segments, giving our customers extended capability and applications for process metrology and control.

As device geometries continue to shrink, key parameters become increasingly difficult to measure and correlate to test structures. This is driving device manufactures to increase levels of understanding on actual device structures. Scatterometry metrology enables the user to directly measure and control key process steps that contribute to device performance and yield. By choosing systems that can measure directly on these structures, without any interaction, NanoCD metrology solutions increase productivity with faster time to results and additional levels of process information.

Nanometrics has deployed scatterometry solutions across key fab segments including traditional photolithography and etch steps, and has extended applications to key process steps in thin film deposition, CMP, and diffusion applications. Scatterometry technology for process metrology and control is in production for all semiconductor segments including DRAM, Flash, Logic/IDM (integrated device manufacturers) and Foundries, with key insertion points in 45nm and 32nm nodes.

Non-Traditional Market Growth Includes Solar PV and HB-LED Sectors

Growth in the non-traditional semiconductor markets was robust in 2008. According to industry research, market demand for HB-LEDs grew over 10%, driven mostly by the use of LEDs as backlighting in flat panel displays. Growth in the market for solar PVs was over 30%, with even higher growth in the emerging thin film sector. These adjacent markets are served by a broad range of products that are used in research and development for device optimization, and then are ramped into production due to the increasing focus of process control in these sectors. Our primary offerings in this market are photoluminescence systems for HB-LED monitoring (due to the ability to measure directly on customer structures) and FTIR (Fourier-Transform Infrared) systems primarily to measure epitaxial film thickness of SOI wafer substrates. In the solar PV sector we offer Trajectory™ integrated metrology systems for real-time integrated metrology into high-volume production lines.

Nanometrics OfferingsProducts

We offer a complete line of systems to address the broad range of metrology requirements of our customers. Our metrology systems can be categorized as follows:

7

2008 marked a year of several new product introductions and advancements in our core metrology lines.

Our latest IMPULSE™ integrated metrology module is an advanced OCD and thin film measurement system, offering the best example of enabling technology for process control. The compact size and speed of this technology enables the system to be fully integrated into the customer’s process tool, providing a complete, feed-forward and feedback process control solution for wafer-to-wafer closed loop control. By measuring the critical dimensions of developed photoresist, feeding this information back into the process and trimming the resist, the device manufacturer can adjust the final etched dimensions of a silicon gate-etch process, thereby achieving the shortest gate-length and the maximum possible microprocessor speed. In addition, new semiconductor process technologies, such as copper interconnects, require that new measurement technologies be developed in order to keep pace with the latest metrology demands. IMPULSE has the ability to plot copper conductor resistance across the wafer while the wafers are on-board the CMP system, reducing the need for costly and destructive testing. The IMPULSE integrated metrology module also provides a solution to the problem of measuring the remaining oxide film thickness as well as the loss of material over arrays of copper lines during the CMP process with the added capability of detecting residual films remaining after the polishing process. This technology has extended to applications in etch and photolithography processing steps.

Our recently introduced NanoCD Suite was developed to address the ever-demanding requirements of OCD metrology, which has proven to be an important application in the semiconductor manufacturing process. We offer our customers the ability to attach the NanoCD Suite of hardware and software solutions to our standalone and integrated metrology systems. Driven by proprietary analysis software and hardware, each product of the Suite greatly enhances a fab’s capability to drive toward advanced OCD application levels. The NanoCD Suite is composed of key components enabling scalable, fab-wide OCD metrology solutions, including the NanoGen™, NanoMatch™, NanoStation™, NanoDiffract™ and a new NanoGen cluster controller option. The Suite offers industry-proven modeling methods, as well as a next-generation run time engine, comprehensive offline analysis tools, and an intuitive GUI (graphical user interface) for structure definition and modeling. The system enables visualization of complex device structures to enable process control on the most demanding applications across DRAM, Flash, and Logic cell design.

Each component of the NanoCD Suite is designed to take full advantage of the inherent connectivity between Nanometrics’ standalone Atlas XP™ and Atlas-M™ systems for wafer and reticle metrology, and the IMPULSE/9010 integrated metrology systems. When combined with the NanoCD Suite, Nanometrics’ systems have the broadest scatterometry metrology solution for today’s semiconductor fabs.

Our new Lynx platform is the industry’s first compact 300mm cluster metrology platform to enable thin film, OCD and overlay measurements in a single system. The Lynx’s versatility provides for a range of custom configurations, from a streamlined single metrology platform to an expanded, high-productivity, multi-metrology platform. Modules can be easily installed or upgraded to extend system functionality, offering true mix-and-match capability. When deployed in the optimized configuration, our customers can achieve a 50% reduction in time to results for key production monitoring. The system can be scaled to enable high throughput and to reduce burden on overhead systems, further increasing productivity. When combined with the Caliper™, IMPULSE and NanoCD Suite, the Lynx platform enables turnkey solutions for every fab segment including CMP, etch, films, and demanding “double patterning” lithography applications.

Our latest Caliper 300mm overlay metrology system for monitoring microlithography stepper performance provides exceptional throughput and measurement performance required by today’s demanding 45nm overlay control applications. Our Caliper line provides a cost-effective solution for today’s most advanced overlay process technologies, enabling metrology on the industry’s most flexible and capable “mark set,” the Blossom.

To measure and control overlay at the required performance level, our customers place marks or measurement targets which comprise the “mark set” specifically designed for this purpose. The Blossom marks enable customers to balance demands of layout, performance, and process robustness without compromise. Additionally, the micro-Blossom mark extends the technology to enable in-device overlay metrology. The hardware system is optimized with the mark design to provide multi-generation lithography control.

Through our May 2008 acquisition of Tevet, we recently began offering the Trajectory integrated metrology system, which can be incorporated into numerous types of production equipment. The Trajectory technology leverages a fiber coupled design that lends itself to direct integration into both process chambers and interface chambers on various production tools. Applications include metrology for thin film and CVD (chemical vapor deposition) semiconductor production equipment, solar PV thin film metrology and monitoring, as well as emerging silicon ink applications. The Trajectory technology extends our spectroscopic reflectometry leadership position into high-volume process line monitoring. By providing a system that can quickly and cost-effectively monitor 100% of samples within a process tool with actionable metrology results, process engineers can respond promptly to line yield and process excursion events, thereby enabling our customers to continuously improve yields, lower costs and drive further process control improvement.

Technology

market. We believe that our engineering expertise, strategic acquisitions, supplier alliances and short-cycle production strategies enable us to develop and offer advanced process control solutions that address industry trends. By offering common metrology platforms that can be configured with a variety of measurement technologies, our customers can specify high-performance systems not easily offered by other suppliers as well as configure a system for a specific application as a cost saving measure.

Spectroscopic Reflectometry.    We pioneered the use of micro-spot spectroscopic reflectometry for semiconductor film metrology in the late 1970s. Reflectometry is the measurement of reflected light. Spectroscopic reflectometry uses multiple wavelengths (colors) of light to obtain an array of data for analysis of film thickness and other film parameters. Today’s semiconductor manufacturers still depend on spectroscopic reflectometry for most film metrology applications. For film metrology, a wavelength spectrum in the visible region is commonly used. Light reflected from the surfaces of the film and the substrate is analyzed using computers and measurement algorithms. The analysis yields thickness information and other parameters without contacting or destroying the film. In the mid-1980s, we introduced a DUV reflectometer for material analysis. In 1991, we were awarded a patent for the determination of absolute reflectance in the ultraviolet region. This technology provides enhanced measurement performance for thinner films and for films stacked on top of one another.

Spectroscopic Ellipsometry.    Like reflectometry, ellipsometry is a non-contact and non-destructive technique used to analyze and measure films. An ellipsometer analyzes the change in a polarized beam of light after reflection from a film’s surface and interface. Our systems are spectroscopic, providing ellipsometric data at many different wavelengths. Spectroscopic ellipsometry provides a wealth of information about a film, yielding very accurate and reliable measurements. In general, ellipsometers are used for thin films and complex film stacks, whereas reflectometers are used for thicker films and stacks.

Optical Critical Dimension Technology.    Our OCD technology is a critical dimension measurement technology that is used to precisely determine the dimensions on the semiconductor wafer that directly control the resulting performance of the integrated circuit devices. Our non-destructive, scatterometry OCD measurement technology has been applied to 65nm and 45nm manufacturing technology and can be extended below 32nm for future requirements in both photolithography and etch applications. OCD combines non-contact optical technology with extremely powerful data analysis software to provide highly accurate measurement results for line width, height and sidewall angles. This technology is available in both standalone and integrated platforms.

9

Overlay Registration.    Overlay registration refers to the relative alignment of two layers in the thin film photolithographic process. Our microscope-based imaging measurement technology utilizes a high magnification, low distortion optical system combined with proprietary software algorithms to numerically quantify the alignment. Customers use our overlay systems to measure vertical alignment of the layers on silicon wafers and MEMS structures.

Photoluminescence Mapping Technology.    Our room-temperature photoluminescence imaging and mapping technology is used to detect metallic contamination such as copper, iron and heavy metals which create point defects (e.g. interstitial atoms, substitutional atoms, and precipitates), and line defects such as threading dislocations, misfit dislocations, pile ups, slip and stacking faults. Contamination at this level is common in silicon wafer processing and may result from multiple causes including cross contamination of metals during wafer handling, contamination from deposition tools, contamination after maintenance and incomplete cleaning of reclaimed wafers.

Fourier-Transform Infrared (FTIR) Spectroscopy Technology.    Silicon producers around the world use our FTIR tools for the certification of silicon epitaxial, or epi, thickness in blanket epi layers, buried layer epi films and SOI epi films. The tools are also used for the precise measurement of interstitial oxygen and substitutional carbon in silicon substrates. Semiconductor device manufacturers use these FTIR systems for thin film metrology. BPSG (borophosphosilicate) films can be analyzed for the concentrations of boron and phosphorus; atomic hydrogen content in silicon nitride and silicon oxynitride can be estimated; low-K films can be characterized, such as fluorine content in FSG (fluorinated silicon oxide) films and carbon content in SiOC and SiCN films. The FTIR tools provide a rapid, non-contact method for the thin film metrology. The automated FTIR tools also provide full support for the factory automation needs of the device manufacturing community.

Lattice Metrology Technologies.    We supply a wide array of lattice engineering metrology systems to semiconductor device and silicon wafer manufacturers. These products address specific yield challenges that arise when device and wafer manufacturers use advanced materials such as compound semiconductors or modify the lattice, or basic crystal structure of pure silicon, in order to achieve higher device performance characteristics.

NanoDiffract Software.    Our NanoCD Suite is designed around our proprietary NanoDiffract software and was developed in order to optimize the capability and connectivity of Nanometrics’ Atlas and 9010 systems for OCD metrology. Our NanoDiffract software incorporates industry-proven modeling methods, real-time regression capability and comprehensive analysis tools, as well as a comprehensive GUI and input structure for true multi-variant modeling. The capabilities of our NanoDiffract software are delivered in intuitive and easy to deploy hardware form factors.

Products

Our products include thin film, optical critical dimension (OCD), overlay dimension, FTIR and photoluminescence (PL) metrology systems. Our measurement systems use microscope-based, non-contact spectroscopic reflectometry (SR), and some of our systems provide complementary scatterometry, spectroscopic ellipsometry (SE) and FTIR to measure the thickness and optical characteristics of films on a variety of substrates. We have a line of PL products for measuring properties of traditional silicon and compound semiconductor devices. In addition, we offer both integrated and standalone OCD metrology systems to measure critical dimensions of patterns on semiconductor wafers. We also manufacture a line of optical overlay registration systems that are used to determine the alignment accuracy of successive layers of semiconductor patterns on wafers in the photolithography process. Our products can be divided into three principle groups: standalone systems, integrated systems and materials characterization systems. We also introduced a new system platform in 2008, the Lynx. See Note 20 of the Notes to Consolidated Financial Statements for an analysis of our net revenues by principal product group.

11

System Platform

Nanometrics Lynx Metrology Platform

The Lynx is the industry’s first compact 300mm cluster metrology platform to enable thin film, OCD and overlay measurements in a single system. The Lynx’s versatility provides for a range of custom configurations, from a streamlined single metrology platform to an expanded, high-productivity, multi-metrology platform. Modules can be easily installed or upgraded to extend system capabilities. Combinations of Nanometrics’ technology on the Lynx enable the highest possible throughput as well as improved process control opportunities by combining appropriate technologies for various semiconductor manufacturing steps. The Lynx enables extendibility to future nodes as well as adaptability in the configuration to suit changing metrology demands.

Automated Standalone Systems

Our standalone systems are made up of manual, semi-automated and fully automated metrology systems which are employed in high-volume and low-volume production environments. The automated systems incorporate automated material handling interface options for a variety of fab automation environments and implement multiple measurement technologies for a broad range of substrate sizes. The manual and semi-automated systems are used primarily in engineering labs where automated handling and high throughput are not required. Our automated systems range in price from approximately $200,000 to over $1,300,000, depending on substrate sizes, measurement technologies, material handling interfaces and other options. The manual and semi-automated systems range in price from $50,000 up to $1,000,000 depending upon configurations and options.

Atlas/Atlas XP and Atlas-M

The Nanometrics Atlas^® XP/Atlas XP⁺ and Atlas-Mrepresent our line of high-performance metrology system combines up to four metrology technologies on a single platform,systems providing increased measurement capabilities in a small footprint design for reduced cost of ownership The combinations of technology include polarized, normal incidence spectroscopic ellipsometry for linewidth profile and critical dimensions, spectroscopic reflectometry for films and film stacks, ultra-violet (UV) and deep UV spectroscopic ellipsometry for ultra-thin films and film characterization, and film stress/wafer bow measurements. The Atlas offers high-accuracy, high-precision metrology for wafer characterization and can be configured for 150mm to 300mm wafer sizes or 6-inch masks and reticles. The Altas XP is the newest product line in the Atlas family and addresses thin film, and OCD for the 45nm and 32nm nodes currently in production and development, respectively. The Atlas-M further extends the versatility of this 300mm platform to provide fully-automated mask and reticle measurements. The systems are compatible with our NanoNetwafer stress, optical critical dimension (“OCD”^®), an optionaland diffraction-based overlay (“DBO”) for transistor and interconnect metrology applications. The OCD technology is supported by ourNanoCD™ suite of solutions including ourNanoDiffract^® software packageandNanoGen^® scalable computing engine that enables users to synchronize standalonevisualization, modeling, and integrated metrology systems for remote process setup and monitoring.

analysis of complex structures. TheCaliper Mosaic

Our Caliper products represent our most advanced™ provides overlay metrology solutions, providing the most cost-effective solutionsolutions for today’s advanced 300mm overlay process technologies. Our most recently introduced Calipertechnologies, available on ourLynx™ platform. TheUnifire™ system extendsenables users to measure multiple parameters at any given process step in the production-proven élan™ platform with a refined optical metrology head coupled with advanced focusingpackaging process flow for critical dimension, overlay, and algorithms to provide increased productivity in both measurement (MAM) time and total measurement uncertainty (TMU).topography applications.

We continue to offer automated products for 200mm factories running nominally at 90nm nodes and above, as well as systems supporting micro-electrical mechanical systems (“MEMS”). OurQ240^AT and IVS-185

The Q240^ATis a 200mm overlay metrology system incorporating the same measurement technology as the Caliper, élan for advanced overlay measurement.extending the technology capability of our customers’ existing factories. The IVS-185 200mmIVS^®-185 system supports critical dimension and overlay measurements for both semiconductor, MEMS, and MEMSHB-LED manufacturing. The IVS-185 delivers unsurpassed measurement performance and reliability with the lowest possible cost-of-ownership supporting technologies produced on 2”-8” specialized substrates.

NanoSpec^® 9100

The NanoSpec 9100 standalone, automated thin film measurement system is capable of handling wafers ranging in size from 75 to 200 millimeters in diameter. diameter, and is used in all segments of semiconductor manufacturing, including data storage head manufacturing.

System Platform

The 9100 can be configured with a deep ultraviolet, or DUV,Lynxcluster metrology platform enables improved cost of ownership to near infrared spectroscopic ellipsometerour customers by combining ourCaliper Mosaic andIMPULSE^® metrology systems in configurations to provide high throughput, reduced footprint systems for ultra-thin, multipleleading 300mm wafer metrology applications including OCD, DBO, overlay, and thin film stack and DUV lithography measurement applications. Other 9100 options include a standard mechanical interface with mini-environment enclosures for use in ultra-clean manufacturing facilities. The 9100 uses technologies from the integrated film thickness systems to allow easy transfer of measurement recipes between the integrated and standalone film metrology systems.process control.

Integrated Systems

Our integrated metrology (“IM”) systems are installed insidedirectly onto wafer processing equipment to provide near real-time measurements for improvingimproved process control and increasingmaximum throughput. Our integratedIM systems are available for wafer sizes up to 300 millimeters and offer DUV spectroscopic reflectometry and/or critical dimension measurement technologies. Our integrated metrology systems range in price from approximately $80,000 to $500,000 depending on features and technology and are sold directly to end customers and through our OEM channels.

The9000 Series Integrated Metrology PlatformIMPULSE

The 9000 Series of products are ultra-compact measurement systems designed for integration into semiconductor wafer processing equipment. The systems are primarily used for thickness control in CVD processing steps. In its basic configuration, the 9000series is equipped with visible wavelength spectroscopic reflectometry. Other products in the Series, which include solutions for both 200mm and 300mm wafer sizes, can be extended into deep ultraviolet wavelengths.

9010 Series Integrated Metrology Platform

The 9010b is the first integrated metrology tool to combine two measurement technologies on a single platform. The 9010b incorporates both ultra violet OCD spectroscopic ellipsometry and deep ultra violet (DUV) spectroscopic reflectometry. The 9010b provides thin film and film stack thickness measurements on pads as well as oxide, nitride and trench profile measurements on arrays in a single tool. The combined technologies provide a complete measurement solution over the entire range of measurement requirements for each process step. This complete metrology capability can be utilized across a number of lithography, deposition, copper planarization, dielectric planarization, poly-Si etch and dielectric etch applications.

The 9010b is also available as a SEMI BOLTS compatible, 300 millimeter based system that incorporates all the features of the integrated configuration of the 9010b. By conforming to the industry standard BOLTS mounting system, the 9010b BOLTS configuration is interchangeable with industry conforming load ports for simplified mechanical integration.

The 9010Tx is an advanced, integratedour latest metrology platform for OCD, measurementDBO, and profiling. The 9010Tx system is designed to be incorporated into semiconductor equipment requiring leading-edge CD metrology for semiconductor applications. The 9010Tx offers an extended wavelength range down to 210nm, extending the CD measurement capabilities for line width structures down to 45nm. The system also incorporates the UVthin film thickness function, and its improved design offers a faster, more cost effective integrated CD measurement solution with increased throughput. The system is also offered as the 9010Tx-BOLTS, in the SEMI, BOLTS configuration for easy installation directly onto the OEM process equipment’s standard 300mm loadport.

The 9010M utilizes our production-proven OCD metrology and enables non-destructive, real-time measurementhas been successfully qualified on numerous OEM platforms. Our90x0series is qualified for OEM and profiling of critical features on photomasksdirect sales supporting thin film and reticles without the limitationsOCD applications. OurNanoCDis sold in conjunction with ourIMPULSE and drawbacks associated with critical dimension scanning electron microscope, or CD-SEM, metrology.

13

Current CD-SEM technology appears to be reaching its theoretical limits for making critical dimension measurements on these substrates. Photoresist-on-chrome-on-glass features found on reticles and masks suffer severe charging during CD-SEM metrology making critical dimension measurements impossible. OCD is a non-destructive technology that provides information not available from CD-SEM measurements.

IMPULSE Series Integrated Metrology Platform90x0

systems. The IMPULSE is our newest metrology platform for OCD measurement and profiling as well as employing a DUV channel for film thickness. The combined technologies provide a complete measurement solution over the entire range of measurement requirements for each process step. This complete metrology capability can be utilized across a number of lithography, deposition, copper planarization, dielectric planarization, poly-Si etch and dielectric etch applications. The platform enables higher performance and higher reliability for both Integrated applications as well as on the Lynx platform as a standalone tool enabling cluster metrology for high throughput. IMPULSE leverages the success of the 9010 platform with improved process control beyond 45nm and higher throughput for lower cost of ownership.

Trajectory Integrated Metrology System

Our Trajectory integrated metrology™ system provides a robust and cost-effective solution for in-line measurement of absorber layer and transparent conducting oxide (TCO) layer thicknesslayers in thin film thickness and composition in solar cells where absorber layer thickness is directly relayed to cell efficiency. Trajectory systems are also qualified on several leading CVD equipment systems giving ultra fast measurements required on high throughput advanced CVD tools.and semiconductor applications.

Materials Characterization Systems

We also offer a broad line of manual and semi-automated thin film thickness, critical dimension, defect inspection and composition measurement systems. Each of these measurement systems uses non-destructive, optical techniques to analyze and measure films. TheseThe Materials Characterization products also include systems that are used to monitor the physical, optical, electrical and material characteristics of HB-LED, compound semiconductor, strained silicon and silicon-on-insulator (SOI)(“SOI”) devices, including composition, crystal structure, layer thickness, dopant concentration, contamination and electron mobility. Tabletop systems are used to manually or semi-automatically measure thin films in engineering and low-volume production environments. We have been a pioneer and leading supplier of tabletop thin film thickness measurement systems, which are used primarily in low-volume production environments such as failure analysis and engineering labs. Our tabletop models have multiple capabilities and several available configurations, depending on wafer handling, range of films to be measured, uniformity mapping and other customer needs.

OurSiPHER™VerteX

™ is a photoluminescence (“PL”) mapping system designed for high-volume compound semiconductor metrology applications. TheRPMBlue™ is our latest PL mapping system designed specifically for the HB-LED segment. We support Fourier-Transform Infrared (“FTIR”) automated and manual systems in theQS2200/3300andQS1200respectively. The FTIR systems are spectrometers designed for non-destructive wafer analysis for various applications. TheSiPHER is a fully automated photoluminescence metrology system for the detection and mapping of 300mm substrate defects and metallic contamination. SiPHER detects and quantifies near-surface and bulk metallic contamination in both bulk silicon and silicon epitaxial layers.

TheVerteX™NanoSpec

The VerteX is a rapid photoluminescence mapping system designed for high-volume compound semiconductor metrology applications such as volume LED manufacturing. The new VerteX with power density control provides improved matching to electrical test data, improved tool matching and improved reproducibility and repeatability. It also provides predictive metrics for the manufacturing process. In the caseline of high-brightness LED processing, VerteX enables accurate predictive processing metrics of green, blue and UV LED emission wavelengths atproducts includes the wafer level, a capability that we believe is unmatched in the industry.

QS2200/3300

The QS2200™ and QS3300™ are Fourier-Transform Infra-Red spectrometers designed for non-destructive wafer analysis. These systems are used for the characterization and measurement of semiconductor substrates as well as in device manufacturing. The QS2200 model is available in two configurations; an automated 200mm system with two open cassettes and an automated system with one SMIF indexer and one open cassette for high-volume wafer manufacturing. The QS2200 series incorporates a universal stage, which adjusts automatically to different wafer sizes including 100, 125, 150 and 200mm. The QS3300 is a production version FTIR system which supports high-volume 300mm manufacturing for various applications: boron and phosphorus concentration in BPSG films, atomic hydrogen concentrations in silicon nitride passivation layers, fluorine in FSG films, epitaxial thickness, concentrations of interstitial oxygen and substitutional carbon in silicon.

NanoSpec 3000 and 6100

The NanoSpec tabletop systems provide a broad range ofsupporting thin film measurement solutions at a lower entry price point. The NanoSpec 3000 is a basic, manual system while the 6100 models feature semi-automatic wafer handling or staging.

QS1200™across all segments in both low volume production and research applications.

The QS1200 incorporates allOur metrology systems can be categorized as follows: See Note 21 of the measurement capability found in the semi-automated and fully-automated FTIR metrology systems in a table-top configuration. The QS1200 FTIR metrology tool is used primarilyNotes to Consolidated Financial Statements for dopant monitoring, epi thickness measurement, and other epitaxial substrate applications. The QS1200 is specifically designed for advanced semiconductor fabs performing material characterization in silicon growing and device manufacturing areas. It provides a new levelan analysis of integration of the FTIR technique utilizing proven optical technology for SEMI standard wafers of 100, 125, 150, 200, and 300mm diameter as well as custom substrates up to 2mm in thickness.our net revenues by principal product group.

Integrated Systems
IMPULSE		Semiconductor		Film Thickness, CD
9010 Series		Semiconductor		Film Thickness, CD
9000 Series		Semiconductor		Film Thickness
Trajectory		Semiconductor, Solar		Film Thickness, Composition
Materials Characterization Instruments
RPMBlue		HB-LED		Epitaxial Layer Properties
VerteX		Compound Semiconductor, Solar PV, HB-LED		Epitaxial Layer Properties
QS1200		Substrate Semiconductor, Solar PV		Substrate Properties, Film Composition and Thickness
QS2200/3300		Substrate Semiconductor		Substrate Properties, Film Composition
SiPHER		Substrate Semiconductor		Substrate Defects, Metallic Contamination
NanoSpec 3000		Semiconductor		Film Thickness (Tabletop)
NanoSpec 6100		Semiconductor		Film Thickness (Tabletop)

Customers

We sell our metrology systems worldwide to many of the major semiconductor manufacturers and equipment suppliers, as well as to producers of HB-LEDs, solar PV panels, data storage devices, silicon wafers and photomasks. The majority of our systems are sold to customers located in Asia and the United States. Two customers, Samsung Electronics Co. Ltd., and Toshiba Semiconductor,Intel Corporation, represented 16.1%33.4% and 11.0%10.4% of our total net revenues in 2008,2009, respectively. See Note 1920 of the Notes to Consolidated Financial Statements for information regarding our major customers.

The following is a list of our top 25 customers (categorized by type of customer), based on revenues, during 2008.

15

Sales and Marketing

We believe that the capability for direct sales and support is beneficial for developing and maintaining close customer relationships and for rapidly responding to changing customer requirements. We provide direct sales, service and application support locally from our corporate office in California for customersworldwide offices located in the United States. We also have a direct sales presence inUSA, South Korea, Japan, Europe, Taiwan, China and Singapore. We useSingapore and work with selected sales representatives in the United StatesUSA and other countries. We intend to continue monitoring our network, our existing and new offices, as well as developing additional distribution relationships when needed. We believe that growing our international distribution network can enhance our competitive position. We maintain a direct sales force of technically sophisticatedexperienced sales engineers who are knowledgeable in the use of metrology systems generally and with the unique features and advantages of our specific products. OurSupported by our technical applications team, our sales engineers are supported by applications scientists. Together, these highly trained individualsand support teams work closely with our customers to offer cost-effective solutions to complex measurement and process problems which our customers face.problems.

Direct exports of our metrology systems to our foreign customers and shipments to our subsidiaries require general export licenses. See Note 2021 of the Notes to Consolidated Financial Statements for information regarding total net revenues and long-lived assets of our foreign operations. See Item 1A, “Risk Factors” for information regarding risks related to our foreign operations.

In addition to our direct sales force, we address broader markets through various sales channels including established distributors and representatives within the United States, Europe, Taiwan, China, Japan and Russia.

Net revenues from customers located in the United States and in foreign countries, as a percentage of total net revenues, were as follows:

In order to raise market awareness of our products, we advertise in trade publications, distribute promotional materials, publish technical articles, conduct marketing programs, issue corporate press releases and drive public relations through industry trade shows and various investor relations events. We also maintain a website at www.nanometrics.com.

Customer Service and Support

We believe that customer service and technical support for our measurement systems are important factors to distinguish us from our competitors and are essential to building and maintaining close, long-term relationships with our customers. We provide support of our measurement systems to our customers with factory technical support and globally deployed field service offices. The factory technical support operations provide both OEM and end-user customers with telephonic technical support access, direct training programs, operating manuals and other technical support information. Weinformation to enable effective use of our demonstration equipment for training programs,metrology and measurement instruments and systems. Our software is sold as well as foran adjunction to our salesmeasurement systems hardware, and marketing efforts. Our technical training department has metrologyis supported through the systems that are used for customer training.groups. We coordinate warranty and post-warranty field service and spare parts support from our corporate headquarters in Milpitas, California. We also have field service operations based in various locations throughout the United States and Europe. In Asia, service is provided by direct offices in Japan, South Korea, Taiwan and China.

We provide a standard one-year warranty on parts and labor for all of products. Service revenue, including sales of replacement parts, represented 26.0%35.9%, 13.8%,26.0% and 16.3%13.8% of total net revenues in 2009, 2008 and 2007, and 2006, respectively.

Backlog

As of January 2, 2010 and December 27, 2008, the end of fiscal year 2009 and December 29, 2007,2008, respectively, our backlog was $4.4$8.1 million and $14.0$4.4 million, respectively. Backlog includes orders for products that we expect to ship within 12 months. Orders from our customers are subject to cancellation or delay by the customer without penalty. Historically, order cancellations and order rescheduling have not been significant, with the number of incidents of rescheduled orders increasing somewhat in 2008 relative to historical levels.significant. However, orders presently in backlog could be canceled or rescheduled. As only a portion of our revenues for any fiscal quarter represent systems in backlog, we do not believe that backlog is necessarily an accurate indication of our future revenues or financial performance.

Competition

We haveoffer different products for the differentvarious sectors of semiconductor manufacturing, and several of our products extend across the same processing flow. However, in each of these markets, we have multiple competitors. In every segment in which we participate, the global semiconductor equipment industry is intensely competitive, driven by rapid technological adoption cycles. Our ability to compete depends upon our ability to continually improve our products and services, and our ability to develop new products and applications that meet constantly evolving customer requirements.

We believe that our competitive position in each of our markets is based on the ability of our products and services to address customer requirements related to numerous competitive factors. Competitive selections are based on many factors includinginvolving technological innovation, productivity, total cost of ownership of the system, including impact on end of line yield, price, product performance and throughput capability, quality, reliability and customer support.

In the standalone segment, our principal competitor is KLA-Tencor.competitors are KLA-Tencor and Nova Measuring Instruments. Our principal competitor in the integrated metrology segment is Nova Measuring Instruments. OurInstruments, while the HB-LED and solar PV markets are served by numerous competitors with no onesingle competitor establishing a majority position.

Manufacturing

In 2008, we consolidated manufacturing to our Milpitas, California facility and contract manufacturers. It is our strategy to outsource all assemblies that do not contain elements that lead to a direct competitive advantage. The majority of our standalone and integrated products are currently manufactured at our Milpitas California facility. To a lesser degree, we also manufacture products at our subsidiary in South Korea. We perform limited subassemblysub-assembly for certain products at our York, England facility. We also use contract manufacturers in China, Israel, Japan and the United States.USA. We combine proprietary measurement technology produced in our facilities with components and subassemblies obtained from outside suppliers. We currently do not expect our manufacturing operations to require us to make any additional major investments in capital equipment.

We have internalized the production of key parts and components. However, certain components, subassemblies and services necessary for the manufacture of our systems are obtained either from a sole supplier or limited group of suppliers. We do not maintain long-term supply agreements with any of our suppliers.

Research and Development

We continue to invest in R&D to ensure that Nanometrics’ products stay in the forefront of current and future market demands. Whether it is for an advancement of current technology, new technology, or the development of a new application in our core or emerging markets, Nanometrics iswe are committed to product excellence and longevity. We have several facilities located worldwide that focus on this objective.

We have extensive proprietary technologyIn 2009, many of the new products that we introduced to the market were adopted by customers in key segments, which we believe indicates that our R&D spending is targeted and expertise in such areas as spectroscopic reflectometry using our patented absolute reflectivity, robust pattern recognitionfocused on appropriate products and complex measurement software algorithms. We continue to add to our intellectual property portfolio, most recently in the areas of critical dimension measurement and integrated metrology. We also have extensive experience in systems integration engineering required to design compact, highly automated systems for advanced clean room environments.technologies.

17

Our research and developmentR&D expenditures for each of the last three fiscal years were as follows:

Patents and Intellectual Property

Our success depends in large part on the technical innovation of our products and protecting such innovations through a variety of methods. We actively pursue a program of filing patent applications to seek protection of technologically sensitive features of our metrology systems. As of December 27, 2008, we held 86 United States patents with 40 patent applications pending. The patents we own in the United States have expiration dates ranging from 2009 to 2026. We believe that our success will depend to a greater degree upon innovation, technological expertise and our ability to adapt our products to new technology. While we attempt to establish our intellectual property rights through patents and trademarks and protect intellectual property rights through non-disclosure agreements, we may not be able to fully protect our technology, and competitors may be able to develop similar technology independently. Others may obtain patents and assert them against us. In addition, the laws of certain foreign countries may not protect our intellectual property to the same extent as do the laws of the United States. From time to time we receive communications from third parties asserting that our metrology systems may contain design features that are claimed to infringe their proprietary rights. We typically refer such matters to our legal counsel; see Item 3, “Legal Proceedings.”

We have registered the following trademarks with the U.S. Patent and Trademark Office: Nanometrics^®, Atlas^®, NanoSpec^®, Integrated Metrology^®, NanoNet^®, OCD^® and others. Additionally, we use a variety of other trademarks and trade names such as Caliper, Lynx, IMPULSE, NanoCD, NanoGen, NanoMatch, NanoStation, NanoDiffract, VerteX, SiPHER, Trajectory, Q240^AT, IVS, the QS series, Accent and the Nanometrics logo. All other brand names, trade names and trademarks mentioned herein are the property of their respective holders. The effect of registering our trademarks is to further protect Nanometrics’ brand and corporate identity.

Environmental Matters

We are subject to a variety of governmental regulations related to the discharge or disposal of toxic, volatile or otherwise hazardous waste. Our compliance with federal, state and local provisions regulating the discharge of materials into the environment, and the remedial actions we have taken with respect to environmental regulations, have not had, and are not expected to have, a material effect on our business, financial condition, results of operations or cash flows.

Employees

At December 27, 2008,January 2, 2010, we employed 465399 persons worldwide with 6545 in manufacturing and manufacturing support, 137116 in customer service, 7264 in applications, 9282 in research and development, 39 in sales and marketing and 6053 in general administration and finance. None of our employees are represented by a union and we have never experienced a work stoppage as a result of union actions. Many of our employees have specialized skills that are of value to us. Our future success will depend in large part upon our ability to attract and retain highly skilled scientific, technical and managerial personnel, who are in great demand in our industry. We consider our employee relations to be good.

Our Executive Officers

The names of our executive officers and their ages, titles and biographies as of December 27, 2008January 2, 2010 are set forth below:

Timothy J. Stultz, Ph.D., 61,62, has served as President, Chief Executive Officer and a director since August 2007. From June 2003 to August 2007, Dr. Stultz served as the President and Chief Executive Officer and a member of the board of directors of Imago Scientific Instruments Corporation, a supplier of proprietary 3-D atom probe microscopes to the research materials and microelectronics industries. Prior to Imago, Dr. Stultz served as President and Chief Executive Officer for ThauMDx, a developer of diagnostic systems and technologies for the analysis of biomolecules, drugs and chemicals. Dr. Stultz received his B.S., M.S. and Ph.D. in Materials Science and Engineering from Stanford UniversityUniversity.

Bruce A. Crawford, 56,57, has served as our Chief Operating Officer since July 2006 and was Chief Financial Officer on an interim basis from September 2008 until February 2009.2006. From July 2005 to July 2006, Mr. Crawford served as President and Chief Operating Officer of Accent Optical Technologies, Inc., a supplier of process control and metrology systems to the global semiconductor manufacturing industry, which we acquired in July 2006. From February 2003 to July 2005, Mr. Crawford served as Accent Optical’s Chief Operating Officer and Executive Vice President and from October 2000 to February 2003, he served as Vice President of Worldwide Operations. Mr. Crawford holds an A.S. degree from De Anza College.

Subsequent to our fiscal year end, James P. Moniz, 51,52, was appointed as Chief Financial Officer (and our principal accounting officer) on February 18, 2009. Prior to joining the Company, Mr. Moniz served as Chief Financial Officer of Photon Dynamics, Inc., a global supplier of flat panel display test equipment, from April 2008 until October 2008. From October 2000 until February 2008, Mr. Moniz was Chief Financial Officer, Treasurer and Assistant Secretary of Nextest Systems Corporation. Mr. Moniz holds bachelor’sbachelor degrees in both Accounting and Marketing, as well as an MBA in Finance, from San Jose State University.

In addition to the other information contained in this Annual Report on Form 10-K, we have identified the following risks and uncertainties that may have a material adverse affecteffect on our business, financial condition or results of operations. Investors should carefully consider the risks described below before making an investment decision. The risks described below are not the only ones we face. Additional risks not presently known to us or that we currently believe are immaterial may also impair our business operations. Our business could be harmed by any of these risks. The trading price of our common stock could decline due to any of these risks and investors may lose all or part of their investment. This section should be read in conjunction with the Consolidated Financial Statements and Notes thereto, and Management’s Discussion and Analysis of Financial Condition and Results of Operations contained in this Form 10-K.

The risks and uncertainties described below are not the only ones that we face. If any of the following risks actually occurs, our business, financial condition or operating results could be harmed. In such case, the trading price of our common stock could decline, and you could lose all or part of your investment.

We are exposedThe current severe slowing in the general economy and in the semiconductor industry have caused us recent losses and reductions in available cash, and may continue to risks associated with the ongoingnegatively impact our financial crisis and weakening global economy.performance.

The recent severe tightening of the credit markets, turmoilcurrent recession in the financial markets and weakening global economy are contributing to slowdownsand the current downturn in the industriessemiconductor industry have severely impacted and could further impact customer demand for our products and our financial performance. The degree of this impact will depend on a number of factors, including whether the U.S. economy and the global economy continue a prolonged recession. Demand for semiconductor equipment depends on consumer spending. Economic uncertainty may lead to a decrease in which we operate. The slowdowns are expectedconsumer spending and may cause certain customers to

19

worsen if these economic conditions are prolonged cancel or deteriorate further.delay placing orders. If we are unable to timely and appropriately adapt to changes resulting from the difficult economic environment, our business, financial condition and results of operations will be adversely affected, and we may be required to raise additional funds through public or private equity or debt financings. In that event, financing may not be available or we could be forced to obtain financing on terms that are not favorable to us and, in the case of an equity or convertible debt financing, which may result in dilution to our stockholders.

We may also experience supplier or customer issues as a result of current adverse macroeconomic conditions. If our customers have difficulties in obtaining capital or financing, this could result in lower sales. Customers with liquidity issues could also result in an increase in bad debt expense. These conditions could also affect our key suppliers, which could affect their ability to supply parts and result in delays of our customer shipments. These conditions make it difficult for us to accurately predict our business.

Because of the negative effects of the current recession, we may have to take further actions to reduce costs, which could reduce our ability to significantly invest in research and development at levels we believe are necessary. If we are unable to effectively align our cost structure with prevailing market conditions, we will experience additional losses and additional reductions in our cash and equivalents.

Our largest customers account for a substantial portion of our revenue, and our revenue would materially decline if one or more of these customers were to purchase significantly fewer of our systems.

Historically, a significant portion of our revenues in each quarter and each year has been derived from sales to relatively few customers, and we expect this trend to continue. There are only a limited number of large companies

operating in the semiconductor industry. Accordingly, we expect that we will continue to depend on a small number of large customers for a significant portion of our revenues for the foreseeable future. If our current relationships with our large customers are impaired, or if we are unable to develop similar collaborative relationships with important customers in the future, our-revenuesour revenues could significantly decline.

OurSome of our current and potential competitors have significantly greater resources than we do, and increased competition could impair sales of our products.

We operate in the highly competitive semiconductor industry and face competition from a number of companies, many of which have greater financial, engineering, manufacturing, marketing and customer support resources than we do. As a result, our competitors may be able to respond more quickly to new or emerging technologies or market developments by devoting greater resources to the development, promotion and sale of products, which could impair sales of our products. Moreover, there has been merger and acquisition activity among our competitors and potential competitors. These transactions by our competitors and potential competitors may provide them with a competitive advantage over us by enabling them to rapidly expand their product offerings and service capabilities to meet a broader range of customer needs. Many of our customers and potential customers in the semiconductor industry are large companies that require global support and service for their metrology systems. Some of our larger or more geographically diverse competitors might be better equipped to provide this global support.

We depend on OEM suppliers for sales of our integrated metrology systems, and the loss of our OEM suppliers as customers could harm our business.

We believe that sales of integrated metrology systems will continue to be an important source of our revenues. Sales of our integrated metrology systems depend upon the ability of OEMs to sell semiconductor manufacturing equipment products that include our metrology systems as components. If our OEMsOEM customers are unable to sell such products, or if they choose to focus their attention on products that do not integrate our systems, our business could suffer. If we were to lose our OEMs asOEM customers for any reason, our ability to realize sales from integrated metrology systems would be diminished, which would harm our business.

We obtain some of the components and subassemblies included in our systems from a single source or a limited group of suppliers, and the partial or complete loss of one of these suppliers could cause production delays and significant loss of revenue.

We rely on outside vendors to manufacture many components and subassemblies. Certain components, subassemblies and services necessary for the manufacture of our systems are obtained from a sole supplier or a limited group of suppliers. We do not maintain any long-term supply agreements with any of our suppliers. We have entered into arrangements with J.A. Woolam Co., Inc. for the purchase of the spectroscopic ellipsometer component incorporated ininto our advanced measurement systems. We also have supply agreements with MPA and

Spectral Systems, and subcontract manufacturing agreements with Fox Semiconductor, IFAT and Toho Technologies. In June 2009, we signed a supply agreement with Zygo Corporation to supply OEM interferometer sensors for incorporation into the Unifire™ line of products as well as Nanometrics’ family of automated metrology systems. Our reliance on a sole or a limited group of suppliers involves several risks, including the following:

Some of our suppliers have relatively limited financial and other resources. Because the manufacturing of certain of these components and subassemblies involves extremely complex processes and requires long lead times, we may experience delays or shortages caused by our suppliers. If we were forced to seek alternative sources of supply or to manufacture such components or subassemblies internally, we could be forced to redesign our systems, which could increase our cost structure, cause production delays and prevent us from shipping our systems to customers on a timely basis. Any inability to obtain adequate deliveries from our suppliers, or any other circumstance that would restrict our ability to ship our products, could damage relationships with current and prospective customers, harm our business and result in significant loss of revenue.

Our success depends on the performance of our senior management and on our ability to identify, hire and retain key management personnel.

Our Chief Executive Officer joined the Company in August 2007 and in September 2008, our former Chief Financial Officer and Vice President, Administration, who joined us in November 2007, was replaced, on an interim basis, by Bruce Crawford, our Chief Operating Officer. Our former Chief Accounting Officer also resigned in December 2008. James P. Moniz was appointed as Chief Financial Officer (and our principal accounting officer) on February 18, 2009. Although we have employment agreements with certain key members of our senior management team, including Messrs. Stultz, Crawford and Moniz, these individuals or other key employees may still leave us. We do not have key person life insurance on any of our executives. In addition, to support our future growth, we will need to attract and retain additional qualified employees. Competition for such personnel in our industry is intense, and we may not be successful in attracting and retaining qualified employees. If we fail to attract, motivate and retain qualified senior management personnel, our business could be harmed and our ability to implement our strategy could be compromised.compromised.

Restructuring of our operations may disrupt our business and adversely affect our financial condition and operating results.

Since 2007, we have taken steps, including reductions in force, facility closures, and internal reorganizations to reduce the size and cost of our operations and to better match our resources with our market opportunities. We may take similar steps in the future to improve efficiency and match our resources with market opportunities, and as a result of such actions, we may incur restructuring expenses. In the first and third quarters of 2008, we undertook a restructuring that involved a reduction of our global workforce by approximately 30 and 34 employees, respectively, which action caused us to record restructuring and reorganization charges of $870,000$0.9 million and $655,000,$0.6 million, respectively. In the first and second quarters of 2009, we reduced the global workforce further by 51 and 25 employees, respectively, and recorded restructuring charges of $0.7 million and $0.4 million, respectively.

Several factors could cause a restructuring to adversely affect our business, financial condition and results of operations. These include potential disruption of our operations, the development of our technology, our supply chain and other aspects of our business. Employee morale and productivity could also suffer and result in unintended employee attrition. Loss of sales, service and engineering talent, in particular, could damage our business. Any restructuring would require substantial management time and attention and may divert management from other important work. If we undertake further employee reductions or other restructuring activities, we will likely record restructuring and related expenses and accounting charges. Accounting charges

21

may include inventory and technology-related write-offs, workforce reduction costs and charges relating to consolidation of excess facilities, and if we are required to take a substantial charge related to any future restructuring activities, our results of operations would be adversely affected in the period in which we take such a charge. Moreover, we could encounter delays in executing any restructuring plans, which could cause further disruption and additional unanticipated expense.

Failure to achieve and maintain effective internal controls in accordance with Section 404 of the Sarbanes-Oxley Act of 2002 could have a material effect on our business.

As a publicly traded company, we are subject to rules adopted by the SEC pursuant to Section 404 of the Sarbanes-Oxley Act of 2002. Section 404 requires us to include an internal control report from management in our Annual Report on Form 10-K. The internal control report must include the following: (1) a statement of management’s responsibility for establishing and maintaining adequate internal control over financial reporting, (2) a statement identifying the framework used by management to conduct the required evaluation of the effectiveness of our internal control over financial reporting and (3) management’s assessment of the effectiveness of our internal control over financial reporting as of the end of each fiscal year, including a statement as to whether or not internal control over financial reporting is effective. A statement that our independent registered public accounting firm has issued an attestation report on management’s internal control over financial reporting was not required for 20082009 as we are not an accelerated filer.

Our assessment as of December 29, 2007 identified a material weakness in our internal controls over financial reporting, which also adversely impacted our disclosure controls and procedures. A material weakness is a deficiency, or a combination of deficiencies, in internal controls over financial reporting, The Company will be required to obtain such that there is a reasonable possibility that a material misstatement of the Company’s annual or interim financial statements will not be prevented or detected on a timely basis. The material weakness identified in 2007 was regarding our internal controlsan attestation report for the provision of income taxes in foreign jurisdictions.2010 fiscal year.

Since discovery of the material weakness in 2007, we performed extensive additional work and implemented several procedures to obtain reasonable assurance regarding the reliability of our financial statements. Based on our testing of these enhanced procedures, in the quarter ended December 27, 2008, management determined that as of December 27, 2008, we have remediated the material weakness in internal controls over financial reporting and the controls are now operating effectively. Even with this remediation complete, however, we could have material weaknesses in the future. For additional information refer to Item 9A “Controls and Procedures”.

If we deliver systems with defects, our credibility will be harmed, revenue from, and market acceptance of, our systems will decrease and we could expend significant capital and resources as a result of such defects.

Notwithstanding our internal quality specifications, our systems have sometimes contained errors, defects and bugs when introduced. If we deliver systems with errors, defects or bugs, our credibility and the market acceptance and sales of our systems would be harmed. Further, if our systems contain errors, defects or bugs, we may be required to expend significant capital and resources to alleviate such problems. Defects could also lead to product liability lawsuits against us or against our customers. We have agreed to indemnify our customers in some circumstances against liability arising from defects in our systems. In the event of a successful product liability claim, we could be obligated to pay damages significantly in excess of our product liability insurance limits.

If we experience significant delays in shipping our products to our customers, our business and reputation may suffer.

Our products are complex and require technical expertise to design and manufacture properly. Various problems occasionally arise during the manufacturing process that may cause delays and/or impair product

quality. Any significant delays stemming from the failure of our products to meet or exceed our internal quality specifications, or for any other reasons, would delay our shipments. Shipment delays could harm our business and reputation in the industry.

Successful infringement claims by third parties could result in substantial damages, lost product sales and the loss of important intellectual property rights by us.

Our commercial success depends, in part, on our ability to avoid infringing or misappropriating patents or other proprietary rights owned by third parties. From time to time we may receive communications from third parties asserting that our metrology systems may contain design features which are claimed to infringe on their proprietary rights. For example, in August 2005, we were served with a complaint by KLA-Tencor, or KLA, alleging that certain of our products infringe two of KLA’s patents, Patent No. 6,483,580 and Patent No. 6,590,656. In January 2006, KLA added Patent No. 6,611,330 to its claim. For additional information, refer to Part II,I, Item 1. Legal3 “Legal Proceedings.” Our new or current products may infringe valid intellectual property rights, but even if our products do not infringe, we may be required to expend significant sums of money to defend against infringement claims, or to actively protect our intellectual property rights through litigation.

Our intellectual property may be infringed by third parties despite our efforts to protect it, which could threaten our future success and competitive position and harm our operating results.

Our future success and competitive position depend in part upon our ability to obtain and maintain proprietary technology for our principal product families, and we rely, in part, on patent, trade secret and trademark law to protect that technology. If we fail to adequately protect our intellectual property, it will be easier for our competitors to sell competing products. We own or may license patents relating to our metrology systems, and have filed applications for additional patents. Any of our pending patent applications may be rejected, and we may not in the future be able to develop additional proprietary technology that is patentable. In addition, the patents we own, have been issued or licensed, may not provide us with competitive advantages and may be challenged by third parties. Third parties may also design around these patents.

In addition to patent protection, we rely upon trade secret protection for our confidential and proprietary information and technology. We routinely enter into confidentiality agreements with our employees. However, in the event that these agreements may be breached, we may not have adequate remedies. Our confidential and proprietary information and technology might also be independently developed by or become otherwise known to third parties. We may be required to initiate litigation in order to enforce any patents issued to or licensed by us, or to determine the scope or validity of a third party’s patent or other proprietary rights. Any such litigation, regardless of outcome, could be expensive and time consuming, and could subject us to significant liabilities or require us to re-engineer our product or obtain expensive licenses from third parties, any of which would adversely affect our business and operating results.

Our efforts to protect our intellectual property may be less effective in some foreign countries where intellectual property rights are not as well protected as in the United States.

In 2009, 2008 and 2007, 70.3%, 70.5% and 68.2%, respectively, of our total net revenues were derived from sales to customers in foreign countries, including certain countries in Asia, such as Japan, South Korea, China and Taiwan. The laws of some foreign countries do not protect our proprietary rights to as great an extent as do the laws of the United States, and many U.S. companies have encountered substantial problems in protecting their proprietary rights against infringement in such countries. If we fail to adequately protect our intellectual property in these countries, it would be easier for our competitors to sell competing products and our business would suffer.

Variations in the amount of time it takes for us to sell our systems may cause fluctuations in our operating results, which could cause our stock price to decline.

Variations in the length of our sales cycles could cause our revenues to fluctuate widely from period to period. Our customers generally take long periods of time to evaluate our metrology systems. We expend significant resources educating and providing information to our prospective customers regarding the uses and benefits of our systems. The length of time that it takes for us to complete a sale depends upon many factors, including:

Because of the number of factors influencing the sales process, the period between our initial contact with a customer and the time at which we recognize revenue from that customer, if at all, varies widely. Our sales cycles, including the time it takes for us to build a product to customer specifications after receiving an order, typically range from three to nine months. Occasionally our sales cycles can be much longer, particularly with customers in Asia who may require longer evaluation periods. During the sales cycles, we commit substantial resources to our sales efforts in advance of receiving any revenue, and we may never receive any revenue from a customer despite our sales efforts.

If we do complete a sale, customers often purchase only one of our systems and then evaluate its performance for a lengthy period of time before purchasing additional systems. The purchases are generally made through purchase orders rather than through long-term contracts. The number of additional products that a customer purchases, if any, depends on many factors, including a customer’s capacity requirements. The period between a customer’s initial purchase and any subsequent purchases is unpredictable and can vary from three months to a year or longer. Variations in the length of this period could cause fluctuations in our operating results, which could adversely affect our stock price.

23

Relatively small fluctuations in our system sales volume may cause our operating results to vary significantly each quarter.

During any quarter, a significant portion of our revenue is derived from the sale of a relatively small number of systems. Our automated metrology systems range in price from approximately $200,000 to over $1,300,000 per system, and our integrated metrology systems range in price from approximately $80,000 to $500,000 per system. Accordingly, a small change in the number or mix of systems that we sell could cause significant changes in our operating results.

We depend on orders that are received and shipped in the same quarter, and therefore our results of operations may be subject to significant variability from quarter to quarter.

Our net sales in any given quarter depend upon a combination of orders received in that quarter for shipment in that quarter and shipments from backlog. Our backlog at the beginning of each quarter does not include all systems sales needed to achieve expected revenues for that quarter. Consequently, we are dependent on obtaining orders for systems to be shipped in the same quarter that the order is received. Moreover, customers may reschedule shipments, and production difficulties could delay shipments. Accordingly, we have limited visibility into future product shipments, and our results of operations may be subject to significant variability from quarter to quarter.

Because of the high cost of switching equipment vendors in our markets, it may be difficult for us to attract customers from our competitors even if our metrology systems are superior to theirs.

We believe that once a semiconductor customer has selected one vendor’s metrology system, the customer generally relies upon that system and, to the extent possible, subsequent generations of the same vendor’s system, for the life of the application. Once a vendor’s metrology system has been installed, a customer must often make substantial technical modifications and may experience downtime in order to switch to another vendor’s metrology system. Accordingly, unless our systems offer performance or cost advantages that outweigh a customer’s expense of switching to our systems, it will be difficult for us to achieve significant sales from that customer once it has selected another vendor’s system for an application.

If we fail to develop new and enhanced metrology systems we will likely lose market share to our competitors.

We operate in an industry that is subject to technological changes, changes in customer demands and the introduction of new, higher performance systems with short product life cycles. To be competitive, we must continually design, develop and introduce in a timely manner new metrology systems that meet the performance and price demands of semiconductor manufacturers and suppliers. We must also continue to refine our current systems so that they remain competitive. We may experience difficulties or delays in our development efforts with respect to new systems, and we may not ultimately be successful in developing them. Any significant delay in releasing new systems could adversely affect our reputation, give a competitor a first-to-market advantage or allow a competitor to achieve greater market share.

Lack of market acceptance for our new products may affect our ability to generate revenue and may harm our business.

We have recentlyIn 2008, we introduced several products to the market including the NanoCD Suite, Impulse and the Lynx platform. In 2009, we introduced the Atlas XP+ system as the follow-on to our Atlas metrology system and our Caliper Mosaic Overlay system. We have invested substantial time and resources into the development of these products. However, we cannot accurately predict the future level of acceptance of our new products by our customers. As a result, we may not be able to generate anticipated revenue from sales of these products. While we anticipate that our new products will become an increasingly larger component of our business, their failure to gain acceptance with our customers could materially harm our business. Additionally, if our new products do gain market acceptance, our ability to sell our existing products may be impeded and our business would suffer.

Our intellectual property may be infringed by third parties despiteWe depend on new products and processes for our effortssuccess. Consequently, we are subject to protect it, which could threatenrisks associated with rapid technological change.

Rapid technological changes in semiconductor manufacturing processes subject us to increased pressure to develop technological advances enabling such processes. We believe that our future success and competitive position and harm our operating results.

Our future success and competitive position dependdepends in part upon our ability to obtaindevelop and maintain proprietary technologyoffer new products with improved capabilities and to continue to enhance our existing products. If new products have reliability or quality problems, our performance impacted by reduced orders, higher manufacturing costs, delays in acceptance and payment for our principal product families,new products, and we rely, in part, on patent, trade secretadditional service and trademark law to protect that technology. If we fail to adequately protect our intellectual property, it will be easier for our competitors to sell competing products.warranty expenses. We own or may license patents relating to our metrology systems, and have filed applications for additional patents. Any of our pending patent applications may be rejected, and we maymight not in the future be able to develop additional proprietary technologyand manufacture new products successfully, or new products that is patentable. In addition, the patents we own, have been issued or licensed,introduce may not provide us with competitive advantages and may be challenged by third parties. Third parties may also design around these patents.

In addition to patent protection, we rely upon trade secret protection for our confidential and proprietary information and technology. We routinely enter into confidentiality agreements with our employees. However,fail in the event thatmarketplace. Our failure to complete commercialization of these agreements may be breached, we may not have adequate remedies. Our confidentialnew products in a timely manner could result in unanticipated costs and proprietary information and technology might also be independently developed by or become otherwise known to third parties. We may be required to initiate litigation in order to enforce any patents issued to or licensed by us, or to determine the scope or validity of a third party’s patent or other proprietary rights. Any such litigation, regardless of outcome, could be expensive and time consuming, and could subject us to significant liabilities or require us to re-engineer our product or obtain expensive licenses from third parties, any ofinventory obsolescence, which would adversely affect our financial results.

In order to develop new products and processes, we expect to continue to make significant investments in R&D and to pursue joint development relationships with customers, suppliers or other members of the industry. We must manage product transitions and joint development relationships successfully, as introduction of new products could adversely affect our sale of existing products. Moreover, future technologies, processes or product developments may render our current product offerings obsolete, leaving us with non-competitive products, or obsolete inventory, or both.

We are subject to risks associated with our competitors’ strategic relationships and their introduction of new products and we may lack the financial resources or technological capabilities of certain of our competitors needed to capture increased market share.

We expect to face significant competition from multiple current and future competitors. We believe that other companies are developing systems and products that are competitive to our products and are planning to introduce new products, which may affect our ability to sell our existing products. We face a greater risk if our competitors enter into strategic relationships with leading semiconductor manufacturers covering products similar to those we sell or may develop, as this could adversely affect our ability to sell products to those manufacturers.

We believe that to remain competitive we will require significant financial resources to offer a broad range of products, to maintain customer service and support centers worldwide, and to invest in product and process R&D. Certain of our competitors have substantially greater financial resources and more extensive engineering, manufacturing, marketing and customer service and support resources than we do and therefore have the potential to increasingly dominate the semiconductor equipment industry. These competitors may deeply discount products similar to those that we sell, challenging or even exceeding our ability to make similar accommodations and threatening our ability to sell those products. As a result, we may fail to continue to compete successfully worldwide.

In addition, our competitors may provide innovative technology that may have performance advantages over systems we currently expect to offer. They may be able to develop products comparable or superior to those that we offer or may adapt more quickly to new technologies or evolving customer requirements. In particular, while we currently are developing additional product enhancements that we believe will address future customer requirements, we may fail in a timely manner to complete the development or introduction of these additional product enhancements successfully, or these product enhancements may not achieve market acceptance or be competitive. Accordingly, we may be unable to continue to compete in our markets and competition may intensify, or future competition, operating results, financial condition, and/or cash flows could suffer.

If we are unable to adjust the scale of our business in response to rapid changes in demand in the semiconductor equipment industry, our operating results and our ability to compete successfully may be impaired.

The business cycle in the semiconductor equipment industry has historically been characterized by frequent periods of rapid change in demand that challenge our management to adjust spending and resources allocated to operating results. In March 2006,activities. During periods of growth or decline in demand for our products and services, we filedface significant challenges in maintaining adequate financial and business controls, management processes, information systems and procedures and in training, managing, and appropriately sizing our supply chain, our work force, and other components of our business on a complaint against Nova Measuring Instruments for infringingtimely basis. Our success will depend, to a significant extent, on the ability of our Patent No. Re 34,783. In October 2006,executive officers and other members of our senior management to identify and respond to these challenges, our gross margins and earnings may be impaired during periods of demand decline, and we filed a new complaint against Nova for infringementmay lack the infrastructure and resources to scale up our business to meet customer expectations and compete successfully during periods of Patent No. 5,867,276 and 7,115,858. In April 2007, we and Nova agreed to dismiss, without prejudice, all pending patent litigation and entered into a covenant not to sue one another for any patent for a period of one year.demand growth.

If we choose to acquire new and complementary businesses, products or technologies instead of developing them ourselves, we may be unable to complete these acquisitions or may not be able to successfully integrate an acquired business in a cost-effective and non-disruptive manner.

Our success depends on our ability to continually enhance and broaden our product offerings in response to changing technologies, customer demands and competitive pressures. To achieve this, from time to time we have acquired complementary businesses, products, or technologies instead of developing them ourselves and may choose to do so in the future. For example, inOn June 17, 2009, we entered into a strategic partnership with Zygo under an exclusive OEM supply agreement to provide interferometer sensors to Nanometrics for incorporation into the Unifire™ line of products as well as Nanometrics’ family of automated metrology systems. In May 2008, we acquired Tevet Process Control Technologies, Ltd., an integrated metrology company serving the worldwide semiconductor and solar manufacturing industry. At the outset, weWe do not know if we will be able to complete any additional acquisitions, or whether we will be able to successfully integrate any acquired business, operate them profitably or retain their key employees. Integrating any business, product or technology that we acquire could be expensive and time consuming, disrupt our ongoing business and distract our management. In addition, in order to finance any acquisitions, we may be required to raise additional funds through public or private equity or debt financings. In that event, we could be forced to obtain financing on terms that are not favorable to us and, in the case of an equity or convertible debt financing, which may result in dilution to our stockholders. If we are unable to integrate any acquired entities, products or technologies effectively, our business will suffer.

We manufacture all of our systems at a limited number of facilities, and any prolonged disruption in the operations of those facilities could reduce our revenues.

We produce all of our systems in our manufacturing facilities located in Milpitas, California and to a lesser extent, we manufacture through our subsidiary in South Korea.California. We use contract manufacturers in China, Israel, Japan and the United States. In addition, we perform limited subassembly for certain products at our York, England facility. Our manufacturing processes are highly complex and require sophisticated, costly equipment and specially designed facilities. As a result, any prolonged disruption in the operations of our manufacturing facilities, such as those resulting from a severeacts of war, terrorism, political instability, health epidemics, fire, earthquake, flooding or earthquake,other natural disaster could seriously harm our ability to satisfy our customer order deadlines.

25

Our efforts to protect our intellectual property may be less effective in some foreign countries where intellectual property rights are not as well protected as in the United States.

In 2008, 2007 and 2006, 70.5%, 68.2% and 65.0%, respectively, of our total net revenues were derived from sales to customers in foreign countries, including certain countries in Asia, such as Japan, South Korea, China and Taiwan. The laws of some foreign countries do not protect our proprietary rights to as great an extent as do the laws of the United States, and many U.S. companies have encountered substantial problems in protecting their proprietary rights against infringement in such countries. If we fail to adequately protect our intellectual property in these countries, it would be easier for our competitors to sell competing products and our business would suffer.

Our results of operations could vary as a result of the methods, estimates and judgments we use in applying our accounting policies.

The methods, estimates and judgments we use in applying our accounting policies have a significant impact on our results of operations, see “Significant Accounting Policies” in Part II, Item 8, Note 1. Such methods, estimates and judgments are, by their nature, subject to substantial risks, uncertainties and assumptions, and factors may arise over time that leadleads us to change our methods, estimates and judgments. Changes in those methods, estimates and judgments could

significantly affect our results of operations. In particular, our operating results have been affected by adoption of SFAS No. 123(R) for the calculation of share-based compensation expense and by implementation of SFAS 142 and 144 regarding the testing and potential impairment of long-lived assets such as goodwill and other intangible assets. The process of evaluating potential impairments is highly subjective and requires significant judgment, and our results of operations could vary in the future if the forecasts used in subjective assessments are inaccurate.

Our operating results have varied in the past and probably will continue to vary significantly in the future, which will cause volatility in our stock price.

Our quarterly and annual operating results have varied significantly in the past and are likely to vary in the future, which volatility could cause our stock price to decline. Some of the factors that may influence our operating results and subject our stock to extreme price and volume fluctuations include:

If our operating results in any period fall below the expectations of securities analysts and investors, the market price of our common stock would likely decline.

We incur significant costs as a result of complying with laws and regulations affecting public companies.

Compliance with laws and regulations affecting public companies, including the provisions of the Sarbanes-Oxley Act of 2002, has resulted in and, we expect, will continue to result in substantial accounting, legal and administrative costs. In particular, Section 404 of the Sarbanes-Oxley Act of 2002 and the rules of the SEC and the Public Company Accounting Oversight Board impose requirements with respect to the evaluation of the effectiveness of our internal controls. The cost of complying with these requirements is substantial.

We are highly dependent on international sales and operations, which exposes us to foreign political and economic risks.

We maintain facilities in Japan, Taiwan, the United Kingdom, South Korea, China, Israel and the European Union. We anticipate that international sales will continue to account for a significant portion of our revenues. International sales and operations carry inherent risks such as:

If any of these risks materialize and we are unable to manage them, our international sales and operations would suffer.

We are exposed to fluctuations in the exchange rates of foreign currency.

As a global concern, we face exposure to adverse movements in foreign currency exchange rates. With our operations in Japan, South Korea, the United Kingdom, Taiwan, China and Israel, a significant percentage of our cash flows are exposed to foreign currency risk. In 2009, 2008 and 2007, 70.3%, 70.5% and 68.2%, respectively, of our total net revenues were derived from sales to customers in foreign countries, including certain countries in Asia, such as Japan and South Korea. These exposures may change over time as business practices evolve and could have a material adverse impact on our financial results and cash flow.

We are subject to various environmental laws and regulations that could impose substantial costs upon us and may harm our business, operating results and financial condition.

Some of our operations use substances regulated under various federal, state, local, and international laws governing the environment, including those relating to the storage, use, discharge, disposal, labeling, and human exposure to hazardous and toxic materials. We could incur costs, fines and civil or criminal sanctions, third-party property damage or personal injury claims, or could be required to incur substantial investigation or remediation costs, if we were to violate or become liable under environmental laws. Liability under environmental laws can be joint and several and without regard to comparative fault. Compliance with current or future environmental laws and regulations could restrict our ability to expand our facilities or require us to acquire additional expensive equipment, modify our manufacturing processes, or incur other significant expenses. We may unintentionally violate environmental laws or regulations in the future as a result of human error, the inability to obtain permits, equipment failure or other causes.

Anti-takeover provisions in our charter documents and Delaware law could discourage, delay or prevent a change in control of our company and may affect the trading price of our common stock.

The anti-takeover provisions of the Delaware General Corporation Law may discourage, delay or prevent a change in control by limiting our ability to engage in a business combination with an interested stockholder for a period of three years after the person becomes an interested stockholder, even if a change of control would be

27

beneficial to our existing stockholders. In addition, our certificate of incorporation and bylaws may discourage, delay or prevent a change in our management or control over us that stockholders may consider favorable. Our certificate of incorporation and bylaws:

Political instability couldWe may experience periodic or prolonged disruption of our IT infrastructure, which may adversely affect our operations.

We rely on our Enterprise Resource Planning (“ERP”) system (SYSPRO) to manage our business and accurately and timely report key data with respect to our results of operations.

The ongoing threatoperations, financial position and cash flows. We may experience periodic or prolonged disruption of terrorism targeted at the United Statesour IT infrastructure arising out of general use of such systems, periodic upgrades and updates, or other regions where we conduct business increases the uncertainty inexternal factors that are outside of our markets and the economy in general. This uncertainty is likely to result in economic stagnation, which would harm our business. In addition, increased international political instability may hindercontrol. Any such disruption could adversely affect our ability to docomplete essential business by increasingprocesses, including our costsevaluation of operations. For example, our transportation costs, insurance costs and sales efforts may become more expensive as a resultinternal control over financial reporting pursuant to Section 404 of geopolitical tension. These tensions may also negatively affectthe Sarbanes-Oxley Act of 2002. If we encounter unforeseen problems with regard to our suppliers and customers. If this international economic and political instability continuesERP system or increases,other IT systems, our business, operations and results of operationsfinancial condition could be harmed.adversely affected.

We may not maintain NASDAQ listing requirements, which would adversely affect the price and liquidity of our common stock.

To maintain the listing of our common stock on The NASDAQ Global Market, we are required to meet certain listing requirements, including a minimum bid price of $1.00 per share. If our stock trades below the $1.00 minimum bid price for 30 consecutive business days, NASDAQ may choose to notify us that it may delist our common stock from The NASDAQ Global Market. If the closing bid price of our common stock did not thereafter regain compliance for a minimum of 10 consecutive trading days during the 180 days following notification by NASDAQ, NASDAQ could delist our common stock from trading on The NASDAQ Global Market. There can be no assurance that our common stock will remain eligible for trading on The NASDAQ Global Market. If our stock were delisted, the ability of our stockholders to sell any of our common stock at all would be severely, if not completely, limited, causing our stock price to continue to decline.

None.

ITEM 2.

PROPERTIES

At December 27, 2008,January 2, 2010, our owned or leased facilities included those described below:

We believe that our existing facilities are suitable and adequate for our current needs and anticipated growth.

In August 2005, KLA-Tencor Corporation or KLA,(“KLA”) filed a complaint against usthe Company in the United States District Court for the Northern District of California. The complaint alleges that certain of ourthe Company’s products infringe two of KLA’s patents. On January 30, 2006, KLA added a third patent to their claim. The complaint seeks a preliminary and permanent injunction against the sale of these products as well as the recovery of monetary damages and attorneys’ fees. We do not believe that any of our products infringe the intellectual property of any third party and we intend to vigorously and aggressively defend ourselves in the litigation. As part of suchits defense, we havethe Company has filed a request for re-examination of two of the three allegedly infringed KLA patents with the U.S. Patent & Trademark Office or PTO.(“PTO”). In March 2006, wethe Company filed a motion for and werewas granted a stay in the patent litigation case until such re-examination is completed. On July 28, 2008, the PTO issued a Notice of Intent to issue a Reexamination Certificate for one of the KLA patents, and subsequently on June 23, 2009 issued an additional Notice of Intent to issue a Reexamination Certificate on the second of three patents. The other two patent reexaminations remain pending.reexamination of the final KLA patent-in-suit remains pending and on September 21, 2009 the Company filed an additional request for re-examination relating to this patent. The case has been stayed, and the Company is waiting for a response from the Patent and Trademark Office before taking any additional action. In all three of the reexamination proceedings, the PTO has issued Office Actions rejecting numerous claims and KLA has amended the claims in response.

No matters were submitted to a vote of security holders during the quarter ended December 27, 2008.

29

PART II

Market Information for Common Stock

Our common stock is quoted on the NASDAQ Global Market under the symbol “NANO.” The following table sets forth, for the periods indicated, the high and low bid prices per share of our common stock as reported on the NASDAQ Global Market. These quotations represent prices between dealers and do not include retail markups, markdowns or commissions and may not necessarily represent actual transactions.

Stockholders

On March 17, 2009,19, 2010, the last reported sales price of our common stock on the NASDAQ Global Market was $1.18$8.57 per share and there were approximately 284256 holders of record of our common stock. Because brokers and the institutions on behalf of stockholders hold many of our shares of common stock, we are unable to estimate the total number of stockholders represented by these record holders.

Dividend Policy

We have never declared or paid any cash dividends on our capital stock. We currently expect to retain future earnings, if any, for use in the operation and expansion of our business and do not anticipate paying any cash dividends in the foreseeable future.

Equity Compensation Plan Information

The following table gives information about the common stock that may be issued under all of our existing equity compensation plans as of December 27, 2008.January 2, 2010.

Stock Performance Graph

The following graph presentation compares cumulative five-year stockholder returns on an indexed basis, assuming a $100 initial investment and reinvestment of dividends, of (a) Nanometrics Incorporated, (b) a broad-based equity market index and (c) an industry-specific index. The broad-based equity market index used is the NASDAQ Composite Index and the industry-specific index used is the RDG Technology Composite Index.

This performance graph shall not be deemed “filed” for purposes of Section 18 of the Securities Exchange Act of 1934, as amended or otherwise subject to the liabilities under that Section, and shall not be deemed to be incorporated by reference into any of our filings under the Securities Act of 1933, as amended or the Exchange Act.

31

Recent Sales of Unregistered Securities

None.

Issuer Purchases of Equity Securities

We repurchased the followingdid not purchase any shares of our common stock during the three-month periodthree and twelve months periods ended December 27, 2008:January 2, 2010.

Issuer PurchaseOn July 26, 2007, our Board of Equity SecuritiesDirectors approved the repurchase of up to $4.0 million of our common stock. Share repurchases under this program may be made through open market and privately negotiated transactions, at times and in such amounts as management deems appropriate. The timing and actual number of shares repurchased will depend on a variety of factors including price, corporate and regulatory requirements and other market conditions. The stock repurchase program may be limited or terminated at any time without prior notice. As of January 2, 2010 there remained $1.3 million available for the future purchase of shares of our common stock.

ITEM 6.

SELECTED FINANCIAL DATA

The selected consolidated financial data set forth below should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the consolidated financial statements and statements and related notes included elsewhere in this Form 10-K.

33

		Fiscal Year End
		2009			2008			2007			2006			2005
		(in thousands)
Consolidated Balance Sheet Data:
Cash, cash equivalents and short-term investments		$	43,526		$	23,980		$	14,919		$	7,957		$	45,394
Working capital			76,771			57,901			57,062			49,721			76,731
Total assets			147,470			123,854			207,076			212,376			136,300
Long-term liabilities incl. current portion of debt obligation			15,317			14,140			1,560			1,807			1,796
Total stockholders’ equity			106,754			92,767			175,844			174,631			120,343

Overview

You should read the following discussion and analysis of our financial condition and results of operations together with “Selected Financial Data” and our consolidated financial statements and related notes appearing elsewhere in this Annual Report on Form 10-K. This discussion and analysis contains forward-looking statements that involve risks, uncertainties and assumptions. The actual results may differ materially from those anticipated in these forward-looking statements as a result of certain factors, including, but not limited to, those presented under “Risk Factors” in Item 1A and elsewhere in this Annual Report on Form 10-K.

We are an innovator in the field of metrology systems for the semiconductor manufacturing and other industries. Our systems are designed to precisely monitor film thickness and critical dimensions that are necessary to control the manufacturing process and provide increased production yields and performance.

Capital expenditures by manufacturers of semiconductors, especially in Asia, are critical to our success. Purchases of our systems by these manufacturers are driven by the expected market demand for their new products and new applications. The increasing complexity of the manufacturing processes for semiconductors is an important factor in the demand for our innovative metrology systems, as are the adoption of optical critical dimension (OCD)OCD metrology across fabrication processes, adoption of immersion lithography and double patterning, adoption of new types of thin film materials and the need for improved process control to drive process efficiencies. Our strategy is to continue to innovate organically as well to evaluate strategic acquisitions in order to address business challenges and opportunities.

Our revenues are primarily derived from product sales but are also derived from customer service and system upgrades for the installed base of our products. In 2008,2009, we derived 74.0%64.1% of our total net revenues from product sales and 26.0%35.9% of our total net revenues from services.

Important Themes and Significant Trends

The semiconductor equipment industry is characterized by cyclical growth. Changing trends in the semiconductor industry continue to drive the need for metrology as a major component of manufacturing systems. These trends include:

Critical Accounting Policies

The preparation of our financial statements conforms to accounting principles generally accepted in the United States of America, which requires management to make estimates and judgments in applying our accounting policies that have an important impact on our reported amounts of assets, liabilities, revenue, expenses and related disclosures at the date of our financial statements. On an on-going basis, management evaluates its estimates including those related to bad debts, inventory valuations, warranty obligations and income taxes. Management bases its estimates and judgments on historical experience and on various other factors that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from management’s estimates. We believe that the application of the following accounting policies requires significant judgments and estimates on the part of management. For a summary of all of our accounting policies, including those discussed below, see Note 1 to The Consolidated Financial Statements.

Revenue Recognition – We recognize revenue when persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, the seller’s price is fixed or determinable, and collectibilitycollectability is reasonably assured. Product revenue includes hardware and also software that is incidental to the products as defined pursuant to AICPA Statement of Position (“SOP”) No. 97-2,Software Revenue Recognition. We derive

35

revenue from three sources—salesthe sale of process control metrology systems (“Product revenue”) as well as spare part sales, billable service, service contracts, and upgrades (together “Service revenue”). Upgrades are a group of parts that change the existing configuration of a product and are included in certain arrangements, separately stated service contracts. Service revenue. They are distinguished from Product revenue, includes product upgrades.which consists of complete, standalone process control metrology systems. Our systems consist of hardware and of software which is incidental to the systems. We periodically review the software element of our systems to ascertain that the software continues to be incidental. Our arrangements for sales of our systems often include customer-specified objective acceptance criteria. Our systems include hardware and software that is incidental to the system. We periodically review the software element of our equipment systems in accordance with AICPA Statement of Position (“SOP”) No. 97-2,Software Revenue Recognition,and Emerging Issues Task Force (“EITF”) Issue No. 03-05,Applicability of SOP 97-2 to Non-Software Deliverables in an Arrangement Containing More-than-Incidental Software, to ascertain that the software continues to be incidental.

For product sales to existing customers, revenue recognition occurs at the time title and risk of loss transfer, which usually occurs upon delivery, if we have reliably demonstrated that the product has successfully met the defined customer specified criteria, and all other recognition criteria has been met. This occurs at the time of shipment, as our terms are FOB shipping point. For initial sales of product where we have not previously met the defined customer acceptance criteria, product revenues are recognized upon the earlier of receipt of written customer acceptance or expiration of the contractual acceptance period. In Japan, where our contractual terms with the customer specify risk of loss and title transfers upon customer acceptance, revenue is recognized upon receipt of written customer acceptance, provided that all other recognition criteria have been met.

All of our products are assembled prior to shipment to our customers. We often perform installation for our customers; however such installation is inconsequential and perfunctory as it may also be performed by third parties and is not considered essential to the functionality of the equipment.

Revenue related to spare partspart sales is recognized upon shipmentshipment. Revenue related to billable service is recognized as the services are performed and if billable service and spare parts are sold together, revenue is included as part ofrecognized when both the parts are delivered and the service revenue. Service revenue also includesis completed. For service contracts, spare parts, and non-warranty and billable repairs of systems, and product upgrades. Whereas service revenue related to service contracts is recognized ratably over the period underservice contract service revenue related to billable repairs of systemsperiod. Revenue on upgrades is recognized as services are performed and service parts are delivered.when the upgrade has been delivered to the customer. For initial upgrade sales where we have not previously met the defined customer acceptance criteria, if any, revenue is recognized upon the early of receipt of written customer acceptance or expiration of the contractual acceptance period. On occasion, customers request a warranty period longer than our standard 12 month warranty. In those instances where extended warranty services are separately quoted to the customer, we follow the guidance of Financial Accounting Standards Board Technical Bulletin 90-1,“Accounting for Separately Priced Extended Warranty and Product Maintenance Contracts,” associated revenue is deferred and recognized to incomeas service revenue ratably over the term of the contract. Unearned maintenanceThe portion of service contracts and service contract revenue isextended warranty services agreements that are uncompleted at the end of any reporting period are included in deferred revenue. Furthermore, we generally we do not provide our customers with any return rights.

The guidance in EITF No. 00-21,Revenue Arrangements with Multiple Deliverables,is considered inIn cases where certain elements of a sales arrangement are not delivered and accepted at the same time. In such cases,time, we defer the relative fair value of the undelivered element until that element is delivered and accepted by the customer.customer if we have fair value of all elements. In multiple-element arrangements where we only have fair value of the undelivered elements, then we apply the residual method. In order to recognize revenue associated with delivered elements, the following criteria must be met: (a) the delivered item(s) has value to the customer on a standalone basis; (b) there is objective and reliable evidence of the fair value of the undelivered item(s); and (c) delivery or performance of the undelivered item(s) is considered probable and substantially in our control. If the arrangement does not meet all the above criteria, the entire amount of the sales contract is deferred until the criteria have been met or all elements have been delivered to the customer. Objective and reliable evidence of the fair value is based on the amounts for which we sell equivalent products or services on a standalone basis. Upon recognition of product revenue, a liability is recorded for anticipated warranty costs. Service contracts may be purchased by the customer during or after the warranty period.

Allowance for Doubtful Accounts – We maintain allowances for estimated losses resulting from the inability of our customers to make required payments. Credit limits are established through a process of reviewing the financial history and stability of our customers. Where appropriate and available, we obtain credit rating reports and financial statements of customers when determining or modifying their credit limits. We regularly evaluate the collectibilitycollectability of our trade receivable balances based on a combination of factors such as the length of time the receivables are past due, customary payment practices in the respective geographies and our historical collection experience with customers. We believe that our allowance for doubtful accounts reflects our risk associated with

smaller rather than larger customers and that our reported allowances are adequate. If however, the financial conditions of customers were to deteriorate, resulting in their inability to make payments, we would assess the necessity to record additional allowances whichallowances. This would result in additional general and administrative expenses being recorded for the period in which such determination was made.

Inventories– Inventories are stated at the lower of standard cost (which approximates actual cost on a first-in, first-out basis), or market. We are exposed to a number of economic and industry factors that could result in portions of our inventory becoming either obsolete or in excess of anticipated usage, or saleable only for amounts that are less than their carrying amounts. These factors include, but are not limited to, technological changes in our market, our ability to meet changing customer requirements, competitive pressures in products and prices, and the availability of key components from our suppliers. We have established inventory reserves when conditions exist that suggest that our inventory may be in excess of anticipated demand or is obsolete based upon our assumptions about future demand for our products and market conditions. We regularly evaluate our ability to realize the value of our inventory based on a combination of factors including the following: historical usage rates, forecasted sales of usage, product end-of-life dates, estimated current and future market values and new product introductions. For demonstration inventory, we also consider the age of the inventory and potential cost to refurbish the inventory prior to sale. Demonstration inventory is amortized over its useful life and the amortization expense is included in total depreciation and amortization on our cash flow statement. When recorded, our reserves are intended to reduce the carrying value of our inventory to its net realizable value. If actual demand for our products deteriorates, or market conditions are less favorable than those that we project, additional reserves may be required.

Inventories – delivered systems – We reflect the cost of systems that were invoiced upon shipment but deferred for revenue recognition purposes separate from our inventory held for sale as “Inventories—delivered systems”.

Product Warranties – We sell the majority of our products with a twelve-month repair or replacement warranty from the date of acceptance which generally represents the date of shipment. We provide an accrual for estimated future warranty costs based upon the historical relationship of warranty costs to the cost of products sold. The estimated future warranty obligations related to product sales are reported in the period in which the related revenue is recognized. The estimated future warranty obligations are affected by the warranty periods, sales volumes, product failure rates, material usage and labor and replacement costs incurred in correcting a product failure. If actual product failure rates, material usage, labor or replacement costs differ from our estimates, revisions to the estimated warranty obligations would be required. For new product introductions where limited or no historical information exists, we may use warranty information from other previous product introductions to guide us in estimating our warranty accrual. The warranty accrual represents the best estimate of the amount necessary to settle future and existing claims on products sold as of the balance sheet date. We periodically assess the adequacy of our recorded warranty reserve and adjust the amounts in accordance with changes in these factors.

Goodwill and Intangible Assets – – Goodwill is initially recorded when the purchase price paid for an acquisition exceeds the estimated fair value of the net identified tangible and intangible assets acquired. Under Statement of Financial Accounting Standards (“SFAS”) No. 142, “Goodwill and Other Intangible Assets” (“SFAS 142”), intangible assets with finite lives are amortized over their useful lives while goodwill and indefinite lived assets are not amortized but tested annually for impairment. Our impairment review process is completed as of the last day of November of each year or whenever events or circumstances occur which indicate that an impairment might have occurred. SFAS 142The standard provides for a two-step approach to determining whether and by how much goodwill has been impaired. The first step requires a comparison of the fair value of Nanometrics’ reporting units (product and service) to its net book value. If the fair value is greater, then no impairment is deemed to have occurred. If the fair value is less, then the second step must be performed to determine the amount, if any, of actual impairment.

37

The process of evaluating the potential impairment of goodwill is highly subjective and requires significant judgment. In estimating the fair value of Nanometrics, we make estimates and judgments about future revenues and cash flows for each reporting unit. To determine the fair value, our review process includes the income method and is based on a discounted future cash flow approach that uses estimates including the following for each reporting unit: revenue, based on assumed market growth rates and our assumed market share; estimated costs; and appropriate discount rates based on the particular business’sbusiness’ weighted average cost of capital. Our estimates of market segment growth, our market segment share and costs are based on historical data, various internal estimates and certain external sources, and are based on assumptions that are consistent with the plans and estimates we are using to manage the underlying businesses. Our business consists of both established and emerging technologies and our forecasts for emerging technologies are based upon internal estimates and external sources rather than historical information. We also consider our market capitalization on the dates of our impairment tests in determining the fair value of the respective businesses. As part of the second step in determining the amount of goodwill impairment, if any, we allocate the fair value of the reporting units to all of its assets and liabilities as if the reporting units had been acquired in a business combination and the fair value of the reporting units was the price paid to acquire the reporting unit. The excess of the fair value of each reporting unit over the amount assigned to its assets and liabilities is the implied fair value of goodwill. When impairment is deemed to have occurred, we will recognize an impairment charge to reduce the carrying amount of our goodwill to its implied fair value.

Income Tax Assets and Liabilities – We account for income taxes based on SFAS 109, “Accounting for Income Taxes”, wherebysuch that deferred tax assets and liabilities must be recognized using enacted tax rates for the effect of temporary differences between the book and tax accounting for assets and liabilities. Also, deferred tax assets must be reduced by a valuation allowance if it is more likely than not that a portion of the deferred tax asset will not be realized in the future. We evaluate the deferred tax assets on a quarterly basis to determine whether or not a valuation allowance is appropriate. Factors used in this determination include future expected income and the underlying asset or liability which generated the temporary tax difference. Our income tax provision is primarily impacted by federal statutory rates, state and foreign income taxes and changes in our valuation allowance.

Stock-Based Compensation – Upon adoption of SFAS 123(R),“Share based payment”, on January 1, 2006, we began estimating–We estimate the value of employee stock options on the date of grant using the Black-Scholes model. The determination of fair value of share-based payment awards on the date of grant using an option-pricing model is affected by our stock price as well as assumptions regarding a number of highly complex and subjective variables. These variables include, but are not limited to the expected stock price volatility over the term of the awards, and actual and projected employee stock option exercise behaviors. The expected term of options granted is calculated based on the simplified method allowed by Staff Accounting Bulletin 107 and extended by Staff Accounting Bulletin 110.method. The expected volatility is based on the historical volatility of our stock price.

Restructuring Charge – During 2009, 2008 and 2007, we implemented a restructuring programprograms based on our business strategy and recorded significant accruals in connection with the restructuring program. In connection with the plan we have recorded estimated expenses for severance and other costs. In accordance with SFAS 146, “Accounting for Costs Associated with Exit or Disposal Activities”, generally costs associated with restructuring activities have been recognized when they are incurred rather than the date of a commitment to an exit or disposal plan. In addition post-employment benefits accrued for workforce reductions related to restructuring activities are accounted for under SFAS 112, “Employer’s Accounting Post-Employment Benefits”. A liability for post-employment benefits is recorded when payment is probable, the amount is reasonably estimable, and the obligation relates to rights that have vested or accumulated.

Given the significance and complexity of restructuring activities, and the timing of the execution of such activities, the restructuring process involves periodic reassessments of the estimates made at the time the original decisions were made, including evaluating market conditions for expected disposals of assets and vacancy of space. Although we believe that these estimates accurately reflect the costs of the restructuring programs, actual results may vary or differ, thereby requiring us to record additional provisions or reverse a portion of such provisions.

Recent Accounting Pronouncements

See Note 1 of the Consolidated Financial Statements for a description of recent accounting pronouncements, including the respective dates of adoption and effects on results of operations and financial condition.

Results of Operations

The following table presents our consolidated statements of operations data as a percentage of total net revenues for fiscal years ended January 2, 2010, December 27, 2008 and December 29, 2007 and December 30, 2006.2007.

39

Fiscal years 2009, 2008 and 2007 and 2006 (ended January 2, 2010, December 27, 2008 and December 29, 2007, and December 30, 2006, respectively)

Total net revenues.    Our net revenues were comprised of the following categories (in thousands, except percent):

In 2009, net revenues from automated systems decreased by $13.2 million compared to the comparable period in 2008, which decreases were primarily the result of a global reduction in capital spending by semiconductor manufacturers, though in the third and fourth quarters of 2009, we experienced an increase in revenues in automated metrology, in part due to increases in multi-system orders and technology upgrades in both the memory and logic sections, strong sales of our thin-film and OCD systems, increasing traction with our Caliper Mosaic™ overlay product, and further penetration into high-growth segments such as high-brightness LEDs. In 2009, integrated systems decreased by $13.2 million when compared to 2008 due primarily to reduced market demand. Sales of our integrated systems are highly dependent on, and driven by, manufacturing companies expanding their capacity. Given current global economic conditions, manufacturing companies have not been expanding their capacity; and therefore, sales of our systems to these companies have declined. Service revenue improved by $1.0 million over the comparable period in 2008, primarily due to higher in-the-field tool upgrades.

In 2008, net revenues from automated metrologysystems decreased by $28$37.5 million, and from integrated systems by $13$13.0 million when compared to 2007 due to global reductions in capital spending by the majority of semiconductor manufacturers. Service revenue improved by $6.3 million over 2007 primarily due to increased demand for OCD in-the-field upgrades to existing tools, as well as improved service field practices.

In 2007, net revenues from automated metrology increased $24 million as compared to 2006 reflecting demand for our automated and integrated products as semiconductor manufacturers continue to increase their manufacturing capacity. Also contributing to the higher revenues in 2007 was a full year of sales from Accent and Soluris related products. Incremental revenues from Accent and Soluris related products for 2007, over the comparable 2006 levels, was $14.1 million. Service revenue increased reflecting a full year of service activity from our Accent and Soluris acquisitions which contributed to higher sales of parts and services, due in part to a larger installed base of systems. In addition, we experienced a higher level of in-the-field tool upgrades than in the previous year.

Gross margins.    Our gross margin breakdown was as follows (in percent):

The product gross margin in 2009 moved downward from 2008, from 48.8% to 45.9%, as a result of lower revenues and also changes in product mix. Service gross margin improved in 2009 from 29.5% to 49.2% due to a significant increase in service upgrade revenues, which have a higher gross margin relative to our core service revenues. The continued operation of our core service department in a more efficient manner, including improvements to our job scheduling process also contributed to the improvement of our service gross margins.

The product gross margin in 2008 moved slightly downward from 2007, from 49.3% to 48.8%, as a result of lower volume partially offset by improved manufacturing efficiencies.spending cuts. Service gross margin improved in 2008 from (2.4)% to 29.5%, with the favorable contribution from in-the-field tool upgrades, which tend to achieve higher gross margins than our core service revenues, and our focus on controlling personnel-related expenses.

The product gross margin increased in 2007 as compared to 2006 due to improved efficiencies achieved from both higher volumes and the integration of manufacturing operations for Accent and Soluris related products. Also, contributing to the higher gross margin in 2007 were lower warranty expenses of $0.8 million due to improvements in product reliability. The improvement in gross margin for Service in 2007 reflects the favorable margin achieved from our in-the-field tool upgrades and our focus on controlling expenses including personnel, personnel related expenses and material costs as compared to 2006.

Operating expenses.    Our operating expenses were comprised of the following categories (in thousands):