ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIA
L
C
ONDITION AND RESULTS OF OPERATIONS
The Company’s condensed consolidated financial statements, accompanying notes and the “Safe Harbor” Statement, each as appearing earlier in this report, should be referred to in conjunction with this Management’s Discussion and Analysis of Financial Condition and Results of Operations.
Net Sales by Business Segment
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(In thousands)
|
|
Three Months Ended
|
|
|
Six Months Ended
|
|
|
|
December 31
|
|
|
December 31
|
|
|
|
2013
|
|
|
2012
|
|
|
2013
|
|
|
2012
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Lighting Segment
|
|
$
|
57,380
|
|
|
$
|
53,743
|
|
|
$
|
116,851
|
|
|
$
|
109,534
|
|
Graphics Segment
|
|
|
12,954
|
|
|
|
10,532
|
|
|
|
26,962
|
|
|
|
21,277
|
|
Electronic Components Segment
|
|
|
4,073
|
|
|
|
4,959
|
|
|
|
9,153
|
|
|
|
10,713
|
|
All Other Category
|
|
|
1,716
|
|
|
|
1,848
|
|
|
|
3,643
|
|
|
|
4,277
|
|
|
|
$
|
76,123
|
|
|
$
|
71,082
|
|
|
$
|
156,609
|
|
|
$
|
145,801
|
|
Operating Income (Loss) by Business Segment
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(In thousands)
|
|
Three Months Ended
|
|
|
Six Months Ended
|
|
|
|
December 31
|
|
|
December 31
|
|
|
|
2013
|
|
|
2012
|
|
|
2013
|
|
|
2012
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Lighting Segment
|
|
$
|
2,157
|
|
|
$
|
2,477
|
|
|
$
|
5,968
|
|
|
$
|
6,990
|
|
Graphics Segment
|
|
|
(275
|
)
|
|
|
(1,140
|
)
|
|
|
(112
|
)
|
|
|
(1,495
|
)
|
Electronic Components Segment
|
|
|
1,041
|
|
|
|
(1,559
|
)
|
|
|
2,013
|
|
|
|
(773
|
)
|
All Other Category
|
|
|
124
|
|
|
|
(1,429
|
)
|
|
|
128
|
|
|
|
(1,431
|
)
|
Corporate and Eliminations
|
|
|
(1,536
|
)
|
|
|
(1,058
|
)
|
|
|
(3,647
|
)
|
|
|
(2,973
|
)
|
|
|
$
|
1,511
|
|
|
$
|
(2,709
|
)
|
|
$
|
4,350
|
|
|
$
|
318
|
|
Summary Comments
Fiscal 2014 second quarter net sales of $76,123,000 increased $5.0 million or 7.1% as compared to second quarter fiscal 2013. Net sales were favorably influenced by increased net sales of the Lighting Segment (up $3.6 million or 6.8%), and increased net sales of the Graphics Segment (up $2.4 million or 23.0%). Net sales were unfavorably influenced by decreased net sales of the Electronic Components Segment (down $0.9 million or 17.9%) and decreased net sales of the All Other Category (down $0.1 million or 7.1%).
Fiscal 2014 first half net sales of $156,609,000 increased $10.8 million or 7.4% as compared to the same period of fiscal 2013. Net sales were favorably influenced by increased net sales of the Lighting Segment (up $7.3 million or 6.7%) and increased net sales of the Graphics Segment (up $5.7 million or 26.7%). Net sales were unfavorably influenced by decreased net sales of the Electronic Components Segment (down $1.6 million or 14.6%) and decreased net sales of the All Other Category (down $0.6 million or 14.8%).
Fiscal 2014 second quarter operating income of $1,511,000 increased $4.2 million from an operating loss of $(2,709,000) in the same period the prior year. The $4.2 million increase from an operating loss in fiscal 2013 to an operating profit in fiscal 2014 was the net result of increased net sales, an increase in gross profit as a percentage of net sales from 19.5% in the second quarter of fiscal 2013 to 22.0% in the second quarter of fiscal 2014, an inventory reserve of $1.2 million against inventory deemed technologically obsolete and no longer useable at our Canadian operation in fiscal 2013 with no comparable expense in fiscal 2014, a small increase in selling and administrative expenses, a reduction of the contingent earn-out liability related to the Virticus acquisition ($0.7 million as further discussed in Note 12) in fiscal 2013 with no comparable reduction of expense in fiscal 2014, and a goodwill impairment expense of $2.1 million in fiscal 2013 with no comparable expense in fiscal 2014.
Fiscal 2014 first half operating income of $4,350,000 increased $4.0 million from operating income of $318,000 in the same period the prior year. The $4.0 million increase in operating income was the net result of increased net sales, an increase in gross profit as a percentage of net sales from 21.8% in the first half of fiscal 2013 to 22.9% in the first half of fiscal 2014, an inventory reserve of $1.2 million against inventory deemed technologically obsolete and no longer useable at our Canadian operation in fiscal 2013 with no comparable expense in fiscal 2014, an increase in selling and administrative expenses primarily due to an increase in sales commissions, a reduction of the contingent earn-out liability related to the Virticus acquisition ($0.7 million as further discussed in Note 12) in fiscal 2013 with no comparable reduction of expense in fiscal 2014, and a goodwill impairment expense of $2.1 million in fiscal 2013 with no comparable expense in fiscal 2014.
The Company’s total net sales of products and services related to solid-state LED technology in light fixtures and video screens for sports, advertising and entertainment markets have been recorded as indicated in the table below. In addition, the Company sells certain elements of graphic identification programs that contain solid-state LED light sources.
|
|
LED Net Sales
|
|
(In thousands)
|
|
FY 2014
|
|
|
FY 2013
|
|
|
% Change
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
First Quarter
|
|
$
|
25,293
|
|
|
$
|
23,809
|
|
|
|
6.2
|
%
|
Second Quarter
|
|
|
27,466
|
|
|
|
18,724
|
|
|
|
46.7
|
%
|
First Half
|
|
|
52,759
|
|
|
|
42,533
|
|
|
|
24.0
|
%
|
Third Quarter
|
|
|
|
|
|
|
18,794
|
|
|
|
|
|
Nine Months
|
|
|
|
|
|
|
61,327
|
|
|
|
|
|
Fourth Quarter
|
|
|
|
|
|
|
18,305
|
|
|
|
|
|
Full Year
|
|
|
|
|
|
$
|
79,632
|
|
|
|
|
|
LED net sales include sales of LED lighting products, certain graphics products containing LEDs, and LED video and sports screens. Second quarter fiscal 2014 LED net sales of $27,466,000 were up $8.7 million or 46.7% from the same period of the prior year. The $27,466,000 total LED net sales and the $8.7 million increase are primarily the net result of Lighting Segment LED net sales of $26.7 million (up $8.4 million or 45.8%), which is comprised of $25.5 million of light fixtures having solid-state LED technology and $1.1 million related to video screens and Graphics Segment LED net sales of $0.8 million (up $0.4 million or 131%). LED net sales to the All Other Category LED were negligible in the second quarter of fiscal 2014 and were down from sales of $0.1 million during the same period of the prior year. First half fiscal 2014 total LED net sales of $52,759,000 were $10.2 million or 24.0% higher than the same period of the prior year. The $52,759,000 total LED net sales and the $10.2 million increase are primarily the result of Lighting Segment LED net sales of $50.5 million (up $8.6 million or 20.6%), which is comprised of $48.7 million of light fixtures having solid-state LED technology and $1.8 million related to video screens, Graphics Segment LED net sales of $1.5 million (up $0.9 million or 172%), and All Other Category LED net sales of $0.8 million (up $0.7 million or 536%).
Non-GAAP Financial Measures
The Company believes it is appropriate to evaluate its performance after making adjustments to the as-reported U.S. GAAP net income (loss). Adjusted net income (loss) and earnings (loss) per share, which exclude the impact of the reduction of a contingent earn-out liability and goodwill impairments, are non-GAAP financial measures. We believe that these adjusted supplemental measures are useful in assessing the operating performance of our business. These supplemental measures are used by our management, including our chief operating decision maker, to evaluate business results. We exclude these items because they are not representative of the ongoing results of operations of our business. Below is a reconciliation of this non-GAAP measure to net income (loss) for the periods indicated.
(In thousands, except per share data; unaudited)
|
|
|
|
Second Quarter FY 2014
|
|
|
Second Quarter FY 2013
|
|
|
|
|
|
|
|
Diluted
|
|
|
|
|
|
|
Diluted
|
|
|
|
Amount
|
|
|
EPS
|
|
|
Amount
|
|
|
EPS
|
|
Reconciliation of net income (loss) to
adjusted net income (loss):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) and earnings (loss) per share as reported
|
|
$
|
870
|
|
|
$
|
0.04
|
|
|
$
|
(2,450
|
)
|
|
$
|
(0.10
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Adjustment for the reduction of a
contingent Earn-Out liability,
inclusive of the income tax effect
|
|
|
--
|
|
|
|
--
|
|
|
|
(511
|
)
(1)
|
|
|
(0.02
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Adjustment for goodwill impairment, inclusive of the income tax effect
|
|
|
--
|
|
|
|
--
|
|
|
|
1,552
|
(2)
|
|
|
0.06
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Adjusted net income (loss) and
earnings (loss) per share
|
|
$
|
870
|
|
|
$
|
0.04
|
|
|
$
|
(1,409
|
)
|
|
$
|
(0.06
|
)
|
(In thousands, except per share data; unaudited)
|
|
|
|
First Half FY 2014
|
|
|
First Half FY 2013
|
|
|
|
|
|
|
|
Diluted
|
|
|
|
|
|
|
Diluted
|
|
|
|
Amount
|
|
|
EPS
|
|
|
Amount
|
|
|
EPS
|
|
Reconciliation of net income (loss) to
adjusted net income (loss):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) and earnings (loss) per share as reported
|
|
$
|
2,735
|
|
|
$
|
0.11
|
|
|
$
|
(620
|
)
|
|
$
|
(0.03
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Adjustment for the reduction of a
contingent Earn-Out liability,
inclusive of the income tax effect
|
|
|
--
|
|
|
|
--
|
|
|
|
(511
|
)
|
|
|
(0.02
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Adjustment for goodwill impairment, inclusive of the income tax effect
|
|
|
--
|
|
|
|
--
|
|
|
|
1,552
|
|
|
|
0.06
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Adjusted net income and
earnings per share
|
|
$
|
2,735
|
|
|
$
|
0.11
|
|
|
$
|
421
|
|
|
$
|
0.02
|
|
The income tax effects of the adjustments in the tables above were calculated using the estimated U.S. effective income tax rate for the period indicated. The income tax effects were as follows (in thousands):
(1)
$194
(2)
$(589)
Results of Operations
THREE MONTHS ENDED DECEMBER 31, 2013 COMPARED TO THREE MONTHS ENDED DECEMBER 31, 2012
Lighting Segment
(In thousands)
|
|
Three Months Ended
|
|
|
|
December 31
|
|
|
|
2013
|
|
|
2012
|
|
|
|
|
|
|
|
|
|
|
Net Sales
|
|
$
|
57,380
|
|
|
$
|
53,743
|
|
Gross Profit
|
|
$
|
12,374
|
|
|
$
|
12,105
|
|
Operating Income
|
|
$
|
2,157
|
|
|
$
|
2,477
|
|
Lighting Segment net sales of $57,380,000 in the second quarter of fiscal 2014 increased 6.8% from fiscal 2013 same period net sales of $53,743,000. The Lighting Segment’s net sales of light fixtures having solid-state LED technology totaled $25.5 million in the second quarter of fiscal 2014, representing an $8.0 or 45.5% increase from fiscal 2013 second quarter net sales of solid-state LED light fixtures of $17.5 million. There was a reduction in the Company’s traditional lighting sales (metal halide and fluorescent light sources) from fiscal 2013 to fiscal 2014 as customers converted from traditional lighting to light fixtures having solid-state LED technology
.
The Lighting Segment’s net sales related to LED video screens totaled $1.1 million in the second quarter of fiscal 2014, representing a $0.4 million or 51.3% increase from fiscal 2013 second quarter net sales of $0.7 million.
Gross profit of $12,374,000 in the second quarter of fiscal 2014 increased $0.3 million or 2.2% from the same period of fiscal 2013, and decreased from 22.2% to 21.2% as a percentage of Lighting Segment net sales (customer plus inter-segment net sales). The increase in the amount of gross profit at a lower gross margin percentage is due to the net effect of increased net sales, competitive pricing pressures, manufacturing inefficiencies due to the introduction of several new LED lighting fixtures coupled with a strong demand for these fixtures, increased freight expense partially due to expediting past due customer shipments, increased employee compensation and wage expense ($0.6 million), increased supplies ($0.1 million), increased repairs and maintenance expense ($0.1 million), increased outside service expense ($0.1 million), decreased customer relations expense ($0.1 million), and increased warranty expense ($0.3 million). The surge in demand for LED fixtures along with the challenges to meet our customers’ delivery schedules has created a large growth in our past due backlog. Improvements have been made in the operations to remove bottlenecks and reduce the past due backlog. The results of these efforts are likely to occur in the second half of fiscal 2014.
Selling and administrative expenses of $10,217,000 in the second quarter of fiscal year 2014 increased $0.6 million from the same period of fiscal 2013 primarily as the net result of decreased employee compensation and benefits expense ($0.1 million), increased outside service expense ($0.2 million), increased research and development expense ($0.6 million), increased sales commission ($0.2 million), decreased amortization expense ($0.4 million), and decreased bad debt expense ($0.1 million).
The Lighting Segment second quarter fiscal 2014 operating income of $2,157,000 decreased $0.3 million or 12.9% from operating income of $2,477,000 in the same period of fiscal 2013. This decrease of $0.3 million was primarily the net result of increased net sales, a decrease in the gross margin as a percentage of sales, and increased selling and administrative expenses.
Graphics Segment
(In thousands)
|
|
Three Months Ended
|
|
|
|
December 31
|
|
|
|
2013
|
|
|
2012
|
|
|
|
|
|
|
|
|
|
|
Net Sales
|
|
$
|
12,954
|
|
|
$
|
10,532
|
|
Gross Profit
|
|
$
|
2,049
|
|
|
$
|
1,203
|
|
Operating (Loss)
|
|
$
|
(275
|
)
|
|
$
|
(1,140
|
)
|
Graphics Segment net sales of $12,954,000 in the second quarter of fiscal 2014 increased 23.0% from fiscal 2013 same period net sales of $10,532,000. The $2.4 million increase in Graphics Segment net sales is the net result of image conversion programs and sales to seven petroleum / convenience store customers ($3.2 million net increase), two grocery retailers ($1.4 million decrease), two national drug store retailers ($0.6 million net increase), two quick service restaurant chains ($0.3 million net increase), and changes in volume or completion of several other graphics programs ($0.3 million net decrease). The Graphics Segment net sales of graphic identification products that contain solid-state LED light sources and LED lighting for signage totaled $0.8 million in the second quarter of fiscal 2014, representing a $0.4 million or 131% increase from fiscal 2013 net sales of $0.3 million.
Gross profit of $2,049,000 in the second quarter of fiscal 2014 increased $0.8 million or 70.3% from the same period of fiscal 2013. Gross profit as a percentage of Segment net sales (customer plus inter-segment net sales) increased from 11.0% in the second quarter of fiscal 2013 to 15.6% in the second quarter of fiscal 2014. The change in the amount of gross profit is due to the net effect of increased net sales, improved margins on installation net sales, increased freight costs ($0.3 million), and decreased employee compensation and benefit expense ($0.2 million).
Selling and administrative expenses of $2,324,000 in the second quarter of fiscal 2014 were slightly lower than selling and administrative expenses of $2,343,000 in the second quarter of fiscal 2013. The $0.1 million increase in employee compensation and benefits was equally offset by several small increases in other expenses.
The Graphics Segment second quarter fiscal 2014 operating loss of $(275,000) decreased $0.9 million from an operating loss of $(1,140,000) in the same period of fiscal 2013. The $0.9 million reduction in operating loss was primarily the result of an increase in gross profit from higher net sales.
Electronic Components Segment
(In thousands)
|
|
Three Months Ended
|
|
|
|
December 31
|
|
|
|
2013
|
|
|
2012
|
|
|
|
|
|
|
|
|
|
|
Net Sales
|
|
$
|
4,073
|
|
|
$
|
4,959
|
|
Gross Profit
|
|
$
|
1,957
|
|
|
$
|
1,493
|
|
Operating Income (Loss)
|
|
$
|
1,041
|
|
|
$
|
(1,559
|
)
|
Electronic Components Segment net sales of $4,073,000 in the second quarter of fiscal 2014 decreased $0.9 million or 17.9% from fiscal 2013 same period net sales of $4,959,000. The $0.9 million decrease in Electronic Components Segment net sales is primarily the net result of a $0.4 million decrease in sales to the transportation market, a $0.1 million decrease in sales to the telecommunication market, a $0.2 million decrease in sales to original equipment manufacturers, and a $0.2 million decrease in sales to various other markets. While the net customer sales decreased, the Electronic Components’ inter-segment sales increased $2.2 million or 30% due to increased intercompany demand of LED circuit board assemblies used in light fixtures having solid-state LED technology.
Gross profit of $1,957,000 in the second quarter of fiscal 2014 increased $0.5 million or 31.1% from the same period in fiscal 2013, and increased from 12.2% to 14.5% as a percentage of net sales (customer plus inter-segment net sales). The $0.5 million increase in amount of gross profit is due to the net effect of decreased customer net sales, increased inter-segment sales, increased employee compensation and benefit expense ($0.3 million), increased supplies ($0.1 million), and decreased warranty expense ($0.1 million).
Selling and administrative expenses of $916,000 in the second quarter of fiscal 2014 was level with fiscal 2013 selling and administrative expenses of $911,000. A decrease in outside service expense of $0.1 million was more than offset by a $0.2 million increase in research and development expense, with a net decrease in all other expenses. In the second quarter of fiscal 2013, the Electronic Components Segment recorded a goodwill impairment expense of $2.1 million with no comparable expense in fiscal 2014.
The Electronic Components Segment second quarter fiscal 2014 operating income of $1,041,000 increased $2.6 million from an operating loss of $(1,559,000) in the same period of fiscal 2013. The $2.6 million increase from an operating loss in fiscal 2013 to operating income in fiscal 2014 was the net result of decreased net customer sales, increased inter-segment sales, and a goodwill impairment charge of $2.1 million in fiscal 2013 with no comparable expense in fiscal 2014.
All Other Category
(In thousands)
|
|
Three Months Ended
|
|
|
|
December 31
|
|
|
|
2013
|
|
|
2012
|
|
|
|
|
|
|
|
|
|
|
Net Sales
|
|
$
|
1,716
|
|
|
$
|
1,848
|
|
Gross Profit (Loss)
|
|
$
|
543
|
|
|
$
|
(819
|
)
|
Operating Income (Loss)
|
|
$
|
124
|
|
|
$
|
(1,429
|
)
|
All Other Category net sales of $1,716,000 in the second quarter of fiscal 2014 decreased $0.1 million or 7.1% from fiscal 2013 net sales of $1,848,000. The $0.1 million decrease in the All Other Category net sales is primarily the net result of decreased sales of menu board systems ($0.4 million) and increased project management net sales ($0.3 million). While the net customer sales decreased, All Other Category inter-segment sales increased $0.6 million or 46.8% due to increased intercompany project management support.
Gross profit of $543,000 in the second quarter of fiscal 2014 is a $1.4 million increase in gross profit compared to the gross loss of $(819,000) in the same period of fiscal 2013. The $1.4 million increase in gross profit is the net result of increased gross profit from increased intersegment sales partially offset by lower net customer sales, and an inventory reserve of $1.2 million against inventory deemed technologically obsolete and no longer useable at our Canadian operation in fiscal 2013 with no comparable expense in fiscal 2014.
Selling and administrative expenses of $419,000 in the second quarter of fiscal 2014 decreased $0.2 million from the same period in fiscal year 2013. The decrease of $0.2 million is primarily the result of decreased research and development expense ($0.1 million).
The All Other Category second quarter fiscal 2014 operating income of $124,000 increased $1,553,000 compared to an operating loss of $(1,429,000) in the same period of fiscal 2013. This $1.6 million increase in operating income from an operating loss was the net result of decreased customer net sales, increased inter-segment sales, an obsolete inventory reserve in fiscal 2013 with no comparable expense in fiscal 2014, and decreased selling and administrative expenses.
Corporate and Eliminations
(In thousands)
|
|
Three Months Ended
|
|
|
|
December 31
|
|
|
|
2013
|
|
|
2012
|
|
|
|
|
|
|
|
|
|
|
Gross (Loss)
|
|
$
|
(166
|
)
|
|
$
|
(100
|
)
|
Operating (Loss)
|
|
$
|
(1,536
|
)
|
|
$
|
(1,058
|
)
|
The gross (loss) relates to the intercompany profit in inventory elimination.
Administrative expenses of $1,370,000 in the second quarter of fiscal 2014 increased $0.4 million or 43.0% from the same period of the prior year. The increase in expense is primarily the net result of decreased employee compensation and benefit expense ($0.1 million), an increase in depreciation expense ($0.1 million), and a reduction of the contingent earn-out liability related to the Virticus acquisition ($0.7 million as further discussed in Note 12) in fiscal 2013, with no comparable reduction of expense in fiscal 2014.
Consolidated Results
The Company reported net interest expense of $12,000 in the second quarter of fiscal 2014 as compared to net interest income of $18,000 in the same period of fiscal 2013. Commitment fees related to the unused portions of the Company’s lines of credit and interest income on invested cash are included in both fiscal years. The major factor that contributed to this change from net interest income in fiscal 2013 to net interest expense in fiscal 2014 was the reduction of the accrued interest expense related to the fiscal 2013 reduction of the contingent earn-out liability associated with the Virticus acquisition with no comparable reduction of accrued interest expense in fiscal 2014.
The $629,000 income tax expense in the second quarter of fiscal 2014 represents a consolidated effective tax rate of 42.0%. This is the net result of an income tax rate of 34.6% for the Company’s U.S. operations influenced by certain permanent book-tax differences that were significant relative to the amount of taxable income, a valuation reserve against New York State tax credits, Canadian income tax credits, by a benefit related to uncertain income tax positions, and by a full valuation reserve on the Company’s Canadian tax position. The $241,000 income tax benefit in the second quarter of fiscal 2013 represents a consolidated effective tax rate of 9.0%. This is the net result of an income tax rate of 41.4% for the Company’s U.S. operations influenced by certain permanent book-tax differences that were significant relative to the amount of taxable income, Canadian income tax credits, by a benefit related to uncertain income tax positions, and by a full valuation reserve on the Company’s Canadian tax position.
The Company reported a net income of $870,000 in the second quarter of fiscal 2014 as compared to a net loss of $(2,450,000) in the same period of the prior year. The change in net income in the second quarter of fiscal 2014 from a net loss in the second quarter of fiscal 2013 is primarily the net result of increased net sales, increased gross profit largely due to increased net sales, a large fiscal 2013 inventory reserve against inventory deemed technologically obsolete with no comparable expense in fiscal 2014, increased selling and administrative expense, a fiscal 2013 goodwill impairment with no comparable expense in fiscal 2014, and income tax expense in fiscal 2014 compared to an income tax benefit in fiscal 2013. Diluted earnings per share of $0.04 was reported in the second quarter of fiscal 2014 as compared to diluted loss per share of $(0.10) in the same period of fiscal 2013. The weighted average common shares outstanding for purposes of computing diluted earnings per share in the second quarter of fiscal 2014 were 24,627,000 shares as compared to 24,391,000 shares in the same period last year.
SIX MONTHS ENDED DECEMBER 31, 2013 COMPARED TO SIX MONTHS ENDED DECEMBER 31, 2012
Lighting Segment
|
|
|
|
|
|
|
|
|
(In thousands)
|
|
Six Months Ended
|
|
|
|
December 31
|
|
|
|
2013
|
|
|
2012
|
|
|
|
|
|
|
|
|
|
|
Net Sales
|
|
$
|
116,851
|
|
|
$
|
109,534
|
|
Gross Profit
|
|
$
|
26,657
|
|
|
$
|
25,999
|
|
Operating Income
|
|
$
|
5,968
|
|
|
$
|
6,990
|
|
Lighting Segment net sales of $116,851,000 in the first half of fiscal 2014 increased 6.7% from fiscal 2013 same period net sales of $109,534,000. The Lighting Segment’s net sales of light fixtures having solid-state LED technology totaled $48.7 million in the first half of fiscal 2014, representing a 32.2% increase from first half fiscal 2013 net sales of solid-state LED light fixtures of $36.9 million. There was a reduction in the Company’s traditional lighting sales (metal halide and fluorescent light sources) from fiscal 2013 to fiscal 2014 as customers converted from traditional lighting to light fixtures having solid-state LED technology.
The Lighting Segment's net sales related to LED video screens totaled $1.8 million in the first half of fiscal 2014, representing a 63.9% decrease from first half fiscal 2013 net sales of $5.0 million.
Gross profit of $26,657,000 in the first half of fiscal 2014 increased $0.7 million or 2.5% from the same period of fiscal 2013, and decreased from 23.4% to 22.5% as a percentage of Lighting Segment net sales (customer plus inter-segment net sales). The increase in amount of gross profit is due to the net effect of increased net sales, competitive pricing pressures, manufacturing inefficiencies due to the introduction of several new LED lighting fixtures coupled with a strong demand for these fixtures, increased freight expense partially due to expediting past due customer shipments, increased employee compensation and benefits expense ($1.2 million), increased warranty costs ($0.7 million), increased supplies ($0.2 million), increased repairs and maintenance expense ($0.1 million), increased outside service expense ($0.1 million), increased utility expense ($0.1 million), and decreased customer relations expense ($0.4 million). The surge in demand for LED fixtures along with the challenges to meet our customers’ delivery schedules has created a large growth in our past due backlog. Improvements have been made in the operations to remove bottlenecks and reduce the past due backlog. The results of these efforts are likely to occur in the second half of fiscal 2014.
Selling and administrative expenses of $20,689,000 in the first half of fiscal 2014 increased $1.7 million or 8.8% from the same period of fiscal 2013 primarily as the net result of increased employee compensation and benefit expense ($0.1 million), increased sales commission expense ($1.2 million), increased research and development expense ($0.9 million), increased outside service expense ($0.3 million), decreased bad debt expense ($0.2 million), increased inter-segment royalty income ($0.1 million), and decreased amortization expense ($0.9 million).
The Lighting Segment first half fiscal 2014 operating income of $5,968,000 decreased $1.0 million or 14.6% from operating income of $6,990,000 in the same period of fiscal 2013. This decrease of $1.0 million was the net result of increased net sales, a decrease in the gross margin as a percentage of sales, and increased selling and administrative expenses.
Graphics Segment
|
|
|
|
|
|
|
|
|
(In thousands)
|
|
Six Months Ended
|
|
|
|
December 31
|
|
|
|
2013
|
|
|
2012
|
|
|
|
|
|
|
|
|
|
|
Net Sales
|
|
$
|
26,962
|
|
|
$
|
21,277
|
|
Gross Profit
|
|
$
|
4,571
|
|
|
$
|
3,061
|
|
Operating (Loss)
|
|
$
|
(112
|
)
|
|
$
|
(1,495
|
)
|
Graphics Segment net sales of $26,962,000 in the first half of fiscal 2014 increased 26.7% from fiscal 2013 same period net sales of $21,277,000. The $5.7 million increase in Graphics Segment net sales is primarily the net result of image conversion programs and sales to nine petroleum / convenience store customers ($7.6 million net increase), two grocery retailers ($3.3 million decrease), two national drug retailers ($1.1 million net increase), the net result of three quick-service restaurant chains ($0.9 million net increase), and changes in volume or completion of several other graphics programs ($0.7 million net decrease). The Graphics Segment net sales of graphic identification products that contain solid-state LED light sources and LED lighting for signage totaled $1.5 million in the first half of fiscal 2014 as compared to $0.5 million in the same period of the prior year.
Gross profit of $4,571,000 in the first half of fiscal 2014 increased $1.5 million or 49.3% from the same period in fiscal 2013, and increased from 13.6% to 16.7% as a percentage of Graphics Segment net sales (customer plus inter-segment net sales). The increase in the amount of gross profit is due to the net effect of increased net sales, improved margins on installation sales, increased freight expense, and increased compensation and benefit expense ($0.1 million).
Selling and administrative expenses of $4,683,000 in the first half of fiscal 2014 increased $0.1 million or 2.8% from the same period of fiscal 2013 primarily as a result of increased compensation and benefit expense ($0.2 million).
The Graphics Segment first half fiscal 2014 operating loss of $(112,000) decreased from an operating loss of $(1,495,000) in the same period of fiscal 2013 and is the net result of increased gross profit from higher net sales.
Electronic Components Segment
|
|
|
|
|
|
|
|
|
(In thousands)
|
|
Six Months Ended
|
|
|
|
December 31
|
|
|
|
2013
|
|
|
2012
|
|
|
|
|
|
|
|
|
|
|
Net Sales
|
|
$
|
9,153
|
|
|
$
|
10,713
|
|
Gross Profit
|
|
$
|
3,898
|
|
|
$
|
3,237
|
|
Operating Income (Loss)
|
|
$
|
2,013
|
|
|
$
|
(773
|
)
|
Electronic Components Segment net sales of $9,153,000 in the first half of fiscal 2014 decreased 14.6% from fiscal 2013 same period net sales of $10,713,000. The $1.6 million decrease in Electronic Components Segment net sales is primarily the net result of a $0.1 million decrease in sales to the telecommunications market, a $0.8 million decrease in sales to the transportation market, a $0.2 million increase in sales to the medical market, a $0.3 million decrease in sales to original equipment manufacturers, and a $0.6 million decrease in sales to various other markets.
While the net customer sales decreased, the Electronic Components’ inter-segment sales increased $4.3 million or 31.8% due to increased intercompany demand of LED circuit board assemblies used in light fixtures having solid-state LED technology and due to increased intercompany demand for lighting controls.
Gross profit of $3,898,000 in the first half of fiscal 2014 increased $0.7 million or 20.4% from the same period of fiscal 2013, and increased from 13.3% to 14.4% as a percentage of Electronic Components Segment net sales (customer plus inter-segment net sales). The $0.7 million increase in amount of gross profit is due to the net effect of decreased customer net sales, increased inter-segment sales, increased employee compensation and benefits expense ($0.6 million), increased supplies ($0.1 million), decreased outside service expense ($0.2 million), and decreased warranty expense ($0.2 million).
Selling and administrative expenses of $1,885,000 in the first half of fiscal 2014 was level with the same period of fiscal 2013. An increase in research and development expense ($0.3 million) was offset by a cost decrease in outside service expense ($0.1 million) along with small cost decreases in other expenses. In the first half of fiscal 2013, the Electronic Components Segment recorded a goodwill impairment expense of $2.1 million with no comparable expense in fiscal 2014.
The Electronic Components Segment first half fiscal 2014 operating income of $2,013,000 increased $2.8 million from an operating loss of $(773,000) in the same period of fiscal 2013. The $2.8 million change from an operating loss in fiscal 2013 to operating income in fiscal 2014 was the net result of decreased net customer sales, increased inter-segment sales, increased gross profit, and a goodwill impairment expense of $2.1 million fiscal 2013 with no comparable expense in 2014.
All Other Category
|
|
|
|
|
|
|
|
|
(In thousands)
|
|
Six Months Ended
|
|
|
|
December 31
|
|
|
|
2013
|
|
|
2012
|
|
|
|
|
|
|
|
|
|
|
Net Sales
|
|
$
|
3,643
|
|
|
$
|
4,277
|
|
Gross Profit (Loss)
|
|
$
|
1,079
|
|
|
$
|
(294
|
)
|
Operating Income (Loss)
|
|
$
|
128
|
|
|
$
|
(1,431
|
)
|
All Other Category net sales of $3,643,000 in the first half of fiscal 2014 decreased $0.6 million or 14.8% from fiscal 2013 net sales of $4,277,000. The $0.6 million decrease in the All Other Category net sales is primarily the net result of decreased sales of menu board systems ($1.4 million) partially offset by increased net sales of LED video screen and specialty LED lighting sales to the Entertainment and other markets ($0.7 million). While the net customer sales decreased, All Other Category inter-segment sales increased $1.9 million or 86.0% due mostly to increased intercompany project management support.
The gross profit of $1,079,000 in the first half of fiscal 2014 is a $1.4 million increase compared to the gross loss of $(294,000) in the same period of fiscal 2013. The change in gross profit between the first half gross loss of fiscal 2013 and the first half gross profit of fiscal 2014 is the net result of decreased customer net sales, increased inter-segment sales, and an inventory reserve $1.2 million against inventory deemed technologically obsolete and no longer useable at our Canadian operation in fiscal 2013 with no comparable expense in fiscal 2014.
Selling and administrative expenses of $951,000 in the first half of fiscal 2014 decreased $0.2 million or 16.4% as compared to the same period of the prior year. The decrease in selling and administrative expenses is primarily the net result of decreased research and development expense ($0.3 million) partially offset by increased employee compensation and benefits expense ($0.1 million).
The All Other Category first half fiscal 2014 operating income of $128,000 compares to an operating loss of $(1,431,000) in the same period of fiscal 2013. This $1.6 million change from an operating loss in fiscal 2013 to operating income in fiscal 2014 was the net result of decreased customer net sales, increased inter-segment sales, a decrease in obsolete inventory expense, and decreased selling and administrative expenses.
Corporate and Eliminations
|
|
|
|
|
|
|
|
|
(In thousands)
|
|
Six Months Ended
|
|
|
|
December 31
|
|
|
|
2013
|
|
|
2012
|
|
|
|
|
|
|
|
|
|
|
Gross (Loss)
|
|
$
|
(326
|
)
|
|
$
|
(250
|
)
|
Operating (Loss)
|
|
$
|
(3,647
|
)
|
|
$
|
(2,973
|
)
|
The negative gross profit (loss) relates to the intercompany profit in inventory elimination.
Selling and administrative expenses of $3,321,000 in the first half of fiscal 2014 increased $0.6 million or 22.0% as compared to the same period of the prior year. The $0.6 million increase is the net result of increased repairs and maintenance expense ($0.1 million), increased depreciation expense ($0.1 million), and a reduction of the contingent earn-out liability related to the Virticus acquisition ($0.7 million as further discussed in Note 12) in fiscal 2013, with no comparable reduction in expense in fiscal 2014.
Consolidated Results
The Company reported net interest expense of $24,000 in the first half of fiscal 2014 as compared to net interest expense of $2,000 in the same period of fiscal 2013. Commitment fees related to the unused portions of the Company’s lines of credit and interest income on invested cash are included in both fiscal years. The major factor that contributed to the increase in net interest expense from fiscal 2013 to fiscal 2014 was related to the fiscal 2013 reduction of the accrued interest expense related to the reduction of the contingent earn-out liability associated with the Virticus acquisition, with no comparable reduction of accrued interest expense in fiscal 2014.
The $1,591,000 income tax expense in the first half of fiscal 2014 represents a consolidated effective tax rate of 36.8%. This is the net result of an income tax rate of 34.6% for the Company’s U.S. operations, influenced by certain permanent book-tax differences that were significant relative to the amount of taxable income, by certain U.S. federal and Canadian income tax credits, by a benefit related to uncertain income tax positions, and by a full valuation reserve on the Company’s Canadian tax position. The $936,000 income tax expense in the first half of fiscal 2013 represents a consolidated effective tax rate greater than 100%. This is the net result of an income tax rate of 41.4% for the Company’s U.S. operations, influenced by certain permanent book-tax differences that were significant relative to the amount of taxable income, by certain U.S. federal and Canadian income tax credits, by a benefit related to uncertain income tax positions, and most notably by a full valuation reserve on the Company’s Canadian tax position. Losses on the Company’s Canadian operation were greater than the profits recognized on the Company’s U.S operations thereby contributing to the effective tax rate in excess of 100%.
The Company reported net income of $2,735,000 in the first half of fiscal 2014 as compared to a net loss of $(620,000) in the same period of the prior year. The change in net income from a net loss in fiscal 2013 to net income in fiscal 2014 is primarily the net result of increased net sales, increased gross profit, a large fiscal 2013 inventory reserve against inventory deemed technologically obsolete with no comparable expense in fiscal 2014, increased operating expenses, decreased goodwill impairment expense, and increased income tax expense. Diluted earnings per share of $0.11was reported in the first half of fiscal 2014 as compared to diluted loss per share of $(0.03) in the same period of fiscal 2013. The weighted average common shares outstanding for purposes of computing diluted earnings per share in the first half of fiscal 2014 was 24,530,000 shares as compared to 24,382,000 shares in the same period last year.
Liquidity and Capital Resources
The Company considers its level of cash on hand, borrowing capacity, current ratio and working capital levels to be its most important measures of short-term liquidity. For long-term liquidity indicators, the Company believes its ratio of long-term debt to equity and its historical levels of net cash flows from operating activities to be the most important measures.
At December 31, 2013, the Company had working capital of $77.4 million, compared to $76.7 million at June 30, 2013. The ratio of current assets to current liabilities was 3.73 to 1 as compared to a ratio of 3.93 to 1 at June 30, 2013. The $0.7 million increase in working capital from June 30, 2013 to December 31, 2013 was primarily related to the net effect of increased cash and cash equivalents ($3.0 million), increased other current assets ($0.6 million), and increased net inventory ($5.1 million), partially offset by an increase in accrued expenses ($1.8 million), a decrease in accounts receivable ($4.9 million), a decrease in refundable income taxes ($1.1 million), and an increase in accounts payable ($0.4 million). The Company has a strategy of aggressively managing working capital, including reduction of the accounts receivable days sales outstanding (DSO) and reduction of inventory levels, without reducing service to its customers.
The Company provided $8.5 million of cash from operating activities in the first half of fiscal 2014 as compared to a generation of cash of $9.7 million in the same period of the prior year. This $1.1 million decrease in net cash flows from operating activities is primarily the net result of a greater increase in inventory (unfavorable change of $1.9 million), a decrease rather than an increase in refundable income tax (favorable change of $2.3 million), an increase rather than an decrease in customer prepayments (favorable change of $2.7 million), a greater decrease in accrued expenses and other (unfavorable change of $0.8 million), a smaller decrease in accounts receivable (unfavorable change of $2.5 million), a decrease in the inventory obsolescence reserve (unfavorable change of $1.4 million), a decrease in goodwill impairment expense (unfavorable change of $2.1 million), a decrease in depreciation and amortization expense (unfavorable change of $0.7 million), and a change from a net loss to net income (favorable change of $3.4 million).
Net accounts receivable were $41.1 million and $46.0 million at December 31, 2013 and June 30, 2013, respectively. The decrease of $4.9 million in net receivables is primarily due to lower DSO which decreased to 53 days at December 31, 2013 from 60 days at June 30, 2013. The Company believes that its receivables are ultimately collectible or recoverable, net of certain reserves, and that aggregate allowances for doubtful accounts are adequate.
Net inventories of $47.2 million at December 31, 2013 increased $5.1 million from June 30, 2013 levels. Based on a strategy of balancing inventory reductions with customer service and the timing of shipments, net inventory increases occurred in the first half of fiscal 2014 in the Lighting Segment of approximately $3.4 million and the Electronic Components Segment of approximately $2.1 million, and a net inventory decrease occurred in the Graphics Segment of approximately $0.2 million.
Cash provided from operations and borrowing capacity under two line of credit facilities are the Company’s primary source of liquidity. The Company has an unsecured $30 million revolving line of credit with its U.S. bank group, with all of the $30 million of the credit line available as of January 24, 2014. This line of credit is a $30 million three year committed credit facility expiring in the third quarter of fiscal 2016. Additionally, the Company has a separate $5 million line of credit, renewable annually in the third fiscal quarter, for the working capital needs of its Canadian subsidiary, LSI Saco Technologies. As of January 24, 2014, all $5 million of this line of credit was available. The Company believes that $35 million total lines of credit plus cash flows from operating activities are adequate for the Company’s fiscal 2014 operational and capital expenditure needs. The Company is in compliance with all of its loan covenants.
The Company used $2.7 million of cash related to investing activities in the first half of fiscal 2014 as compared to a use of $3.1 million in the same period of the prior year, resulting in a favorable change of $0.4 million. Capital expenditures for the first half of fiscal 2014 decreased $0.4 million to $2.7 million from the same period in fiscal 2013. The largest components of the fiscal 2014 capital expenditures were the upgrade to the Company’s ERP software and tooling and equipment related to the Company’s Lighting Segment.
The Company used $2.9 million of cash related to financing activities in the first half of fiscal 2014 and $7.3 million in the first half of fiscal 2013. The primary change between the two years is attributable to a decrease in dividend payments. In December 2012, the Board of Directors took action to accelerate the payment of the fiscal 2013 second quarter regular quarterly cash dividend, and approved an additional cash dividend above and beyond the regular quarterly dividend. There was no similar dividend payment in the first half of fiscal 2014.
The Company has, or could have, on its balance sheet financial instruments consisting primarily of cash and cash equivalents, short-term investments, revolving lines of credit, and long-term debt. The fair value of these financial instruments approximates carrying value because of their short-term maturity and/or variable, market-driven interest rates.
Off-Balance Sheet Arrangements
The Company has no financial instruments with off-balance sheet risk and has no off-balance sheet arrangements.
Cash Dividends
In January 2014, the Board of Directors declared a regular quarterly cash dividend of $0.06 per share payable February 11, 2014 to shareholders of record as of February 4, 2014. The indicated annual cash dividend rate for fiscal 2014 is $0.24 per share. The Company’s cash dividend policy is that the indicated annual dividend rate will be set between 50% and 70% of the expected net income for the current fiscal year. Consideration will also be given by the Board to special year-end cash or stock dividends. The declaration and amount of any cash and stock dividends will be determined by the Company’s Board of Directors, in its discretion, based upon its evaluation of earnings, cash flow, capital requirements and future business developments and opportunities, including acquisitions.
Critical Accounting Policies and Estimates
The Company is required to make estimates and judgments in the preparation of its financial statements that affect the reported amounts of assets, liabilities, revenues and expenses, and related footnote disclosures. The Company bases its estimates on historical experience and on various other assumptions 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. The Company continually reviews these estimates and their underlying assumptions to ensure they remain appropriate. The Company believes the items discussed below are among its most significant accounting policies because they utilize estimates about the effect of matters that are inherently uncertain and therefore are based on management’s judgment. Significant changes in the estimates or assumptions related to any of the following critical accounting policies could possibly have a material impact on the financial statements.
Revenue Recognition
Revenue is recognized when title to goods and risk of loss have passed to the customer, there is persuasive evidence of a purchase arrangement, delivery has occurred or services have been rendered, and collectibility is reasonably assured. Revenue is typically recognized at time of shipment. In certain arrangements with customers, as is the case with the sale of some of our solid-state LED video screens, revenue is recognized upon customer acceptance of the video screen at the job site. Sales are recorded net of estimated returns, rebates and discounts. Amounts received from customers prior to the recognition of revenue are accounted for as customer pre-payments and are included in accrued expenses.
The Company has four sources of revenue: revenue from product sales; revenue from installation of products; service revenue generated from providing integrated design, project and construction management, site engineering and site permitting; and revenue from shipping and handling.
Product revenue is recognized on product-only orders upon passing of title and risk of loss, generally at time of shipment. However, product revenue related to orders where the customer requires the Company to install the product is recognized when the product is installed. Other than normal product warranties or the possibility of installation or post-shipment service, support and maintenance of certain solid state LED video screens, billboards, or active digital signage, the Company has no post-shipment responsibilities.
Installation revenue is recognized when the products have been fully installed. The Company is not always responsible for installation of products it sells and has no post-installation responsibilities, other than normal warranties.
Service revenue from integrated design, project and construction management, and site permitting is recognized when all products have been installed at each retail site of the customer.
Shipping and handling revenue coincides with the recognition of revenue from sale of the product.
The Company evaluates the appropriateness of revenue recognition in accordance with Accounting Standards Codification (“ASC”) Subtopic 605-25, Revenue Recognition: Multiple–Element Arrangements. In situations where the Company is responsible for re-imaging programs with multiple sites, each site is viewed as a separate unit of accounting and has stand-alone value to the customer. Revenue is recognized upon the Company’s complete performance at the location, which may include a site survey, graphics products, lighting products, and installation of products. The selling price assigned to each site is based upon an agreed upon price between the Company and its customer and reflects the estimated selling price for that site relative to the selling price for sites with similar image requirements.
The Company also evaluates the appropriateness of revenue recognition in accordance with ASC Subtopic 985-605, “Software: Revenue Recognition.” Our solid-state LED video screens, billboards and active digital signage contain software elements which the Company has determined are incidental and excluded from the scope of ASC Subtopic 985-605.
Income Taxes
The Company accounts for income taxes in accordance with ASC Topic 740, “Income Taxes.” Accordingly, deferred income taxes are provided on items that are reported as either income or expense in different time periods for financial reporting purposes than they are for income tax purposes. Deferred income tax assets and liabilities are reported on the Company’s balance sheet. Significant management judgment is required in developing the Company’s income tax provision, including the estimation of taxable income and the effective income tax rates in the multiple taxing jurisdictions in which the Company operates, the estimation of the liability for uncertain income tax positions, the determination of deferred tax assets and liabilities, and any valuation allowances that might be required against deferred tax assets.
The Company operates in multiple taxing jurisdictions and is subject to audit in these jurisdictions. The Internal Revenue Service and other tax authorities routinely review the Company’s tax returns. These audits can involve complex issues which may require an extended period of time to resolve. In management’s opinion, adequate provision has been made for potential adjustments arising from these examinations.
In September 2013, the Internal Revenue Service issued Treasury Decision 9636, which enacted final tax regulations regarding the capitalization and expensing of amounts paid to acquire, produce, or improve tangible property. The regulations also include guidance regarding the retirement of depreciable property. The regulations are required to be effective in taxable years beginning on or after January 1, 2014, although taxpayers may choose to apply them in taxable years beginning on or after January 1, 2012. The Company is currently assessing the impact of the final regulations on its financial statements.
The Company is recording estimated interest and penalties related to potential underpayment of income taxes as a component of tax expense in the Consolidated Statements of Operations. The reserve for uncertain tax positions is not expected to change significantly in the next twelve months.
Asset Impairment
Carrying values of goodwill and other intangible assets with indefinite lives are reviewed at least annually for possible impairment in accordance with ASC Topic 350, “Intangibles – Goodwill and Other.” The Company may first assess qualitative factors in order to determine if goodwill is impaired in accordance with ASU 2011 – 08, “Intangible – Goodwill and Other (Topic 350).” If through the qualitative assessment it is determined that it is more likely than not that goodwill is not impaired, no further testing is required. If it is determined that it is more likely than not that goodwill is impaired, or if the Company elects not to first assess qualitative factors, the Company’s impairment testing continues with the estimation of the fair value of goodwill and indefinite-lived intangible assets using a combination of a market approach and an income (discounted cash flow) approach, at the reporting unit level, that requires significant management judgment with respect to revenue and expense growth rates, changes in working capital and the selection and use of an appropriate discount rate. The estimates of fair value of reporting units are based on the best information available as of the date of the assessment. The use of different assumptions would increase or decrease estimated discounted future operating cash flows and could increase or decrease an impairment charge. Company management uses its judgment in assessing whether assets may have become impaired between annual impairment tests. Indicators such as adverse business conditions, economic factors and technological change or competitive activities may signal that an asset has become impaired.
Carrying values for long-lived tangible assets and definite-lived intangible assets, excluding goodwill and indefinite-lived intangible assets, are reviewed for possible impairment as circumstances warrant as required by ASC Topic 360, “Property, Plant, and Equipment.” Impairment reviews are conducted at the judgment of Company management when it believes that a change in circumstances in the business or external factors warrants a review. Circumstances such as the discontinuation of a product or product line, a sudden or consistent decline in the forecast for a product, changes in technology or in the way an asset is being used, a history of negative operating cash flow, or an adverse change in legal factors or in the business climate, among others, may trigger an impairment review. The Company’s initial impairment review to determine if a potential impairment charge is required is based on an undiscounted cash flow analysis at the lowest level for which identifiable cash flows exist. The analysis requires judgment with respect to changes in technology, the continued success of product lines and future volume, revenue and expense growth rates, and discount rates.
Credit and Collections
The Company maintains allowances for doubtful accounts receivable for probable estimated losses resulting from either customer disputes or the inability of its customers to make required payments. If the financial condition of the Company’s customers were to deteriorate, resulting in their inability to make the required payments, the Company may be required to record additional allowances or charges against income. The Company determines its allowance for doubtful accounts by first considering all known collectibility problems of customers’ accounts, and then applying certain percentages against the various aging categories based on the due date of the remaining receivables. The resulting allowance for doubtful accounts receivable is an estimate based upon the Company’s knowledge of its business and customer base, and historical trends. The amount ultimately not collected may differ from the reserve established, particularly in the case where percentages are applied against aging categories. In all cases, it is management’s goal to carry a reserve against the Company’s accounts receivable which is adequate based upon the information available at that time so that net accounts receivable is properly stated. The Company also establishes allowances, at the time revenue is recognized, for returns and allowances, discounts, pricing and other possible customer deductions. These allowances are based upon historical trends.
Warranty Reserves
The Company maintains a warranty reserve which is reflective of its limited warranty policy. The warranty reserve covers the estimated future costs to repair or replace defective product or installation services, whether the product is returned, scrapped or repaired in the field. The warranty reserve is first determined based upon known claims or issues, and then by the application of a specific percentage of sales to cover general claims. The percentage applied to sales to calculate general claims is based upon historical claims as a percentage of sales. Management addresses the adequacy of its warranty reserves on a quarterly basis to ensure the reserve is accurate based upon the most current information.
Inventory Reserves
The Company maintains an inventory reserve for probable obsolescence of its inventory. The Company first determines its obsolete inventory reserve by considering specific known obsolete items, and then by applying certain percentages to specific inventory categories based upon inventory turns. The Company uses various tools, in addition to inventory turns, to identify which inventory items have the potential to become obsolete. Significant judgment is used to establish obsolescence reserves and management adjusts these reserves as more information becomes available about the ultimate disposition of the inventory item. Management values inventory at lower of cost or market.
New Accounting Pronouncements
In July 2013, the Financial Accounting Standards Board issued ASU 2013-11, “Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists.” This amended guidance is intended to eliminate the diversity that is in practice with regard to the financial statement presentation of unrecognized tax benefits when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists. The amended guidance is effective for fiscal years and interim periods within those years, beginning after December 15, 2013, or the Company’s fiscal year 2015, with early adoption permissible. The adoption of this guidance is not expected to have a material impact on the financial statements.