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INFOSONICS CORP - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations
(Edgar Glimpses Via Acquire Media NewsEdge) Forward-Looking Statements, Safe Harbor Statement and Other General Information
This discussion and analysis of financial condition and results of operations
should be read in conjunction with the accompanying unaudited consolidated
financial statements and condensed notes thereto and other information included
in this report and our Annual Report on Form 10-K for the year ended
December 31, 2011 (including our 2011 audited consolidated financial statements
and related notes thereto and other information). Our discussion and analysis of
financial condition and results of operations are based upon, among other
things, our unaudited consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States ("GAAP"). The preparation of financial statements in conformity
with GAAP requires us to, among other things, make estimates and assumptions
that affect the reported amounts of assets and liabilities, the disclosures of
contingent liabilities as of the date of our most recent balance sheet, and the
reported amounts of revenues and expenses during the reporting periods. We
review our estimates and assumptions on an ongoing basis. Our estimates are
based on our historical experience and other assumptions that we believe to be
reasonable under the circumstances. Actual results are likely to differ from
these estimates under different assumptions or conditions, but we do not believe
such differences will materially affect our financial position or results of
operations, although they may. Our critical accounting policies, the policies we
believe are most important to the presentation of our financial statements and
require the most difficult, subjective and complex judgments are outlined in
"Critical Accounting Policies" in our Annual Report on Form 10-K. All references
to results of operations in this discussion generally are to results from
continuing operations, unless otherwise noted.
This report contains "forward-looking statements," including, without
limitation, statements about the future impact to our business of import tariffs
and regulations in Argentina and possible actions to be taken in response,
customer relationships, marketing of our verykool® products, sales levels, cost
reductions, operating efficiencies, profitability and adequacy of working
capital, that are based on current management expectations and which involve
certain risks and uncertainties. These risks and uncertainties, in whole or in
part, could cause such expectations to fail to be achieved and have a material
adverse effect on our business, financial condition and results of operations,
and include, without limitation: (1) intense competition internationally,
including competition from alternative business models, such as
manufacturer-to-carrier sales, which may lead to reduced prices, lower sales,
lower gross margins, extended payment terms with customers, increased capital
investment and interest costs, bad debt risks and product supply shortages;
(2) the ability of our China R&D group to develop new verykool® handsets and
successfully introduce them into new emerging markets; (3) extended general
economic downturn in world markets; (4) inability to secure adequate supply of
competitive products on a timely basis and on commercially reasonable terms;
(5) foreign exchange rate fluctuations, devaluation of a foreign currency,
adverse governmental controls or actions, political or economic instability, or
disruption of a foreign market, including, without limitation, the imposition,
creation, increase or modification of tariffs, taxes, duties, levies and other
charges and other related risks of our international operations which could
significantly increase selling prices of our products to our customers and
end-users; (6) the ability to attract new sources of profitable business from
expansion of products or services or risks associated with entry into new
markets, including geographies, products and services; (7) an interruption or
failure of our information systems or subversion of access or other system
controls may result in a significant loss of business, assets, or competitive
information; (8) significant changes in supplier terms and relationships or
shortages in product supply; (9) loss of business from one or more significant
customers; (10) customer and geographical accounts receivable concentration risk
and other related risks; (11) rapid product improvement and technological change
resulting in inventory obsolescence; (12) uncertain political and economic
conditions internationally, including terrorist or military actions; (13) the
loss of a key executive officer or other key employees and the integration of
new employees; (14) changes in consumer demand for multimedia wireless handset
products and features; (15) our failure to adequately adapt to industry changes
and to manage potential growth and/or contractions; (16) seasonal buying
patterns; (17) the resolution of any litigation for or against the Company;
(18) the ability of the Company to have access to adequate capital to fund its
operations; and (19) the ability of the Company to generate taxable income in
future periods. Reference is also made to other factors detailed from time to
time in our periodic reports filed with the Securities and Exchange Commission.
These forward-looking statements speak only as of the date of this release and
we undertake no obligation to publicly update any forward-looking statements to
reflect new information, events or circumstances after the date of this release.
We have instituted in the past, and continue to institute, changes to
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our strategies, operations and processes to address risks and uncertainties and
to mitigate their impacts on our results of operations and financial condition.
However, no assurances can be given that we will be successful in these efforts.
For a further discussion of significant risk factors to consider, see "Risk
Factors" below in this report and "Item 1A. Risk Factors" of our Annual Report
on Form 10-K. In addition, other risks or uncertainties may be detailed from
time to time in our future SEC filings.
Overview
We are a provider of wireless handsets and accessories to carriers, distributors
and original equipment manufacturers ("OEMs") in Latin America, Asia Pacific,
Europe and Africa. We design, develop, source and sell our proprietary line of
products under the verykool® brand and on a private label basis to certain
customers (collectively referred to as our "verykool® products"). We first
introduced our verykool® brand in 2006 and verykool® products include
entry-level, mid-tier and high-end products.
Prior to March 2012 and for the past five years, there were essentially two ways
through which we provided wireless handsets and accessories: (1) through the
distribution of wireless handsets supplied by major manufacturers, primarily
Samsung, and (2) through the provision of our proprietary verykool® phones that
we originally sourced from independent design houses and original design
manufacturers ("ODMs"). Our annual revenue peaked in 2006 when we recorded
approximately $241 million of net sales. In 2009, more than 95% of our net sales
of approximately $231 million were derived from distribution sales of Samsung
products to carriers in Argentina. In late 2009, however, a stiff import tariff
on certain electronic devices, including wireless handsets, was enacted in
Argentina. The tariff had a significant negative impact on our sales beginning
in the first quarter of 2010, and ultimately resulted in a decrease of 69% of
our sales volume in 2010 compared to 2009. Then, in February 2011, Argentina
enacted a further import regulation effective March 6, 2011 which signaled the
closing stage of our distribution business. Our distribution agreement with
Samsung expired on March 31, 2012. Going forward, our business will be centered
on the provision of our verykool® product line. Our goal is to replace the lost
gross profit from distribution revenues with higher margin verykool® sales
through the expansion of our product portfolio and our entry into new geographic
markets in Asia Pacific, Europe, Africa and Latin America.
The verykool® brand is now our flagship product. In order to better control the
roadmap for this product line, in April 2010 we established an in-house design
center in Beijing, China where we are now designing a number of phones in our
product portfolio. We continue to source many of our phones from independent
design houses, but expect that eventually the majority of our phones will come
from our own design center as our team expands and increases its capacity. We
contract with electronic manufacturing services ("EMS") providers to manufacture
all of our verykool® products, and maintain personnel in China to oversee
production and conduct quality control.
Industry and Market Trends and Risks
The wireless business is extremely competitive. The industry is characterized by
rapid technological development driven by faster and more capable chipsets,
innovative software features and applications and faster networks provided by
wireless carriers. In this environment, it is extremely difficult to
differentiate our products, and price pressure is constant.
Over the past several years, our business has been concentrated in countries in
Latin America. In addition, during that time, the majority of our revenue was
derived from distribution sales of Samsung products in Argentina, typically at
very thin margins. As mentioned above, in late 2009, Argentina enacted a
significant import tariff on certain electronic devices, including wireless
handsets, that threatened our distribution business and largely eroded our sales
during 2010 and 2011. Our Samsung distribution business was concluded on
March 31, 2012.
In late 2010 we expanded sales of our verykool® products into the Asia Pacific
market with initial sales to customers in both China and India, and in 2011, we
added customers in Western Europe, Russia, Singapore, Africa and certain other
Southeast Asian countries. The economic profile of the consumer markets in both
Latin America and Asia Pacific are similar in that they are extremely price
sensitive. As a consequence, unlike the U.S. domestic market that is dominated
by large providers, these markets are more open to smaller providers such as
ourselves who are able to supply more competitively price handsets with similar
features. We expect this situation to continue for the foreseeable future. The
Latin America and Asia Pacific markets are also more attractive to us because
the current level of cellular customer penetration is significantly lower in
most countries in these regions in comparison to North America and Western
Europe.
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Results of Operations
The following table sets forth certain items from our consolidated statements of
operations as a percentage of net sales for the periods indicated:
Three months ended
March 31,
2012 2011
Net sales 100.0 % 100.0 %
Cost of sales 81.7 % 91.4 %
Gross profit 18.3 % 8.6 %
Operating expenses:
Selling, general and administrative 12.8 % 15.1 %
Research and development 4.1 % 3.8 %
16.9 % 18.9 %
Operating income (loss) from continuing operations 1.4 % -10.3 %
Other income (expense), net:
Other income -0.5 % 0.3 %
Interest 0.0 % 0.1 %
Income (loss) from continuing operations before income taxes 0.9 % -9.9 %
Provision for income taxes 0.0 % 0.0 %
Income (loss) from continuing operations 0.9 % -9.9 %
Income from discontinued operation, net of tax 0.0 % 0.5 %
Net income (loss) 0.9 % -9.4 %
Three months ended March 31, 2012 compared with three months ended March 31,
2011
Net Sales
For the three months ended March 31, 2012, our net sales from continuing
operations amounted to $12.4 million, an increase of $2.9 million, or 31%, from
$9.5 million in the same period last year. The increase was due to a substantial
increase in sales of verykool® products partially offset by a decline in
distribution sales. Net sales of verykool® products more than tripled during the
first quarter of 2012 compared to the first quarter of the prior year with sales
rising 219% from $3.1 million to $9.8 million. Sales of verykool® products to
customers in Latin America more than doubled from the prior year, rising 112%
from $3.0 million to $6.4 million, and we added $3.3 million of incremental
private label sales to customers in Western Europe, Russia and Asia Pacific. We
shipped 237% more verykool® handsets during the quarter than in the prior year,
but the average selling price declined 6% due to product mix and the popularity
of lower-priced phones in our Latin American markets.
Net distribution sales during the three months ended March 31, 2012 amounted to
$2.6 million, representing a decline of $3.8 million, or 60%, from $6.4 million
in the same period last year. As noted above, our distribution agreement with
Samsung ended on March 31, 2012.
Cost of Sales, Gross Profit and Gross Margin
For the three months ended March 31, 2012, our gross profit amounted to
$2,256,000, an increase of $1.4 million, or 178%, from $812,000 in the same
period last year, as a result of both the increased sales volume and a higher
mix of sales this year of our proprietary verykool® products compared to
distribution revenues. Our gross profit margin for the three months ended
March 31, 2012 more than doubled to 18.3% from 8.6% in the same period last
year. For the three months ended March 31, 2012, net sales of verykool® products
represented 79% of our total sales, compared to only 32% in the same period last
year.
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Operating Expenses
For the three months ended March 31, 2012, total operating expenses amounted to
$2.1 million, an increase of 16% compared to $1.8 million in the same period
last year. However, operating expenses as a percentage of net sales from
continuing operations decreased to 16.9% in the three months ended March 31,
2012, compared with 18.9% for the same period last year, as net sales increased
disproportionally to expenses. Selling, general and administrative expenses for
the three months ended March 31, 2012 amounted to $1.6 million, an increase of
$150,000, or 11%, compared to $1.4 million in the prior year quarter. The
increase is primarily related to increased compensation expense for new
employees and contractors, as well as sales commissions on increased sales, plus
increased homologation expenses to prepare new phone models for sale and use on
carrier networks. R&D expenses for the three months ended March 31, 2012
amounted to $500,000, an increase of $143,000, or 40%, compared to $357,000 in
the prior year quarter. The increase is primarily related to compensation
expense from expansion of our team in Beijing and prototyping and abandoned
tooling expense.
Other Income (Expense)
For the three months ended March 31, 2012, other expense of $65,000 included
$48,000 of foreign exchange losses as well as losses on disposal of fixed
assets. For the three months ended March 31, 2011, other income of $28,000 was
comprised primarily of gain on disposal of fixed assets and $11,000 of interest
income was earned on an income tax refund we received.
Provision for Income Taxes
Because of our prior operating losses, our tax provisions for the three months
ended March 31, 2012 and 2011 were nominal and consisted only of state and local
taxes.
Income from Discontinued Operations (net of tax)
The discontinuance and closure of our operations in the U.S. and Mexico that
began in the second quarter of 2008 was completed as of December 31, 2011.
During the three months ended March 31, 2011, we reported net income from
discontinued operations of $48,000 relating to the favorable resolution of an
outstanding trade payable.
Liquidity and Capital Resources
Historically, our primary sources of liquidity have been cash generated from
operations, lines of credit (bank and vendor) and, from time to time, the sale
and exercise of securities to provide capital needed to support our business.
However, we have incurred losses for the last three fiscal years and negative
cash flow from operations in one of those years. In the three months ended
March 31, 2012, we generated $2.9 million in cash flow from operations,
comprised primarily of $0.3 million of net income before non-cash charges,
decreases in trade and other accounts receivable, inventories, prepaids and
other assets aggregating $1.9 million and a net decrease in payables and
accruals of $0.7 million. We believe that our current cash resources and working
capital are sufficient to fund our operations for the foreseeable future.
Critical Accounting Policies
There have been no material changes to our critical accounting policies and
estimates affecting the application of those accounting policies since our
Annual Report on Form 10-K for the year ended December 31, 2011.
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