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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 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 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.
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Table of Contents
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 before then, 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. Since then and
going forward, our business has been and will be centered on our verykool®
product line. Our goal is to eventually replace the lost gross profit from
distribution revenues with higher margin verykool® sales through the expansion
of our product portfolio and entry into new geographic markets in Latin America,
Asia Pacific, Europe and Africa.
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.
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
InfoSonics who are able to supply more competitively priced handsets with
similar features. We expect
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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.
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 Nine months ended
September 30, September 30,
2012 2011 2012 2011
Net sales 100.0 % 100.0 % 100.0 % 100.0 %
Cost of sales 78.8 % 83.0 % 78.9 % 87.2 %
Gross profit 21.2 % 17.0 % 21.1 % 12.8 %
Operating expenses:
Selling, general and administrative 33.6 % 17.5 % 20.4 % 17.3 %
Research and development 9.8 % 5.4 % 5.9 % 4.9 %
43.4 % 22.9 % 26.3 % 22.2 %
Operating loss from continuing operations (22.2 %) (5.9 %) (5.2 %) (9.4 %)
Other income (expense):
Other income (expense) - 0.0 % 0.0 % 0.1 %
Interest, net 0.1 % - 0.0 % 0.0 %
Loss from continuing operations before income
taxes (22.1 %) (5.9 %) (5.2 %) (9.3 %)
Provision for income taxes - - 0.0 % 0.0 %
Loss from continuing operations (22.1 %) (5.9 %) (5.2 %) (9.3 %)
Income from discontinued operation, net of
tax - 0.1 % - -
Net loss (22.1 %) (5.8 %) (5.2 %) (9.3 %)
Three months ended September 30, 2012 compared with three months ended
September 30, 2011
Net Sales
For the three months ended September 30, 2012, our net sales amounted to $5.4
million, a decrease of $1.8 million, or 25%, from $7.2 million in the same
period last year. The decrease was due to a softening of demand at a number of
our larger customers, primarily in Guatemala and the Latin American open market
(non-carrier), as well as a decline of $1.2 million in distribution sales as a
consequence of the termination of our Samsung distribution agreement at the end
of the first quarter of 2012 and the absence of Samsung sales during the third
quarter of 2012. Excluding the decline in distribution sales, net sales of
verykool® products declined 10% during the third quarter of 2012 compared to the
third quarter of the prior period. Sales of verykool® products to customers in
Latin America declined 18% from $5.7 million to $4.7 million, but was partially
offset by $0.4 million of incremental private label sales to customers in
Western Europe, Russia, Africa and Asia Pacific. In total, we shipped 22% more
verykool® handsets during the quarter than in the prior year, but the average
selling price declined 26% due to a shift in product mix driven by the
popularity of lower-priced phones in our Latin American markets and a lowering
of our sales prices during the third quarter of 2012 to spur sales.
We believe that the softening of our sales in the third quarter of 2012 reflects
a general weakness of consumer demand that was experienced across a number of
different industry sectors. We are encouraged by the firming of customer orders
we are experiencing mid-way through the fourth quarter of 2012 and believe that
our fourth quarter results will show meaningful improvement over the third
quarter.
Cost of Sales, Gross Profit and Gross Margin
For the three months ended September 30, 2012, our gross profit amounted to
$1,139,000, a decrease of $79,000, or 7%, from $1,218,000 in the same period
last year, as a result of the decreased sales volume of our proprietary
verykool® products and the absence of Samsung distribution revenues. Our gross
profit margin for the three months ended September 30, 2012 rose to 21.2% from
17.0% in the same period last year, due primarily to the absence of low margin
distribution sales in the third quarter of 2012. For the three months ended
September 30, 2012, substantially all of our net sales were generated by
verykool® products, compared to 83% in the same period last year.
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Operating Expenses
For the three months ended September 30, 2012, total operating expenses amounted
to $2.3 million, an increase of 42% compared to $1.6 million in the same period
last year. The increase in expenses in combination with the decline in net sales
resulted in an increase in operating expenses as a percentage of net sales to
43.4% in the three months ended September 30, 2012, compared with 22.9% for the
same period last year. Selling, general and administrative expenses for the
three months ended September 30, 2012 amounted to $1.8 million, an increase of
$548,000, or 44%, compared to $1.3 million in the prior year quarter. The
increases were primarily related to increases in marketing, our annual sales
meeting and increased compensation expense for new employees and contractors.
R&D expenses for the three months ended September 30, 2012 amounted to $527,000,
an increase of $143,000, or 37%, compared to $384,000 in the prior year quarter.
The increase was primarily due to increased compensation expense from expansion
of our development team.
Other Income (Expense)
Other income (expense) was not significant for the three months ended
September 30, 2012 or 2011.
Provision for Income Taxes
Because of our prior operating losses and lack of carry-back ability, we had no
provision for income taxes for the three months ended September 30, 2012 and
2011.
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 September 30, 2011, we reported net income from
discontinued operations of $7,000.
Nine months ended September 30, 2012 compared with nine months ended
September 30, 2011
Net Sales
For the nine months ended September 30, 2012, our net sales amounted to $25.8
million, an increase of $2.9 million, or 13%, from $23.0 million in the same
period last year. The increase reflects a significant increase in sales of our
proprietary verykool® handsets. Net sales of verykool® products during the nine
months ended September 30, 2012 amounted to $23.1 million, an increase of
$10.1 million, or 78%, from $13.0 million in the same period last year. We
shipped 114% more verykool® handsets during the first nine months of 2012 than
in the first nine months of the prior year, and the average selling price
declined by 17% primarily due to a shift in product mix to lower priced phones
that are popular in Latin America.
Partially offsetting the increase in sales of our proprietary verykool® handsets
was a decline in Samsung distribution sales reflecting the wind down of our
Samsung distribution business. Distribution sales during the nine months ended
September 30, 2012 amounted to $2.7 million, a decrease of $7.2 million, or 73%,
from $9.9 million in the same period last year.
Cost of Sales, Gross Profit and Gross Margin
For the nine months ended September 30, 2012, our gross profit amounted to $5.5
million, an increase of $2.5 million, or 86%, from $2.9 million in the same
period last year. The significant increase reflects the combined effect of the
increased level of sales during the period and the higher mix of sales this year
of our proprietary verykool® products compared to our distribution revenues. Our
gross profit margin for the nine months ended September 30, 2012 was 21.1% of
net sales, a 65% increase from the gross margin of 12.8% in the same period last
year. For the nine months ended September 30, 2012, net sales of verykool®
products represented 89% of our total sales, compared to 57% in the same period
last year.
Operating Expenses
For the nine months ended September 30, 2012, total operating expenses amounted
to $6.8 million, an increase of 33% compared to $5.1 million in the same period
last year. Operating expenses as a percentage of net sales increased to 26.3% in
the nine months ended September 30, 2012, compared with 22.2% for the same
period last year, as expenses increased at a faster pace than net sales.
Selling, general and administrative expenses for the nine months ended
September 30, 2012 amounted to $5.3 million, an increase of $1.3 million, or
33%, compared to $4.0 million for the same period last year. This increase is
primarily related to an increase of $225,000 in our bad debt reserve, increased
compensation expense for new employees and contractors, sales commissions on
increased sales, increased marketing and annual sales meeting expenses and
increased homologation expenses to prepare new phone models for sale and use on
carrier networks. Research and development expenses for the nine months ended
September 30, 2012 amounted to $1.5 million, an increase of $388,000, or 33%,
compared to $1.1 million for the same period last year. The increase is
primarily related to compensation expense from expansion of our development team
and prototyping and abandoned tooling expense.
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Other Income (Expense)
For the nine months ended September 30, 2012, other income (expense) included
$65,000 of expense comprised of $48,000 of foreign exchange losses and a $17,000
loss on disposal of fixed assets. We also recorded $53,000 of interest income
primarily related to financed customer receivables. For the nine months ended
September 30, 2011, we recorded $30,000 of other income relating principally to
the gain on sale of fixed assets in connection with the closure of our Miami
warehouse on March 31, 2011 and $11,000 of interest income earned on an income
tax refund.
Provision for Income Taxes
Because of our operating losses and lack of carry back ability, our tax
provisions for the nine month periods ended September 30, 2012 and 2011 were
nominal and consisted only of state and local taxes.
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 nine months ended
September 30, 2012, we used $1.9 million in cash for operations. Primary uses of
cash included a $2.4 million increase in inventories due primarily to the
slowing of sales in the third quarter of 2012, a $1.4 million decrease in
accounts payable and accruals, and a $0.6 million net loss before non-cash
charges. Primary sources of cash included a $1.7 million reduction in accounts
receivable, a $0.8 million decrease in prepaids and other assets. Although we do
not currently have a bank credit line, 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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