EMERSON RADIO CORP quarterly report, Q3 FY2012

Emerson Radio Corp. Form 10-Q Summary

Business Context and Reporting Period

Emerson designs, sources, imports and markets houseware and consumer electronic products and licenses Emerson, HH Scott and Olevia trademarks. This unaudited report covers the three and nine months ended December 31, 2011, the third quarter and first nine months of fiscal 2012, compared with the corresponding fiscal 2011 periods.

Financial Results and Key Metrics

Metric	Three months ended Dec. 31, 2011	Three months ended Dec. 31, 2010	Nine months ended Dec. 31, 2011	Nine months ended Dec. 31, 2010
Net revenues	$43.5 million	$40.6 million	$136.4 million	$159.7 million
Operating income	$4.5 million	$5.0 million	$10.0 million	$15.7 million
Net income	$3.2 million	$4.2 million	$8.3 million	$13.3 million
Basic and diluted EPS	$0.12	$0.15	$0.30	$0.49
Operating cash flow	Not separately provided	Not separately provided	$(2.8) million	$4.5 million

Third-quarter gross margin was approximately 15.6%, compared with 18.5% in the prior-year quarter. Operating margin was approximately 10.3%, compared with 12.3%, and net margin was approximately 7.3%, compared with 10.3%.
Nine-month gross margin was approximately 12.5%, compared with 14.5%. Operating margin was approximately 7.3%, compared with 9.8%, and net margin was approximately 6.1%, compared with 8.3%.
Cash and cash equivalents were $42.0 million at December 31, 2011, compared with $39.8 million at March 31, 2011 and $18.7 million at December 31, 2010. Restricted cash was $0.5 million.
Working capital was approximately $63.0 million at December 31, 2011, compared with $41.5 million at December 31, 2010.
Inventory increased to $18.8 million from $8.5 million at March 31, 2011. Accounts receivable increased to $12.8 million from $10.9 million.
The company had no short-term borrowings at December 31, 2011 and $0.1 million of long-term borrowings, consisting of capitalized lease obligations. It had $0.5 million of cash-collateralized letters of credit.
Investing cash flow was $7.5 million, primarily from the sale of the final auction-rate securities and the company headquarters building. Financing cash flow was $(2.5) million, primarily reflecting repayment of short-term borrowings.

Material Changes Versus the Prior Comparable Period

Third-quarter revenue increased 7.1%, but nine-month revenue declined 14.6%.
Third-quarter houseware revenue increased 16.2%, primarily from microwave ovens, but management characterized the increase as temporary. Nine-month houseware revenue declined 12.9%.
Audio revenue declined 44.2% in the quarter and 34.8% for the nine-month period. Licensing revenue declined 12.3% and 10.6%, respectively.
Higher landed product costs increased cost of sales as a percentage of revenue, reducing gross margins.
Operating income declined 10.4% in the quarter and 36.3% for the nine-month period. Net income declined 24.2% and 37.7%, respectively.
Operating cash flow changed from $4.5 million provided in the prior-year nine-month period to $2.8 million used, principally because of increases in inventory, accounts receivable and prepaid expenses.
The company sold its New Jersey headquarters in December 2011, recognizing a $0.3 million gain and receiving $2.7 million of proceeds. It expects to rent headquarters space beginning in February 2012.
The company sold its remaining auction-rate securities in May 2011 for $4.7 million and recognized an $0.8 million gain. The related $2.5 million short-term borrowing was repaid.

Guidance, Outlook, Risks, Contingencies and Unusual Items

Management stated that fourth-quarter fiscal 2012 houseware sales are likely to decrease from the fourth quarter of fiscal 2011 and that the third-quarter increase did not indicate a reversal of the recent sales decline.
The company believes existing cash and cash sources will support operations for the next 12 months, but operating cash flow is its principal funding source.
Following the appointment of provisional liquidators over majority shareholder Grande, certain major suppliers reduced available open-credit limits. The company made accelerated supplier payments and relies on cash on hand and operating cash flow.
Revenue is highly concentrated: the two largest customers represented approximately 90.4% of gross product sales in the first nine months of fiscal 2012.
The two largest suppliers represented approximately 79.1% of purchases in the first nine months of fiscal 2012. The company also depends substantially on third-party manufacturers in China and is exposed to higher production costs and renminbi appreciation.
A Kayne lawsuit alleges that Emerson and others interfered with collection of an approximately $47 million judgment against Grande and asserts civil RICO and alter-ego claims. Emerson moved to dismiss and stated that it believes the claims lack merit. The filing does not provide a clear estimate of potential financial exposure.
The company has tax net operating loss carryforwards and deferred tax assets whose realization depends on future taxable income and tax-planning strategies. Management believes the assets are more likely than not to be realized, but a future reduction could affect earnings.
Management reported effective disclosure controls as of December 31, 2011 and no material changes in internal control over financial reporting during the quarter.

Investor Verification Checklist

Verify whether the temporary third-quarter houseware sales improvement persisted after December 31, 2011.
Monitor customer concentration, supplier credit terms and the company’s ability to fund inventory and working capital through operations.
Assess the effect of higher landed product costs on future gross margins.
Review developments and potential exposure in the Kayne litigation and any effects from Grande’s provisional liquidation.
Evaluate the recoverability of deferred tax assets and the company’s ability to generate positive operating cash flow.
Confirm the accounting and recurring impact of the headquarters sale, auction-rate security sale and related nonrecurring gains.