EMERSON RADIO CORP annual report, FY2012

Emerson Radio Corp. — Fiscal 2012 Form 10-K Summary

Business Context and Reporting Period

Emerson Radio Corp. designs, sources, imports, markets and licenses houseware and consumer electronics products under the Emerson and other brands. Products include microwave ovens, compact refrigerators, wine coolers, clock radios, portable audio systems and televisions. The filing covers the fiscal year ended March 31, 2012, with fiscal 2011 as the comparable period; it is not a quarterly filing despite the request metadata referencing 2011 Q4.

Sales are highly concentrated in Wal-Mart and Target, which represented approximately 48% and 39% of fiscal 2012 net revenues, respectively. Products are manufactured primarily in China, and Midea represented 66% of fiscal 2012 purchases.

Key Financial Metrics

Metric	Fiscal 2012	Fiscal 2011	Change
Net product sales	$157.0 million	$193.5 million	Down 18.9%
Licensing revenue	$6.3 million	$7.3 million	Down 14.2%
Net revenues	$163.3 million	$200.8 million	Down 18.7%
Operating income	$11.9 million	$18.9 million	Down 37.2%
Income before taxes	$13.1 million	$21.7 million	Down 39.6%
Net income	$10.6 million	$15.9 million	Down 33.2%
Basic and diluted EPS	$0.39	$0.59	Down $0.20
Net cash from operating activities	$(0.2) million	$25.7 million	Down $25.8 million

Cost of sales was $142.3 million, or 87.1% of net revenues, compared with 86.1% in fiscal 2011. The resulting gross-margin proxy was approximately 12.9%, compared with 13.9% in the prior year. Operating margin declined to approximately 7.3% from 9.4%, and net margin declined to approximately 6.5% from 7.9%.

Fiscal 2012 other income included an $0.8 million gain on the sale of marketable securities, a $0.3 million gain on the sale of the former headquarters building and $0.1 million of net interest income. Fiscal 2011 included a $1.8 million litigation settlement gain and a $1.0 million gain on marketable securities.

Liquidity, Cash Flow and Debt

Cash and cash equivalents increased to $45.0 million at March 31, 2012, from $39.8 million.
Working capital increased to $64.4 million from $51.0 million.
Operating activities used $0.2 million of cash, despite $10.6 million of net income, principally because of reductions in payables and other liabilities, changes in tax assets and higher working-capital needs.
Investing activities provided $7.8 million, primarily from the $4.7 million sale of the remaining auction-rate security and proceeds from the building sale.
Financing activities used $2.5 million, primarily to repay the short-term loan secured by auction-rate securities.
Short-term borrowings were eliminated, declining from $2.5 million to zero. Remaining borrowings were approximately $0.1 million, consisting primarily of capitalized lease obligations.
Letters of credit were approximately $0.2 million and were 100% cash collateralized.

Management stated that cash on hand and cash generated from operations were expected to provide sufficient liquidity for the following 12 months. Approximately 41% of fiscal 2012 net sales were direct-import sales, which reduced the Company’s inventory-financing requirements.

Material Changes Versus the Prior Comparable Period

Houseware sales declined 17.7% to $146.4 million, primarily because of lower microwave, toaster oven, wine cooler and coffee maker sales. Audio sales declined 32.2% to $10.6 million.
A microwave model was discontinued by a major retail customer beginning in December 2010, contributing to the sales decline.
Cost of sales fell less rapidly than revenue, and inventory writedowns and quality-control costs increased, pressuring margins.
SG&A increased 5.2% to $7.8 million, principally because of higher legal fees and lower bad-debt recoveries, partly offset by lower compensation costs.
Inventory increased to $11.3 million from $8.5 million, while inventory allowances declined to $0.1 million from $2.1 million.
The Company sold its final auction-rate security and former headquarters building, eliminating the related marketable-securities balance and reducing property, plant and equipment.
Licensing revenue declined, and the Funai agreement, which generated approximately 75% of licensing revenue, was scheduled to expire in December 2012 unless renewed.

Outlook, Risks, Contingencies and Unusual Items

The appointment of provisional liquidators over controlling shareholder Grande and Grande’s Chapter 15 bankruptcy proceeding created uncertainty regarding ownership, governance, related-party matters and operations.
Following the Grande developments, major suppliers, including Midea, reduced open-credit limits, requiring accelerated payments and increasing reliance on cash and operating cash flow.
There were competing claims involving 3,380,079 Emerson shares, approximately 12.5% of outstanding common stock, between Grande-related parties and Deutsche Bank. The Company stated that beneficial ownership could not yet be determined.
The Company is highly dependent on Wal-Mart and Target and has no long-term customer contracts. The loss or material reduction of either relationship could materially affect revenue and earnings.
Supplier concentration and dependence on China-based manufacturers expose the Company to supply interruptions, pricing and labor pressures, tariffs, currency movements, political and economic conditions and transportation disruptions.
The Kayne litigation alleges that Emerson and associated parties interfered with collection of an approximately $47 million judgment against Grande and asserts RICO and alter-ego claims. Emerson considers the claims without merit, is defending the case, and reported that a trial was scheduled for April 23, 2013. The filing does not provide a clear estimate of potential exposure.
The Company disclosed a possible contingent tax liability related to a prior dividend arrangement with S&T, although it believes any liability would be offset by indemnification rights.
Total future non-affiliate lease commitments were approximately $2.2 million, principally $1.3 million due in fiscal 2013.
Management assessed disclosure controls and internal control over financial reporting as effective; the auditor was not required to provide an internal-control attestation.

Important Facts for Investors to Verify

Whether the Funai license agreement was renewed after its December 2012 expiration and on what economic terms.
Whether Wal-Mart and Target sales concentration changed and whether customer purchase orders or product assortments stabilized.
The effect of supplier credit restrictions, particularly those involving Midea, on inventory availability, payment terms and liquidity.
The resolution and potential financial exposure of the Kayne litigation and any related Grande proceedings.
The outcome of competing beneficial-ownership claims involving the 3,380,079 pledged shares.
Whether operating cash flow recovered from the fiscal 2012 use of $0.2 million and whether margins improved after the reported sales decline.
The realizability of deferred tax assets and the status of unrecognized tax benefits, reported at $0.1 million as of March 31, 2012.