VIASYSTEMS GROUP INC - 10-K - Management's Discussion and Analysis of Financial Condition and Results of Operations

(Edgar Glimpses Via Acquire Media NewsEdge) The following discussion should be read in conjunction with "Selected Financial Data" and our consolidated financial statements and related notes included elsewhere in this document. The following discussion contains forward-looking statements based upon current expectations and related to future events, and our future financial performance involves risks and uncertainties. We based these statements on assumptions we consider reasonable. Actual results and the timing of events could differ materially from those discussed in the forward-looking statements; see "Cautionary Statements Concerning Forward-Looking Statements." Factors that could cause or contribute to these differences include, but are not limited to, those discussed below and elsewhere in this document, particularly in "Risk Factors." Company Overview We are a leading worldwide provider of complex multi-layer printed circuit boards, ("PCBs") and electro-mechanical solutions, ("E-M Solutions"). PCBs serve as the "electronic backbone" of almost all electronic equipment, and our E-M Solutions products and services integrate PCBs and other components into finished or semi-finished electronic equipment, which include custom and standard metal enclosures, metal cabinets, metal racks and sub-racks, backplanes, cable assemblies and busbars.

The components we manufacture include, or can be found in, a wide variety of commercial products, including automotive engine controls, hybrid converters, automotive electronics for navigation, safety, entertainment and anti-lock braking systems, telecommunications switching equipment, data networking equipment, computer storage equipment, wind and solar energy applications, flight control systems and complex industrial, medical and other technical instruments.

We are a supplier to approximately 800 original equipment manufacturers, or OEMs, and contract electronic manufacturers, or CEMs, in numerous end markets.

Our OEM customers include industry leaders such as Alcatel-Lucent, S.A., Autoliv, Inc., Robert Bosch GmbH, Ciena Corporation, Cisco Systems, Inc., Continental AG, Ericsson AB, General Electric Company, Harris Corporation, Hitachi, Ltd., Huawei Technologies Co., Ltd., Motorola Solutions, Inc., NetApp, Inc., QLogic Corporation, Rockwell Automation, Inc., Rockwell Collins, Inc., TRW Automotive Holdings Corp. and Xyratex Ltd. In addition, we have good working relationships with industry-leading CEMs such as Benchmark Electronics, Inc., Celestica, Inc., Jabil Circuit, Inc. and Plexus Corp., and we supply PCBs and E-M Solutions products to these customers as well.

We operate our business in two segments: Printed Circuit Boards, which includes our PCB products, and Assembly, which includes our E-M Solutions products and services.

28 -------------------------------------------------------------------------------- Table of Contents Business Overview Our results for 2011 reflect solid demand for our products across all but our telecommunications end markets, price increases implemented during the second quarter in our Printed Circuit Boards segment and premium pricing to certain customers and programs in our automotive end market during the fourth quarter.

During the year, we continued to expand our PCB production capacity in China. We expect that this capacity expansion will allow us to replace the capacity we will lose in connection with the required closure of our Huizhou, China factory at the end of 2012 and meet increases in demand from our customers. During the fourth quarter, we relocated our manufacturing operations in Juarez, Mexico to a nearby new facility which expanded our North America E-M Solutions manufacturing capacity and capabilities.

Our results for 2011 also reflect increased costs of labor and materials, especially at our facilities in China. Our costs were also negatively impacted by inefficiencies associated with production interruptions at some of our facilities due to i) unplanned maintenance at one of our PCB facilities during the first quarter, ii) power rationing by the Chinese government that began in May 2011 and continued into the fourth quarter and iii) the relocation of our E-M Solutions facility in Juarez, Mexico. In addition to minimum wage increases, the Chinese government implemented employment-based social taxes on foreign-owned enterprises. A continued tightening of labor resources in China resulted in higher than usual levels of overtime pay costs at several of our PCB facilities. In addition to increased costs for raw materials like copper clad laminates and gold, a sustained high demand for electronic components allowed our materials suppliers to command higher prices for their products. As a result of these factors, during the second quarter of 2011, we began implementing selling price increases to compensate for labor and materials cost increases, and substantially all of the price increases were implemented by the beginning of our third quarter. While material costs stabilized during the fourth quarter of 2011, market forces may again cause increases during 2012.

As a component manufacturer, our sales trends generally reflect the market conditions in the industries we serve. In the automotive market, we are adding capacity at our automotive qualified PCB manufacturing facilities i) as a result of increased demand and ii) in anticipation of the closure of our facility in Huizhou, China at the end of 2012. In addition to sales growth from forecasted increases in general demand, we expect that the flooding in Thailand in 2011 that idled PCB manufacturing facilities belonging to some of our competitors, will continue to provide some additional market share with existing customers in the automotive end market as they continue to source from alternative suppliers.

In the industrial & instrumentation market, we have experienced increased demand from our broad base of customers, and in order to accommodate growing demand for North America based E-M Solutions products and services in this end market, we relocated our manufacturing operations in Juarez, Mexico to a larger facility near the end of 2011.

The telecommunications end-user market remains dynamic as the customers we supply produce a mixture of products which include both new, cutting edge applications as well as more mature products with varying levels of demand. We continue to position ourselves to take advantage of growth opportunities related to the introduction of next generation wireless technology standards, but expect this market to remain soft going into 2012.

In the computer and datacommunications market, we continue to pursue new customers and programs for both our Printed Circuit Boards and Assembly segments, especially in the high-end server and storage sectors, which are being driven by trends in "cloud" computing.

In the military and aerospace market, we continue to pursue market share gains as a result of continuing customer qualification activity; however, overall demand trends in this market have been negatively impacted by budget pressures on U.S. government defense spending.

Shelf Registration Statement We filed a shelf registration statement with the Securities and Exchange Commission that became effective on April 7, 2011, and will allow us to sell up to $150 million of equity or other securities described in the registration statement in one or more offerings. The shelf registration statement gives us greater flexibility to raise funds from the sale of our securities, subject to market conditions and our capital needs. In addition, the shelf registration statement includes shares of our common stock currently owned by VG Holdings, LLC, such that VG Holdings, LLC may offer and sell, from time to time, up to 15,562,558 shares of our common stock. We will not receive any proceeds from the sale of common stock by VG Holdings, LLC, but we may incur expenses in connection with the sale of those shares. In November 2011, we announced a public offering of additional shares of common stock by ourselves and VG Holdings; however, as a result of unfavorable market conditions at the time, we subsequently withdrew the offering.

29-------------------------------------------------------------------------------- Table of Contents The Merix Acquisition On February 16, 2010, we acquired Merix Corporation ("Merix") in a transaction pursuant to which Merix became a wholly owned subsidiary of our company (the "Merix Acquisition"). Merix was a leading manufacturer of technologically advanced, multi-layer printed circuit boards with operations in the United States and China. The Merix Acquisition increased our PCB manufacturing capacity by adding four additional PCB production facilities, added North American PCB quick-turn services capability and added military and aerospace to our already diverse end-user markets.

2010 Recapitalization In connection with the Merix Acquisition, on February 11, 2010, our company was recapitalized such that (i) each outstanding share of common stock was exchanged for 0.083647 shares of common stock, (ii) each outstanding share of our Mandatory Redeemable Class A Junior Preferred Stock (the "Class A Preferred") was reclassified as, and converted into, 8.478683 shares of newly issued common stock and (iii) each outstanding share of our Redeemable Class B Senior Convertible Preferred Stock (the "Class B Preferred") was reclassified as, and converted into, 1.416566 shares of newly issued common stock.

In connection with the conversion of the Class A Preferred into common shares of the Company, for financial reporting purposes related to the presentation of net loss attributable to common stockholders, for the year ended December 31, 2010, the Company recorded a non-cash adjustment to net loss of $29.7 million. The $29.7 million non-cash item is equal to the difference between i) the fair value of the common shares issued and ii) the carrying value of the Class A Preferred at the time of conversion; and was reflected in the Consolidated Statement of Stockholders' Equity (Deficit) and Comprehensive Income (Loss) as a reduction to accumulated deficit and a corresponding increase to paid-in capital. In connection with the conversion of the Class B Preferred into common stock of the Company, for financial reporting purposes related to the presentation of net loss attributable to common stockholders, for the year ended December 31, 2010, the Company recorded a non-cash adjustment to net loss of $105.0 million. The $105.0 million non-cash item is equal to the difference between i) the fair value of the common shares issued and ii) the fair value of the number of common shares that would have been issued according to the terms of the Indenture governing the Class B Preferred without consideration of the Recapitalization Agreement; and was reflected in the Consolidated Statement of Stockholders' Equity (Deficit) and Comprehensive Income (Loss) as a reduction to accumulated deficit and a corresponding increase to paid-in capital.

Results of Operations Year Ended December 31, 2011, Compared with Year Ended December 31, 2010 Net Sales. Net sales for the year ended December 31, 2011, were $1,057.3 million, representing a $128.0 million, or 13.8%, increase from net sales for the year ended December 31, 2010. Assuming the Merix Acquisition had occurred on January 1, 2010, on a pro forma basis, net sales increased by approximately $86.1 million, or 8.9%, for the year ended December 31, 2011, as compared with the same period in 2010. This increase is due to increased demand across all but our telecommunications end markets, price increases implemented during the second quarter in our Printed Circuit Boards segment and premium pricing to certain customers and programs in the automotive end market during the fourth quarter.

30 -------------------------------------------------------------------------------- Table of Contents Net sales by end-user market on a historical basis for the years ended December 31, 2011 and 2010, and on a pro forma basis for the year ended December 31, 2010, were as follows: September 30, September 30, September 30, Pro Historical Forma End-User Market (dollars in millions) 2011 2010 2010 Automotive $ 412.4 $ 332.8 $ 341.0 Industrial & Instrumentation 264.2 220.2 229.5 Telecommunications 182.5 218.4 230.1 Computer and Datacommunications 155.3 121.7 129.3 Military and Aerospace 42.9 36.2 41.3 Total Net Sales $ 1,057.3 $ 929.3 $ 971.2 Our net sales of products for end use in the automotive market increased by approximately $79.6 million, or 23.9%, during the year ended December 31, 2011, compared with 2010. Assuming the Merix Acquisition had occurred on January 1, 2010, on a pro forma basis, net sales of products for end use in this market increased by approximately $71.4 million, or 20.9%, for the year ended December 31, 2011, as compared to 2010. The increase was driven by i) increased demand, including demand in the fourth quarter from customers whose supply chain had been impacted by the flooding in Thailand and who sought to diversify their supplier base for certain programs, ii) price increases implemented during the second quarter of 2011 and iii) premium pricing to one customer as we assist them with their transition to other suppliers.

Net sales of products ultimately used in the industrial & instrumentation market, increased by approximately $44.0 million, or 20.0%, during the year ended December 31, 2011, compared with 2010. Assuming the Merix Acquisition had occurred on January 1, 2010, on a pro forma basis, net sales of products for end use in this market increased by approximately $34.7 million, or 15.1%, for the year ended December 31, 2011, as compared with 2010. The increase in net sales was driven primarily by increased global demand, including programs related to wind power and elevator controls, as well as new customer and program wins.

Net sales of products ultimately used in the telecommunications market decreased by approximately $35.9 million, or 16.4%, during the year ended December 31, 2011, as compared with 2010. Assuming the Merix Acquisition had occurred on January 1, 2010, on a pro forma basis, net sales of products for use in this end market decreased by approximately $47.6 million, or 20.7%, for the year ended December 31, 2011, as compared with 2010. The sales decline was primarily a result of reduced demand for certain programs we supply, inventory corrections from one of our larger customers and the loss of one customer in our Assembly segment which elected to bring manufacturing of the parts we supplied in-house.

Net sales of our products for use in the computer and datacommunications markets increased by approximately $33.6 million, or 27.6%, during the year ended December 31, 2011, as compared with 2010. Assuming the Merix Acquisition had occurred on January 1, 2010, on a pro forma basis, net sales of products for use in this end market increased by approximately $26.0 million, or 20.1%, for the year ended December 31, 2011, as compared with 2010, driven by increased global demand from our computer and datacommunication customers as well as new customer and program wins.

Net sales to customers in the military and aerospace market increased by approximately $6.7 million, or 18.5%, during the year ended December 31, 2011, compared with 2010. Assuming the Merix Acquisition had occurred on January 1, 2010, on a pro forma basis, net sales of products for use in this market increased by approximately $1.6 million, or 3.9%, for the year ended December 31, 2011, as compared with 2010. This modest growth in sales is a result of increased demand from existing customers and new customer wins; however, budget pressures on U.S. government defense spending has continued to hamper demand.

31 -------------------------------------------------------------------------------- Table of Contents Net sales by segment on a historical basis for the year ended December 31, 2011 and 2010, and on a pro forma basis for the year ended December 31, 2010, were as follows: September 30, September 30, September 30, Pro Historical Forma Segment (dollars in millions) 2011 2010 2010 Printed Circuit Boards $ 865.9 $ 763.9 $ 805.8 Assembly 201.0 177.3 177.3 Eliminations (9.6 ) (11.9 ) (11.9 ) Total net sales $ 1,057.3 $ 929.3 $ 971.2 Printed Circuit Boards segment net sales, including intersegment sales, for the year ended December 31, 2011, increased by $102.0 million, or 13.4%, to $865.9 million. Assuming the Merix Acquisition had occurred on January 1, 2010, on a pro forma basis, Printed Circuit Boards net sales, including intersegment sales, for the year ended December 31, 2011, increased by $60.1 million, or 7.5%. The increase is a result of a greater than 1.4% increase in volume that affected all but our telecommunication end-user markets, as well as price increases introduced during the second quarter of 2011.

Assembly segment net sales increased by $23.7 million, or 13.4%, to $201.0 million for the year ended December 31, 2011, compared with 2010. The increase was primarily the result of improved demand in wind power and elevator controls related programs in our industrial and instrumentation end market, partially offset by a sales decline in our telecommunications end market.

Cost of Goods Sold. Cost of goods sold, exclusive of items shown separately in the consolidated statement of operations for the year ended December 31, 2011, was $837.7 million, or 79.2% of consolidated net sales. This represents a 1.9 percentage point increase from the 77.3% of consolidated net sales achieved during 2010. The increase was due primarily to rising costs of materials and labor and manufacturing inefficiencies associated with government mandated power rationing in China, partially offset by sales price increases. To compensate for rising costs, we began to implement price increases during the second quarter of 2011; however, our costs for materials and labor grew faster than we could implement price increases. While material costs stabilized during the fourth quarter of 2011, market forces may again cause increases during 2012.

The costs of materials, labor and overhead in our Printed Circuit Boards segment can be impacted by trends in global commodities prices and currency exchange rates, as well as other cost trends that can impact minimum wage rates, electricity and diesel fuel costs in China. Economies of scale can help to offset any adverse trends in these costs. Our results for 2011 reflect increased costs of labor and materials, significant unscheduled maintenance at one of our PCB facilities during the first quarter of 2011, inefficiencies in connection with restarting production after scheduled shutdowns around the time of the Chinese New Year holiday in February 2011, as well as inefficiencies associated with power rationing in China. The increase in labor costs was due to minimum wage increases and newly implemented employment-based social taxes in China, as well as a labor shortage in some parts of China that contributed to higher than usual attrition, resulting in increased overtime costs and the payment of retention bonuses. The increase in materials costs was due to increased costs for commodities, including copper and gold, as well as a sustained high demand for electronic components in our industry, which allowed our materials suppliers to command higher prices for their products.

Cost of goods sold in our Printed Circuit Boards segment during the 2010 reflected an inventory fair value adjustment of approximately $0.9 million related to the Merix Acquisition, which negatively impacted the ratio of cost of goods sold to net sales.

Cost of goods sold in our Assembly segment relates primarily to component materials costs. As a result, trends in sales volume for the segment drive similar trends in cost of goods sold. Cost of goods sold as a percent of sales during the year ended December 31, 2011, were negatively impacted by increased labor and material costs.

Selling, General and Administrative Costs. As a percent of sales, selling, general and administrative costs decreased to 7.6% for the year ended December 31, 2011, as compared with 8.3% for the year ended December 31, 2010. In dollar terms, selling, general and administrative costs increased $2.8 million, or 3.7%, to 32-------------------------------------------------------------------------------- Table of Contents $80.3 million for the year ended December 31, 2011, compared with 2010. The net increase in selling, general and administrative costs was primarily a result of i) a $4.4 million increase in non-cash stock compensation expense related to awards granted under our 2010 Equity Incentive Plan, ii) costs associated with annual management meetings during 2011, which had been suspended in 2010, and iii) the impact of a full year of selling, general and administrative costs associated with the legacy Merix operations as compared with approximately ten and one-half months of costs incurred subsequent to the mid-February acquisition date in 2010, partially offset by a $4.6 million decline in costs relating to acquisitions and equity registrations and reduced incentive compensation expense.

Depreciation. Depreciation expense for the year ended December 31, 2011, was $65.9 million, including $62.0 million related to our Printed Circuit Boards segment and $3.9 million related to our Assembly segment. Depreciation expense in our Printed Circuit Boards segment increased by $10.0 million compared with 2010 primarily as a result of increased investments in new equipment during 2010 and 2011; and we expect depreciation expense will continue to increase in 2012 as a result of significant new investments in capital equipment during 2011 and expected investments during 2012. Depreciation expense in our Assembly segment decreased by $0.5 million compared with 2010, as a result of reduced capital expenditures in 2010 and through the first half of 2011. With approximately $6.0 million of capital expenditures in our Assembly segment during the second half of 2011, including $4.0 million related to the new Juarez, Mexico facility, we expect depreciation expense in our Assembly segment for 2012 will return to levels similar to 2010.

Restructuring and Impairment. During the year ended December 31, 2011, we incurred net restructuring charges of $0.8 million, which included approximately $0.5 million in our Assembly segment related to the relocation of our manufacturing operations in Juarez, Mexico to a new facility, approximately $0.4 million in "Other" related to an increase in estimated long-term obligations associated with previously closed manufacturing facilities, and a reversal of accrued severance costs of approximately $0.1 million in our Printed Circuit Boards segment as a result of lower than planned involuntary terminations in connection with the integration of the Merix business after its acquisition in 2010. The costs incurred in the Assembly and "Other" segments all related to contractual commitments.

During the year ended December 31, 2010, in connection with the integration of the Merix business, we identified potential annualized cost synergies of approximately $20.0 million, and took certain actions to realize those cost synergies. These actions included staff reductions and the consolidation of certain administrative offices. For the year ended December 31, 2010, we recorded net restructuring charges of approximately $8.5 million, of which approximately $4.6 million was incurred in the Printed Circuit Boards segment related to achieving cost synergies with the integration of the Merix business, and approximately $3.9 million was incurred in the "Other" segment primarily related to the cancellation of a monitoring and oversight agreement in connection with the Recapitalization Agreement. The charges incurred in the Printed Circuit Boards segment include $3.5 million related to personnel and severance and $1.1 million related to lease termination and other costs. The charges incurred in the "Other" segment include $4.4 million related to contractual commitments and a reversal of $0.5 million related to personnel and severance costs.

During 2012, we expect we will incur restructuring charges in the range of $13 million to $15 million in connection with the closure of our Huizhou, China and Qingdao, China facilities. The district where our Huizhou facility is located is being redeveloped away from industrial use, and we are unable to renew our lease of the facility beyond its December 31, 2012, expiration date. We are in the process of transitioning this facility's customers to our other China PCB facilities, and expect to cease operations in Huizhou during the fourth quarter of 2012. Our facility in Qingdao, China has operated as a satellite facility supporting the operations of our Assembly segment facility in Shanghai, China.

In order to achieve operational efficiencies and cost reductions, we plan to close our facility in Qingdao during the first half of 2012, and consolidate its operations back into our Shanghai facility.

The primary components of restructuring and impairment expense for the years ended December 31, 2011 and 2010, are as follows: September 30, September 30, Restructuring Activity (dollars in millions) 2011 2010 Personnel and severance $ (0.1 ) $ 3.0 Lease and other contractual commitment expenses 0.9 5.5 Total expense, net $ 0.8 $ 8.5 33 -------------------------------------------------------------------------------- Table of Contents Operating Income. Operating income of $70.9 million for the year ended December 31, 2011, represents an increase of $4.4 million compared with operating income of $66.5 million during the year ended December 31, 2010. The primary sources of operating income for the years ended December 31, 2011 and 2010, are as follows: September 30, September 30, Source (dollars in millions) 2011 2010 Printed Circuit Boards segment $ 65.5 $ 68.9 Assembly segment 6.7 6.2 Other (1.3 ) (8.6 ) Operating income $ 70.9 $ 66.5 Operating income from our Printed Circuit Boards segment decreased by $3.4 million to $65.5 million for the year ended December 31, 2011, compared with operating income of $68.9 million for the prior year. The decrease is primarily the result of higher levels of material and labor costs in cost of goods sold relative to sales and increased depreciation expense partially offset by increased sales volume, price increases and a reduction in restructuring charges.

Operating income from our Assembly segment was $6.7 million for the year ended December 31, 2011, compared with operating income of $6.2 million in 2010. The increase is primarily the result of increased sales volumes and reduced depreciation expenses, partially offset by higher levels of cost of goods sold relative to sales and restructuring cost.

The $1.3 million operating loss in the "Other" segment for the year ended December 31, 2011, relates primarily to restructuring charges of $0.4 million and professional fees and other costs associated with equity registrations and the pursuit of acquisition opportunities. The operating loss in the "Other" segment of $8.6 million for the year ended December 31, 2010, relates to $3.9 million of net restructuring charges and $4.7 million of transaction costs related to the Merix Acquisition.

Adjusted EBITDA. We measure our performance primarily through our operating income. In addition to our consolidated financial statements presented in accordance with U.S. GAAP, management uses certain non-GAAP financial measures, including "Adjusted EBITDA." Adjusted EBITDA is not a recognized financial measure under U.S. GAAP, and does not purport to be an alternative to operating income or an indicator of operating performance. Adjusted EBITDA is presented to enhance an understanding of our operating results and is not intended to represent cash flows or results of operations. Our board of directors, lenders and management use Adjusted EBITDA primarily as an additional measure of performance for matters including executive compensation and competitor comparisons. In addition, the use of this non-U.S. GAAP measure provides an indication of our ability to service debt, and we consider it an appropriate measure to use because of our leveraged position.

Adjusted EBITDA has certain material limitations, primarily due to the exclusion of certain amounts that are material to our consolidated results of operations, such as interest expense, income tax expense and depreciation and amortization.

In addition, Adjusted EBITDA may differ from the Adjusted EBITDA calculations of other companies in our industry, limiting its usefulness as a comparative measure.

We use Adjusted EBITDA to provide meaningful supplemental information regarding our operating performance and profitability by excluding from EBITDA certain items that we believe are not indicative of our ongoing operating results or will not impact our future operating cash flows as follows: • Stock Compensation - non-cash charges associated with recognizing the fair value of stock options and restricted stock awards granted to employees and directors. We exclude these charges to more clearly reflect comparable year-over-year cash operating performance.

• Restructuring and Impairment Charges - which consist primarily of facility closures and other headcount reductions. Historically, a significant amount of these restructuring and impairment charges have been non-cash charges related to the write-down of property, plant and equipment to estimated net realizable value. We exclude these restructuring and impairment charges to more clearly reflect our ongoing operating performance.

• Costs Relating to Acquisitions and Equity Registrations - professional fees and other non-recurring costs and expenses associated with mergers and acquisition activity as well as costs associated with capital transactions, such as equity registrations. We exclude these costs and expenses because they are not representative of our customary operating expenses.

34 -------------------------------------------------------------------------------- Table of Contents Reconciliations of operating income (loss) to Adjusted EBITDA for the years ended December 31, 2011 and 2010, were as follows: September 30, September 30, December 31, Source (dollars in millions) 2011 2010 Operating income $ 70.9 $ 66.5 Add-back: Depreciation and amortization 67.6 58.1 Non-cash stock compensation expense 7.7 2.9 Restructuring and impairment 0.8 8.5 Costs relating to acquisitions and equity registrations 1.0 5.6 Adjusted EBITDA $ 148.0 $ 141.6 Adjusted EBITDA increased by $6.4 million, or 4.5%, primarily as a result of an 13.8% increase in net sales partially offset by a 1.9 percentage point increase in cost of goods sold relative to net sales, and increased selling, general and administrative expense.

Interest Expense, net. Interest expense, net of interest income, was $28.9 million and $30.9 million for the years ended December 31, 2011 and 2010, respectively. Interest expense related to the $220 million aggregate principal amount of 12% Senior Secured Notes due 2015 ("the 2015 Notes") is approximately $28.0 million in each year, including $26.4 million cash interest based on the $220 million principal and 12.0% interest rate, and $1.6 million non-cash amortization of the $8.2 million original issue discount which is being amortized to interest expense over the life of the 2015 Notes. The $2.0 million decrease in interest expense for the year ended December 31, 2011, as compared with the prior year, is primarily a result of reduced interest expense associated with the Class A Preferred, which was exchanged for common stock during the first quarter of 2010.

Income Taxes. Our income tax provision relates to i) taxes provided on our pre-tax earnings based on the effective tax rates in the jurisdictions where the income is earned and ii) other tax matters, including changes in tax-related contingencies and changes in the valuation allowance established for deferred tax assets. For the year ended December 31, 2011, our tax provision includes net expense of $13.3 million, or 34%, related to pre-tax earnings, and a net benefit of $4.8 million related to other tax matters, including a reversal of $6.2 million of uncertain tax positions due to lapsing of the applicable statute of limitations. For the year ended December 31, 2010, our tax provision included net expense of $18.0 million, or 57%, related to our pre-tax earnings and net benefit of $1.9 million related to other tax matters.

During the years ended December 31, 2011 and 2010, we released $3.4 million and $1.6 million, respectively, of the valuation allowance which had been established against our deferred tax asset for net operating loss carryforwards.

The amounts released represent the amount of the deferred tax asset we believe would be realized over the next respective year and were recorded as reduction to our income tax expense in each year. We continually evaluate our ability to realize of our deferred tax assets, and may, in the future, release additional portions of the valuation allowance we believe will be realized in one or more future years.

Noncontrolling Interest. Net income attributable to noncontrolling interest of $1.8 million for the year ended December 31, 2011, reflects a noncontrolling interest holder's 5% and 15% interest in the profits from our facilities in Huiyang, China and Huizhou, China, respectively, and compares to $2.0 million in 2010. For the year ended December 31, 2011, $0.5 million and $1.3 million of net income attributable to noncontrolling interest related to our Huiyang and Huizhou facilities, respectively. In connection with the planned closure of the Huizhou, China facility, in January 2012, we reached an agreement to purchase the non-controlling interest holders 15% interest in the subsidiary which operates the facility for approximately $10.0 million, subject to regulatory approvals. The $10.0 million payment will settle any of undistributed earnings as of the date of the transaction, and will allow us to freely transfer customers and equipment to our other PCB facilities in connection with the facilities closure during the fourth quarter of 2012.

35-------------------------------------------------------------------------------- Table of Contents Year Ended December 31, 2010, Compared with Year Ended December 31, 2009 Net Sales. Net sales for the year ended December 31, 2010, were $929.3 million, representing a $432.8 million, or 87.2%, increase from net sales for the year ended December 31, 2009. Assuming the Merix Acquisition had occurred on January 1, 2009, on a pro forma basis, net sales increased by approximately $226.1 million, or 30.3%, for the year ended December 31, 2010, as compared with 2009. This increase is due to increased demand across all of our end-user markets, as well as price increases implemented during the year in our Printed Circuit Boards segment.

Net sales by end-user market on a historical basis for the years ended December 31, 2010 and 2009, and on a pro forma basis for the year ended December 31, 2010 and 2009, as if the Merix Acquisition had been completed on January 1, 2009, were as follows: September 30, September 30, September 30, September 30, Historical Pro Forma End-User Market (dollars in millions) 2010 2009 2010 2009 Automotive $ 332.8 $ 191.0 $ 341.0 $ 241.1 Industrial & Instrumentation 220.2 129.6 229.5 172.6 Telecommunications 218.4 128.8 230.1 203.4 Computer and Datacommunications 121.7 47.0 129.3 93.3 Military and Aerospace 36.2 - 41.3 34.7 Total Net Sales $ 929.3 $ 496.4 $ 971.2 $ 745.1 Our net sales of products for end use in the automotive market increased by approximately $141.8 million, or 74.2%, during the year ended December 31, 2010, compared with 2009. Assuming the Merix Acquisition had occurred on January 1, 2009, on a pro forma basis, net sales of products for end use in this market increased by approximately $99.9 million, or 41.4%, for the year ended December 31, 2010, as compared with 2009, which was driven by increased demand, especially in European markets, as well as price increases implemented during the third quarter of 2010.

Net sales of products ultimately used in the industrial & instrumentation market, increased by approximately $90.6 million, or 69.9%, in 2010, compared with 2009. Assuming the Merix Acquisition had occurred on January 1, 2009, on a pro forma basis, net sales of products for end use in this market increased by approximately $56.9 million, or 33.0%, for the year ended December 31, 2010, as compared with 2009. The increase in net sales was driven primarily by increased global demand, including programs related to wind power and elevator controls, as well as new customer and program wins, partially offset by a $13.1 million decline in sales resulting from the May 2009 closure of our metal fabrication facility in Milwaukee, Wisconsin, and its satellite final-assembly and distribution facility in Newberry, South Carolina (together, the "Milwaukee Facility").

Net sales of products ultimately used in the telecommunications market increased by approximately $89.6 million, or 69.6%, for the year ended December 31, 2010, as compared with 2009. Assuming the Merix Acquisition had occurred on January 1, 2009, on a pro forma basis, net sales of products for use in this end market increased by approximately $26.7 million, or 13.1%, for the year ended December 31, 2010, as compared with 2009. Increased global demand in this market, as well as new customer and program wins, was partially offset by a $1.0 million decline in sales resulting from the closure of our Milwaukee Facility in May 2009, and certain customer programs at other facilities going end-of-life.

Net sales of our products for use in the computer and datacommunications markets increased by approximately $74.7 million, or 158.9%, in 2010, as compared with 2009. Assuming the Merix Acquisition had occurred on January 1, 2009, on a pro forma basis, net sales of products for use in this end market increased by approximately $36.0 million, or 38.6%, for the year ended December 31, 2010, as compared with 2009, driven by increased global demand from our computer and datacommunication customers.

With the Merix Acquisition, in 2010 the Company began supplying customers in the military and aerospace end market. Sales to this end market were $36.2 million for the year ended December 31, 2010. Assuming the Merix Acquisition had occurred on January 1, 2009, on a pro forma basis, net sales of products for use in the military and aerospace end-user market increased by approximately $6.6 million, or 19.0%, for the year ended December 31, 2010, as compared with 2009, as a result of increased demand from existing customers and new customer wins.

36 -------------------------------------------------------------------------------- Table of Contents Net sales by segment on a historical basis for the year ended December 31, 2010 and 2009, and on a pro forma basis for the year ended December 31, 2010 and 2009, as if the Merix Acquisition had been completed on January 1, 2009, were as follows: September 30, September 30, September 30, September 30, Historical Pro Forma Segment (dollars in millions) 2010 2009 2010 2009 Printed Circuit Boards $ 763.9 $ 350.3 $ 805.8 $ 599.0 Assembly 177.3 141.7 177.3 141.7 Other - 14.1 - 14.1 Eliminations (11.9 ) (9.7 ) (11.9 ) (9.7 ) Total net sales $ 929.3 $ 496.4 $ 971.2 $ 745.1 Printed Circuit Boards segment net sales, including intersegment sales, for the year ended December 31, 2010, increased by $413.6 million, or 118.1%, to $763.9 million. Assuming the Merix Acquisition had occurred on January 1, 2009, on a pro forma basis, Printed Circuit Boards net sales, including intersegment sales, for the year ended December 31, 2010, increased by $206.8 million, or 34.5%. The increase is a result of a greater than 28.0% increase in volume that affected all end-user markets, as well as price increases introduced during the third quarter of 2010.

Assembly segment net sales increased by $35.6 million, or 25.1%, to $177.3 million for the year ended December 31, 2010, compared with 2009. The increase was primarily the result of increased demand, new customer and program wins in our telecommunications end-user market and improved demand in wind power and elevator controls related programs in our industrial & instrumentation end-user market.

Other sales for the year ended December 31, 2009, relate to the Milwaukee Facility, which for segment reporting purposes, are included in "Other" as a result of its closure in May 2009.

Cost of Goods Sold. Cost of goods sold, exclusive of items shown separately in the consolidated statement of operations for the year ended December 31, 2010, was $718.7 million, or 77.3% of consolidated net sales. This represents a 2.9 percentage point improvement from the 80.2% of consolidated net sales achieved during 2009.

The costs of materials, labor and overhead in our Printed Circuit Boards segment can be affected by trends in global commodities prices and currency exchange rates, as well as other cost trends that can influence wage rates, electricity and diesel fuel costs. Economies of scale can help to offset any adverse trends in these costs. With the successful implementation of our restructuring plans during 2009, our overhead costs and operating expenses were better aligned with sales demand.

Cost of goods sold in our Printed Circuit Boards segment for 2010, as compared with 2009, was positively impacted by i) higher sales volumes, ii) the positive effects of the restructuring activities completed during 2009 and iii) the receipt of a $2.3 million business interruption insurance settlement stemming from a 2007 fire that damaged a portion of our Guangzhou facility. Partially offsetting these factors, cost of goods sold was negatively impacted by i) increased costs of materials and labor, ii) increased warranty costs associated with an isolated quality issue and iii) a $0.9 million inventory adjustment to write-up the fair value of inventory acquired from Merix to equal its selling price less an estimated profit from the selling effort.

Cost of goods sold in our Assembly segment relates primarily to component materials costs. As a result, trends in sales volume for the segment drive similar trends in cost of goods sold. Cost of goods sold as a percent of sales during the year ended December 31, 2010, were positively impacted by higher selling levels and product mix.

Selling, General and Administrative Costs. Selling, general and administrative costs increased $32.4 million, or 71.9%, to $77.5 million for the year ended December 31, 2010, compared with the prior year. The increase relates primarily to $4.7 million of acquisition related costs, costs associated with new manufacturing, sales and administrative sites acquired with the Merix Acquisition and additional incentive compensation expense, including 37-------------------------------------------------------------------------------- Table of Contents an incremental $1.9 million of non-cash stock compensation. As a percent of sales, selling, general and administrative costs were 8.3% for the year ended December 31, 2010, as compared with 9.1% for the year ended December 31, 2009. This improvement is primarily a result of the positive effect of the restructuring activities undertaken in 2009 and the realization of cost synergies from the Merix Acquisition, partially offset by the transaction costs associated with the Merix Acquisition.

Depreciation. Depreciation expense for the year ended December 31, 2010, was $56.4 million, including $52.0 million related to our Printed Circuit Boards segment and $4.4 million related to our Assembly segment. Depreciation expense in our Printed Circuit Boards segment increased by $6.4 million compared with 2009, primarily as a result of depreciation on fixed assets acquired through the Merix Acquisition, partially offset by lower depreciation at legacy Viasystems facilities due to reduced investments in new equipment during 2009. Depreciation expense in our Assembly segment was substantially unchanged compared to 2009.

Restructuring and Impairment. In connection with the integration of the Merix business, we identified potential annualized cost synergies of approximately $20.0 million; and during the year ended December 31, 2010, we initiated certain actions to realize these cost synergies. These actions included staff reductions and the consolidation of certain administrative offices. For the year ended December 31, 2010, we recorded net restructuring charges of approximately $8.5 million, of which approximately $4.6 million was incurred in the Printed Circuit Boards segment related to achieving cost synergies with the integration of the Merix business, and approximately $3.9 million was incurred in the "Other" segment primarily related to the cancellation of a monitoring and oversight agreement in connection with the Recapitalization Agreement. The charges incurred in the Printed Circuit Boards segment include $3.5 million related to personnel and severance and $1.1 million related to lease termination and other costs. The charges incurred in the "Other" segment include $4.4 million related to contractual commitments and a reversal of $0.5 million related to personnel and severance costs. We do not expect to incur significant additional restructuring charges related to achieving synergies from the Merix Acquisition.

The primary components of restructuring and impairment expense for the years ended December 31, 2010 and 2009, are as follows: September 30, September 30, Restructuring Activity (dollars in millions) 2010 2009 Personnel and severance $ 3.0 $ 0.6 Lease and other contractual commitment expenses 5.5 5.1 Asset impairments - 0.9 Total expense, net $ 8.5 $ 6.6 Operating Income. Operating income of $66.5 million for the year ended December 31, 2010, represents an increase of $71.2 million compared with an operating loss of $4.7 million during the year ended December 31, 2009. The primary sources of operating income (loss) for the years ended December 31, 2010 and 2009, are as follows: September 30, September 30, Source (dollars in millions) 2010 2009 Printed Circuit Boards segment $ 68.9 $ 3.3 Assembly segment 6.2 4.1 Other (8.6 ) (12.1 ) Operating income (loss) $ 66.5 $ (4.7 ) Operating income from our Printed Circuit Boards segment increased by $65.6 million to $68.9 million for the year ended December 31, 2010, compared with operating income of $3.3 million for the prior year. The increase is primarily the result of increased sales volume and the positive effect of the restructuring activities undertaken in 2009, partially offset by increased selling, general and administrative expense and restructuring charges of $4.6 million related to the Merix Acquisition.

Operating income from our Assembly segment was $6.2 million for the year ended December 31, 2010, compared with operating income of $4.1 million for the same period in 2009. The increase is primarily the result of changes in product mix.

38 -------------------------------------------------------------------------------- Table of Contents Operating loss in the "Other" segment for the year ended December 31, 2010, relates to $3.9 million of net restructuring charges and $4.7 million of transaction costs related to the Merix Acquisition. The "Other" operating loss for the year ended December 31, 2009, relates to our Milwaukee Facility which ceased operations in May 2009, as well as $4.0 million of transaction costs related to the Merix Acquisition.

Adjusted EBITDA. Reconciliations of operating income (loss) to Adjusted EBITDA for the years ended December 31, 2010 and 2009, were as follows: September 30, September 30, December 31, Source (dollars in millions) 2010 2009 Operating income (loss) $ 66.5 $ (4.7 ) Add-back: Depreciation and amortization 58.1 51.4 Restructuring and impairment 8.5 6.6 Non-cash stock compensation expense 2.9 0.9 Costs related to the merger 5.6 4.0 Adjusted EBITDA $ 141.6 $ 58.2 Adjusted EBITDA increased by $83.4 million, or 143.3%, primarily as a result of an 87.2% increase in net sales and a 2.9 percentage point improvement in cost of goods sold relative to consolidated net sales, partially offset by increased selling, general and administrative expense.

Interest Expense, net. Interest expense, net of interest income, was $30.9 million and $34.4 million for the years ended December 31, 2010 and 2009, respectively. Interest expense related to the $220 million aggregate principal amount of 12% Senior Secured Notes due 2015 ("the 2015 Notes") is approximately $28.0 million in the year ended December 31, 2010, based on the $220 million principal, the 12.0% interest rate and the amortization of the $8.2 million original issue discount. The $3.5 million decrease in interest expense for the year ended December 31, 2010, as compared with the prior year, is primarily a result of reduced interest expense associated with the Class A Preferred, which was exchanged for common stock during the first quarter of 2010, partially offset by $7.0 million of incremental interest cost associated with the 2015 Notes as compared with the now retired 2011 Notes and interest associated with indebtedness acquired as part of the Merix Acquisition.

Income Taxes. Income tax expense of $16.1 million for the year ended December 31, 2010, compares with income tax expense of $7.8 million for the year ended December 31, 2009. Our income tax provision relates primarily to income tax expense recognized in China and Hong Kong. Because of the substantial net operating loss carryforwards previously existing in our U.S. and other tax jurisdictions, we have not recognized certain income tax benefits in those jurisdictions.

Liquidity and Capital Resources Cash Flow Net cash provided by operating activities was $71.4 million, $74.9 million and $47.6 million for the years ended December 31, 2011, 2010 and 2009, respectively. The reduced level of net cash from operating activities in 2011, as compared with 2010, is primarily due to changes in working capital related to higher sales levels and our building of inventory levels at the end of 2011 to supply customer orders during planned shutdowns at the beginning of 2012, surrounding public holidays in China, partially offset by increased income from operations. The increased level of net cash from operating activities in 2010, as compared with 2009, is primarily due to an improvement in net income, partially offset by investments in working capital in order to support higher sales levels, cash payments to achieve synergies in connection with the Merix Acquisition, and cash payments for the termination of a monitoring and oversight agreement effected in connection with the Recapitalization.

Net cash used in investing activities was $101.1 million, $68.8 million and $17.6 million for the years ended December 31, 2011, 2010 and 2009, respectively. The increase in the level of net cash used in investing activities in 2011, as compared with 2010, was due to significantly higher capital expenditures, partially offset by the non- 39-------------------------------------------------------------------------------- Table of Contents recurrence of acquisition costs which were incurred in 2010 related to the Merix Acquisition. The increase in the level of net cash used in investing activities in 2010, as compared with 2009, relates primarily to cash consideration of $35.3 million paid in the Merix Acquisition and increased capital expenditures, partially offset by cash acquired in the Merix Acquisition of $13.7 million and cash proceeds of $9.7 million from the sale of a vacant manufacturing facility in Hong Kong, China that was acquired in the Merix Acquisition.

Our Printed Circuit Boards segment is a capital-intensive business that requires annual spending to keep pace with customer demands for new technologies, cost reductions and product quality standards. The spending required to meet our customer's requirements is incremental to recurring repair and replacement capital expenditures required to maintain our existing production capacities and capabilities. Investing cash flows include capital expenditures by our Printed Circuit Boards segment of $93.4 million, $54.4 million and $17.5 million for the years ended December 31, 2011, 2010 and 2009, respectively. The increase in capital expenditures in our Printed Circuit Boards segment in 2011, as compared with 2010, reflects the ongoing implementation of the $100 million multi-year capacity expansion plan for our PCB products which we announced in September 2010. During 2010, recovering sales growth in our Printed Circuit Boards segment and advances in technological requirements to meet customer needs were the primary drivers of the growth of our investments in property and equipment in that segment. Capital expenditures related to our Assembly segment for the years ended December 31, 2011, 2010 and 2009 were $7.7 million, $1.6 million and $2.2 million, respectively. The increase in capital expenditures in our Assembly segment in 2011, as compared with 2010, primarily relates to a $4.7 million investment in our new Juarez, Mexico facility and investments at our other E-M Solutions facilities to support sales growth. While we are prepared to make appropriate investments in facilities to meet growing demand, given the ongoing uncertainty about global economic conditions, we have and will continue to focus on managing capital expenditures to respond to changes in demand or other economic conditions.

Net cash used in financing activities was $2.6 million for the year ended December 31, 2011, which related primarily to a $2.4 million distribution to our noncontrolling interest holder of previously declared but unpaid dividends and repayments of capital lease obligations. In addition, during 2011, in connection with the renewal of Zhongshan 2010 Credit Facility, we repaid and reborrowed $10.0 million. Net cash used in financing activities was $11.6 million for the year ended December 31, 2010, which related to $5.2 million of net repayments of credit facilities, $2.3 million of financing fees on our Senior Secured 2010 Credit Facility, a $0.8 million distribution to our noncontrolling interest holder, the repurchase of $0.5 million principal amount of our Senior Subordinated Convertible Notes due 2013 and $2.6 million of repayments of capital lease obligations. The repayment of the 2011 Notes in January 2010 was funded by restricted cash held in escrow since the issuance of the 2015 Notes in late 2009. Net cash used in financing activities was $4.1 million for the year ended December 31, 2009, which related to the issuance of the 2015 Notes, including an original issue discount of approximately $8.2 million, the redemption of $94.1 million principal amount of our 2011 Notes, including a tender premium and other related costs of $0.9 million, the repayment of $15.5 million term loan balance under our 2006 credit agreement, $10.0 million of borrowings on our $30.2 million Guangzhou 2009 Credit Facility, and a $2.1 million payment related to a capital lease obligation. During 2009, we also incurred financing costs of approximately $7.4 million, which primarily related to the issuance of the 2015 Notes and the Guangzhou 2009 Credit Facility.

Financing Arrangements Senior Secured Notes due 2015 Our $220,000 principal amount of 12.0% Senior Secured Notes due 2015 (the "2015 Notes") were issued with an original issue discount ("OID") of 96.269%. The OID was recorded on our balance sheet as a reduction of the liability for the 2015 Notes, and is being amortized to interest expense over the life of the notes. As of December 31, 2011, the unamortized OID was $4.9 million.

Interest on the 2015 Notes is due semiannually on January 15 and July 15 of each year. We may redeem all or part of the 2015 Notes at any time prior to July 15, 2012, at a redemption price of 100% of the notes redeemed plus a "make-whole" premium equal to the greater of a) 1% of the principal amount, or b) the excess of i) the present value at the redemption rate of 106.0% of the principal amount redeemed calculated using a discount rate equal to the treasury rate (as defined) plus 50 basis points, over ii) the principal amount of the notes. We may redeem the 2015 Notes during the period from July 16, 2012 to July 15, 2013 and the period from July 16, 2013 to July 15, 2014 at the redemption price of 106% and 103%, respectively. Subsequent to July 15, 2014, we may redeem the 2015 Notes at the redemption price of 100%. In the event of a Change in Control (as defined), we are required to make an offer to purchase the 2015 Notes at a redemption price of 101%, plus accrued and unpaid interest.

40-------------------------------------------------------------------------------- Table of Contents The 2015 Notes are guaranteed, jointly and severally, by all of our current and future domestic subsidiaries. The 2015 Notes are collateralized by all of the equity interests of each guarantor, each existing and subsequently acquired domestic subsidiary and certain foreign subsidiaries (as defined), and by liens on substantially all of our assets.

The indenture governing the 2015 Notes contains restrictive covenants which, among other things, limit the ability (subject to exceptions) for us to incur additional indebtedness or issue disqualified stock or preferred stock; b) create liens, c) pay dividends, make investments or make other restricted payments; d) sell assets; e) consolidate, merge, sell or otherwise dispose of our assets; f) enter into transactions with our affiliates; and g) designate our subsidiaries as unrestricted (as defined).

Senior Secured 2010 Credit Facility Our senior secured revolving credit agreement, as amended, (the "Senior Secured 2010 Credit Facility"), with Wells Fargo Capital Finance, LLC provides a secured revolving credit facility in an aggregate principal amount of up to $75.0 million with an initial maturity in 2014. The annual interest rates applicable to loans under the Senior Secured 2010 Credit Facility are, at our option, either the Base Rate or Eurodollar Rate (each as defined in the Senior Secured 2010 Credit Facility) plus, in each case, an applicable margin. The applicable margin is tied to our Quarterly Average Excess Availability (as defined in the Senior Secured 2010 Credit Facility) and ranges from 0.75% to 1.75% for Base Rate loans and 2.25% to 2.75% for Eurodollar Rate loans. In addition, we are required to pay an Unused Line Fee and other fees as defined in the Senior Secured 2010 Credit Facility. Effective as of June 30, 2011, we amended the Senior Secured 2010 Credit Facility primarily for the purpose of removing a limit on permitted capital expenditures, and increasing the amount of eligible collateral allowed for certain receivables.

The Senior Secured 2010 Credit Facility is guaranteed by and secured by substantially all of the assets of our current and future domestic subsidiaries, subject to certain exceptions as set forth in the Senior Secured 2010 Credit Facility. The Senior Secured 2010 Credit Facility contains certain negative covenants restricting and limiting our ability to, among other things: • incur debt, incur contingent obligations and issue certain types of preferred stock; • create liens; • pay dividends, distributions or make other specified restricted payments; • make certain investments and acquisitions; • enter into certain transactions with affiliates; and • merge or consolidate with any other entity or sell, assign, transfer, lease, convey or otherwise dispose of assets.

Under the Senior Secured 2010 Credit Facility, if the Excess Availability (as defined in the Senior Secured 2010 Credit Facility) is less than $15 million, we must maintain, on a monthly basis, a minimum fixed charge coverage ratio of 1.1 to one.

We incurred $2.3 million deferred financing fees related to the Senior Secured 2010 Credit Facility which were capitalized and are being amortized over the life of the facility. As of December 31, 2011, the Senior Secured 2010 Credit Facility supported letters of credit totaling $0.4 million, and approximately $54.6 million was unused and available based on eligible collateral.

Zhongshan 2010 Credit Facility In March 2011, our Kalex Multi-layer Circuit Board (Zhongshan) Limited ("KMLCB") subsidiary renewed its revolving credit facility (the "Zhongshan 2010 Credit Facility") with China Construction Bank, Zhongshan Branch, which included an increase in the credit facility to 250 million RMB (approximately $39.7 million U.S. dollars based on the exchange rate as of December 31, 2011). The Zhongshan 2010 Credit Facility provides for borrowings denominated in Chinese RMB and foreign currencies, including the U.S. dollar. Borrowings are guaranteed by KMLCB's sole Hong Kong parent company, Kalex Circuit Board (China) Limited. This revolving credit facility is 41-------------------------------------------------------------------------------- Table of Contents renewable annually upon mutual agreement. Loans under the credit facility bear interest at the rate of i) LIBOR plus a margin negotiated prior to each U.S.

dollar denominated loan or ii) the interest rate quoted by the Peoples Bank of China for Chinese RMB denominated loans. The Zhongshan 2010 Credit Facility has certain restrictions and other covenants that are customary for similar credit arrangements; however, there are no financial covenants contained in this facility. As of December 31, 2011, $10.0 million in U.S. dollar loans was outstanding under the Zhongshan 2010 Credit Facility at an interest rate of 5.38%, and approximately $29.7 million of the revolving credit facility was unused and available.

Huiyang 2009 Credit Facility Our credit facility between Industrial and Commercial Bank of China, Limited ("ICBC") and our Merix Printed Circuits Technology Limited subsidiary (the "Huiyang 2009 Credit Facility") provides for borrowings denominated in Chinese RMB and foreign currencies, including the U.S. dollar. Borrowings are secured by a mortgage lien on the building and land lease at our manufacturing facility in Huiyang, China. This revolving credit facility is renewable annually. Loans under the credit facility bear interest at the rate of i) LIBOR plus a margin negotiated before each U.S. dollar denominated loan, ii) an annual fixed rate negotiated before each U.S. dollar denominated loan or iii) an interest rate based on the base lending rate published by ICBC. The Huiyang 2009 Credit Facility has certain restrictions and other covenants that are customary for similar credit arrangements; however, there are no financial covenants contained in this facility. As of December 31, 2011, approximately $5.7 million was unused and available under this facility.

Senior Subordinated Convertible Notes due 2013 Our $0.9 million principal amount of 4.0% convertible senior subordinated notes (the "2013 Notes") have a maturity date of May 15, 2013. Interest is payable semiannually in arrears on May 15 and November 15 of each year. Pursuant to the terms of the indenture governing the 2013 Notes and the merger agreement governing the Merix Acquisition, the 2013 Notes are convertible at the option of the holder into shares of our common stock at a ratio of 7.367 shares per one thousand dollars of principal amount, subject to certain adjustments. This is equivalent to a conversion price of $135.74 per share. The 2013 Notes are general unsecured obligations and are subordinate in right of payment to all existing and future senior debt.

Liquidity We had cash and cash equivalents at December 31, 2011 and 2010, of $71.3 million and $103.6 million, respectively, of which $42.3 million and $47.0 million, respectively, were held outside the United States. Liquidity is affected by many factors, some of which are based on normal ongoing operations of our business and some of which arise from fluctuations related to global economics and markets. Cash balances are generated and held in many locations throughout the world. We permanently reinvest the earnings of our foreign subsidiaries outside the United States, and our current plans do not demonstrate a need to repatriate them to fund our United States operations. If these funds were to be needed for our operations in the United States, we would be required to record and pay significant United States income taxes to repatriate these funds. At December 31, 2011, we had outstanding borrowings and letters of credit of $10.0 million and $0.4 million, respectively, under various credit facilities; and approximately $90.0 million of the credit facilities were unused and available.

We believe that cash flow from operations, available cash on hand and cash available under existing credit facilities will be sufficient to fund our capital expenditures, debt service costs and other currently anticipated cash needs for the next twelve months. Our ability to meet our cash needs through cash generated by our operating activities will depend on the demand for our products, as well as general economic, financial, competitive and other factors, many of which are beyond our control. We cannot be assured that our business will generate sufficient cash flow from operations, that currently anticipated cost savings and operating improvements will be realized on schedule, that future borrowings will be available to us under our credit facilities or that we will be able to raise third party financing in an amount sufficient to enable us to pay our indebtedness at maturity or to fund our other liquidity needs. We may need to refinance all or a portion of our indebtedness.

42-------------------------------------------------------------------------------- Table of Contents Our principal liquidity requirements in 2012 will be for i) $13.2 million semi-annual interest payments required in connection with the 2015 Notes, payable in January and July each year, ii) capital expenditure needs of our continuing operations, iii) working capital needs, iv) scheduled capital lease payments for equipment leased by our Printed Circuit Boards segment, v) debt service requirements in connection with our credit facilities, and vi) costs associated with the closure of our Huizhou, China facility, including $10.0 million to purchase the noncontrolling interest holder's interest in our subsidiary that operates the facility. In addition, the potential for acquisitions of other businesses by us in the future may require additional debt or equity financing.

We continue to explore certain strategic alternatives that may impact our liquidity, including but not limited to acquisitions, debt refinancing, debt retirement and equity offerings. We can give no assurance about our ability to execute any of these alternatives.

Off Balance Sheet Arrangements We do not have any off balance sheet arrangements as defined under Securities and Exchange Commission rules.

Backlog We estimate that our backlog of unfilled orders as of December 31, 2011, was approximately $216.8 million, which includes $168.9 million and $47.9 million from our Printed Circuit Boards and Assembly segments, respectively. This compares with our backlog of unfilled orders of $216.1 million at December 31, 2010, which included $169.4 million and $46.7 million from our Printed Circuit Boards and Assembly Segments, respectively. Because unfilled orders may be cancelled prior to delivery, the backlog outstanding at any point in time is not necessarily indicative of the level of business to be expected in the ensuing period.

Related Party Transactions Noncontrolling Interest Holder We lease manufacturing facilities in Huiyang and Huizhou, China and purchase consulting and other services from our noncontrolling interest holder.

During the year ended December 31, 2011 and 2010, we paid the noncontrolling interest holder approximately $0.9 million and $1.1 million, respectively, related to rental and service fees, and $0.1 million was payable to our noncontrolling interest holder as of December 31, 2011, related to service fees.

In addition, during the year ended December 31, 2011 and 2010, we made distributions of $2.4 million and $0.8 million, respectively, to the noncontrolling interest holder.

Monitoring and Oversight Agreement Effective as of January 31, 2003, we entered into a monitoring and oversight agreement with Hicks, Muse & Co. Partners L.P. ("HM Co."), an affiliate of HMTF.

On February 11, 2010, under the terms and conditions of the Recapitalization Agreement, the monitoring and oversight agreement was terminated in consideration for the payment of a cash termination fee of approximately $4.4 million. There was no expense or cash payments associated with the monitoring and oversight agreement in 2011. The consolidated statements of operations include expense related to the monitoring and oversight agreement of approximately $4.4 million, and $1.2 million for the years ended December 31, 2010 and 2009, respectively; and we made cash payments of approximately $5.6 million and $1.5 million to HM Co. related to these expenses during the years ended December 31, 2010 and 2009, respectively.

Critical Accounting Policies and Estimates The preparation of financial statements in conformity with U.S. GAAP requires that management make certain estimates and assumptions that affect amounts reported in the financial statements and accompanying notes. Actual results may differ from those estimates and assumptions and the differences may be material.

Significant accounting policies, estimates and judgments that management believes are the most critical to aid in fully understanding and evaluating the reported financial results are discussed below.

43-------------------------------------------------------------------------------- Table of Contents Revenue Recognition We recognize revenue when all of the following criteria are satisfied: persuasive evidence of an arrangement exists; risk of loss and title transfer to the customer; the price is fixed and determinable; and collectability is reasonably assured. Sales and related costs of goods sold are included in income when goods are shipped to the customer in accordance with the delivery terms and the above criteria are satisfied. All services are performed prior to invoicing customers for any products manufactured by us. We monitor and track product returns, which have historically been within our expectations and the provisions established. Reserves for product returns are recorded based on historical trend rates at the time of sale. Despite our efforts to improve our quality and service to customers, we cannot guarantee that we will continue to experience the same or better return rates than we have in the past. Any significant increase in returns could have a material negative impact on our operating results.

Accounts Receivable and Allowance for Doubtful Accounts Accounts receivable balances represent customer trade receivables generated from our operations. We evaluate collectability of accounts receivable based on a specific case-by-case analysis of larger accounts; and based on an overall analysis of historical experience, past due status of the entire accounts receivable balance and the current economic environment. Based on this evaluation, we make adjustments to the allowance for doubtful accounts for expected losses. We also perform credit evaluations and adjust credit limits based upon each customer's payment history and creditworthiness. While credit losses have historically been within our expectations and the provisions established, actual bad debt write-offs may differ from our estimates, resulting in higher or lower charges in the future for our allowance for doubtful accounts.

Inventories Inventories are stated at the lower of cost (valued using the first-in, first-out (FIFO) method) or market value. Cost includes raw materials, labor and manufacturing overhead.

We apply judgment in valuing our inventories by assessing the net realizable value of our inventories based on current expected selling prices, as well as factors such as obsolescence and excess stock. We provide valuation allowances as necessary. Should we not achieve our expectations of the net realizable value of our inventory, future losses may occur.

Long-Lived Assets, Excluding Goodwill We review the carrying amounts of property, plant and equipment, definite-lived intangible assets and other long-lived assets for potential impairment if an event occurs or circumstances change that indicates the carrying amount may not be recoverable. In evaluating the recoverability of a long-lived asset, we compare the carrying values of the assets with corresponding estimated undiscounted future operating cash flows. In the event the carrying values of long-lived assets are not recoverable by future undiscounted operating cash flows, impairments may exist. In the event of impairment, an impairment charge would be measured as the amount by which the carrying value of the relevant long-lived assets exceeds their fair value. No adjustments were recorded to the balance of fixed assets during 2011 and 2010 as a result of an impairment. Note 8 to the consolidated financial statements discloses the impact of charges taken to recognize the impairment of fixed assets during 2009 and the factors which led to the impairment.

Goodwill At December 31, 2011, our goodwill balance relates entirely to our Printed Circuit Boards segment. We conduct an assessment of the carrying value of goodwill annually, as of the first day of our fourth fiscal quarter, or more frequently if circumstance arise which would indicate the fair value of a reporting unit is below its carrying amount. During 2011, we adopted a new standard issued by the Financial Accounting Standards Board (the "FASB") which permits us to perform an optional qualitative assessment to screen for potential impairment of goodwill in lieu of the previously required annual quantitative impairment test. The assessment requires us to consider a number of relevant factors and conclude whether it is more likely than not that the fair value of a reporting unit is more than its carrying amount. In performing our qualitative assessment to screen for potential impairment of goodwill, we considered a 44-------------------------------------------------------------------------------- Table of Contents number of factors, including i) macroeconomic conditions, ii) factors impacting our industry and the end markets we serve, iii) factors impacting our costs to manufacture products and operate our business, iv) the financial performance of reporting units compared with projections and prior periods, v) reporting unit specific events which could impact future operating results, vi) the market value of our debt and equity securities, and vii) other relevant events and circumstances identified at the time of the assessment. No adjustments were recorded to the balance of goodwill as a result of this assessment.

If in any given year we elect not to perform the optional qualitative assessment, or if, as a result of the qualitative assessment, we are not able to conclude it is more likely than not that the fair value of a reporting unit is more than its carry amount, then we would be required to perform a quantitative test for impairment. The performance of a quantitative test would require us to make certain assumptions and estimates in determining fair value of our reporting units. When performing such a test, we use multiple methods to estimate the fair value of our reporting units, including discounted cash flow analyses and an EBITDA-multiple approach, which derives an implied fair value of a business unit based on the market value of comparable companies expressed as a multiple of those companies' earnings before interest, taxes, depreciation and amortization ("EBITDA"). Discounted cash flow analyses require us to make significant assumptions about discount rates, sales growth, profitability and other factors. The EBITDA-multiple approach requires us to judgmentally select comparable companies based on factors such as their nature, scope and size.

Significant judgment is required in making assumptions and estimates to perform a qualitative impairment screen and a quantitative impairment test, and should our assumptions change in the future, our fair value models could result in lower fair values, which could materially affect the value of goodwill and our operating results.

Income Taxes We record a valuation allowance to reduce our deferred tax assets to the amount that we believe will more likely than not be realized. We have considered future taxable income and ongoing prudent, feasible tax planning strategies in assessing the need for the valuation allowance, but in the event we were to determine that we would not be able to realize all or part of our net deferred tax assets in the future, an adjustment to the net deferred tax assets would be charged to income in the period such determination was made. Similarly, should we determine that we would be able to realize our deferred tax assets in the future in excess of the net deferred tax assets recorded, an adjustment to the net deferred tax asset would increase net income in the period such determination was made.

Derivative Financial Instruments and Fair Value Measurements We conduct our business in various regions of the world, and export and import products to and from several countries. Our operations may, therefore, be subject to volatility because of currency fluctuations. Sales are primarily denominated in U.S. dollars, while expenses are frequently denominated in local currencies, and results of operations may be adversely affected as currency fluctuations affect our product prices and operating costs or those of our competitors. From time to time, we enter into foreign exchange forward contracts and cross-currency swaps to minimize the short-term impact of foreign currency fluctuations. We do not engage in hedging transactions for speculative investment reasons. Gains or losses from our hedging activities have not historically been material to our cash flows, financial position or results from operations. There can be no assurance that our hedging operations will eliminate or substantially reduce risks associated with fluctuating currencies.

The foreign exchange forward contracts and cross-currency swaps designated as cash flow hedges are accounted for at fair value. We record deferred gains and losses related to cash flow hedges based on their fair value using a market approach and Level 2 inputs. The effective portion of the change in each cash flow hedge's gain or loss is reported as a component of other comprehensive income, net of taxes. The ineffective portion of the change in the cash flow hedge's gain or loss is recorded in earnings at each measurement date. Gains and losses on derivative contracts are reclassified from accumulated other comprehensive income (loss) to current period earnings in the line item in which the hedged item is recorded at the time the contracts are settled.

45-------------------------------------------------------------------------------- Table of Contents Accounting for Acquisitions The acquisition method of accounting requires an acquirer to recognize the assets acquired and the liabilities assumed at the acquisition date measured at their estimated fair value as of that date. Extensive use of estimates and judgments are required to allocate the consideration paid in a business combination to the assets acquired and liabilities assumed. If necessary, these estimates can be revised during an allocation period when information becomes available to further define and quantify the value of assets acquired and liabilities assumed. The allocation period does not exceed a period of one year from the date of acquisition. To the extent additional information to refine the original allocation becomes available during the allocation period, the purchase price allocation would be adjusted accordingly. Should information become available after the allocation period, the effects would be reflected in operating results.

Recently Adopted Accounting Pronouncements During 2011, we adopted a new accounting standard which allows us to perform an optional qualitative assessment to screen for potential impairment of goodwill in lieu of the previously required annual quantitative impairment test. (See Critical Accounting Policies and Estimates - Goodwill, in this section.) The new standard does not change the way we account for goodwill, and the adoption of this standard did not affect our financial condition or results of operations.

Recently Issued Accounting Pronouncements In June 2011, the FASB issued a final standard which will require us to change the way we present other comprehensive income in our financial statements. In December 2011, the FASB deferred the date by which certain aspects of the new standard must be implemented. We are required to adopt certain portions of this new standard beginning in 2012, and while it will impact our disclosures, it will not affect our financial condition or results of operations.

In December 2011, the FASB issued a final standard which will require us to disclose additional information about financial instruments that have been offset for presentation on our balance sheet. Assets and liabilities for financial instruments, such as cash flow hedge contracts, which are covered by master netting agreements, are reported net, with gross positive fair values netted with gross negative fair values by counterparty. While the new standard will impact our disclosures, it will not change the way we account for such financial instruments and will have no effect on our financial condition or results of operations upon adoption. We are required to adopt this new standard beginning in 2013.

46 -------------------------------------------------------------------------------- Table of Contents Contractual Obligations The following table provides a summary of future payments due under contractual obligations and commitments as of December 31, 2011: September 30, September 30, September 30, September 30, September 30, Payments due by period Less than 1-3 3-5 More than Contractual Obligations (dollars in millions) 1 year years years 5 years Total 2015 Notes $ - $ - $ 220.0 $ - $ 220.0 Interest on 2015 Notes 26.4 52.8 13.2 - 92.4 2013 Notes - 0.9 - - 0.9 Capital lease payments 0.1 0.3 0.3 0.5 1.2 Zhongshan 2010 Credit Facility 10.0 - - - 10.0 Operating leases 5.4 7.6 4.0 6.2 23.2 Restructuring payments 0.3 0.2 0.2 1.8 2.5 Management fees 0.3 0.7 0.7 11.6 13.3 Deferred compensation 0.7 0.3 0.3 4.7 6.0 Purchase orders 70.2 - - - 70.2 Total (a) $ 113.4 $ 62.8 $ 238.7 $ 24.8 $ 439.7 (a) The liability for unrecognized tax benefits of $24.8 million included in other non-current liabilities at December 31, 2011, has been excluded from the above table as we cannot make a reasonably reliable estimate of the timing of future payments.

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