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AVX CORP - 10-Q - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS(Edgar Glimpses Via Acquire Media NewsEdge) Forward-Looking Statements This Quarterly Report on Form 10-Q contains "forward-looking" information within the meaning of the Private Securities Litigation Reform Act of 1995. All statements other than statements of historical fact, including statements regarding industry prospects and future results of operations or financial position made in this Quarterly Report on Form 10-Q are forward-looking. The forward-looking information may include, among other information, statements concerning our outlook for fiscal year 2015, overall volume and pricing trends, cost reduction and acquisition strategies and their anticipated results, and expectations for research and development and capital expenditures. There may also be other statements of expectations, beliefs, future plans and strategies, anticipated events or trends, and similar expressions concerning matters that are not historical facts. Forward-looking statements reflect management's expectations and are inherently uncertain. The forward-looking information and statements in this report are subject to risks and uncertainties, including those discussed in our Annual Report on Form 10-K for the fiscal year ended March 31, 2014, that could cause actual results to differ materially from those expressed in or implied by the information or statements herein. Forward-looking statements should be read in context with, and with the understanding of, the various other disclosures concerning the Company and its business made elsewhere in this quarterly report as well as other public reports filed by the Company with the SEC. You should not place undue reliance on any forward-looking statements as a prediction of actual results or developments. Any forward-looking statements by the Company are intended to speak only as of the date thereof. We do not intend to update or revise any forward-looking statement contained in this quarterly report to reflect new events or circumstances unless and to the extent required by applicable law. All forward-looking statements contained in this quarterly report constitute "forward-looking statements" within the meaning of Section 21E of the United States Securities Exchange Act of 1934 and, to the extent it may be applicable by way of incorporation of statements contained in this quarterly report by reference or otherwise, Section 27A of the United States Securities Act of 1933, each of which establishes a safe-harbor from private actions for forward-looking statements as defined in those statutes. Critical Accounting Policies and Estimates "Management's Discussion and Analysis of Financial Condition and Results of Operations" is based upon our unaudited Consolidated Financial Statements and Notes thereto, which have been prepared in accordance with generally accepted accounting principles in the United States. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reported periods. On an ongoing basis, management evaluates its estimates and judgments, including those related to investment securities, revenue recognition, inventories, property and equipment, goodwill, intangible assets, income taxes, and contingencies. Management bases its estimates and judgments on historical experience and on various other factors that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. There can be no assurance that actual results will not differ from those estimates. We have identified the accounting policies and estimates that are critical to our business operations and understanding the Company's results of operations. Those policies and estimates can be found in Note 1, "Summary of Significant Accounting Policies", of the Notes to Consolidated Financial Statements and in "Critical Accounting Policies and Estimates", in "Management's Discussion and Analysis of Financial Condition and Results of Operations" contained in our Annual Report on Form 10-K for the fiscal year ended March 31, 2014 and in Note 1, "Critical Accounting Policies and Estimates", in the Notes to Consolidated Financial Statements in this Form 10-Q. Accordingly, this Quarterly Report on Form 10-Q should be read in conjunction with our Annual Report on Form 10-K for the fiscal year ended March 31, 2014. During the three month period ended June 30, 2014, there were no significant changes to any critical accounting policies, judgments involved in applying those policies, or the methodology used in determining estimates with respect to those related to investment securities, revenue recognition, inventories, goodwill, intangible assets, property and equipment, income taxes, and contingencies. 20 -------------------------------------------------------------------------------- Business Overview AVX is a leading worldwide manufacturer and supplier of a broad line of passive electronic components. Virtually all types of electronic devices use our passive component products to store, filter, or regulate electric energy. We also manufacture and supply high-quality electronic connectors and interconnect systems for use in electronic products. We have manufacturing, sales, and distribution facilities located throughout the world, which are divided into three main geographic regions: the Americas, Asia, and Europe. AVX is organized into five main product groups with three reportable segments: Passive Components, KED Resale, and Interconnect. The Passive Components segment consists primarily of surface mount and leaded ceramic capacitors, RF thick and thin film components, surface mount and leaded tantalum capacitors, surface mount and leaded film capacitors, ceramic and film power capacitors, super capacitors, EMI filters (bolt in and surface mount), thick and thin film packages of multiple passive integrated components, varistors, thermistors, inductors, and resistive products. The KED Resale segment consists primarily of ceramic capacitors, frequency control devices, SAW devices, sensor products, RF modules, actuators, acoustic devices, and connectors produced by Kyocera and resold by AVX. The Interconnect segment consists of automotive, telecom, and memory connectors manufactured by AVX Interconnect and KCP Resale connector products. Our customers are multi-national original equipment manufacturers, or OEMs, independent electronic component distributors, and electronic manufacturing service providers, or EMSs. We market our products through our own direct sales force and independent manufacturers' representatives, based upon market characteristics and demands. We coordinate our sales, marketing, and manufacturing organizations by strategic customer account and globally by region. We sell our products to customers in a broad array of industries, such as telecommunications, information technology hardware, automotive electronics, medical devices and instrumentation, industrial instrumentation, defense and aerospace electronic systems, and consumer electronics. Results of Operations - Three Months Ended June 30, 2013 and 2014 Our net income for the quarter ended June 30, 2014 was $40.8 million, or $0.24 per share, compared to $27.7 million, or $0.16 per share, for the quarter ended June 30, 2013. (in thousands, except per share data) Three Months Ended June 30, 2013 June 30, 2014 Net sales $ 369,379 $ 350,589 Gross profit 68,271 85,177 Operating income 39,235 55,553 Net income 27,657 40,771 Diluted earnings per share $ 0.16 $ 0.24 Net sales in the three months ended June 30, 2014 decreased $18.8 million, or 5.1%, to $350.6 million compared to $369.4 million in the three months ended June 30, 2013. This decrease is principally a result of decreased volumes in our KDP and KCD Resale markets that we serve, primarily attributable to lower sales in the cellular telecommunications market. Operating profits improved in the three months ended June 30, 2014 to $55.6 million or 15.8% of net sales, compared to $39.2 million or 10.6% of net sales, in the three months ended June 30, 2013. Higher profits are the result of our focus on the sale of higher value-added components, sales margin management and cost control. 21 -------------------------------------------------------------------------------- The table below represents product group revenues for the quarters ended June 30, 2013 and 2014. Sales Revenue Three Months Ended (in thousands) June 30, 2013 June 30, 2014 Ceramic Components $ 46,946 $ 52,692 Tantalum Components 95,923 95,458 Advanced Components 89,894 89,180 Total Passive Components 232,763 237,330 KDP and KCD Resale 90,047 58,563 KCP Resale 13,268 17,461 Total KED Resale 103,315 76,024 AVX Interconnect 33,301 37,235 Total Revenue $ 369,379 $ 350,589 Passive Component sales increased $4.6 million, or 2.0% to $237.3 million in the three months ended June 30, 2014 from $232.8 million during the same quarter last year, as we saw increases in many of the markets that we serve, particularly in the automotive and telecommunications equipment markets. The sales increase in Passive Components, in particular, Ceramic Components, reflects the overall improved demand for more sophisticated electronic components across global markets. The increase in sales reflects a higher volume of unit sales resulting from an increase in the sale of higher capacitance components compared to the same quarter last year. KDP and KCD Resale sales decreased $31.5 million, or 35.0%, to $58.6 million in the three months ended June 30, 2014 compared to $90.0 million during the same period last year. When compared to the same period last year, the decrease during the first fiscal quarter is primarily attributable to lower demand from our hand held device customers. Total connector product sales, including AVX Interconnect manufactured and KCP Resale connectors, increased $8.1 million, or 17.5%, to $54.7 million in the three months ended June 30, 2014 compared to $46.6 million during the same period last year. This increase is primarily attributable to stronger demand in the automotive sector reflective of the increased electronic content in today's automobiles. Our sales to independent electronic distributor customers represented 46.1% of total sales for the three months ended June 30, 2014, compared to 38.6% for the three months ended June 30, 2013. Overall, distributor activity increased when compared to the same period last year. This increase is reflective of demand improvements and the low inventory levels maintained by distributors in the prior year. Our sales to distributor customers involve specific ship and debit and stock rotation programs for which sales allowances are recorded as reductions in sales. Such allowance charges were $9.6 million, or 5.9% of gross sales to distributor customers for the three months ended June 30, 2014, and $10.1 million, or 7.1% of gross sales to distributor customers, for the three months ended June 30, 2013. This decrease in activity is reflective of the overall improved market conditions, primarily in the Americas, and resulting decreased pricing pressure when compared to the same period last year. Applications under such programs for the quarters ended June 30, 2014 and 2013 were approximately $8.9 million and $9.4 million, respectively. Geographically, compared to the same period last year, sales increased in Europe, reflecting the increase in automotive related sales in the European market. Sales in Asia and America decreased compared to the same period last year. Sales in the Asian, American and European markets represented 42.3%, 27.9% and 29.8% of total sales, respectively, for the quarter ended June 30, 2014. This compares to 47.1%, 27.4% and 25.5% of total sales for the Asian, American, and European regions in the same period last year, respectively. The movement of the U.S. dollar against certain foreign currencies resulted in a favorable impact on sales of approximately $3.5 million when compared to the same quarter last year. 22 --------------------------------------------------------------------------------Gross profit in the three months ended June 30, 2014 was 24.3% of sales, or $85.2 million, compared to a gross profit margin of 18.5%, or $68.3 million, in the three months ended June 30, 2013. This overall increase is primarily attributable to the increased sales of higher margin value-added components and interconnect devices, sales margin management and lower manufacturing and overhead costs due to our focus on cost control. During the current quarter costs due to currency movement of the U.S. dollar against certain foreign currencies were unfavorably impacted by approximately $1.4 million when compared to the same quarter last year. Selling, general and administrative expenses in the three months ended June 30, 2014 were $29.6 million, or 8.4% of net sales, compared to $29.0 million, or 7.9% of net sales, in the three months ended June 30, 2013. The overall increase in these expenses is primarily due to higher legal and professional fees, partially offset by lower depreciation and lower selling expenses due to lower sales when compared to the same period last year. Income from operations was $55.6 million in the three months ended June 30, 2014 compared to $39.2 million in the three months ended June 30, 2013. This increase was a result of the factors described above, specifically our focus on the sales of higher margin value added components and interconnect devices during the quarter. Our effective tax rate for the three months ended June 30, 2014 was 27.5% compared to 31.0% for the three months ended June 30, 2013. The decrease in the effective rate is principally due to fiscal 2015 discrete items of $1.2 million primarily related to the settlement or expiration of tax return contingencies as well as changes in the mix of foreign earnings, and increased tax deductions related to domestic production activities when compared to the three months ended June 30, 2013. As a result of the factors discussed above, net income for the three month period ended June 30, 2014 was $40.8 million compared to $27.7 million for the same three month period last year. Outlook Near-Term: With uncertain global geopolitical and economic conditions, it is difficult to quantify expectations for the remainder of fiscal 2015. Near-term results for us will depend on the impact of the overall global geopolitical and economic conditions and their impact on telecommunications, information technology hardware, automotive, consumer electronics, and other electronic markets. Looking ahead, visibility is low and forecasting is a challenge in this uncertain and volatile market. We expect to see typical pricing pressure in the markets we serve due to competitive activity. In response to anticipated market conditions, we expect to continue to focus on cost management and product line rationalization to maximize earnings potential. We also continue to focus on process improvements and enhanced production capabilities in conjunction with our focus on the sales of value-added electronic components to support today's advanced electronic devices. If current global geopolitical and economic conditions worsen, the overall impact on our customers as well as end user demand for electronic products could have a significant adverse impact on our near-term results. Long-Term: Although there is uncertainty in the near-term market as a result of the current global geopolitical and economic conditions, we continue to see opportunities for long-term growth and profitability improvement due to: (a) a projected increase in the long-term worldwide demand for more sophisticated electronic devices, which require electronic components such as the ones we sell, (b) cost reductions and improvements in our production processes, and (c) opportunities for growth in our Advanced Component and Interconnect product lines due to advances in component design and our production capabilities. We have fostered our financial health and the strength of our balance sheet putting us in a good position to react to changes in the marketplace as they occur. We remain confident that our strategies will enable our continued long-term success. Liquidity and Capital Resources Liquidity needs arise primarily from working capital requirements, dividend payments, capital expenditures, and acquisitions. Historically, we have satisfied our liquidity requirements through funds from operations and investment income from cash, cash equivalents, and investments in securities. As of June 30, 2014, we had a current ratio of 10.0 to 1, $951.9 million of cash, cash equivalents, and short-term and long-term investments in securities, $2,068.2 million of stockholders' equity, and no debt. 23 --------------------------------------------------------------------------------Net cash provided by operating activities was $77.6 million in the three months ended June 30, 2014 compared to $37.6 million of cash provided by operating activities in the three months ended June 30, 2013. The increase in operating cash flow compared to the same period last year was primarily a result of higher income and lower working capital requirements. Purchases of property and equipment were $6.7 million in the three month period ended June 30, 2014 compared to $5.9 million in the three month period ended June 30, 2013. Expenditures in the current year are primarily made in connection with the strategic investments in our advanced passive component and interconnect product lines. We expect to incur capital expenditures of approximately $30 million in fiscal 2015. The actual amount of capital expenditures will depend upon the outlook for end-market demand. The majority of our funding is internally generated through operations and investment income from cash, cash equivalents, and investments in securities. Since March 31, 2014, there have been no material changes in our contractual obligations or commitments for the acquisition or construction of plant and equipment or future minimum lease commitments under noncancellable operating leases. Based on our financial condition as of June 30, 2014, we believe that cash on hand, cash expected to be generated from operating activities and investment income from cash, cash equivalents, and investments in securities will be sufficient to satisfy our anticipated financing needs for working capital, capital expenditures, environmental clean-up costs, pension plan funding, research, development and engineering expenses, acquisitions of businesses, and any dividend payments or stock repurchases to be made during the year. Changes in demand may have an impact on our future cash requirements; however, changes in those requirements are mitigated by our ability to adjust manufacturing capabilities to meet increases or decreases in customer demand. We do not anticipate any significant changes in our ability to generate capital or meet our liquidity needs in the foreseeable future. From time to time we enter into delivery contracts with selected suppliers for certain precious metals used in our production processes. The delivery contracts represent routine purchase orders for delivery within three months and payment is due upon receipt. As of June 30, 2014, we did not have any significant delivery contracts outstanding. We are involved in disputes, warranty claims, and legal proceedings arising in the normal course of business. While we cannot predict the outcome of these proceedings, we believe, based upon our review with legal counsel, that none of these proceedings will have a material impact on our financial position, results of operations, comprehensive income (loss), or cash flows. However, we cannot be certain if the eventual outcome and any adverse result in these or other matters that may arise from time to time may harm our financial position, results of operations, comprehensive income (loss), or cash flows. On October 10, 2012, the EPA, the United States, and the Commonwealth of Massachusetts and AVX announced that they had reached a financial settlement with respect to the EPA's ongoing clean-up of the New Bedford Harbor in the Commonwealth of Massachusetts (the "harbor"). Under the terms of the settlement, AVX was obligated to pay $366.3 million, plus interest computed from August 1, 2012, in three installments over a two-year period for use by the EPA and the Commonwealth to complete the clean-up of the harbor. On October 18, 2013, we paid the initial settlement installment of $133.4 million, plus accrued interest of $4.0 million. On March 26, 2014, we prepaid a second settlement installment of $110.8 million plus accrued interest of $0.8 million on the remaining settlement amount through that date. In accordance with the terms of the settlement, we are obligated to pay $122.1 million, plus interest, on September 21, 2015. We have the option to prepay any portion of the remaining settlement balance at any time prior to the due date. On November 27, 2007, a suit was filed in South Carolina State Court by individuals as a class action with respect to property adjacent to our Myrtle Beach, South Carolina factory claiming property values have been negatively impacted by alleged migration of certain pollutants from our property. During the quarter ended June 30, 2014, the parties agreed to seek Court modification of the definition of the plaintiff class. In the event such modification is allowed by the Court, the parties have also agreed to jointly recommend to the Court a settlement the action. Any settlement will be subject to Court review and approval. Although the final amount of such settlement, if approved by the Court, depends on the number of participating class members, the maximum amount, if all class members participate, would be $1.2 million. Based on our estimate of potential outcomes, we accrued $1.0 million and $1.2 million with respect to this case as of March 31, 2014 and June 30, 2014, respectively. We can give no assurance, however, that this action will be resolved on the terms indicated above. If it is not so resolved, we intend to continue to defend vigorously the claims asserted. 24 --------------------------------------------------------------------------------On March 1, 2010, AVX was named as a third party defendant in a case filed in Massachusetts Superior Court captioned DaRosa v. City of New Bedford. This case relates to a former disposal site in the City of New Bedford located at Parker Street. The City asserts that AVX, among others, contributed to that site. We intend to defend vigorously the claims that have been asserted in this lawsuit. In light of the foregoing, we are not able to estimate any amount of loss or range of loss. No accrual for costs has been recorded and the potential impact of this case on our financial position, results of operations, comprehensive income (loss), and cash flows cannot be determined at this time. On March 1, 2014, AVX was named as a defendant in a patent infringement case filed in the United States District Court for the District of Delaware captioned Greatbatch, Inc. v AVX Corporation. This case alleges that certain AVX products infringe on one or more of six Greatbatch patents. We intend to defend vigorously the claims that have been asserted in this lawsuit. In light of the foregoing, we are not able to estimate any amount of loss or range of loss. No accrual for costs has been recorded and the potential impact of this case on our financial position, results of operations, comprehensive income (loss) and cash flows cannot be determined at this time. AVX has received a demand for approximately $11.0 million from the City of New Bedford arising from contamination at the City's New Bedford Railyard. AVX believes it has meritorious defenses and intends to defend vigorously the demand. In light of the foregoing, we are not able to estimate any amount of loss or range of loss. No accrual for costs has been recorded and the potential impact of this demand on our financial position, results of operations, comprehensive income (loss), and cash flows cannot be determined at this time. We also operate on sites that may have potential future environmental issues as a result of activities at sites during AVX's long history of manufacturing operations or prior to the start of operations by AVX. Even though we may have rights of indemnity for such environmental matters at certain sites, regulatory agencies in those jurisdictions may require us to address such issues. Once it becomes probable that we will incur costs in connection with remediation of a site and such costs can be reasonably estimated, we establish reserves or adjust our reserves for our projected share of these costs. A separate account receivable is recorded for any indemnified costs. Our environmental reserves are not discounted and do not reflect any possible future insurance recoveries, which are not expected to be significant, but do reflect a reasonable estimate of cost sharing at multiple party sites or indemnification of our liability by a third party. Once it becomes probable that we will incur costs in connection with remediation of a site and such costs can be reasonably estimated, we establish reserves or adjust our reserves for our projected share of these costs. We currently have reserves for current remediation, compliance, and legal costs totaling $136.8 million at June 30, 2014. Additional information related to environmental and legal issues can be found in Note 8, "Commitments and Contingencies", of the Company's Notes to Consolidated Financial Statements contained in this Quarterly Report on Form 10-Q. New Accounting Standards Information related to new Statement of Financial Accounting Standards and Financial Accounting Standards Board Staff Positions that we have recently adopted or are currently reviewing can be found in Note 1, "Summary of Significant Accounting Policies", of the Notes to Consolidated Financial Statements and in "Critical Accounting Policies and Estimates" in "Management's Discussion and Analysis of Financial Condition and Results of Operations" contained in the Annual Report on Form 10-K for the fiscal year ended March 31, 2014. Accordingly, this Quarterly Report on Form 10-Q should be read in conjunction with our Annual Report on Form 10-K for the fiscal year ended March 31, 2014. 25 -------------------------------------------------------------------------------- |