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MODUSLINK GLOBAL SOLUTIONS INC - 10-K - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS(Edgar Glimpses Via Acquire Media NewsEdge) This Annual Report on Form 10-K contains forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended, and Section 27A of the Securities Act of 1933, as amended. For this purpose, any statements contained herein that are not statements of historical fact may be deemed to be forward-looking statements. Without limiting the foregoing, the words "believes," "anticipates," "plans," "expects" and similar expressions are intended to identify forward-looking statements. Factors that could cause actual results to differ materially from those reflected in the forward-looking statements include, but are not limited to, those discussed in Item 1A of this report, "Risk Factors", and elsewhere in this report. Readers are cautioned not to place undue reliance on these forward-looking statements, which reflect management's analysis, judgment, belief or expectation only as of the date hereof. We do not undertake any obligation to update forward-looking statements whether as a result of new information, future events or otherwise. Overview ModusLink Global Solutions, Inc. provides comprehensive supply chain and logistics services (the "Supply Chain Business") that are designed to improve clients' revenue, cost, sustainability and customer experience objectives. ModusLink Global Solutions provides services to leading companies in consumer electronics, communications, computing, software, and retail. The Company's operations are supported by a global footprint that includes more than 25 sites across North America, Europe, and the Asia Pacific region. We operate an integrated supply chain system infrastructure that extends from front-end order management through distribution and returns management. This end-to-end solution enables clients to link supply and demand in real time, improve visibility and performance throughout the supply chain, and provide real-time access to information for greater collaboration and making informed business decisions. We believe that our clients can benefit from our global integrated business solution. Historically, a significant portion of our revenue from our Supply Chain Business has been generated from clients in the computer and software markets. These markets are mature and, as a result, gross margins in these markets tend to be low. To address this, in addition to the computer and software markets, we have expanded our sales focus to include additional markets such as communications and consumer electronics. We believe these markets may experience faster growth than our historical markets, and represent opportunities to realize higher gross margins on our services. Companies in these markets often have significant need for a supply chain partner who will be an extension to their business models. We believe the scope of our service offerings, including e-Business and repair services will increase the overall value of the supply chain solutions we deliver to our existing clients and to new clients. We also strive to reduce our operating costs while implementing operational efficiencies throughout the Company. Our clients' products are subject to seasonal consumer buying patterns. As a result, the services we provide to our clients are also subject to seasonality, with higher revenue and operating income typically being realized from handling our clients' products during the first half of our fiscal year, which includes the holiday selling season. Management evaluates operating performance based on net revenue, operating income (loss) and net income (loss) and a measure that we refer to as adjusted EBITDA, defined as net income (loss) excluding net charges related to interest income, interest expense, income tax expense, depreciation, amortization of intangible assets, SEC inquiry and restatement costs, strategic alternatives and other professional fees, executive severance and employee retention, restructuring, share-based compensation, impairment of goodwill and long-lived assets, other non-operating gains and losses, equity in losses of affiliates and discontinued operations. Among the key factors that will influence our performance are successful execution and implementation of our strategic initiatives, global economic conditions, especially in the technology sector, the effect of product form factor changes, technology changes, revenue mix and demand for outsourcing services. 22-------------------------------------------------------------------------------- Table of Contents As a large portion of our revenue comes from outsourcing services provided to clients such as computer hardware manufacturers and consumer electronics companies, our operating performance has been and may continue to be adversely affected by declines in the overall performance of the technology sector and uncertainty affecting the world economy. In addition, the drop in consumer demand for products of certain clients has had and may continue to have the effect of reducing our volumes and adversely affecting our revenue performance. The markets for our services are generally very competitive. We also face pressure from our clients to continually realize efficiency gains in order to help our clients maintain their profitability objectives. Increased competition and client demands for efficiency improvements may result in price reductions, reduced gross margins and, in some cases, loss of market share. In addition, our profitability varies based on the types of services we provide and the regions in which we perform them. Therefore, the mix of revenue derived from our various services and locations can impact our gross margin results. Also, form factor changes, which we describe as the reduction in the amount of materials and product components used in our clients' completed packaged product, can also have the effect of reducing our revenue and gross margin opportunities. As a result of these competitive and client pressures the gross margins in our business are low. For the years ended July 31, 2014 and 2013, our gross margin percentage was 10.3% and 9.9%, respectively. Increased competition as well as industry consolidation and/or low demand for our clients' products and services may hinder our ability to maintain or improve our gross margins, profitability and cash flows. We must continue to focus on margin improvement, through implementation of our strategic initiatives, cost reductions and asset and employee productivity gains in order to improve the profitability of our business and maintain our competitive position. We generally manage margin and pricing pressures in several ways, including efforts to target new markets, expand our service offerings, improve the efficiency of our processes and to lower our infrastructure costs. We seek to lower our cost to service clients by moving work to lower-cost venues, consolidating facilities, and other actions designed to improve the productivity of our operations. Historically, a limited number of key clients have accounted for a significant percentage of our revenue. For the fiscal year ended July 31, 2014, sales to Hewlett-Packard accounted for approximately 29% of our consolidated net revenue, while ten clients accounted for approximately 80% of our consolidated net revenue. For the fiscal year ended July 31, 2013, sales to Hewlett-Packard accounted for approximately 29% of our consolidated net revenue, while ten clients accounted for approximately 76% of our consolidated net revenue. For the fiscal year ended July 31, 2012, sales to Hewlett-Packard accounted for approximately 31% of our consolidated net revenue while ten clients accounted for approximately 69% of our consolidated net revenue. We expect to continue to derive the vast majority of our revenue from sales to a small number of key clients. In general, we do not have any agreements which obligate any client to buy a minimum amount of services from us or designate us as an exclusive service provider. Consequently, our net revenue is subject to demand variability by our clients. The level and timing of orders placed by our clients vary for a variety of reasons, including seasonal buying by end-users, the introduction of new technologies and general economic conditions. For the fiscal year ended July 31, 2014, the Company reported net revenue of $723.4 million, operating loss of $5.5 million, loss from continuing operations before income taxes of $11.5 million and net loss of $16.3 million. For the fiscal year ended July 31, 2013, the Company reported net revenue of $754.5 million, operating loss of $28.2 million, loss from continuing operations before income taxes of $33.9 million and net loss of $40.4 million. For the fiscal year ended July 31, 2012, the Company reported net revenue of $713.9 million, operating loss of $34.9 million, loss from continuing operations before income taxes of $23.3 million and net loss of $38.1 million. At July 31, 2014, we had cash and cash equivalents of $183.5 million, and working capital of $207.2 million. Basis of Presentation The Company presents its financial information in accordance with accounting principles generally accepted in the United States, U.S. GAAP (or "GAAP"). The Company has five operating segments: Americas; Asia; Europe; e-Business; and ModusLink PTS. The Company has three reportable segments: Americas; Asia; and Europe. The Company reports the ModusLink PTS operating segment in aggregation with the Americas 23 -------------------------------------------------------------------------------- Table of Contents operating segment as part of the Americas reportable segment. In addition to its three reportable segments, the Company reports an All Other category. The All Other category primarily represents the e-Business operating segment. The Company also has Corporate-level activity, which consists primarily of costs associated with certain corporate administrative functions such as legal and finance which are not allocated to the Company's reportable segments and administration costs related to the Company's venture capital activities. All significant intercompany transactions and balances have been eliminated in consolidation. As discussed further in Note 18 of our consolidated financial statements, Discontinued Operations and Divestitures, in Item 8 below, the Company's wholly-owned subsidiary, TFL sold substantially all of its assets on January 11, 2013. The Company determined that the sale of TFL qualified for discontinued operations presentation in the accompanying consolidated financial statements. Results of Operations Fiscal Year 2014 compared to Fiscal Year 2013 Net Revenue: As a % of As a % of Total Total 2014 Net Revenue 2013 Net Revenue $ Change % Change (In thousands) Americas $ 299,026 41.3 % $ 268,490 35.6 % $ 30,536 11.4 % Asia 176,592 24.4 % 212,963 28.2 % (36,371 ) (17.1 %) Europe 209,550 29.0 % 237,222 31.4 % (27,672 ) (11.7 %) All Other 38,232 5.3 % 35,829 4.8 % 2,403 6.7 % Total $ 723,400 100.0 % $ 754,504 100.0 % $ (31,104 ) (4.1 %) Net revenue decreased by approximately $31.1 million for the fiscal year ended July 31, 2014, as compared to the prior fiscal year. The change in net revenue was primarily driven by lower revenue from a software client that reorganized its supply chain. Revenue from new programs was $43.0 million during fiscal 2014, as compared to $128.8 million in fiscal 2013. The $85.8 million decrease in revenue from new programs was primarily due to a decline in revenue associated with clients in the consumer products and consumer electronics industries. The Company defines new programs as client programs that have been executed for fewer than 12 months. Fluctuations in foreign currency exchange rates had an insignificant impact on net revenue for the fiscal year ended July 31, 2014. During the second quarter of fiscal year 2014, a major client in the computing market notified us of an intended change in their sourcing strategy effective during our third fiscal quarter for one of their supply chain programs in Asia for which we are currently the primary service provider. While we have been notified that the client intends to add an additional service provider to this program, we expect to continue to be the primary service provider. We expect this change in sourcing strategy to result in reduced annualized net revenue of approximately $15 million to $20 million, and to have a greater proportionate impact on operating income consistent with the historical margins realized from this type of service program. Although there can be no assurances, we are and will continue to seek to offset this loss of net revenue and associated operating income through increased revenues from other clients, new business opportunities, increases in productivity and ongoing cost reduction initiatives. During the fourth quarter of fiscal year 2014, the Company was informed by a major client in the computing market that due to a further change in the client's supply chain strategy, a number of programs currently sourced with the Company primarily in the Americas will conclude by the first quarter of fiscal year 2015. Combined, these programs currently account for approximately $150 million to $160 million of annual net revenue and 24-------------------------------------------------------------------------------- Table of Contents approximately $2.5 million to $3.5 million of operating income due to the historically low margins we have realized from these programs. We are currently working with this client to establish a comprehensive plan to transition the programs, which when fully completed, is expected to yield working capital in the range of $20 million to $25 million. The exit of these programs did not have a significant impact on results of operations for the current fiscal year and the Company continues to support a number of additional programs for this client. We are seeking and will continue to seek to offset the loss of net revenue and the associated operating income through increased revenues from new client program wins along with increased business with existing clients, ongoing productivity increases and cost reduction initiatives. During the fiscal year ended July 31, 2014, net revenue in the Americas region increased by approximately $30.5 million, as compared to the prior fiscal year. This increase resulted primarily from higher revenue from a consumer electronics client and higher revenue from an aftermarket services program related to the repair and refurbishment of mobile devices, partially offset by the effects of lower revenue from a client in the communications market. Within the Asia region, the net revenue decrease of approximately $36.4 million primarily resulted from lower order volumes from certain clients related to the computing and software markets. Within the Europe region, net revenue decreased by approximately $27.7 million primarily due to lower volumes from a significant software client that reorganized its supply chain. Net revenue for All Other increased by approximately $2.4 million primarily due to higher revenue from a consumer electronics client. A significant portion of our client base operates in the technology sector, which is intensely competitive and very volatile. Our clients' order volumes vary from quarter to quarter for a variety of reasons, including market acceptance of their new product introductions and overall demand for their products including seasonality factors. This business environment, and our mode of transacting business with our clients, does not lend itself to precise measurement of the amount and timing of future order volumes, and as a result, future consolidated and segment sales volumes and revenue could vary significantly from period to period. We sell primarily on a purchase order basis, rather than pursuant to contracts with minimum purchase requirements. These purchase orders are generally for quantities necessary to support near-term demand for our clients' products. Cost of Revenue: As a % of As a % of Segment Segment 2014 Net Revenue 2013 Net Revenue $ Change % Change (In thousands) Americas $ 276,169 92.4 % $ 253,084 94.3 % $ 23,085 9.1 % Asia 137,937 78.1 % 165,770 77.8 % (27,833 ) (16.8 %) Europe 199,779 95.3 % 230,388 97.1 % (30,609 ) (13.3 %) All Other 34,790 91.0 % 30,892 86.2 % 3,898 12.6 % Total $ 648,675 89.7 % $ 680,134 90.1 % $ (31,459 ) (4.6 %) Cost of revenue consists primarily of expenses related to the cost of materials purchased in connection with the provision of supply chain management services as well as costs for salaries and benefits, contract labor, consulting, fulfillment and shipping, and applicable facilities costs. Cost of revenue for the fiscal year ended July 31, 2014 included materials procured on behalf of our clients of $434.5 million, or 60.0% of consolidated net revenue, as compared to $452.8 million or 60.6% of consolidated net revenue for the same period in the prior year, a decrease of $18.2 million. Total cost of revenue decreased by $31.4 million for the fiscal year ended July 31, 2014, as compared to the fiscal year ended July 31, 2013. Gross margin increased to 10.3% for the fiscal year ended July 31, 2014, from 9.9% for the fiscal year ended July 31, 2013, primarily as a result of a favorable revenue mix, and cost reduction actions taken by the Company. For the fiscal year ended July 31, 2014, the Company's gross margin percentages within the Americas, Asia and Europe regions were 7.6%, 21.9% and 4.7%, as compared to 5.7%, 22.2% and 2.9%, respectively, for the same period of the prior year. Fluctuations in foreign currency exchange rates had an insignificant impact on gross margin for the fiscal year ended July 31, 2014. 25 -------------------------------------------------------------------------------- Table of Contents In the Americas, the 1.9 percentage point increase in gross margin, from 5.7% to 7.6%, resulted from the favorable impact of a shift in revenue mix as well as cost reduction programs and lower labor and overhead costs at certain facilities. In Asia, the 0.3 percentage point decrease, from 22.2% to 21.9% was primarily the result of lower revenues, offset in part by a favorable revenue mix as well as cost reduction programs. In Europe, the 1.8 percentage point improvement in gross margin, from 2.9% to 4.7%, was attributable to cost reduction programs at certain facilities partially offset by an unfavorable revenue mix. The gross margin for All Other, which is comprised primarily of e-Business, was 9.0% for the fiscal year ended July 31, 2014 as compared to 13.8% for the same period of the prior year. This decrease of 4.8 percentage points represents a higher proportion of materials costs due to the addition of a consumer electronics fulfillment program with higher relative materials cost that was partly offset by labor and overhead costs that did not increase in proportion to revenues. Selling, General and Administrative Expenses: As a % of As a % of Segment Segment 2014 Net Revenue 2013 Net Revenue $ Change % Change (In thousands) Americas $ 12,403 4.1 % $ 13,892 5.2 % $ (1,489 ) (10.7 %) Asia 20,387 11.5 % 21,925 10.3 % (1,538 ) (7.0 %) Europe 17,253 8.2 % 19,289 8.1 % (2,036 ) (10.6 %) All Other 2,305 6.0 % 2,765 7.7 % (460 ) (16.6 %) Sub-total 52,348 7.2 % 57,871 7.7 % (5,523 ) (9.5 %) Corporate-level activity 19,672 - 29,101 - (9,429 ) (32.4 %) Total $ 72,020 10.0 % $ 86,972 11.5 % $ (14,952 ) (17.2 %) Selling, general and administrative expenses consist primarily of compensation and employee-related costs, sales commissions and incentive plans, information technology expenses, travel expenses, facilities costs, consulting fees, fees for professional services, depreciation and marketing expenses. Selling, general and administrative expenses during the fiscal year ended July 31, 2014 decreased by $15.0 million compared to the fiscal year ended July 31, 2013, primarily as a result of reduced employee-related costs ($1.3 million) and professional fees ($12.9 million) including audit fees and various costs related to the financial restatement. Fluctuations in foreign currency exchange rates had an insignificant impact on selling, general and administrative expenses for the fiscal year ended July 31, 2014. Amortization of Intangible Assets: As a % of As a % of Segment Segment 2014 Net Revenue 2013 Net Revenue $ Change % Change (In thousands) Americas $ 129 0.0 % $ 150 0.1 % $ (21 ) (14.0 %) All Other 968 2.5 % 983 2.7 % (15 ) (1.5 %) Total $ 1,097 0.2 % $ 1,133 0.2 % $ (36 ) (3.2 %) The intangible asset amortization relates to certain amortizable intangible assets acquired by the Company in connection with its acquisition of ModusLink OCS and ModusLink PTS. Amortization expense was essentially flat as compared to the prior year period. The remaining intangible assets are being amortized over their remaining lives. 26 -------------------------------------------------------------------------------- Table of Contents Impairment of Goodwill and Long-Lived Assets: As a % of As a % of Segment Segment 2014 Net Revenue 2013 Net Revenue $ Change % Change (In thousands) Americas $ - 0.0 % $ - 0.0 % $ - - Asia - 0.0 % - 0.0 % - - Europe 500 0.2 % - 0.0 % 500 100.0 % All Other - 0.0 % - 0.0 % - - Total $ 500 0.1 % $ - 0.0 % $ 500 - The Company conducts its goodwill impairment test on July 31 of each fiscal year. In addition, if and when events or circumstances change that would reduce the fair value of any of its reporting units below its carrying value, an interim test would be performed. In making this assessment, the Company relies on a number of factors including operating results, business plans, economic projections, anticipated future cash flows, and transactions and marketplace data. There were no goodwill impairments for the years ended July 31, 2014 and 2013. During the third quarter of fiscal year 2012, indicators of potential impairment caused the Company to conduct an interim impairment test for the fixed assets of its facility in Kildare, Ireland. These indicators included declining revenue and increasingly adverse trends that resulted in further deterioration of current operating results and future prospects of the Kildare facility. These adverse trends included declines in sales volumes resulting from the loss of certain client programs, pricing pressure from existing clients, and the emergence and growth of new competitors for the services performed in Kildare. As a result of the impairment test, in connection with the preparation of the financial statements for the quarter ended April 30, 2012, the Company concluded that Kildare's fixed assets were impaired and recorded a $1.1 million non-cash impairment charge. This charge is reflected in "impairment of long-lived assets" in the Consolidated Statements of Operations for the fiscal year ended July 31, 2012. The fixed asset impairment charge for Kildare is deductible as depreciation for tax purposes over time. The impairment charge did not affect the Company's liquidity or cash flows. During the second quarter of fiscal year 2014, the Company determined that the carrying value of Kildare facility was not fully recoverable from future cash flows. The Company recorded an impairment charge of $0.5 million to adjust the carrying value to its estimated fair value. Restructuring, net: As a % of As a % of Segment Segment 2014 Net Revenue 2013 Net Revenue $ Change % Change (In thousands) Americas $ 869 0.3 % $ 1,594 0.6 % $ (725 ) (45.5 %) Asia 933 0.5 % 2,427 1.1 % (1,494 ) (61.6 %) Europe 4,337 2.1 % 9,636 4.1 % (5,299 ) (55.0 %) All Other 418 1.1 % 840 2.3 % (422 ) (50.2 %) Total $ 6,557 0.9 % $ 14,497 1.9 % $ (7,940 ) (54.8 %) During the fiscal year ended July 31, 2014, the Company recorded a net restructuring charge of $6.6 million. Of this amount, $6.3 million primarily related to the workforce reduction of 181 employees across all operating segments, and $0.3 million related to contractual obligations. During the fiscal year ended July 31, 2013, the Company recorded a net restructuring charge of $14.5 million. Of this amount, $13.4 million primarily related to the workforce reduction of 465 employees across all operating segments, and $1.1 million related to contractual obligations related to a facility closure in Hungary. 27 -------------------------------------------------------------------------------- Table of Contents Interest Income/Expense: During the fiscal year ended July 31, 2014, interest income increased to $0.4 million from $0.3 million during the fiscal year ended July 31, 2013. Interest expense totaled approximately $5.0 million and $0.6 million for the fiscal years ended July 31, 2014 and 2013, respectively. During the current year, the interest expense primarily relates to the Company's issuance of $100 million of 5.25% Convertible Senior Notes (the "Notes"). In the prior year, interest expense related primarily to the Company's stadium obligation. In August 2000, the Company announced it had acquired the exclusive naming and sponsorship rights to the New England Patriots' new stadium, for a period of fifteen years. In August 2002, the Company finalized an agreement with the owner of the stadium to amend the sponsorship agreement. Under the terms of the amended agreement, the Company relinquished the stadium naming rights and remains obligated for a series of annual payments of $1.6 million per year through 2015. Other Gains (Losses), net: Other losses, net totaled approximately $0.1 million and $2.6 million for the fiscal years ended July 31, 2014 and 2013, respectively. The balance consists primarily of net realized and unrealized foreign exchange gains and losses and also includes other items such as amortization of deferred costs associated with our credit facility and other gain and losses. The fiscal year ended July 31, 2014 includes gains on sales of fixed assets of $0.5 million. The Company recorded foreign exchange losses of approximately $0.5 million and $2.1 million during the fiscal year ended July 31, 2014 and 2013, respectively. For the fiscal year ended July 31, 2014, the net losses primarily related to realized and unrealized gains (losses) from foreign currency exposures and settled transactions of approximately $0.2 million, $(0.5) million and $0.4 million in the Americas, Asia and Europe, respectively. During the fiscal year ended July 31, 2013, the Company recorded foreign exchange losses of $2.1 million related to realized and unrealized losses from foreign currency exposures and settled transactions in Europe and Asia, as well as other losses in the Americas of $0.5 million. Equity in Losses of Affiliates and Impairments: Equity in losses of affiliates and impairments results from the Company's minority ownership in certain investments that are accounted for under the equity method and impairments on its equity method and cost method investments. Under the equity method of accounting, the Company's proportionate share of each affiliate's operating income or losses is included in equity in losses of affiliates. Equity in losses of affiliates and impairments was $1.5 million and $4.4 million for the fiscal years ended July 31, 2014 and 2013, respectively. For the fiscal years ended July 31, 2014 and 2013, the Company recorded its proportionate share of the affiliates' losses of $0.1 million and $1.6 million, respectively. During the fiscal year ended July 31, 2014 and 2013, the Company also recorded impairment charges of $1.4 million and $2.8 million, respectively, on certain investments included in the @Ventures portfolio of companies. The Company assesses the need to record impairment losses on its investments and records such losses when the impairment of an investment is determined to be other than temporary in nature. The process of assessing whether a particular equity investment's net realizable value is less than its carrying cost requires a significant amount of judgment. In making this judgment, the Company carefully considers the investee's cash position, projected cash flows (both short and long-term), financing needs, recent financing rounds, most recent valuation data, the current investing environment, management/ownership changes and competition. The valuation process is based primarily on information that the Company requests from these privately held companies and is not subject to the same disclosure and audit requirements as the reports required of U.S. public companies. 28 -------------------------------------------------------------------------------- Table of Contents Estimating the net realizable value of investments in privately held early-stage technology companies is inherently subjective and has contributed to volatility in our reported results of operations in the past and may negatively impact our results of operations in the future. We may incur additional impairment charges to our investments in privately held companies, which could have an adverse impact on our future results of operations. A decline in the carrying value of our $7.2 million of investments in affiliates at July 31, 2014 ranging from 10% to 20%, respectively, would decrease our income from continuing operations by $0.7 million to $1.4 million. Income Tax Expense: During the fiscal year ended July 31, 2014, the Company recorded income tax expense of approximately $4.7 million compared to income tax expense of $3.8 million, for the prior fiscal year. For the fiscal years ended July 31, 2014 and 2013, the Company was profitable in certain jurisdictions where the Company operates, resulting in an income tax expense using the enacted tax rates in those jurisdictions. The Company provides for income tax expense related to federal, state, and foreign income taxes. For the fiscal year ended July 31, 2014, the Company's taxable income for certain foreign locations was offset by net operating loss carryovers from prior years, and the Company calculated a taxable loss in the U.S. For the fiscal year ended July 31, 2013, the Company's taxable income for certain foreign locations was offset by net operating loss carryovers from prior years, and the Company calculated a taxable loss in the U.S. The Company continues to maintain a full valuation allowance against its deferred tax asset in the U.S. and certain of its foreign subsidiaries due to the uncertainty of realizing such benefits. Discontinued Operations: During the fiscal years ended July 31, 2014 and 2013, the Company recorded losses from discontinued operations of $0.1 million and $1.0 million, respectively. As discussed further in Note 18 to the accompanying consolidated financial statements, on January 11, 2013, the Company's wholly-owned subsidiary, TFL, sold substantially all of its assets to Encore Holdings, LLC ("Encore"). The $1.1 million decrease in the loss from discontinued operations is primarily attributable to $1.1 million of reduced TFL operating losses. Non-GAAP Measures In addition to the financial measures prepared in accordance with generally accepted accounting principles, the Company uses Adjusted EBITDA, a non-GAAP financial measure, to assess its performance. EBITDA represents earnings before interest, income tax expense, depreciation and amortization. We define Adjusted EBITDA as EBITDA excluding the effects of professional fees associated with our SEC inquiry and financial restatement, strategic alternatives and other professional fees, the settlement of the TFL acquisition escrow, executive severance and employee retention, restructuring, share-based compensation, impairments of goodwill and long-lived assets, unrealized foreign exchange gains or losses, net, other non-operating gains or losses, net, equity in losses of affiliates and impairments, and discontinued operations. We believe that providing Adjusted EBITDA to investors is useful as this measure provides important supplemental information of our performance to investors and permits investors and management to evaluate the operating performance of our core supply chain business. We use Adjusted EBITDA in internal forecasts and models when establishing internal operating budgets, supplementing the financial results and forecasts reported to our Board of Directors, determining a component of incentive compensation for executive officers and other key employees based on operating performance and evaluating short-term and long-term operating trends in our core supply chain business. We believe that the Adjusted EBITDA financial measure assists in providing an enhanced understanding of our underlying operational measures to manage the core supply chain business, to evaluate performance compared to prior periods and the marketplace, and to establish operational goals. We believe that these non-GAAP financial adjustments are useful to investors because they allow investors to evaluate the effectiveness of the methodology and information used by management in our financial and operational decision making. 29-------------------------------------------------------------------------------- Table of Contents Adjusted EBITDA is a non-GAAP financial measure and should not be considered in isolation or as a substitute for financial information provided in accordance with U.S. GAAP. This non-GAAP financial measure may not be computed in the same manner as similarly titled measures used by other companies. Adjusted EBITDA has limitations as an analytical tool. Some of these limitations are: • Adjusted EBITDA does not reflect our cash expenditures, or future requirements, for capital expenditures or contractual commitments; • Adjusted EBITDA does not reflect changes in, or cash requirements for, our working capital needs; • although depreciation and amortization are non-cash charges, the assets being depreciated and amortized will often have to be replaced in the future, and Adjusted EBITDA does not reflect any cash requirements for such replacements; • non-cash compensation is and will remain a key element of our overall long-term incentive compensation package, although we exclude it as an expense when evaluating our ongoing operating performance for a particular period; • Adjusted EBITDA does not reflect the impact of certain cash charges resulting from matters we consider not to be indicative of our ongoing operations; and • other companies in our industry may calculate Adjusted EBITDA differently than we do, limiting its usefulness as a comparative measure. The following table includes the reconciliations of our U.S. GAAP net loss, the most directly comparable U.S. GAAP financial measure, to EBITDA and Adjusted EBITDA for fiscal 2014, 2013 and 2012: Years Ended July 31, (In thousands) 2014 2013 2012 Net loss $ (16,282 ) $ (40,355 ) $ (38,108 ) Interest income (382 ) (300 ) (380 ) Interest expense 5,009 612 373 Income tax expense 4,682 3,779 3,035 Depreciation 13,179 14,118 13,920 Amortization of intangible assets 1,097 1,133 1,139 EBITDA 7,303 (21,013 ) (20,021 ) SEC inquiry and financial restatement costs 3,909 10,761 3,114 Strategic alternative and other professional fees 963 1,270 9,686 Settlement of TFL acquisition escrow - - (3,399 ) Executive severance and employee retention 1,080 1,417 2,111 Restructuring 6,557 14,497 6,416 Share-based compensation 2,254 2,308 2,990 Impairment of goodwill and long-lived assets 500 - 1,128 Unrealized foreign exchange (gains) losses (660 ) 1,964 92 Other non-operating (gains) losses, net (430 ) 592 (11,442 ) Equity in losses of affiliates and impairments 1,554 4,365 4,109 (Income) loss from discontinued operations (80 ) 1,025 10,500 Adjusted EBITDA $ 22,950 $ 17,186 $ 5,284 Our Adjusted EBITDA measure reflects adjustments based on the following items: SEC inquiry and financial restatement costs. We exclude external costs related to our SEC inquiry and financial restatement. We exclude these costs because we do not believe they are indicative of our normal operating costs. 30-------------------------------------------------------------------------------- Table of Contents Strategic alternatives and other professional expenses. We exclude certain professional fees related to our evaluation of strategic alternatives, cost alignment initiatives, and proxy contests with activist investors. We exclude these costs because we do not believe they are indicative of our normal operating costs. Settlement of TFL acquisition escrow. During fiscal year 2012, the Company received $3.4 million from the release of funds held in escrow in settlement of potential claims related to the Company's purchase of TFL in fiscal 2010. The receipt of this payment had the impact of reducing our selling, general and administrative expense in fiscal year 2012 and is not indicative of our normal operating costs. Executive severance and employee retention. During the fiscal year 2014, we incurred severance charges related to certain executives of the Company. During the fiscal year 2013, we incurred costs related to the retention of certain employees of the Company. During the fourth quarter of fiscal 2012, we incurred severance charges related to certain executives of the Company. In addition, during the fourth quarter of fiscal 2012, the Company awarded retention bonuses to executives and other key employees of the Company. We exclude these costs because we do not believe they are indicative of our normal operating costs. Restructuring. We incur charges due to the restructuring of our business, including severance charges and contractual obligations associated with facility reductions resulting from our streamlining efforts. The amount and timing of any future restructuring activity is difficult to predict. Share-based Compensation Expense. We incur expenses related to share-based compensation included in our U.S. GAAP presentation of cost of revenues and selling, general and administrative expense. Although share-based compensation is an expense we incur and is viewed as a form of compensation, the expense varies in amount from period to period, and is affected by market forces that are difficult to predict and are not within the control of management, such as the market price and volatility of our shares, risk-free interest rates and the expected term and forfeiture rates of the awards. Impairment of goodwill and long-lived assets. Although an impairment of goodwill and long-lived assets does not directly impact the Company's current cash position, such expense represents the declining value of the goodwill recorded at the time of the business acquisition and the other long-lived assets that were acquired. We exclude these impairments because they are not indicative of our normal operating costs. Unrealized foreign exchange (gains) losses. We exclude these gains and losses as we do not believe they directly impact the Company's cash position until they are realized. Other non-operating (gains) losses. We exclude other non-operating (gains) losses as they do not relate to the performance of our core supply chain business. This caption includes items such as the derecognition of accrued pricing liabilities and gains or losses on the sale of assets. Equity in losses of affiliates and impairments. We exclude equity in losses of affiliates and impairments related to our @Ventures portfolio of investments. We exclude these costs because they are not related to or indicative of the results of the Company's core supply chain business. Discontinued Operations. We exclude gains or losses associated with the Company's discontinued operations. We exclude these costs because they are not indicative of the results of the Company's core supply chain business. 31-------------------------------------------------------------------------------- Table of Contents Fiscal Year 2013 compared to Fiscal Year 2012 Net Revenue: As a % of As a % of Total Total 2013 Net Revenue 2012 Net Revenue $ Change % Change (In thousands) Americas $ 268,490 35.6 % $ 249,940 35.0 % $ 18,550 7.4 % Asia 212,963 28.2 % 218,880 30.7 % (5,917 ) (2.7 %) Europe 237,222 31.4 % 211,319 29.6 % 25,903 12.3 % All Other 35,829 4.8 % 33,808 4.7 % 2,021 6.0 % Total $ 754,504 100.0 % $ 713,947 100.0 % $ 40,557 5.7 % Net revenue increased by approximately $40.6 million for the fiscal year ended July 31, 2013, as compared to the prior fiscal year. Revenue from new programs was $128.8 million during fiscal 2013, as compared to $72.5 million in fiscal 2012. The $56.3 million increase in revenue from new programs was primarily due to engagements with clients in the consumer electronics and consumer products industries that contributed to revenue in all regions. The increase in revenue from new programs was partially offset by a $15.7 million decrease in revenues in our base business from $641.4 million in the prior year period to $625.7 million in fiscal 2013. The Company defines new programs as client programs that have been executed for fewer than 12 months. Base business is defined as client programs that have been executed for 12 months or more. Approximately $452.8 million of the net revenue for the fiscal year ended July 31, 2013 related to the procurement and re-sale of materials on behalf of our clients as compared to approximately $442.4 million for the fiscal year ended July 31, 2012. These balances represent the cost of the materials procured by the Company and not the net revenue of the resale of the materials. Fluctuations in foreign currency exchange rates had an insignificant impact on net revenue for the fiscal year ended July 31, 2013. During the fiscal year ended July 31, 2013, net revenue in the Americas region increased by $18.6 million. This increase resulted primarily from revenue from a new program with a consumer electronics client, partially offset by the effects of lower order volumes from an existing client that is reorganizing its supply chain operations. Within the Asia region, the net revenue decrease of $5.9 million primarily resulted from the effects of lower volume from certain existing programs related to the personal computer market, partially offset by revenue contributions from a new program. Within the Europe region, the net revenue increase of $25.9 million was driven by increases in client order volumes, as a result of improved economic and client-specific conditions within this region. Within All Other, which is comprised primarily of e-Business, the net revenue increase of $2.0 million was driven by increases in client order volumes. A significant portion of our client base operates in the technology sector, which is intensely competitive and very volatile. Our clients' order volumes vary from quarter to quarter for a variety of reasons, including market acceptance of their new product introductions and overall demand for their products including seasonality factors. This business environment, and our mode of transacting business with our clients, does not lend itself to precise measurement of the amount and timing of future order volumes, and as a result, future consolidated and segment sales volumes and revenue could vary significantly from period to period. We sell primarily on a purchase order basis, rather than pursuant to contracts with minimum purchase requirements. These purchase orders are generally for quantities necessary to support near-term demand for our clients' products. 32-------------------------------------------------------------------------------- Table of Contents Cost of Revenue: As a % of As a % of Segment Segment 2013 Net Revenue 2012 Net Revenue $ Change % Change (In thousands) Americas $ 253,084 94.3 % $ 246,727 98.7 % $ 6,357 2.6 % Asia 165,770 77.8 % 170,674 78.0 % (4,904 ) (2.9 %) Europe 230,388 97.1 % 200,015 94.7 % 30,373 15.2 % All Other 30,892 86.2 % 27,971 82.7 % 2,921 10.4 % Total $ 680,134 90.1 % $ 645,387 90.4 % $ 34,747 5.4 % Cost of revenue consists primarily of expenses related to the cost of materials purchased in connection with the provision of supply chain management services as well as costs for salaries and benefits, contract labor, consulting, fulfillment and shipping, and applicable facilities costs. Cost of revenue increased by $34.7 million for the fiscal year ended July 31, 2013, as compared to the fiscal year ended July 31, 2012, primarily due to higher order volume. Gross margins for fiscal year 2013 were 9.9% as compared to 9.6% in fiscal year 2012. For the fiscal year ended July 31, 2013, the Company's gross margin percentages within the Americas, Asia and Europe regions were 5.7%, 22.2% and 2.9%, as compared to 1.3%, 22.0% and 5.3%, respectively, for the same period of the prior year. The increase in gross margin within the Americas region is attributed to the favorable revenue mix and the impact of cost reduction programs at certain facilities. Gross margin within the Asia region was essentially unchanged compared to the prior year. Within the Europe region, the decrease in gross margin is primarily attributed to unfavorable revenue mix. Gross margins for All Other, which is comprised primarily of e-Business for the fiscal year ended July 31, 2013, were 13.8%, compared with 17.3% in the prior year period. This decrease resulted from a loss of higher gross margin business, replaced by lower gross margin business. Fluctuations in foreign currency exchange rates had an insignificant impact on gross margin for the fiscal year ended July 31, 2013. As a result of the lower overall cost of delivering the Company's services in the Asia region, particularly China, we expect gross margin levels in Asia to continue to exceed those earned in the Americas and Europe regions. However, we expect that there will continue to be pressure on gross margin levels in Asia as the market, particularly as China, matures. Selling, General and Administrative Expenses: As a % of As a % of Segment Segment 2013 Net Revenue 2012 Net Revenue $ Change % Change (In thousands) Americas $ 13,892 5.2 % $ 15,557 6.2 % $ (1,665 ) (10.7 %) Asia 21,925 10.3 % 26,110 11.9 % (4,185 ) (16.0 %) Europe 19,289 8.1 % 22,213 10.5 % (2,924 ) (13.2 %) All Other 2,765 7.7 % 3,738 11.1 % (973 ) (26.0 %) Sub-total 57,871 7.7 % 67,618 9.5 % (9,747 ) (14.4 %) Corporate-level activity 29,101 - 27,119 - 1,982 7.3 % Total $ 86,972 11.5 % $ 94,737 13.3 % $ (7,765 ) (8.2 %) Selling, general and administrative expenses consist primarily of compensation and employee-related costs, sales commissions and incentive plans, information technology expenses, travel expenses, facilities costs, consulting fees, fees for professional services, depreciation and marketing expenses. Selling, general and administrative expenses during the fiscal year ended July 31, 2013 decreased by $7.8 million compared to the 33-------------------------------------------------------------------------------- Table of Contents fiscal year ended July 31, 2012, primarily as a result of a $9.0 million decrease in expenses resulting from the Company's cost reduction activities. Within the Company's sales and marketing, IT, and human resource departments, expenses decreased by $4.6 million, $2.4 million, and $0.6 million, respectively. These decreases were partially offset by a $5.1 million increase in legal fees and other costs associated with the Company's Securities and Exchange Commission inquiry and stockholder litigation, to $7.8 million for the year ended July 31, 2013. Amortization of Intangible Assets: As a % of As a % of Segment Segment 2013 Net Revenue 2012 Net Revenue $ Change % Change (In thousands) Americas $ 150 0.1 % $ 150 0.1 % $ - - Asia - - - - - - Europe - - - - - - All Other 983 2.7 % 989 2.9 % (6 ) (0.6 %) Total $ 1,133 0.2 % $ 1,139 0.2 % $ (6 ) (0.5 %) The intangible asset amortization relates to certain amortizable intangible assets acquired by the Company in connection with its acquisition of ModusLink OCS and ModusLink PTS. Amortization expense was essentially flat as compared to the prior year period. The remaining intangible assets are being amortized over their remaining lives. Impairment of Goodwill and Long-Lived Assets: As a % of As a % of Segment Segment 2013 Net Revenue 2012 Net Revenue $ Change % Change (In thousands) Americas $ - - $ - - $ - - Asia - - - - - - Europe - - 1,128 0.5 % (1,128 ) (100.0 %) All Other - - - - - - Total $ - - $ 1,128 0.2 % $ (1,128 ) (100.0 %) The Company conducts its goodwill impairment test on July 31 of each fiscal year. In addition, if and when events or circumstances change that would reduce the fair value of any of its reporting units below its carrying value, an interim test would be performed. In making this assessment, the Company relies on a number of factors including operating results, business plans, economic projections, anticipated future cash flows, and transactions and marketplace data. There were no goodwill impairments for the years ended July 31, 2013 and 2012. During the third quarter of fiscal year 2012, indicators of potential impairment caused the Company to conduct an interim impairment test for the fixed assets of its facility in Kildare, Ireland. These indicators included declining revenue and increasingly adverse trends that resulted in further deterioration of current operating results and future prospects of the Kildare facility. These adverse trends included declines in sales volumes resulting from the loss of certain client programs, pricing pressure from existing clients, and the emergence and growth of new competitors for the services performed in Kildare. As a result of the impairment test, in connection with the preparation of the financial statements for the quarter ended April 30, 2012, the Company concluded that Kildare's fixed assets were impaired and recorded a $1.1 million non-cash impairment charge. This charge is reflected in "impairment of long-lived assets" in the 34 -------------------------------------------------------------------------------- Table of Contents Consolidated Statements of Operations. The fixed asset impairment charge for Kildare is deductible as depreciation for tax purposes over time. The impairment charge did not affect the Company's liquidity or cash flows. Restructuring, net: As a % of As a % of Segment Segment 2013 Net Revenue 2012 Net Revenue $ Change % Change (In thousands) Americas $ 1,594 0.6 % $ 1,615 0.6 % $ (21 ) (1.3 %) Asia 2,427 1.1 % 646 0.3 % 1,781 275.7 % Europe 9,636 4.1 % 3,680 1.7 % 5,956 161.8 % All Other 840 2.3 % 475 1.4 % 365 76.8 % Sub-total 14,497 1.9 % 6,416 0.9 % 8,081 126.0 % Corporate-level activity - - - - - - Total $ 14,497 1.9 % $ 6,416 0.9 % $ 8,081 126.0 % During the fiscal year ended July 31, 2013 the Company recorded a net restructuring charge of $14.5 million. Of this amount, $13.4 million primarily related to the workforce reduction of 465 employees across all operating segments, and $1.1 million related to contractual obligations related to a facility closure in Hungary. During the fiscal year ended July 31, 2012 the Company recorded a net restructuring charge of $6.4 million. Of this amount, $4.8 million primarily related to the workforce reduction of 270 employees in the Americas, Asia, and Europe, $1.6 million related to contractual obligations related to facility closure at the Raleigh facility. These restructuring charges are net of $0.3 million in reductions to initial estimates for recorded employee-related expenses and facilities lease obligations primarily based on changes in underlying assumptions. Interest Income/Expense: During the fiscal year ended July 31, 2013, interest income decreased to $0.3 million from $0.4 million during the fiscal year ended July 31, 2012. Interest expense totaled approximately $0.6 million and $0.4 million for the fiscal years ended July 31, 2013 and 2012, respectively. The increase in interest expense as compared to the prior year period relates to $0.2 million of amortization of deferred financing charges associated with the Company's new credit facility, which commenced on October 31, 2012. Interest expense of $0.4 million recorded in both periods related to the Company's stadium obligation. Other Gains (Losses), net: Other losses, net were $2.6 million for the fiscal year ended July 31, 2013. During the fiscal year ended July 31, 2013, the Company recorded foreign exchange losses of $2.1 million related to realized and unrealized losses from foreign currency exposures and settled transactions in Europe and Asia, as well as other losses in the Americas of $0.5 million. Other gains, net were $14.4 million for the fiscal year ended July 31, 2012. During the fiscal year ended July 31, 2012, the Company recorded gains from the derecognition of accrued pricing liabilities related to the releases of claims received from certain clients of $11.8 million and foreign exchange gains of $2.9 million related to realized and unrealized gains from foreign currency exposures and settled transactions in Europe and Asia, partially offset by net losses in the Americas. These gains were offset by other net losses of $0.3 million. 35 -------------------------------------------------------------------------------- Table of Contents Equity in Losses of Affiliates and Impairments: Equity in losses of affiliates and impairments results from the Company's minority ownership in certain investments that are accounted for under the equity method and impairments on its equity method and cost method investments. Under the equity method of accounting, the Company's proportionate share of each affiliate's operating income or losses is included in equity in losses of affiliates. Equity in losses of affiliates and impairments was $4.4 million and $4.1 million for the fiscal years ended July 31, 2013 and 2012, respectively. For the fiscal years ended July 31, 2013 and 2012, the Company recorded its proportionate share of the affiliates' losses of $1.6 million and $1.2 million, respectively. During the fiscal year ended July 31, 2013 and 2012, the Company also recorded impairment charges of $2.8 million and $2.9 million, respectively, on certain investments included in the @Ventures portfolio of companies. The Company assesses the need to record impairment losses on its investments and records such losses when the impairment of an investment is determined to be other than temporary in nature. The process of assessing whether a particular equity investment's net realizable value is less than its carrying cost requires a significant amount of judgment. In making this judgment, the Company carefully considers the investee's cash position, projected cash flows (both short and long-term), financing needs, recent financing rounds, most recent valuation data, the current investing environment, management/ownership changes and competition. The valuation process is based primarily on information that the Company requests from these privately held companies and is not subject to the same disclosure and audit requirements as the reports required of U.S. public companies. Estimating the net realizable value of investments in privately held early-stage technology companies is inherently subjective and has contributed to volatility in our reported results of operations in the past and may negatively impact our results of operations in the future. We may incur additional impairment charges to our investments in privately held companies, which could have an adverse impact on our future results of operations. A decline in the carrying value of our $8.0 million of investments in affiliates at July 31, 2013 ranging from 10% to 20%, respectively, would decrease our income from continuing operations by $0.8 million to $1.6 million. Income Tax Expense: During the fiscal year ended July 31, 2013, the Company recorded income tax expense of approximately $3.8 million compared to income tax expense of $3.0 million, for the prior fiscal year. For the fiscal years ended July 31, 2013 and 2012, the Company was profitable in certain jurisdictions where the Company operates, resulting in an income tax expense using the enacted tax rates in those jurisdictions. The Company provides for income tax expense related to federal, state, and foreign income taxes. For the fiscal year ended July 31, 2013, the Company's taxable income for certain foreign locations was offset by net operating loss carryovers from prior years, and the Company calculated a taxable loss in the U.S. For the fiscal year ended July 31, 2012, the Company's taxable income for certain foreign locations was offset by net operating loss carryovers from prior years, and the Company calculated a taxable loss in the U.S. The Company continues to maintain a full valuation allowance against its deferred tax asset in the U.S. and certain of its foreign subsidiaries due to the uncertainty of realizing such benefits. Discontinued Operations: During the fiscal years ended July 31, 2013 and 2012, the Company recorded losses from discontinued operations of $1.0 million and $10.5 million, respectively. As discussed further in Note 18 to the accompanying consolidated financial statements, on January 11, 2013, the Company's wholly-owned subsidiary, TFL, sold substantially all of its assets to Encore Holdings, LLC ("Encore"). The $9.5 million decrease in the loss from discontinued operations is primarily attributable to $9.5 million of reduced TFL operating losses and a $0.6 million gain on the sale of the TFL business. These increases were partially offset by an increase of $0.6 million related to losses associated with the Company's other discontinued operations, which relate to a 36-------------------------------------------------------------------------------- Table of Contents previously closed facility. During the prior year, the Company recorded $0.8 million related to the execution of a sublease of the Company's previously closed facility, which resulted in an adjustment to the Company's estimate of future minimum lease payments recoverable through sublease receipts. This adjustment, which did not recur in fiscal 2013, had the effect of increasing income from discontinued operations during fiscal 2012. Liquidity and Capital Resources Historically, the Company has financed its operations and met its capital requirements primarily through funds generated from operations, the sale of our securities and borrowings from lending institutions. As of July 31, 2014, the Company's primary sources of liquidity consisted of cash and cash equivalents of $183.5 million. As of July 31, 2014, the Company had approximately $26.5 million of cash and cash equivalents held outside of the U.S. Of this amount, approximately $10.9 million is considered permanently invested due to certain restrictions under local laws, and $15.6 million is not subject to permanent reinvestment. Due to the Company's U.S. net operating loss carryforward there is no U.S. tax payable upon repatriating the undistributed earnings of foreign subsidiaries considered not subject to permanent investment. Foreign withholding taxes would range from 0% to 10% on any repatriated funds. On October 31, 2012, the Company and certain of its domestic subsidiaries entered into a Credit Agreement (the "Credit Facility") with Wells Fargo Bank, National Association as lender and agent for the lenders party thereto (the "Lender"). The Credit Facility provided a senior secured revolving credit facility up to an initial aggregate principal amount of $50.0 million or the calculated borrowing base and was secured by substantially all of the domestic assets of the Company. Interest on the Credit Facility was based on the Company's options of LIBOR plus 2.5% or the base rate plus 1.5%. The Credit Facility included one restrictive financial covenant, which is minimum EBITDA, and restrictions that limited the ability of the Company, to among other things, create liens, incur additional indebtedness, make investments, or dispose of assets or property without prior approval from the lenders. On March 13, 2014, the Company entered into a Second Amendment to the Credit Facility, which amended the Credit Facility to modify certain provisions of the Credit Agreement that would have restricted or otherwise affected the issuance of the Notes and the use of proceeds therefrom, the conversion of the Notes into common stock of the Company, and the payment of interest on the Notes. On March 26, 2014, the Company entered into a Third Amendment to the Credit Facility, which provided a waiver from the Lender regarding certain intercompany transfers of funds. Effective as of April 16, 2014, the Company voluntarily terminated the Credit Facility. The Company did not have any outstanding indebtedness related to the Credit Facility as of July 31, 2014. On April 16, 2014, the Company and the Lender entered into a letter agreement and a related security agreement relating to the termination of the Credit Facility and ongoing obligations between the parties, pursuant to which Lender will temporarily support Company accounts and letters of credit, and the Company will provide cash collateral to the Lender and pay fees and expenses on the accounts and letters of credit. On June 30, 2014, two direct and wholly owned subsidiaries of the Company entered into a revolving credit and security agreement, as borrowers and guarantors, with PNC Bank and National Association, as lender and as agent, respectively. The Credit Agreement which has a five (5) year term, includes a maximum credit commitment of $50.0 million, is available for letters of credit (with a sublimit of $5.0 million) and has a $20.0 million uncommitted accordion feature. The actual maximum credit available under the Credit Agreement varies from time to time and is determined by calculating the applicable borrowing base, which is based upon applicable percentages of the values of eligible accounts receivable and eligible inventory minus reserves determined by the Agent (including other reserves that the Agent may establish from time to time in its permitted discretion), all as specified in the Credit Agreement. Amounts borrowed under the Credit Agreement are due and payable, together with all unpaid interest, fees and other obligations, on June 30, 2019. Generally, borrowings under the Credit Agreement bear interest at a rate per annum equal to, at the Borrowers' option, either (a) LIBOR (adjusted to reflect any required bank reserves) for an interest period equal to one, two or three months (as selected by the Borrowers) plus a margin of 2.25% per annum or (b) a base rate determined by reference to the highest of (1) the base commercial lending rate publicly announced from time to time by PNC Bank, National Association, (2) the sum of the Federal Funds Open Rate in effect on such day plus one half of one percent 37 -------------------------------------------------------------------------------- Table of Contents (0.5%) per annum, or (3) the LIBOR rate (adjusted to reflect any required bank reserves) in effect on such day plus 1.00% per annum. In addition to paying interest on outstanding principal under the Credit Agreement, the Borrowers are required to pay a commitment fee, in respect of the unutilized commitments thereunder, of 0.25% per annum, paid quarterly in arrears. The Borrowers are also required to pay a customary letter of credit fee equal to the applicable margin on revolving credit LIBOR loans and fronting fees. Obligations under the Credit Agreement are guaranteed by the Borrowers' existing and future direct and indirect wholly-owned domestic subsidiaries, subject to certain limited exceptions; and the Credit Agreement is secured by security interests in substantially all the Borrowers' assets and the assets of each subsidiary guarantor, whether owned as of the closing or thereafter acquired, including a pledge of 100.0% of the equity interests of each subsidiary guarantor that is a domestic entity (subject to certain limited exceptions) and 65.0% of the voting equity interests of any direct first tier foreign entity owned by either Borrower or by a subsidiary guarantor. The Company is not a borrower or a guarantor under the Credit Agreement. The Credit Agreement contains certain customary negative covenants, which include limitations on mergers and acquisitions, the sale of assets, liens, guarantees, investments, loans, capital expenditures, dividends, indebtedness, changes in the nature of business, transactions with affiliates, the creation of subsidiaries, changes in fiscal year and accounting practices, changes to governing documents, compliance with certain statutes, and prepayments of certain indebtedness. The Credit Agreement also contains certain customary affirmative covenants (including periodic reporting obligations) and events of default, including upon a change of control. The Credit Agreement requires compliance with certain financial covenants providing for maintenance of specified liquidity, maintenance of a minimum fixed charge coverage ratio and/or maintenance of a maximum leverage ratio following the occurrence of certain events and/or prior to taking certain actions, all as more fully described in the Credit Agreement. The Company believes that the Credit Agreement provides greater financial flexibility to the Company and the Borrowers and may enhance their ability to consummate one or several larger and/or more attractive acquisitions and should provide our clients and/or potential clients with greater confidence in the Company's and the Borrowers' liquidity. As of July 31, 2014, the Company had $4.5 million outstanding on the PNC Bank credit facility which is included in other current liabilities on the consolidated balance sheet. Consolidated working capital of the Company was $207.2 million at July 31, 2014, compared with $114.7 million at July 31, 2013. Included in working capital were cash and cash equivalents of $183.5 million at July 31, 2014 and $77.9 million at July 31, 2013. The increase in working capital is primarily due to the Company's issuance of $100 million of 5.25% Convertible Senior Notes during the third quarter of fiscal year 2014. Net cash provided by operating activities of continuing operations was $10.1 million for the fiscal year ended July 31, 2014, as compared to $8.0 million in the prior year. The $2.2 million increase in net cash provided by operating activities of continuing operations as compared with the prior year was due to decreased working capital requirements and significant improvement in net loss in the current period. During the fiscal year ended July 31, 2014, non-cash items within net cash provided by operating activities included depreciation expense of $13.2 million, share-based compensation of $2.3 million, amortization of intangible assets of $1.1 million, impairment of long-lived assets of $0.5 million, amortization of deferred financing costs of $1.3 million, accretion of debt discount of $1.5 million, non-operating losses, net, of $0.1 million and equity in losses of affiliates and impairments of $1.6 million. During the fiscal year ended July 31, 2013, non-cash items within net cash provided by operating activities included depreciation expense of $14.1 million, share-based compensation of $2.3 million, amortization of intangible assets of $1.1 million, non-operating losses, net, of $2.6 million and equity in losses of affiliates and impairments of $4.4 million. The Company believes that its cash flows related to operating activities of continuing operations are dependent on several factors, including profitability, accounts receivable collections, effective inventory management practices, and optimization of the credit terms of certain vendors of the Company. Our cash flows from operations are also dependent on several factors including the overall performance of the technology sector and the market for outsourcing services. 38 -------------------------------------------------------------------------------- Table of Contents Investing activities of continuing operations used cash of $5.6 million and $7.4 million during the fiscal year ended July 31, 2014 and 2013, respectively. The $5.6 million of cash used in investing activities during the fiscal year ended July 31, 2014 was comprised of $4.5 million in capital expenditures, $0.8 million of investments in affiliates and $$0.4 million of investments in trading securities. The $7.4 million of cash used in investing activities during the fiscal year ended July 31, 2013 was primarily comprised of $7.3 million in capital expenditures and $1.7 million of investments in affiliates, partially offset by $1.3 million of proceeds received from the sale of TFL's assets. Non-cash investing activities during the fiscal year ended July 31, 2014 included unsettled trades associated with the acquisition of $12.9 million in 4.0625% convertible debentures of a publicly traded entity and $9.4 million in common stock of a publicly traded entity. As of July 31, 2014, liabilities associated with the payment of these trades are classified under other current liabilities on our balance sheet. Subsequent to July 31, 2014 the Company continued its investing activities and acquired additional 4.0625% convertible debentures of a publicly traded entity and acquired additional common stock of a publicly traded entity. As of the date of the filing of this Form 10-K the Company had acquired 4.0625% convertible debentures for a cost basis of $34.0 million and common stock at a cost basis of $35.5 million. Cash flows from financing activities of continuing operations during the fiscal year ended July 31, 2014 primarily related to the proceeds of $100 million from issuance of convertible notes, net of transaction costs of $3.4 million and proceeds from revolving line of credit. Cash flows from financing activities of continuing operations during the fiscal year ended July 31, 2013 primarily related to the net proceeds of $27.7 million from issuance of the Company's common stock to Steel Partners Holding, L.P. Cash used in discontinued operations totaled $0.3 million and $1.6 million for the fiscal year ended July 31, 2014 and 2013, respectively. The Company believes it has access to adequate resources to meet its needs for normal operating costs, capital expenditures, mandatory debt redemptions and working capital for its existing business for at least the next twelve months. These resources include cash and cash equivalents including cash proceeds from the issuance of convertible notes discussed above and cash provided by operating activities. The Company's ability to fund planned capital expenditures and to make acquisitions will depend upon its future operating performance, which will be affected by prevailing economic conditions in the markets in which it operates, as well as financial, business and other factors, some of which are beyond its control. Management is utilizing the following strategies to continue to enhance liquidity: (1) continuing to implement improvements throughout all of the Company's operations to increase sales and operating efficiencies, (2) supporting profitable revenue growth both internally and potentially through acquisitions and (3) evaluating from time to time and as appropriate, strategic alternatives with respect to its businesses and/or assets and capital raising opportunities. The Company continues to examine all of its options and strategies, including acquisitions, divestitures and other corporate transactions, to increase cash flow and stockholder value. Off-Balance Sheet Financing Arrangements The Company does not have any off-balance sheet financing arrangements. 39-------------------------------------------------------------------------------- Table of Contents Contractual Obligations The Company leases facilities and certain other machinery and equipment under various non-cancelable operating leases and executory contracts expiring through December 2021. Certain non-cancelable leases are classified as capital leases and the leased assets are included in property, plant and equipment, at cost. Such leasing arrangements involve buildings and machinery and equipment as discussed in Note 10 in the consolidated financial statements in Item 8. Convertible Capital Notes Operating Stadium Lease Purchase Interest & Leases Obligation Obligations Obligations Principal TotalFor the fiscal years ended July 31: 2015 17,702 1,600 168 44,564 5,002 69,036 2016 13,297 - 167 - 5,250 18,714 2017 7,719 - 204 - 5,250 13,173 2018 4,947 - - - 5,250 10,197 2019 3,536 - - - 105,250 108,786 Thereafter 7,514 - - - - 7,514 54,715 1,600 539 44,564 126,002 227,420 Purchase obligations represent an estimate of all open purchase orders and contractual obligations in the ordinary course of business for which the Company has not received the goods or services. Although open purchase orders are considered enforceable and legally binding, the terms generally allow us the option to cancel, reschedule, and adjust our requirements based on our business needs prior to the delivery of goods or performance of services. Future minimum payments, including previously recorded restructuring obligations, as of July 31, 2014 are as follows: (1) These Contractual Obligations do not include any reserves for income taxes. Because we are unable to reasonably predict the ultimate amount or timing of settlement of our reserves for income taxes, the Contractual Obligations and Other Commitments table does not include our reserves for income taxes. As of July 31, 2014, our reserves for income taxes totaled approximately $1.1 million. The table above excludes obligations related to the Company's defined benefit pension plans. See Note 11 of the accompanying consolidated financial statements for a summary of our expected contributions and benefit payments for these plans. Total rent and equipment lease expense charged to continuing operations was $21.3 million , $25.2 million and $26.5 million for the fiscal years ended July 31, 2014, 2013, and 2012, respectively. In August 2000, the Company announced it had acquired the exclusive naming and sponsorship rights to the New England Patriots' new stadium, for a period of fifteen years. In August 2002, the Company finalized an agreement with the owner of the stadium to amend the sponsorship agreement. Under the terms of the amended agreement, the Company relinquished the stadium naming rights and remains obligated for a series of annual payments of $1.6 million per year through 2015. From time to time, the Company agrees to provide indemnification to its clients in the ordinary course of business. Typically, the Company agrees to indemnify its clients for losses caused by the Company. As of July 31, 2014, the Company had no recorded liabilities with respect to these arrangements. 40-------------------------------------------------------------------------------- Table of Contents Critical Accounting Policies The discussion and analysis of our financial condition and results of operations are based on our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the U.S. The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenue and expenses during the reporting period. On an ongoing basis, we evaluate our estimates, including those related to revenue recognition, inventory, restructuring, share-based compensation expense, goodwill and long-lived assets, investments, and income taxes. Of the accounting estimates we routinely make relating to our critical accounting policies, those estimates made in the process of: determining the valuation of inventory and related reserves; determining future lease assumptions related to restructured facility lease obligations; measuring share-based compensation expense; determining projected and discounted cash flows for purposes of evaluating goodwill and intangible assets for impairment; preparing investment valuations; and establishing income tax valuation allowances and liabilities are the estimates most likely to have a material impact on our financial position and results of operations. The Company bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. However, because these estimates inherently involve judgments and uncertainties, there can be no assurance that actual results will not differ materially from those estimates. The Company has identified the accounting policies below as the policies most critical to its business operations and the understanding of our results of operations. The impact and any associated risks related to these policies on our business operations is discussed throughout Management's Discussion and Analysis of Financial Condition and Results of Operations where such policies affect our reported and expected financial results. Our critical accounting policies are as follows: • Revenue recognition • Inventory valuation • Restructuring expenses • Share-based compensation expense • Accounting for impairment of long-lived assets, goodwill and other intangible assets • Investments • Income taxes Revenue Recognition The Company's revenue primarily comes from the sale of supply chain management services to our clients. Amounts billed to clients under these arrangements include revenue attributable to the services performed as well as for materials procured on our clients' behalf as part of our service to them. Other sources of revenue include the sale of products and other services. Revenue is recognized for services when the services are performed and for product sales when the products are shipped assuming all other applicable revenue recognition criteria are met. The Company recognizes revenue when persuasive evidence of an arrangement exists, title and risk of loss have passed or services have been rendered, the sales price is fixed or determinable and collection of the related receivable is reasonably assured in accordance with the provisions under the Accounting Standards Codification ("ASC") Topic 605, "Revenue Recognition" ("ASC Topic 605"). The Company's shipping terms vary by client and can include FOB shipping point, which means that risk of loss passes to the client when it is shipped from the Company's location, as well as other terms such as ex-works, meaning that title and risk of loss transfer upon delivery of product to the customer's designated carrier. The Company also evaluates the terms of each major 41-------------------------------------------------------------------------------- Table of Contents client contract relative to a number of criteria that management considers in making its determination with respect to gross versus net reporting of revenue for transactions with its clients. Management's criteria for making these judgments place particular emphasis on determining the primary obligor in a transaction and which party bears general inventory risk. The Company records all shipping and handling fees billed to clients as revenue, and related costs as cost of sales, when incurred, in accordance with ASC Topic 605. Inventory Valuation We value the inventory at the lower of cost or market. We continuously monitor inventory balances and record inventory provisions for any excess of the cost of the inventory over its estimated market value. We also monitor inventory balances for obsolescence and excess quantities as compared to projected demands. Our inventory methodology is based on assumptions about average shelf life of inventory, forecasted volumes, forecasted selling prices, write-down history of inventory and market conditions. While such assumptions may change from period to period, in determining the net realizable value of our inventories, we use the best information available as of the balance sheet date. If actual market conditions are less favorable than those projected, or we experience a higher incidence of inventory obsolescence because of rapidly changing technology and client requirements, additional inventory provisions may be required. Once established, write-downs of inventory are considered permanent adjustments to the cost basis of inventory and cannot be reversed due to subsequent increases in demand forecasts. Restructuring Expenses The Company follows the provisions of ASC Topic 420, "Exit or Disposal Cost Obligations", which addresses financial accounting and reporting for costs associated with exit or disposal activities. The statement requires companies to recognize costs associated with exit or disposal activities when they are incurred rather than at the date of a commitment to an exit or disposal plan. The Company records liabilities that primarily include estimated severance and other costs related to employee benefits and certain estimated costs to exit equipment and facility lease obligations and other service contracts and also costs for leases with no future economic benefit. As of July 31, 2014, the Company's accrued restructuring balance totaled $2.3 million, of which remaining contractual obligations represented $0.6 million. These contractual obligations principally represent future obligations under non-cancelable real estate leases. Restructuring estimates relating to real estate leases involve consideration of a number of factors including: potential sublet rental rates, estimated vacancy period for the property, brokerage commissions and certain other costs. Estimates relating to potential sublet rates and expected vacancy periods are most likely to have a material impact on the Company's results of operations in the event that actual amounts differ significantly from estimates. These estimates involve judgment and uncertainties, and the settlement of these liabilities could differ materially from recorded amounts. As such, in the course of making such estimates management often uses third party real estate advisors to assist management in its assessment of the marketplace for purposes of estimating sublet rates and vacancy periods. A 10%-20% unfavorable settlement of our remaining restructuring liabilities, as compared to our current estimates, would decrease our income from continuing operations by approximately $0.2 million to $0.5 million. Share-Based Compensation Expense The Company recognizes share-based compensation in accordance with the provisions of ASC Topic 718, "Compensation-Stock Compensation" ("ASC Topic 718") which requires the measurement and recognition of compensation expense for all share-based payment awards made to employees and directors including employee stock options and employee stock purchases based on estimated fair values. ASC Topic 718 requires companies to estimate the fair value of share-based payment awards on the date of grant. The value of the portion of the award that is ultimately expected to vest is recognized as expense over the requisite service periods in the Company's Consolidated Statements of Operations. 42-------------------------------------------------------------------------------- Table of Contents ASC Topic 718 requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. The Company estimates its forfeiture rate based on a historical analysis of share-based payment award forfeitures. If actual forfeitures should vary from estimated forfeitures, adjustments to share-based compensation expense may be required. The Company uses the binomial-lattice option-pricing model ("binomial-lattice model") for valuation of share-based awards with time-based vesting. The Company believes that the binomial-lattice model is an accurate model for valuing employee stock options since it reflects the impact of stock price changes on option exercise behavior. For share-based awards based on market conditions, specifically, the Company's stock price, the compensation cost and derived service periods are estimated using the Monte Carlo valuation method. The Company uses third party analyses to assist in developing the assumptions used in its binomial-lattice model and Monte Carlo valuations and the resulting fair value used to record compensation expense. The Company's determination of fair value of stock options on the date of grant using an option-pricing model is affected by the Company's stock price as well as assumptions regarding a number of highly complex and subjective variables. These variables include, but are not limited to the Company's expected stock price volatility over the term of the awards, and actual and projected employee stock option exercise behaviors. Any significant changes in these assumptions may materially affect the estimated fair value of the share-based award. Accounting for Impairment of Long-Lived Assets, Goodwill and Other Intangible Assets The Company follows ASC Topic 360, "Property, Plant, and Equipment" ("ASC Topic 360"). Under ASC Topic 360, the Company tests certain long-lived assets or group of assets for recoverability whenever events or changes in circumstances indicate that the Company may not be able to recover the asset's carrying amount. ASC Topic 360 defines impairment as the condition that exists when the carrying amount of a long-lived asset or group, including property and equipment and other intangible assets, exceeds its fair value. The Company evaluates recoverability by determining whether the undiscounted cash flows expected to result from the use and eventual disposition of that asset or group cover the carrying value at the evaluation date. If the undiscounted cash flows are not sufficient to cover the carrying value, the Company measures an impairment loss as the excess of the carrying amount of the long-lived asset or group over its fair value. Management may use third party valuation experts to assist in its determination of fair value. As of July 31, 2014, $3.9 million, $7.6 million, $11.3 million, and $5.3 million of the Company's long-lived assets related to the Americas, Asia, Europe, and e-Business reporting units, respectively, consisting primarily of property and equipment, and to a lesser extent intangible assets, either specifically identifiable to or allocated to the segments. The Company is required to test goodwill for impairment annually or if a triggering event occurs in accordance with the provisions of ASC Topic 350, "Goodwill and Other" ("ASC Topic 350"). As of July 31, 2014, the $3.1 million recorded for goodwill relates to the e-Business reporting unit. The Company's policy is to perform its annual impairment testing for its reporting units on July 31, of each fiscal year. The Income Approach indicates the fair value of an asset based on the present value of the cash flows that the asset can be expected to generate in the future. Specifically, the Discounted Cash Flow ("DCF") Method was relied upon in the valuation of the net assets of the e-Business reporting unit. As a result of the analyses performed during fiscal year 2014, the Company concluded that the fair value of the net assets exceeded the carrying value of the net assets by a percentage greater than 50%. As a result, the Company concluded that there was no impairment of the Company's goodwill. Any significant changes in the forecasted cash flows used may materially affect the estimated fair value of the net assets. During the third quarter of fiscal year 2012, indicators of potential impairment caused the Company to conduct an interim impairment test for the fixed assets of its facility in Kildare, Ireland. These indicators included declining revenue and increasingly adverse trends that resulted in further deterioration of current operating results and future prospects of the Kildare facility. These adverse trends included declines in sales volumes resulting from the loss of certain client programs, pricing pressure from existing clients, and the emergence and growth of new competitors for the services performed in Kildare. As a result of the impairment 43 -------------------------------------------------------------------------------- Table of Contents test, in connection with the preparation of the financial statements for the quarter ended April 30, 2012, the Company concluded that Kildare's fixed assets were impaired and recorded a $1.1 million non-cash impairment charge. This charge is reflected in "impairment of long-lived assets" in the Consolidated Statements of Operations for the fiscal year ended July 31, 2012. The fixed asset impairment charge for Kildare is deductible as depreciation for tax purposes over time. The impairment charge did not affect the Company's liquidity or cash flows. During the second quarter of fiscal year 2014, the Company determined that the carrying value of Kildare facility was not fully recoverable from future cash flows. The Company recorded an impairment charge of $0.5 million to adjust the carrying value to its estimated fair value. During the second quarter of fiscal year 2011, indicators of potential impairment caused the Company to conduct an interim impairment test as of January 31, 2011. As a result of our interim impairment analysis and in connection with the preparation of our quarterly financial statements for the quarter ended January 31, 2011, the Company recorded a $7.1 million non-cash impairment charge for ModusLink PTS. The Company also determined that intangible assets were impaired and recorded a non-cash intangible asset impairment charge of $8.8 million for ModusLink PTS due to low operating margins and low projected future growth. Investments The Company maintains interests in several privately held companies primarily through its various venture capital funds. The Company's venture capital investment portfolio, @Ventures, invests in early-stage technology companies. These investments are generally made in connection with a round of financing with other third-party investors. Investments in which the Company's interest is less than 20% and which are not classified as available-for-sale securities are carried at the lower of cost or net realizable value unless it is determined that the Company exercises significant influence over the investee company, in which case the equity method of accounting is used. For those investments in which the Company's voting interest is between 20% and 50%, the equity method of accounting is generally used. Under this method, the investment balance, originally recorded at cost, is adjusted to recognize the Company's share of net earnings or losses of the investee company as they occur, limited to the extent of the Company's investment in, advances to and commitments for the investee. The Company's share of net earnings or losses of the investee are reflected in "Equity in income (losses) of affiliates and impairments" in the Company's Consolidated Statements of Operations. The Company assesses the need to record impairment losses on its investments and records such losses when the impairment of an investment is determined to be other than temporary in nature. The process of assessing whether a particular investment's net realizable value is less than its carrying cost requires a significant amount of judgment. This valuation process is based primarily on information that the Company requests from these privately held companies who are not subject to the same disclosure and audit requirements as the reports required of U.S. public companies. As such, the reliability and accuracy of the data may vary. Based on the Company's evaluation, it recorded impairment charges related to its investments in privately held companies of $1.4 million, $2.8 million, and $2.9 million for fiscal years ended July 31, 2014, 2013, and 2012, respectively. These impairment losses are reflected in "Impairment of investments in affiliates" in the Company's Consolidated Statements of Operations. Estimating the net realizable value of investments in privately held early-stage technology companies is inherently subjective and has contributed to significant volatility in our reported results of operations in the past and it may negatively impact our results of operations in the future. We may incur additional impairment charges to our investments in privately held companies, which could have an adverse impact on our future results of operations. A decline in the carrying value of our $7.2 million of investments in affiliates at July 31, 2014 ranging from 10% to 20%, respectively, would decrease our income from continuing operations by approximately $0.7 million to $1.4 million. At the time an equity method investee issues its stock to unrelated parties, the Company accounts for that share issuance as if the Company has sold a proportionate share of its investment. The Company records any gain 44-------------------------------------------------------------------------------- Table of Contents or loss resulting from an equity method investee's share issuance in its Consolidated Statements of Operations. During fiscal years ended July 31, 2014, 2013, and 2012, no such gains or losses had been recorded related to any @Ventures investments. Income Taxes Income taxes are accounted for under the provisions of ASC Topic 740, "Income Taxes" ("ASC Topic 740") using the asset and liability method whereby deferred tax assets and liabilities are recognized for the estimated future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates in effect for the year in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. Deferred tax assets must be reduced by a valuation allowance, if based on the weight of available evidence it is more likely than not that some portion or all of the recorded deferred tax assets will not be realized in future periods. This methodology is subjective and requires significant estimates and judgments in the determination of the recoverability of deferred tax assets and in the calculation of certain tax liabilities. At July 31, 2014, 2013 and 2012, a valuation allowance has been recorded against the deferred tax asset in the U.S. and certain of its foreign subsidiaries since management believes that after considering all the available objective evidence, both positive and negative, historical and prospective, with greater weight given to historical evidence, it is more likely than not that these assets will not be realized. In each reporting period, we evaluate the adequacy of our valuation allowance on our deferred tax assets. In the future, if the Company is able to demonstrate a consistent trend of pre-tax income, then at that time management may reduce its valuation allowance, accordingly. The Company's federal, state and foreign net operating loss carryforwards at July 31, 2014 totaled approximately $2.0 billion, $451.9 million and $60.1 million, respectively. A 5% reduction in the Company's current valuation allowance on these federal and state net operating loss carryforwards would result in an income tax benefit of approximately $38.2 million. In addition, the calculation of the Company's tax liabilities involves dealing with uncertainties in the application of complex tax regulations in several tax jurisdictions. The Company is periodically reviewed by domestic and foreign tax authorities regarding the amount of taxes due. These reviews include questions regarding the timing and amount of deductions and the allocation of income among various tax jurisdictions. In evaluating the exposure associated with various filing positions, we record estimated reserves for exposures. Based on our evaluation of current tax positions, the Company believes it has appropriately accrued $1.0 million for exposures as of July 31, 2014. Recent Accounting Pronouncements In February 2013, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2013-02, "Reporting Amounts Reclassified Out of Accumulated Other Comprehensive Income," which amends Accounting Standards Codification ("ASC") 220, "Comprehensive Income." The amended guidance requires entities to provide information about the amounts reclassified out of accumulated other comprehensive income by component. Additionally, entities are required to present, either on the face of the financial statements or in the notes, significant amounts reclassified out of accumulated other comprehensive income by the respective line items of net income. The amended guidance does not change the current requirements for reporting net income or other comprehensive income. The amendment is effective prospectively for annual periods, and interim periods within those annual periods, beginning after December 15, 2012. The Company's adoption of this new guidance did not have a material impact on the Company's financial statements as these updates have an impact on presentation only. In July 2013, the Financial Accounting Standards Board ("FASB") issued ASU 2013-11, "Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Exists", amending the guidance on the financial statement presentation of an unrecognized tax benefit when a net 45 -------------------------------------------------------------------------------- Table of Contents operating loss carryforward, similar tax loss, or tax credit carryforward exists. The guidance requires an unrecognized tax benefit, or a portion of an unrecognized tax benefit, to be presented as a reduction of a deferred tax asset when a net operating loss carryforward, similar tax loss, or tax credit carryforward exists, with certain exceptions. This accounting guidance is effective prospectively starting with our first quarter of fiscal year 2015, and is related to presentation only. Its adoption will not have a material impact on our consolidated results of operations, financial position or cash flows. In April 2014, the FASB issued ASU No. 2014-08, Reporting disclosures of Disposals of Components of an Entity, which amends ASC 205, Presentation of Financial Statements, and ASC 360, Property, Plant and Equipment. This ASU defines a discontinued operation as a component or group of components that is disposed of or meets the criteria as held for sale and represents a strategic shift that has or will have a major effect on an entity's operations and financial results. This ASU requires additional disclosures about discontinued operations and new disclosures for components of an entity that are held for sale or disposed of and are individually significant but do not qualify for presentation as a discontinued operation. The adoption will not have a material effect on the Company's consolidated financial statements. In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606), which supersedes the revenue recognition requirements in ASC 605, Revenue Recognition. This ASU is based on the principle that revenue is recognized to depict the transfer of goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The ASU also requires additional disclosure about the nature, amount, timing and uncertainty of revenue and cash flows arising from customer contracts, including significant judgments and changes in judgments and assets recognized from costs incurred to obtain or fulfill a contract. The effective date will be the first quarter of fiscal year 2018 using one of two retrospective application methods. The Company has not determined the potential effects on the consolidated financial statements. |