Dear Shareholders,

Without a doubt, fiscal 2009 presented us with a very challenging worldwide economic landscape. As an export-oriented manufacturing company, Deswell was not immune from the effects of the global downturn. Besides having to deal with a difficult economy, we also found ourselves once again facing increased competition and higher costs in China. All these factors dampened our growth and had a negative impact on our margins.

Net sales for the year ended March 31, 2009 amounted to $131.7 million, an 8.4% decrease from the $143.8 million achieved in fiscal 2008. Our plastics segment reported a 24.8% increase in sales, mainly due to larger orders from existing customers for the plastic components of electronic entertainment products, especially video games. This was however offset by a 31.3% decrease in sales revenue from our electronics and metals segment. That decrease was the result of a number of factors such as the general economic slowdown, pressure from competitors selling lower-priced products, and a change in our product mix from low-end to high-end products, which sell in lower volumes.

Despite this fall, it is important to remember that over the past ten years our electronics division has built a considerable reputation as a leading assembler of high-end audio equipment. We now count among our customers some of the most respected companies in the audio equipment industry, including DigiDesign and Peavey. Our ability to meet their demanding quality standards and provide state-of-the art audio equipment has enabled us to partner with these industry leaders as they have grown over the years. These relationships remain strong despite the temporary downturn in the professional audio equipment industry which, like many others, was hit by the worldwide economic slowdown in late 2008 and 2009. We look forward to continuing to work closely with these companies as the audio equipment sector rebounds.

Gross profit for the year ended March 31, 2009 was approximately $20.2 million, representing a gross profit margin of 15.3%. This was a decline from fiscal 2008, when we achieved a gross profit of $26.4 million and a gross profit margin of 18.4%. Our gross profit margin in the plastics segment was 17.6% in fiscal 2009, compared to 25.6% in fiscal 2008. This decrease was driven by higher raw materials costs, notably a 10% rise in resin prices. It was also affected by an approximate 9% appreciation in the Chinese renminbi against the US dollar, and a 17% increase in labor costs over the previous year. Our electronics and metallics segment also experienced a slight decline in gross profit to $7.2 million (gross profit margin: 12.4%) in fiscal 2009, compared to $11.4 million (13.4%) in fiscal 2008. This segment had to deal with the same currency and labor cost factors as the plastics division, while also absorbing a one-off inventory write-down of $1.6 million in the third quarter of 2009.

We reported earnings in fiscal 2009 of $1.20 million, or $0.08 per share, a decline from $8.86 million or $0.57 per share for fiscal 2008. While it is always disappointing to report a decrease in net income, we are pleased that we have been able to remain profitable in the face of the global economic downturn. We remain focused on keeping costs under control, and will continue to monitor our overheads and expenses closely to make sure our operations remain as cost-effective as possible. Given the scale of the challenges that arose in 2009, I am proud of the way we have managed to keep our selling, general and administrative costs (SG&A) down and so maximize profitability for shareholders. At 14.6% of sales, our SG&A was essentially flat compared to last year; we remain very committed to keeping these costs as low as possible.

Our solid balance sheet continues to be a competitive advantage. As of March 31, 2009 we had working capital of $51 million, cash and cash equivalents of $23 million, and no long-term debt. Net cash provided by operating activities was $11.7 million. Amongst our planned initiatives for future growth, we intend to continue focusing on producing the high-end products that our customers demand, while also working to further diversify our customer base and expand our sales and marketing efforts. All the while, we will be looking at new ways to cut costs.

On a solemn note, I am sad to report that one of the founders of our electronics subsidiary, Mr. Tam Man Chi, passed away on February 23, 2009. We are very grateful for the many years of service Mr. Tam gave to Deswell, and we will miss his wide knowledge, firm leadership, and his warm friendship.

Although fiscal 2009 was a particularly challenging year, there have been signs recently that the downturn is slowing. From conversations and visits I have had with many of our major customers, and in the light of a good number of new projects we now have on hand, a more positive outlook seems justified. We believe that Deswell has the ability to weather the worldwide economic downturn and emerge stronger than many of its competitors, and will remain financially robust. I would like to thank all our shareholders for their continued support and patience, and I look forward to sharing a successful fiscal 2010 with them.

Sincerely,

Franki S.F. Tse
Chief Executive Officer

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