YEAR ENDED MARCH 31, 2011 (FISCAL 2011) COMPARED TO YEAR ENDED MARCH 31, 2010 (FISCAL 2010)
Net Sales
The Company’s net sales for the year ended March 31, 2011 were $84,022,000, an increase of $2,408,000 or 3.0% as compared to fiscal 2010. The increase was related to an increase in sales revenue of $6,644,000, or 19.2%, from our electronic & metallic segment, offsetting the decrease in sales revenue at our plastic segment of $4,236,000, or 9.0%, as compared with respective net sales from these segments in fiscal 2010.
The decrease in sales from the plastic segment was mainly due to a change in product and customer mix stemming from
a reduction of $9,976,000 in orders for plastic components used for electronic entertainment products from N&J Company Limited, the Company’s largest customer in fiscal 2010, both in the plastic segments and as a whole, accounting for 33.3% of plastic segment sales and 19.2% of total sales during the year ended March 31, 2010. This reduction in the plastics segment, which reduced sales to N&J to less than 10% of total sales during fiscal 2011, was partially offset by an increase of $5,894,000 in sales to other customers of plastic components used for telephone and automotive products.
The increase in sales in the electronic & metallic segment was primarily attributable to an increase of $12,776,000 in orders for professional audio instrument products from existing and new customers, offsetting a decrease of $6,132,000 in orders for professional audio and telecommunication products from Digidesign, Inc. the Company’s largest customer in the electronic & metallic segment and second largest customer as a whole during fiscal 2010, accounting for 25.7% of sales in the electronic & metallic segment sales and 10.8% of total sales during the year ended March 31, 2010. The increase in sales in the electronic & metallic segment resulted from the combined effect of orders from new customers and increased orders for new product models from existing customers.
The adverse effect on our operating results from decreases in sales during fiscal 2011 to our two largest customers during fiscal 2010 illustrates our historical dependence on a few major customers and that a substantial decrease in sales from any of our larger customers adversely impacts our financial performance. See the discussion “Historically we have been dependent on a few major customers that accounted for a substantial percentage of our sales. The significant decrease in orders from major customers materially and adversely affected our results of operations in our year ended March 31, 2011. Our sales will continue to decline and our financial results will suffer further if our major customer during fiscal 2011 ceases, or substantially reduces, its orders unless we can increase sales to new or existing customers.
Gross Profit
Gross profit for the year ended March 31, 2011 was $9,548,000, representing a gross profit margin of 11.4%. This compared with the overall gross profit and gross profit margin of $12,656,000 or 15.5% for the year ended March 31, 2010.
Gross profit in the plastic segment decreased by $4,013,000, to $5,831,000, or 13.6% of net sales for the year ended March 31, 2011, as compared to $9,844,000, or 20.9% of net sales, for fiscal 2010. The decrease in gross margin for the plastic segment was principally associated with increased labor cost related to regulatory increases in the minimum wage rates of factory workers and higher overtime allowances, offsetting a decrease in material costs as a percentage of net sales, when compared with fiscal 2010.
Gross profit in the electronic & metallic segment was $3,717,000, or 9.0% of net sales, for the year ended March 31, 2011, as compared to $2,813,000, or 8.1% of net sales, for fiscal 2010. The increase in gross margin was mainly attributed to an increase in sales volume of higher margin items and decrease in factory overhead expenses, offsetting the increase in labor costs as a result of regulatory increases in the minimum wage rates of factory workers and increases in overtime allowances and average number of workers, as compared with fiscal 2010.
Selling, general and administrative expenses
SG&A expenses for the year ended March 31, 2011 were $13,941,000, or 16.6% of total net sales, as compared to $15,505,000, or 19.0% of total net sales for the year ended March 31, 2010. SG&A expenses decreased by $1,564,000, or 10.1% in fiscal 2011, as compared to those expenses in fiscal 2010.
SG&A expenses in the plastic segment decreased by $1,604,000, to $8,980,000, or 21.0% of net sales, for the year ended March 31, 2011, compared to $10,584,000, or 22.5% of net sales, for fiscal 2010. The decrease was primarily related to decreases of $833,000 in staff housing and other costs associated with the headcount reduction in fiscal 2011, $352,000 in government license and registration fees, $87,000 in stock compensation expenses and $424,000 in depreciation, offsetting an increase of $246,000 in compensation to executives in this segment and $115,000 in selling expenses, as compared to fiscal 2010.
SG&A expenses in the electronic and metallic segment increased by $40,000, to $4,961,000, or 12.1% of net sales, for the year ended March 31, 2011, compared to $4,921,000, or 14.2% of net sales, for the fiscal 2010. The increase was primarily related to increases of $79,000 in selling expense and $99,000 in staff costs, offsetting decreases of $64,000 in compensation to executives in this segment, $38,000 in stock compensation expenses and $104,000 in government license and registration fees, as compared with the fiscal 2010.
Other operating expense
Other operating expense was $4,435,000 for the year ended March 31, 2011, as compared to other operating income of $4,594,000 in the prior fiscal year.
On a segment basis, other operating expense attributable to the plastic segment for the year ended March 31, 2011 was $4,498,000, as compared to other operating income of $4,250,000 for fiscal 2010. The other operating loss was mainly due to an exchange loss of $263,000, provisions of $229,000 for doubtful receivables and $4,474,000 of charges for impairment of property, plant and equipment fixed assets during the year ended March 31, 2011, as compared to a net gain of $4,198,000, included in other operating income for fiscal 2010, realized from the sale of the former plastic injection manufacturing plant in Shekou, Shenzhen, China, offset by a provision for doubtful receivables of $71,000 and an exchange loss of $87,000 during fiscal 2010.
Other operating income attributable to the electronic & metallic segment for the year ended March 31, 2011 was $63,000, as compared with other operating income of $344,000 for fiscal 2010. The decrease in other operating income was principally because of increases of $152,000 in exchange loss and $147,000 in provision for doubtful receivables, as compared with fiscal 2010.
Operating Loss
Operating loss was $8,828,000 for the year ended March 31, 2011, which compares to operating income of $1,745,000 for fiscal 2010.
On a segment basis, the operating loss of the plastic segment was $7,647,000, or a negative 17.9% of net sales, in the year ended March 31, 2011, as compared to operating income of $3,509,000, or 7.4% of net sales in fiscal 2010. The decrease in operating income in the plastic segment primarily resulted from the decrease in gross margin caused by higher labor costs and decrease in other operating income as described above.
The electronic and metallic segment reported an operating loss of $1,182,000, or a negative 2.9% of net sales, in the year ended March 31, 2011, compared to an operating loss of $1,764,000, or a negative 5.1% of net sales in fiscal 2010. The decrease in operating loss was because of the net effect of the increase in gross margin and the decrease in SG&A expenses as described above.
Non-operating income
Non-operating income for the year ended March 31, 2011 increased by $652,000 to $1,096,000 as compared with the prior
fiscal year. This is mainly accounted for by an increase of $652,000 in the realized gain on the sale of marketable securities as compared with fiscal 2010.
Income Taxes
Income tax for the year ended March 31, 2011 was comprised of income tax expense of $596,000 and a deferred tax benefit of $214,000, as compared to the income tax expense of $380,000 and a deferred tax provision of $310,000 in fiscal 2010.
Net Loss
The Company had a net loss of $8,114,000, or a negative 9.7% of net sales, for the year ended March 31, 2011, as compared to net income of $1,499,000, or 1.8% of net sales, for the year ended March 31, 2010. The fiscal 2011 net loss was primarily attributable to decreased sales to the Company’s largest customers in the plastics and electronic & metallic segments during fiscal 2010, $4,474,000 in impairment charges of fixed assets and decreases in gross profit margin, as described above.
Net loss for the plastic segment for the year ended March 31, 2011 totaled $6,955,000, as compared to net income of $3,446,000 for fiscal 2010. The net loss in the plastic segment was mainly the result of decreased sales to the Company’s largest customer in the plastics segment during fiscal 2010, $4,474,000 in impairment charges of fixed assets and decreases in gross margin as described above.
Net loss for the electronic & metallic segment for the year ended March 31, 2011 was $1,159,000, compared to a net loss of $1,947,000 for the prior fiscal year. The decrease in net loss of the electronic and metallic segment was mainly from the increase in sales revenues despite decreased sales to the Company’s largest customer during fiscal 2010, improvement in gross margin and the deferred tax benefit resulting from fiscal 2011, as described above.
SEASONALITY
The following table sets forth certain unaudited quarterly financial information sequentially for the four quarters in each of the three years in the period ended March 31, 2011 (in thousands):
|
Year ended March 31, 2009 |
Q1 |
Q2 |
Q3 |
Q4 |
Net sales |
$35,039 |
$32,241 |
$37,101 |
$27,357 |
Gross profit |
5,901 |
3,524 |
6,413 |
4,330 |
Operating income (loss) |
1,310 |
(1,663) |
878 |
220 |
Net income (loss) |
1,293 |
(1,675) |
987 |
590 |
|
Year ended March 31, 2010 |
Q1 |
Q2 |
Q3 |
Q4 |
Net sales |
$22,738 |
$20,852 |
$21,258 |
$16,666 |
Gross profit |
3,603 |
2,907 |
4,049 |
2,097 |
Operating income (loss) |
(272) |
2,938 |
296 |
(1,218) |
Net income (loss) |
(253) |
3,124 |
(437) |
(935) |
|
Year ended March 31, 2011 |
| |
Q1 |
Q2 |
Q3 |
Q4 |
Net sales |
$20,486 |
$24,023 |
$23,534 |
$15,978 |
Gross profit |
901 |
2,894 |
3,314 |
2,440 |
Operating income (loss) |
(2,678) |
(1,714) |
(4,031) |
(405) |
Net income (loss) |
(2,279) |
(1,597) |
(3,585) |
(653) |
The first calendar quarter (the fourth fiscal quarter ending March 31 of our fiscal year) is typically the Company’s slowest sales period because, as is customary in China, the Company’s manufacturing facilities in China are closed for two weeks for the Chinese New Year holidays. Through March 31, 2011, the Company has not experienced any other significant seasonal fluctuations.
IMPACT OF INFLATION
Historically, the Company focused upon increasing transaction volume in order to compensate for inflation in China, where virtually all of the Company’s assets and employees are located and inflation in China had little impact on Deswell. However, in addition to the appreciation of the RMB to the US dollar, inflation in China has recently affected the Company significantly.
The consumer price index (CPI), a major gauge of China’s inflation, rose 4.9 % in January 2011 from a year earlier as food prices increased 10.3% due to rising demand and a drought in key grain-growing regions. The central government of China has been encouraging wage hikes in the hope of boosting consumer spending and reducing the economy’s reliance on exports.
There is no fixed minimum wage which is applicable to all of China; local governments in China adopt different minimum wage amounts based on the situation in their area. Effective May 1, 2010, China’s Guangdong Province, where Deswell’s manufacturing facilities are located, raised minimum wages by approximately 20% and effective March 1, 2011 again increased the minimum wage by another approximately 20%. The 2010 increase in minimum wages directly affected the Company’s cost of labor, increasing our overall operating expenses and adversely affecting our financial results for its year ended March 31, 2011. The 2011 minimum wage increase can be expected to increase Deswell’s operating expenses during its year ending March 31, 2012 from the amount reported for fiscal 2011 and similarly adversely impact operating results during the coming year.
Continuing material increases in our cost of labor will continue to increase the Company’s operating costs and will adversely affect Deswell’s financial results unless it passes on such increases to customers by increasing the prices of products and services. The effect of increases in the prices of products and services would make the Company’s products more expensive in global markets, such as the United States and the European Union. This could result in the loss of customers, who may seek, and be able to obtain, products and services comparable to those Deswell offers in lower-cost regions of the world. If the Company does not increase prices to pass on the effect of increases in labor costs, Deswell’s margins and profitability would suffer.
EXCHANGE RATES
The Company’s sales are mainly in United States dollars and Hong Kong dollars and its expenses are mainly in United States dollars, Hong Kong dollars and Chinese RMB.
The Hong Kong dollar has been pegged to the U.S. dollar at approximately 7.80 and relatively stable. The exchange rates between the Hong Kong dollars and the U.S. dollar were approximately 7.750, 7.764 and 7.789 at March 31, 2009, 2010 and 2011, respectively. The Hong Kong government may not continue to maintain the present currency exchange mechanism, which fixes the Hong Kong dollar at approximately 7.80 to each United States dollar and has not in the past presented a material currency exchange risk. Although announcements by Hong Kong’s central bank indicate its intention to maintain the currency peg between the Hong Kong dollar and the U.S. dollar, if Hong Kong does change and follows China to a floating currency system or otherwise changes the exchange rate system of Hong Kong dollars to the U.S. dollars, our margins and financial results could be adversely affected.
Between 1994 and July 2005, the market and official RMB rates were unified and the value of the RMB was essentially pegged to the U.S. dollar and was relatively stable. On July 21, 2005, the People’s Bank of China adjusted the exchange rate of RMB to the U.S. dollar by linking the RMB to a basket of currencies and simultaneously setting the exchange rate of RMB to U.S. dollars, from 1:8.27, to a narrow band of around 1:8.11.
The appreciation and depreciation in the exchange ratio of the RMB to the US dollar increases and decreases, respectively, our costs and expenses to the extent paid in RMB. Approximately 35.1%, 51.0% and 47.0% of our total costs and expenses were in RMB during the years ended March 31, 2009, 2010 and 2011, respectively.
In mid-2008, the Chinese government halted allowing the RMB to appreciate against the dollar as it did during earlier periods since July 25, 2005 because of concerns that the stronger RMB was hurting Chinese exports at a time of global recession. Accordingly, as shown in the above table, there was virtually no change in the exchange ratio of the RMB to the US dollar during our year ended March 31, 2010. However, on June 19, 2010 China’s central bank announced that it planned to introduce more flexibility in the management of its currency and since then the RMB has again begun to appreciate against the US dollar, However, on June 19, 2010 China’s central bank announced that it planned to introduce more flexibility in the management of its currency and since then the RMB has again begun to appreciate against the US dollar, increasing 3.9% at March 31, 2011 from the midpoint level at March 31, 2010, and increasing to 1:6.4358 , or 1.9%, at July 29, 2011 from the midpoint level at March 31, 2011.
We did not hedge our currency risk during the years ended March 31, 2009, 2010 and 2011 and at March 31, 2011, we had no open forward currency contracts. We continually review our hedging strategy and there can be no assurance that hedging techniques we may implement will be successful or will not result in charges to our results of operations.
LIQUIDITY AND CAPITAL RESOURCES
For the year ended March 31, 2011, net cash used in operations totaled $3,194,000, including the net loss of $8,114,000, depreciation and amortization expenses of $6,197,000 and impairment of property, plant and equipment charges of $4,474,000. Accounts receivable increased by $3,189,000 over levels at March 31, 2010, primarily as a result of changes in customer mix with different credit terms. Inventories increased by $5,117,000 over levels at March 31, 2010, primarily resulting from the increased purchases of raw materials related to orders from certain customers that consisted of work-in-progress of plastic and electronics products at March 31, 2011. Accounts payable decreased by $434,000 over levels at March 31, 2010, primarily because of the decrease in materials purchases. For the year ended March 31, 2010, net cash generated from operations totaled $14,351,000, including net income of $1,499,000 and depreciation and amortization expenses of $7,011,000.
Net cash provided by investing activities amounted to $4,513,000 for the year ended March 31, 2011, while net cash used in investing activities in fiscal 2010 amounted to $1,449,000. Capital expenditures during these periods totaled $1,034,000 and $1,606,000, respectively. Our capital expenditures were primarily related to the acquisition of property, plant and equipment for our two manufacturing plants in Dongguan, China. In fiscal 2011, we acquired marketable securities for $8,049,000 and received cash proceeds from sale of the marketable securities for $13,509,000. In fiscal 2010, we acquired marketable securities for $5,631,000 and received proceeds of $5,185,000, net of transaction costs, from the sale of our former manufacturing plant in Shekou, Shenzhen, China.
Net cash used in financing activities for the years ended March 31, 2011 and 2010 were $804,000 and $916,000, respectively. Net cash we used in financing activities during the year ended March 31, 2011 was mainly to fund dividend payments to shareholders of $810,000. Net cash we used in financing activities during the year ended March 31, 2010 was primarily to fund dividend payments to shareholders of $1,619,000 and net of the proceeds of $703,000 from the exercise of stock options from directors and employees.
As a consequence of the fixed exchange rate between the Hong Kong dollar and the U.S. dollar, interest rates on Hong Kong dollar borrowings are similar to U.S. interest rates. The Hong Kong Prime Rate at March 31, 2011 remained at 5.0% from March 31, 2010.
At March 31, 2011, the Company had cash and cash equivalents of $35,635,000. At that date, Deswell had no committed credit facilities and no restricted cash. Deswell expects that working capital requirements and capital additions will continue to be funded through cash on hand and internally generated funds. However, Deswell may choose to seek to obtain additional debt or equity financing if it believes it to be appropriate and available on reasonable terms. The Company’s working capital requirements are expected to increase in line with the growth in the Company’s business.
At March 31, 2011, the Company had capital commitments totaling $83,000 for a new enterprise resource planning software system upgrade project and other capital commitments aggregating approximately $9,000 to purchase furniture and fixtures and leasehold improvements, all of which it expects to disburse during the year ending March 31, 2012.
A summary of our contractual obligations and commercial commitments as of March 31, 2011 is as follows:
| |
Payments due by period (in thousands) |
| Contractual obligations |
Total |
Year ending
March 31, 2012 |
Period from
April, 2012 to
March 31, 2014 |
Period from
April, 2014 to
March 31, 2016 |
Period after
March 31, 2016 |
| Long-term bank borrowing |
$ |
- |
$ |
- |
$ |
- |
$ |
- |
$ |
- |
| Capital (finance) lease obligations |
- |
- |
- |
- |
- |
| Operating lease payments |
14 |
14 |
- |
- |
- |
| Capital commitment |
92 |
92 |
- |
- |
- |
| Other purchase obligations |
6,334 |
6,334 |
- |
- |
- |
| Other long-term liabilities reflected on Company’s balance sheet under US GAAP |
- |
- |
- |
- |
- |
| Total |
$ |
6,440 |
$ |
6,440 |
$ |
- |
$ |
- |
$ |
- |
FIVE YEAR FINANCIAL SUMMARY
SELECTED FINANCIAL DATA (1)
(in thousands except per share and statistical data)
Income Statement Data: |
Year ended March 31, |
|
|
2007 |
2008 |
2009 |
2010 |
2011 |
Net sales |
$136,779 |
$143,806 |
$131,738 |
$81,614 |
$84,022 |
Cost of sales |
105,506 |
117,373 |
111,570 |
68,958 |
74,474 |
Gross profit |
31,273 |
26,433 |
20,168 |
12,656 |
9,548 |
Selling, general and administrative expenses |
18,957 |
19,601 |
19,291 |
15,505 |
13,941 |
Other income (expenses), net |
1,376 |
1,838 |
(132) |
4,594 |
(4,435) |
Operating income (loss) |
13,692 |
8,670 |
745 |
1,745 |
(8,828) |
Non-operating income, net |
547 |
521 |
168 |
444 |
1,096 |
Income (loss) before income taxes |
14,239 |
9,191 |
913 |
2,189 |
(7,732) |
Income taxes |
1,239 |
104 |
(282) |
690 |
382 |
Net income (loss) |
13,000 |
9,087 |
1,195 |
1,499 |
(8,114) |
Net income attributable to non-controlling interests |
833 |
228 |
- |
- |
- |
Net income (loss) attributable to Deswell Industries, Inc. |
$12,167 |
$8,859 |
$1,195 |
$1,499 |
$(8,114) |
Basic earnings (loss) per share (2) |
$0.81 |
$0.57 |
$0.08 |
$0.09 |
$(0.50) |
Average number of shares outstanding – basic (2) |
14,956 |
15,517 |
15,791 |
15,965 |
16,193 |
Diluted earnings (loss) per share (2) |
$0.81 |
$0.57 |
$0.08 |
$0.09 |
$(0.50) |
Average number of shares outstanding – diluted (2) |
15,048 |
15,566 |
15,805 |
16,039 |
16,139 |
|
|
|
|
|
|
Statistical Data: |
|
|
|
|
|
Gross margin |
22.9% |
18.4% |
15.3% |
15.5% |
11.4% |
Operating margin |
10.0% |
6.0% |
0.6% |
2.1% |
(10.5%) |
Dividends per share |
$0.65 |
$0.61 |
$0.24 |
$0.10 |
$0.10 |
|
|
|
|
|
|
Balance Sheet Data: |
|
At March 31, |
|
|
|
2007 |
2008 |
2009 |
2010 |
2011 |
Working capital |
$58,672 |
$54,751 |
$52,605 |
$59,848 |
$59,689 |
Total assets |
141,210 |
140,407 |
137,482 |
134,011 |
127,159 |
Long-term debt, less current portion |
- |
- |
- |
- |
- |
Total debt |
- |
- |
- |
- |
- |
Shareholders' equity |
111,655 |
121,257 |
120,307 |
121,015 |
111,287 |
(1) Our consolidated financial statements are prepared in accordance with generally accepted accounting principles in the United States of America and are stated in U.S. dollars.
(2) Basic EPS excludes dilution from potential common shares and is computed by dividing income available to common shareholders by the weighted-average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution from potential common shares.
|
