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LOJN > SEC Filings for LOJN > Form 10-Q on 6-Nov-2012All Recent SEC Filings

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Form 10-Q for LOJACK CORP


6-Nov-2012

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Introduction
The following information should be read in conjunction with our unaudited condensed consolidated financial statements and notes thereto in Part I, Item 1 of this Quarterly Report and with Management's Discussion and Analysis of Financial Condition and Results of Operations contained in our Annual Report on Form 10-K for the year ended December 31, 2011. Safe Harbor Regarding Forward Looking Statements The Private Securities Litigation Reform Act of 1995 and other securities laws contain certain safe harbors regarding forward-looking statements. From time to time, information provided by us or statements made by our employees may contain "forward-looking" information which involves risks and uncertainties. Any statements in this report and accompanying materials that are not statements of historical fact are forward-looking statements (including, but not limited to, statements concerning the characteristics and growth of our markets and customers, our expected capital expenditures, our strategic initiatives, objectives and plans for future operations and products and our expected liquidity, revenue, profit and capital expenditures and resources). Such forward-looking statements are based on a number of assumptions and involve a number of risks and uncertainties, and accordingly, actual results could differ materially. Factors that may cause such differences include, but are not limited to: (i) the continued and future acceptance of our products and services; (ii) our ability to obtain financing from lenders; (iii) the outcome of ongoing litigation involving the company; (iv) the failure to receive court approval of the settlement agreement in the California wage and hour litigation in a timely manner or at all and final resolution of the settlement; (v) the rate of growth in the industries of our customers; (vi) the presence of competitors with greater technical, marketing, and financial resources; (vii) our customers' ability to access the credit markets, including changes in interest rates; (vii) our ability to promptly and effectively respond to technological change to meet evolving customer needs; (ix) our ability to successfully expand our operations;
(x) changes in general economic or geopolitical conditions, including the European debt crisis; (xi) conditions in the automotive retail market and our relationships with dealers and agents; (xii) the expected timing of purchases by our customers; and (xiii) governmental regulation and restrictions on imports that may affect sales to our licensees. For a further discussion of these and other significant factors to consider in connection with forward-looking statements concerning us, reference is made to Item 1A "Risk Factors" in our Annual Report on Form 10-K for the year ended December 31, 2011, as updated by Item 1A "Risk Factors" in Part II of this Quarterly Report, and in our other periodic filings with the Securities and Exchange Commission. We caution readers not to place undue reliance on any forward-looking statements, which only speak as of the date made. Except as required by law, we undertake no obligation to update these forward-looking statements to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events. Overview
We are a leading global provider of technology products and services for the tracking and recovery of valuable mobile assets and the rescue of people with cognitive conditions such as autism or Alzheimer's who are at risk of wandering. Our proprietary technology, wireless network and unique integration with law enforcement agencies provide an effective means for the tracking and recovery of stolen vehicles, construction equipment, motorcycles, cargo and people at risk of wandering, or people at risk.
We have three separately managed and reported business segments: North America, International and All Other. Our North America segment is comprised of our domestic operation, which sells products and services that operate in 28 states and the District of Columbia in the United States, as well as our wholly owned subsidiary, Boomerang, a provider of stolen vehicle recovery products in Canada. Our International segment sells products, licenses or owns and operates LoJack proprietary vehicle recovery technology in approximately 30 countries and territories throughout Europe, Africa and Latin America and through our wholly owned subsidiary in Italy, LoJack Italia, SRL, or LoJack Italia. Our All Other segment includes LoJack SafetyNet and SCI, which are providers of technology for the tracking and rescue or recovery of people at risk and of valuable cargo and business information, respectively.
North America Segment
Our revenue in the United States is derived primarily from the sale of LoJack Units, LoJack Early Warning, and extended warranty products to consumers. Approximately 85% of our sales in the United States market are made through a distribution network consisting of dealers of new and used automobiles. We believe that we have strong consumer brand awareness in the United States. The price paid by the consumer for a LoJack Unit includes installation. We maintain a workforce that performs these installations, and we supplement our installation capacity by contracting with and certifying select dealers and other third parties to install our products. We continually seek to minimize the fixed costs related to the installation of a LoJack Unit by increasing our installation capacity with certified dealers and other third parties. We monitor the quality of these installations through the use of an expanded quality control process.


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We offer warranty products at the point of sale to new customers and through direct sales efforts to our existing customers.
We record additions to deferred revenue for the monitoring service related to our LoJack Early Warning product and for certain warranty products for which we are the primary obligor of the underlying contract. We typically receive full payment within 60 days of the transaction, but recognition of the deferred revenue is prorated over the estimated life of the product or service. During the last quarter of 2011, we transferred the servicing and liability obligations for the majority of our extended warranty contracts originated in 2010 to a third party, eliminating any additional services or liability exposure as the primary obligor for those contracts. During the first quarter of 2012, we transferred the servicing and liability obligations for the majority of our extended warranty contracts originated in 2011 to the third party and, beginning in 2012, all servicing and liability obligations associated with new contracts sold are transferred to the third party upon purchase by the consumer. As such, for the majority of extended warranty contracts originated after 2011, we recognize revenue upon delivery as opposed to deferring the revenue and recognizing it over the life of the contract.
Our revenue in Canada is derived primarily from the service contracts related to Boomerang Espion, Boomerang Espion Alert, Boomerang, Boomerang2 and BoomerangXpress Units. Customers who purchased a Boomerang Unit (prior to the transition from Boomerang Units to LoJack Units during 2011) were required to enter into a service contract. The terms of the service contracts offered ranged from 12 to 60 months and were generally payable in full upon the activation of the related unit or renewal of a previous service contract. Customers were also offered a month-to-month option. Beginning in 2011, we introduced the LoJack technology in Canada in the province of Quebec and the business model and product offerings are now similar to those of the United States. In January of 2012, the LoJack technology was introduced in Ontario. Purchasers of LoJack Units in Canada are not required to enter into a service contract; however, the tracking and recovery of LoJack Units in Canada is still performed internally and thus we continue to recognize service revenue for a portion of each sale. Many insurance companies based in Quebec offer rebates to customers who install a LoJack Unit in their vehicles, and in some instances, insurance companies require installation of a LoJack Unit in such vehicles. International Segment
Internationally, our stolen vehicle recovery technology is operational in approximately 30 countries and territories around the world. We have existing licensees in South America, Mexico, Central America, the Caribbean, Africa and Europe. Revenue from this segment consists of product and infrastructure sales to our licensees, royalties and license fees.
We record additions to deferred revenue for international license fees and recognize the revenue over the term of the license (generally ten years). Royalty revenue is recognized when earned.
Italy is the only country outside of North America where we own and operate a stolen vehicle recovery network. Consumers who purchase LoJack Units in Italy are also required to enter into a service contract with LoJack Italia. The terms of service contracts offered range from 12 to 84 months and are payable in full either upon activation of the related unit or renewal of the stolen vehicle recovery service or on a monthly basis. Service revenue from these contracts is deferred and recognized over the term of the service contract. All Other Segment
Our All Other segment revenue is derived from our SCI and LoJack SafetyNet operations. SCI revenue is derived from the sale of cargo and business information tracking devices as well as subscription fees for monitoring service alerts and activity reporting.
LoJack SafetyNet revenue is primarily comprised of the sale of Personal Locator Units, or PLUs, replacement parts and related service contracts. Key Economic Factors and Trends and our Business During 2011, global economic growth slowed to an estimated 3%, as the worsening debt crisis in Europe, natural disasters in Japan and Thailand, and moderating economic growth in several key newly-developed and emerging markets all contributed to slow growth. During 2012, global economic growth is expected to be in the 3% range, with some downward pressure in recent months. The European debt crisis represents a key risk to economic growth. The current economic performance in many European countries, particularly Greece, Ireland, Italy, Portugal and Spain, is being impacted by excessive government debt levels and the resulting budget austerity measures that are contributing to weak economic growth. Growth rates in China, Brazil and India have also slowed. In a recent statement, the International Monetary Fund reduced its estimate for global growth this year based on weakness in investment, jobs and manufacturing in Europe, the U.S., Brazil, India and China. This global slowdown has also increased trade tensions in Latin America, resulting in restricted access levels to these markets.
North America Segment


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The U.S. automotive industry continued to grow in the third quarter of 2012 in spite of economic challenges. Third quarter retail sales increased 16% as compared to the same period in 2011 and outpaced the performance of the first and second quarters of 2012. Industry experts expect growth to continue throughout the year and are projecting growth of approximately 12% for both retail and total light vehicle sales for 2012. There are many factors which are expected to create a favorable outlook for the consumer demand for new vehicles, including an average vehicle age of almost 11 years, an annual scrappage rate of close to 14 million vehicles, historically low interest rates, increasing credit availability, and adequate inventories of new vehicles and new vehicle models being added to manufacturers' product lines. These factors, in addition to limited used vehicle inventories and higher used car prices, could combine to make new car purchases attractive to consumers.
Gas prices, exhibiting their continued variability, rose during the third quarter of 2012, almost reaching the annual peak experienced in April 2012. While sudden changes in gas prices may influence model mix in retail automotive sales, the recent increase is not expected to influence overall demand for new vehicles, as is reflected in industry analysts maintaining their forecasts for 2012.
While there continues to be variability in growth rates and changes in market share among vehicle brands, the most significant changes were the result of the Japanese brands regaining market share lost in 2011 due to the effects of the tsunami. As brands which weigh more heavily in our business return to growth and regain market share, we could experience positive effects on our business if we are successful in capturing that increased growth as well as continuing to broaden our brand portfolio to leverage above average growth among our brands with lower penetration.
The favorable market conditions and the increase in inventory levels among Japanese vehicle manufacturers following the supply interruption caused by last year's tsunami have resulted in increased dealer receptivity to our pre-install programs and increased volumes within existing standard and pre-install accounts. Additionally, we believe that dealers and manufacturers are increasingly confident with the first three quarters of 2012 having performed above initial expectations. However, sluggish U.S. employment growth, lackluster GDP growth, and European economic headwinds continue to be obstacles to sustaining this industry optimism.
Demand for our heavy equipment, or commercial, product continued to be strong during the third quarter of 2012 and there has been a high level of interest in our recently announced ruggedized self-powered product, which was recently recognized as one of Equipment Today's 2012 Contractors' Top 50 New Products. The majority of the growth in the commercial industry is derived from rentals, where industry growth of close to 7% is expected for 2012. While some of the expected rental growth in 2012 will come from increased demand as the construction industry recovers, the economic benefits of renting have more customers adopting the rental model to meet their project needs. We believe that the commercial LoJack Unit offers an appealing option to rental companies and small business owners looking for effective asset management solutions. In our Canadian business, we have increased our emphasis in both the commercial and dealer channels as well as on our expansion into the Ontario market. Increased competition and fewer insurance mandates have challenged our growth within the insurance market in the province of Quebec. Demand for our commercial product in the Canadian market has been strong to date, particularly in the province of Ontario. In addition, our reentry into the automotive dealership channel in Ontario with LoJack technology has been met with favorable responses from dealers.
International Segment
Our international business has declined from 2011 as a result of reduced shipments to a number of our licensees, with the largest declines experienced in shipments to our licensees in Argentina and Brazil. In the past, we have experienced quarterly fluctuations in purchases in the International segment, with sales in many of our international markets tending to be higher in the fourth quarter of the year as licensees seek to achieve lower pricing with higher annual unit purchases. We also are experiencing downward pricing pressure and reductions in unit volumes in a number of our markets due to a variety of factors that vary from country to country. Those factors include the relative maturity of the stolen vehicle recovery market in certain highly developed territories, re-use of our products in certain territories, declining theft rates in certain territories and increasing competitive pressures by both Radio Frequency, or RF, and GPS based tracking systems. We also are faced with uncertainty regarding developing governmental regulations in Argentina that have affected, and may continue to affect sales to our licensees in that country. In Argentina, recently implemented controls and restrictions on the importation of goods and the exchange of Argentine Pesos for U.S. Dollars have made the exportation of goods from any country to Argentina more difficult. On February 1, 2012, Argentine authorities began requiring all importers to request and receive approval from the Argentine Tax and Customs Authority, or AFIP, prior to each import transaction. While the official processing time is 15 days for such requests, some requests have been put on hold for indefinite periods of time for review. In some cases, importers have been asked to match imports on a dollar-for-dollar basis with exports prior to receiving authorization from AFIP to import goods. The U.S., Mexico, Japan and the European Union have submitted complaints and formal requests for World Trade Organization, or WTO, consultations with Argentina, the primary phase of the WTO's dispute resolution protocol. If these consultations fail to reach a satisfactory solution, complainants can seek the establishment of a WTO Panel to rule on the legality of Argentina's trade measures. It is unclear whether these complaints with the WTO will result in changes to Argentina's trade policies.


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We understand that our licensee in Argentina made a request for approval of importation of our products earlier this year, and that such request remains under review by the Argentine government. As a result, we have not shipped any units to Argentina since January 2012. Our Argentine licensee is in the process of establishing an export operation of certain commodities in order to support its application to import LoJack products. We are working closely with our licensee in Argentina to develop potential solutions to enable product shipments to restart; however, no assurances can be made that we will be able to restart shipments in a timely manner or at all.
In Brazil, our licensee did not purchase any units during the first five months of this year, but restarted purchases in June 2012. We are in communication with our Brazilian licensee to determine the level of additional demand for the balance of this year.
Certain of our European territories are experiencing an economic downturn deepened by government wage and pension reductions, rising unemployment and tight consumer credit availability. These conditions have led to declines in consumer spending and are adversely affecting the sale of new vehicles. Certain European automobile industry trade associations have stated that they expect vehicle sales in Europe to decline by 8% for the 2012 fiscal year. The effect of lower vehicle sales has been mitigated in part by a positive market response to our new self-powered product.
Our business in Italy continued to grow in terms of both revenue and subscribers during the first nine months of 2012. We entered 2012 with approximately 20,200 subscribers in Italy, and continued growing the number of subscribers, adding approximately 1,600 net new subscribers in Italy during the third quarter for a total of 25,900 subscribers as of September 30, 2012. While we continue to grow our business in Italy, our overall performance is slower than planned in part due to the overall weakness in the Italian economy, tightened access to credit by both our channel partners and consumers and the continuing decline in new vehicle registrations. During the first nine months of 2012, new vehicle registrations are reported to have declined by 20% as compared to the same period in 2011.
All Other Segment
During the quarter, the incidents of cargo theft continued to trend upward along with commodity product line value increases and reported loss amounts. As a result of this trend, combined with the true direct and indirect replacement costs of lost shipments and increased regulatory emphasis on shipping condition integrity, brand owners and manufacturers continue to seek the type of visibility, risk reduction, prevention, control and recovery capability that SCI provides, both in the U.S. and for the international segments of its clients' supply chains. Supply chain extension into global markets is a trend that continues to build and we believe that SCI is positioned to capitalize on this trend.
Critical Accounting Policies and Estimates We prepare our condensed consolidated financial statements in accordance with U.S. GAAP. As such, management is required to make certain estimates, judgments and assumptions that it believes are reasonable based on the information available. These estimates and assumptions affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses for the periods presented. The significant accounting policies and estimates which management believes are the most critical to aid in fully understanding and evaluating our reported financial results include revenue recognition and deferred revenue, accounts receivable, valuation of investments, and income taxes. See the section entitled "Critical Accounting Policies and Estimates" in our Annual Report on Form 10-K for the year ended December 31, 2011 for further discussion of our critical accounting policies and estimates.
Recently Adopted Accounting Guidance
See Note 1 to the accompanying condensed unaudited consolidated financial statements for accounting standards adopted in 2012. Accounting Guidance Issued But Not Yet Adopted See Note 1 to the accompanying condensed unaudited consolidated financial statements for accounting standards issued in 2012 but not yet adopted. Results of Operations for the three months ended September 30, 2012 as compared to the three months ended September 30, 2011 Revenue
Revenue for the three months ended September 30, 2012 decreased by $1,753,000 as compared to the same period in 2011. The following table presents revenue by our segments (in thousands):


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Three Months Ended
                     September 30,          Percentage Change
                    2012         2011         2012 vs. 2011
North America   $    24,105    $ 24,231             (1 )%
International         7,608       9,537            (20 )%
All Other             1,026         724             42  %
Total revenue   $    32,739    $ 34,492             (5 )%

Revenue related to our North America segment decreased by $126,000 for the three months ended September 30, 2012, as compared to the same period in 2011. Revenue in the North America segment from our dealer channel in the United States decreased 2% when compared to the same period in 2011. Revenue in the North America segment from our heavy equipment, or commercial, channel in the United States increased 25% over the same period in 2011. Our motorcycle and direct distribution channels in the United States market saw revenue declines of 19% and 1%, respectively, as compared to the same period in 2011. Revenue in the North America segment from our Canadian business saw a decrease of 12% as compared to the same period in 2011.
The activity that resulted in a 1% decrease in our North America segment revenue for the three months ended September 30, 2012 as compared to the same period in 2011 was primarily attributable to:
A decrease of $1,443,000, or 35%, in revenue from our Early Warning products, primarily due to an accounting change during 2011 which resulted in the recognition of previously deferred revenue on the hardware portion of our Early Warning products during the third quarter of 2011. As the accounting change also resulted in the recognition of the previously deferred cost of goods sold relating to the hardware, the net effect of this increase in revenue was not material to the financial statements as a whole; and

A decrease of $318,000, or 12%, in Canadian unit and service revenue, primarily due to a decrease of $586,000, or 25%, in service revenue driven by a 37% decline in the average number of subscribers to 34,000 for the three months ended September 30, 2012, partially offset by a $267,000 increase in product revenue as the number of base units sold during the quarter increased from 1,687 in 2011 to 2,416 in 2012; partially offset by

An increase of $1,097,000, or 8%, in revenue from LoJack units, primarily due to an 11% increase in the number of units sold, partially offset by a 3% decrease in the average revenue per unit;

An increase of $296,000 in other revenue, primarily due to a $241,000 decrease in promotions; and

An increase of $353,000, or 17%, in revenue from our Warranty products.

Revenue related to our International segment decreased $1,929,000 for the three months ended September 30, 2012 as compared to the same period in 2011. The decrease was primarily due to a decline of $2,191,000, or 26%, in product revenue from our licensees due to a 29,000 decrease in the number of units sold in the three months ended September 30, 2012 compared to the same period in 2011. The decrease in units sold was primarily due to increased governmental regulation and adverse economic factors in several of our international markets. The decrease in revenue was partially offset by an increase of $189,000, or 65%, in revenue from the sale of infrastructure components, royalty, license fee, and other revenue from our licensees for the three months ended September 30, 2012 compared to the same period in 2011.
Revenue related to our All Other segment increased $302,000 for the three months ended September 30, 2012 as compared to the same period in 2011. The increase was primarily the result of an increase of $294,000, or 43%, in the revenue from SCI compared to the same period in 2011. Cost of Goods Sold
The following table presents cost of goods sold by our segments (in thousands):

                              Three Months Ended
                                September 30,          Percentage Change
                               2012         2011         2012 vs. 2011
North America              $    11,368    $ 12,369             (8 )%
International                    2,926       4,056            (28 )%
All Other                          296         292              1  %
Total cost of goods sold   $    14,590    $ 16,717            (13 )%


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As a percentage of total revenue, total cost of goods sold was 45% and 48% for the three months ended September 30, 2012 and 2011, respectively. As a percentage of North America revenue, cost of goods sold relating to our North America segment was 47% and 51% for the three months ended September 30, 2012 and 2011, respectively. The decrease in cost of goods sold as a percentage of revenue is primarily due to a decrease in product costs and a decrease in promotional spending, which is accounted for as contra-revenue, during the three months ended September 30, 2012 as compared to the same period in 2011. The decreased product costs were largely the result of cost efficiencies realized through our contract manufacturing operations.
As a percentage of International revenue, cost of goods sold relating to our International segment was 38% and 43% for the three months ended September 30, 2012 and 2011, respectively. The decrease is primarily due to a decrease in product costs as well as a change in product mix during the three months ended September 30, 2012 as compared to the same period in 2011. The decreased product costs were largely the result of cost efficiencies realized through our contract manufacturing operations.
As a percentage of All Other revenue, our cost of goods sold relating to our All Other segment was 29% and 40% for the three months ended September 30, 2012 and 2011, respectively. The decrease in cost of goods sold as a percentage of . . .

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