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DJCO > SEC Filings for DJCO > Form 10-Q/A on 20-Aug-2013All Recent SEC Filings

Show all filings for DAILY JOURNAL CORP

Form 10-Q/A for DAILY JOURNAL CORP


20-Aug-2013

Quarterly Report


Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The Company continues to operate as two different businesses: (1) The "traditional business", being the business of newspaper and magazine publishing and related services that the Company had before 1999 when it purchased Sustain, and (2) the Sustain and New Dawn software businesses, which supply case management software systems and related products to courts and other justice agencies, including administrative law organizations.

On December 4, 2012 the Company purchased all of the outstanding stock of New Dawn for $14 million in cash. New Dawn provides products and services to more than 350 justice agencies in 39 states, three U.S. territories and two other countries. The acquisition expands the Company's position in the case management software marketplace. The results of operations of New Dawn from December 5, 2012 through June 30, 2013 have been included in the Company's Consolidated Financial Statements: revenues were $6,430,000; expenses were $7,148,000 (including intangible amortization expenses of $1,111,000), and its pretax loss was $718,000. The acquisition was accounted for using the purchase method of accounting; accordingly, the Company preliminarily allocated the purchase price to tangible assets ($3.1 million including cash of $2.2 million; accounts receivable, net, of $.66 million, and net fixed assets of $.14 million) and identifiable intangible assets (purchased software and customer relationships of $9.5 million) and liabilities ($12.6 million including accounts payable and accrued expenses of $2.8 million, deferred maintenance agreements of $2.2 million and deferred installation contracts of $7.5 million) based on their fair values with the remaining balance in excess of the net assets allocated to goodwill ($14 million). The purchased software and customer relationships costs are being amortized over five years. Goodwill is not amortized for financial statement purposes but evaluated for impairment annually, or whenever events or changes in circumstances indicate that the value may not be recoverable. Deferred revenues on installation contracts primarily represent advances from customers for software licenses and installation services in various stages of completion; after customer's acceptance of the completed project, the advances would become no longer at risk of refund and earned.

The Company's traditional business segment pretax income increased by $1,078,000 (16%) to $7,869,000 in the nine months ended June 30, 2013 from $6,791,000 in the prior year period when the Company incurred impairment losses on investments of $2,855,000. This year there was a reduction in trustee sale notice and related service fee revenues of $3,055,000, partially offset by a reduction in operating costs and expenses of $144,000 and an increase in dividends and interest income of $381,000. Sustain's and New Dawn's business segment had a pretax loss of $3,783,000 compared to $1,455,000 in the prior year period primarily due to (i) the addition of New Dawn's pretax loss of $718,000 and (ii) an increase in Sustain's implementation and development personnel costs of $1,191,000 during the nine months ended June 30, 2013.

During the nine months ended June 30, 2013, consolidated pretax income decreased by $1,257,000 (24%) to $4,086,000 from $5,343,000 in the comparable prior year period.

Comprehensive income includes net income and unrealized net gains on investments, net of taxes.

                                 Comprehensive Income
                                                         Nine months ended June 30
                                                          2013                2012

Net income                                           $     2,811,000     $    3,958,000
Net change in unrealized appreciation of
investments (net of taxes)                                15,802,000         13,430,000
Other-than-temporary impairment losses recognized                ---
in net income (net of taxes)                                                  1,720,000
Comprehensive income                                 $    18,613,000     $   19,108,000

* * * * * * * * * * * *

Page 13 of 18

                                          Reportable segments
                                     Traditional      Sustain and
                                       business        New Dawn*          Total

Nine months ended June 30, 2013
Revenues                             $ 18,315,000     $  8,335,000     $ 26,650,000
Pretax income (loss)                    7,869,000       (3,783,000 )      4,086,000
Income tax benefit (expense)           (2,500,000 )      1,225,000       (1,275,000 )
Net income (loss)                       5,369,000       (2,558,000 )      2,811,000
Amortization of intangible assets*            ---        1,111,000        1,111,000




                                            Traditional
                                              business         Sustain           Total
Nine months ended June 30, 2012
Revenues                                    $ 21,824,000     $  2,293,000     $ 24,117,000
Income (loss) from operations                  8,133,000       (1,455,000 )      6,678,000
Other-than-temporary impairment losses on
investments                                    2,855,000              ---        2,855,000
Pretax income (loss)                           6,791,000       (1,448,000 )      5,343,000
Income tax (expense) benefit                  (2,135,000 )        750,000       (1,385,000 )
Net income (loss)                              4,656,000         (698,000 )      3,958,000

Includes New Dawn's financial results from December 5, 2012 through June 30,
* 2013 with revenues of $6,430,000, expenses of $7,148,000 (including intangible amortization expenses of $1,111,000), and inter-company income tax benefits of $230,000.

Consolidated revenues were $26,650,000 and $24,117,000 for the nine months ended June 30, 2013 and 2012, respectively. This increase of $2,533,000 (11%) was primarily from the additional New Dawn revenues of $6,430,000, partially offset by the reduction in trustee sale notice and related service fee revenues of $3,055,000. The Company's revenues derived from Sustain's and New Dawn's operations constituted about 31% (Sustain and New Dawn) and 10% (Sustain only) of the Company's total revenues for the nine months ended June 30, 2013 and 2012, respectively. (Consolidated revenues were $9,204,000 and $8,131,000 for the three months ended June 30, 2013 and 2012, respectively.)

Consolidated operating costs and expenses increased by $6,892,000 (40%) to $24,331,000 from $17,439,000, primarily for New Dawn and Sustain. Total personnel costs increased by $3,853,000 (37%) to $14,169,000 from $10,316,000 primarily due to New Dawn's additional personnel costs of $4,551,000, Sustain's implementation and development personnel cost increases of $1,191,000 and annual salary adjustments, partially offset by a $730,000 decrease in the expenses related to the Company's Management Incentive Plan ("Incentive Plan"). The decrease in Incentive Plan expense consisted of a reduction of $1,400,000 in the Incentive Plan accrual during the nine months ended June 30, 2013 due to reduced estimated current and future consolidated pretax profits before this accrual versus a reduction of $670,000 in the prior comparable period. Depreciation and amortization costs increased by $1,173,000 (316%) to $1,544,000 mainly resulting from the amortization of New Dawn's purchased software and customer relationships costs of $1,111,000. Other general and administrative expenses also increased by $1,537,000 (62%) primarily resulting from increased professional fees and additional rent, sales and marketing expenses for New Dawn. (Consolidated operating costs and expenses were $8,743,000 and $5,897,000 for the three months ended June 30, 2013 and 2012, respectively.)

Page 14 of 18

The traditional business segment revenues are very much dependant on the number of California and Arizona foreclosure notices. The number of foreclosure notices published by the Company decreased by 49% during the nine months ended June 30, 2013 as compared to the prior comparable period. Although public notice advertising revenues were down compared to the prior year period, the Company still continued to benefit from a relatively large number of foreclosures in California and Arizona for which public notice advertising is required by law. Effective January 1, 2013, the California Homeowner's Bill of Rights imposed new requirements that have contributed to the slowdown in the foreclosure process. Because this slowing is expected to continue, we anticipate there will be fewer foreclosure notice advertisements and declining revenues in fiscal 2013, and the Company's print-based earnings will also grossly decline because it will be impractical for the Company to offset all revenue loss by expense reduction. The Company's smaller newspapers, those other than the Los Angeles and San Francisco Daily Journals ("The Daily Journals"), accounted for about 95% of the total public notice advertising revenues in the nine-month period. Public notice advertising revenues and related advertising and other service fees constituted about 39% of the Company's total revenues during this period. Because of this concentration, the Company's revenues would be significantly affected if California (and to a lesser extent Arizona) eliminated the legal requirement to publish public notices in adjudicated newspapers of general circulation, as has been proposed from time to time. Also, if the adjudication of one or more of the Company's newspapers was challenged and revoked, those newspapers would no longer be eligible to publish public notice advertising, and it could have a material adverse effect on the Company's revenues. We do not expect to experience an offsetting increase in commercial advertising as a result of this trend because of the continuing challenges in the commercial advertising business. Advertising service fees and other are traditional business segment revenues, which include primarily (i) agency commissions received from outside newspapers in which the advertising is placed and (ii) fees generated when filing notices with government agencies. The Daily Journals accounted for about 85% of the Company's total circulation revenues. The court rule and judicial profile services generated about 13% of the total circulation revenues, with the other newspapers and services accounting for the balance.

Sustain's and New Dawn's consulting, licensing and maintenance revenues are subject to uncertainty because they depend on (i) the timing of the acceptance of the completed installations, (ii) the unpredictable needs of their existing customers, and (iii) their ability to secure new customers. In most cases, revenues from their new installation projects will only be recognized, if at all, upon completion and acceptance of their services by the various customers. The Company's expenses for the development of software products are significant and will materially impact overall results at least through the foreseeable future. These costs are expensed as incurred due to the uncertainties concerning recoverability.

On a pretax profit of $4,086,000 and $5,343,000 for the nine months ended June 30, 2013 and 2012, respectively, the Company recorded a tax provision of $1,275,000 and $1,385,000 respectively, which was lower in each case than the amount computed using the statutory rate because of the available dividends received deduction and the domestic production activity deduction. Consequently, the Company's effective tax rate was 31% and 26% for the nine months ended June 30, 2013 and 2012, respectively. The acquisition of New Dawn was structured as a stock acquisition with an Internal Revenue Code Section 338 (h)(10) election, which results in the acquisition being treated similarly to an acquisition of assets for income tax purposes. As such, the amounts allocated to purchased software and customer relationships as well as goodwill are amortized over a 15-year period on a straight line basis for tax purposes. Differences in the amortization period and methods between book and tax useful lives will result in deferred tax assets or liabilities. The Company files federal income tax returns in the United States and with various state jurisdictions and is no longer subject to examinations for years before 2010 with regard to federal income taxes. Net income per share decreased to $2.04 from $2.87.

Liquidity and Capital Resources

During the nine months ended June 30, 2013, the Company's cash and cash equivalents, and marketable security positions increased by $30,763,000. Cash and cash equivalents were used primarily for the purchase of capital assets of $258,000 (mostly computer software and office equipment). During the first quarter of fiscal 2013, the Company borrowed $14 million from its investment margin account to purchase all of the outstanding stock of New Dawn and pledged its marketable securities to obtain favorable financing. During the first quarter of fiscal 2012, the Company bought shares of common stock of a Fortune 200 company, and during the third quarter of fiscal 2012, it bought additional shares of common stock of one of the foreign manufacturing companies in which it had previously invested. There have been no additional purchases in fiscal 2013. The investments in marketable securities, which cost approximately $49,694,000 and had a market value of about $128,421,000 at June 30, 2013, generated approximately $1,832,000 in dividends and interest income, which lowers the effective income tax rate because of the dividends received deduction. As of June 30, 2013, there were unrealized pretax gains of $78,727,000 as compared to $52,464,000 at September 30, 2012. Most of the unrealized gains were in the common stocks.

Page 15 of 18

The cash provided by operating activities of $2,634,000 included net increases in deferred maintenance agreements and installation contracts of $538,000, partially offset by a net decreases in deferred subscriptions of $410,000. Proceeds from the sale of subscriptions from newspapers, court rule books and other publications and for software licenses and maintenance and other services are recorded as deferred revenue and are included in earned revenue only when the services are rendered and accepted. Cash flows from operating activities decreased by $3,748,000 during the nine months ended June 30, 2013 as compared to the prior comparable period primarily resulting from the decreases in accounts payable and accrued liabilities of $1,840,000, deferred subscriptions of $463,000 and net income of $1,147,000.

As of June 30, 2013, the Company had working capital of $90,198,000, including the liabilities for deferred subscriptions and deferred maintenance agreements of $7,338,000, which are scheduled to be earned within one year, and the deferred tax liability of $31,360,000 for the unrealized gains described above.

Company believes that it will be able to fund its operations for the foreseeable future through its cash flows from operating activities and its current working capital and expects that any such cash flows will be invested in its businesses. The Company continues to have the ability to borrow against its marketable securities on favorable terms as it did for the New Dawn acquisition. The Company also may entertain business acquisition opportunities, as it did in acquiring New Dawn. Any excess cash flows could be used to reduce the investment margin account liability or invested as management and the Board of Directors deem appropriate at the time.

Such investments may include additional securities of the companies in which the Company has already invested, securities of other companies, government securities (including U.S. Treasury Notes and Bills) or other instruments. The decision as to particular investments will be driven by the Company's belief about the risk/reward profile of the various investment choices at the time, and it may utilize government securities as a default if attractive opportunities for a better return are not available. The Company's Chairman of the Board, Charles Munger, is also the vice chairman of Berkshire Hathaway Inc., which maintains a substantial investment portfolio. The Company's Board of Directors has utilized his judgment and suggestions, as well as those of J.P. Guerin, the Company's vice chairman, when selecting investments, and both of them will continue to play an important role in monitoring existing investments and selecting any future investments.

As noted above, however, the investments are concentrated in just six companies. Accordingly, a significant decline in the market value of one or more of the Company's investments may not be offset by the hypothetically better performance of other investments, and that could result in a large decrease in the Company's shareholders' equity and, under certain circumstances, in the recognition of impairment losses in the Company's income statement.

Critical Accounting Policies

The Company's financial statements and accompanying notes are prepared in accordance with U.S. generally accepted accounting principles. Preparing financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses. These estimates and assumptions are affected by management's application of accounting policies. Management believes that revenue recognition, accounting for capitalized software costs and income taxes are critical accounting policies.

Page 16 of 18

The Company's critical accounting policies are detailed in its Annual Report on Form 10-K for the year ended September 30, 2012. The above discussion and analysis should be read in conjunction with the unaudited consolidated financial statements and the notes thereto included in this report.

Disclosure Regarding Forward-Looking Statements

This Quarterly Report on Form 10-Q includes "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities Exchange Act of 1934, as amended. Certain statements contained in this document, including but not limited to those in "Management's Discussion and Analysis of Financial Condition and Results of Operations", are "forward-looking" statements that involve risks and uncertainties that may cause actual future events or results to differ materially from those described in the forward-looking statements. Words such as "expects," "intends," "anticipates," "should," "believes," "will," "plans," "estimates," "may," variations of such words and similar expressions are intended to identify such forward-looking statements. We disclaim any intention or obligation to revise any forward-looking statements whether as a result of new information, future developments, or otherwise. There are many factors that could cause actual results to differ materially from those contained in the forward-looking statements. These factors include, among others: risks associated with Sustain's internal software development efforts; Sustain's and New Dawn's reliance on professional services engagements with justice agencies, including California courts, for a substantial portion of their revenues; material changes in the costs of postage and paper; possible changes in the law, particularly changes limiting or eliminating the requirements for public notice advertising; possible loss of the adjudicated status of the Company's newspapers and their legal authority to publish public notice advertising; a decline in public notice advertising revenues because of fewer foreclosures; a further decline in subscriber and commercial advertising revenues; collectibility of accounts receivable; the Company's reliance on its president and chief executive officer; changes in accounting guidance; and declines in the market prices of the Company's investments. In addition, such statements could be affected by general industry and market conditions, general economic conditions (particularly in California) and other factors. Although the Company believes that the expectations reflected in such forward-looking statements are reasonable, it can give no assurance that such expectations will prove to have been correct. Important factors that could cause actual results to differ materially from those in the forward-looking statements are disclosed in this Form 10-Q, including in conjunction with the forward-looking statements themselves. Additional information concerning factors that could cause actual results to differ materially from those in the forward-looking statements is contained from time to time in documents filed by the Company with the Securities and Exchange Commission, including in the Company's Annual Report on Form 10-K for the fiscal year ended September 30, 2012.

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