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MLNK > SEC Filings for MLNK > Form 10-K on 15-Oct-2013All Recent SEC Filings

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Form 10-K for MODUSLINK GLOBAL SOLUTIONS INC


15-Oct-2013

Annual Report


ITEM 7.- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

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 executes 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, medical devices, 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 believe that by leveraging our global footprint, we will be able to optimize our clients' supply chains using multi-facility, multi-geographic solutions.

Management evaluates operating performance based on net revenue, operating income (loss), and net income (loss), and, across its segments, on the basis of "adjusted operating income (loss)," which is defined as operating income (loss) excluding net charges related to depreciation, amortization of intangible assets, impairment of goodwill and long-lived assets, share-based compensation, restructuring and other charges not related to our baseline operating results. See Note 4 of the accompanying notes to the consolidated financial statements included in Item 8 for segment information, including a reconciliation of adjusted operating income (loss) to net income (loss).

Historically, a significant portion of our revenue from our Supply Chain Business has been generated from clients in the computing 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 computing and software markets, we have expanded our sales focus to include additional markets within technology, such as communications and consumer electronics, and outside of technology, such as medical devices. 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 expect that these services present the opportunity for greater gross margins and profitability.

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 benefit from our global integrated business solution. We also strive to reduce our operating costs while implementing operational efficiencies throughout the Company.

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, demand for our clients' products, the effect of product form factor changes, technology changes, revenue mix and demand for outsourcing services.

For the 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 $35.6 million, net loss of $40.4 million and a gross margin percentage of 9.9%. We currently conduct business in many countries including, but not limited to, the Netherlands, France, Ireland, Czech Republic, Singapore, China, Japan, Australia, and Mexico, in addition to our United States operations.

As a large portion of our revenue comes from outsourcing services provided to clients such as hardware manufacturers, software publishers and consumer electronics companies, our operating performance has been and may continue to be adversely


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affected by declines in the overall performance of the technology sector and the sustained economic 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 market for our services is 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. During the fiscal year ended July 31, 2013, our gross margin percentage was 9.9%. Increased competition arising from 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, establishing facilities closer to areas where our clients' products are manufactured or to our clients' end markets to gain efficiencies, 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, 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. For the fiscal year ended July 31, 2011, sales to Hewlett-Packard accounted for approximately 29% of our consolidated net revenue while ten clients accounted for approximately 75% of our consolidated net revenue. We expect to continue to derive the vast majority of our operating 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 sales are 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.

On March 12, 2013, stockholders of the Company approved the sale of 7,500,000 shares of newly issued common stock to Steel Partners Holdings L.P. ("Steel Partners") at a price of $4.00 per share, resulting in aggregate proceeds of $30.0 million before transaction costs. The Company incurred $2.3 million of transaction costs, which consisted primarily of investment banking and legal fees, resulting in net proceeds from the sale of $27.7 million. In addition, as part of the transaction, the Company issued Steel Partners a warrant to acquire an additional 2,000,000 shares at an exercise price of $5.00 per share. The Company intends to use the cash received for general corporate purposes. At July 31, 2013, we had cash and cash equivalents and available-for-sale securities of $78.0 million, and working capital of $114.7 million.

Basis of Presentation

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 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 5 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.


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Results of Operations

Fiscal Year 2013 compared to Fiscal Year 2012

Net Revenue:

                             As a  %                     As a  %
                                of                          of
                              Total                       Total
                               Net                         Net
                 2013        Revenue         2012        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.

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.

Cost of Revenue:



                             As a %                       As a %
                               of                           of
                             Segment                      Segment
                               Net                          Net
                2013         Revenue         2012         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 %


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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.

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 %                      As a %
                                                      of                          of
                                                    Segment                     Segment
                                                      Net                         Net
                                        2013        Revenue         2012        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 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 %                     As a %
                               of                         of
                             Segment                    Segment
                               Net                        Net
                 2013        Revenue        2012        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 %)


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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 lives ranging from 1 to 2 years.

Impairment of Goodwill and Long-Lived Assets:



                             As a %                    As a %
                               of                        of
                             Segment                   Segment
                               Net                       Net
                  2013       Revenue       2012        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 has been recorded as a component of "impairment of goodwill and long-lived assets" in the 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 %                     As a %
                                                   of                         of
                                                 Segment                    Segment
                                                   Net                        Net
                                     2013        Revenue        2012        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


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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 . . .

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