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LOJN > SEC Filings for LOJN > Form 10-Q on 5-May-2014All Recent SEC Filings

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Form 10-Q for LOJACK CORP


5-May-2014

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, 2013. 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, our ability to sell products to our Argentine and other licensees, 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: (1) the continued and future acceptance of our products and services, including, but not limited to, our pre-install program and new telematics solution; (2) our ability to obtain financing from lenders; (3) the outcome of ongoing litigation involving the Company; (4) the rate of growth in the industries of our customers; (5) the presence of competitors with greater technical, marketing, and financial resources; (6) our customers' ability to access the credit markets, including changes in interest rates; (7) our ability to promptly and effectively respond to technological change to meet evolving customer needs; (8) our ability to successfully expand our operations, including through the introduction of new products and services; (9) changes in general economic or geopolitical conditions, including the European debt crisis; (10) conditions in the automotive retail market and our relationships with dealers, licensees, partners and agents; (11) the expected timing of purchases by our customers;
(12) our ability to achieve the expected benefits from our strategic alliance with TomTom; (13) financial and reputational risks related to product quality and liability issues; (14) trade tensions and governmental regulation and restrictions on imports that may affect sales to our licensees; and (15) the timing and potential impact of regulations mandating the installation of tracking devices using GPS and mobile communications technologies. 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, 2013, 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, recovery and management 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 29 states and the District of Columbia in the United States, as well as our wholly owned subsidiary, LoJack Canada, 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. During the first quarter of 2014, 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


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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. 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. 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. For the majority of our extended warranty contracts, we recognize revenue upon delivery as we are not the primary obligor for those contracts.
A significant portion of our revenue in Canada is derived from the recognition of revenue from service contracts for Boomerang Units sold prior to the transition from Boomerang Units to LoJack Units during 2011. Customers who purchased a Boomerang Unit 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.
Certain insurance companies in Quebec and Ontario offer rebates to customers who install LoJack Units in their vehicles, and in some instances, insurance companies require installation of a stolen vehicle recovery product in such vehicles.
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 re-entry into the automotive dealership channel in Ontario with LoJack technology has been met with favorable responses from dealers.
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
SCI revenue is derived from the sale, lease or service of tracking devices as well as subscription fees for monitoring service alerts and activity reporting. Key Economic Factors and Trends and our Business Economic and market data and industry statistics and forecasts used throughout this report are based upon management's review of independent industry publications, reports by market research firms and other independent and publicly available sources. Although we believe that these third-party sources are reliable, we do not guarantee the accuracy or completeness of this information and have not independently verified this information. While global economic growth remains unsettled, the automotive markets within which we sell our products on balance have been a positive growth story. During 2013, global economic growth slowed to approximately 3% as a result of the economic issues in the Eurozone and a slowdown of economic activity in several key newly-developed and emerging markets. The impact on the light vehicle automotive market was varied. European Union light vehicle sales declined by approximately 2%, and our licensee market in Brazil experienced an approximate decline of 2%. Argentina, South Africa and Mexico's light vehicle markets all realized positive growth of


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approximately 14%, 4% and 8%, respectively. The U.S. light vehicle automotive market posted growth of approximately 8% compared with the prior year. During 2014, global economic growth is expected to increase slightly, to approximately 4%, led principally by continued fiscal recovery among advanced economies, namely the United States. Emerging economies are also expected to experience stronger growth in 2014, driven by fiscal stimulus and export growth into the recovering United States and European Union. The United States is expected to realize moderate growth of approximately 3%, while Euro area economies are expected to achieve a nominal increase of 1%. International automotive growth for 2014 is estimated to continue to be varied. Growth in the European Union is expected to be between 2% and 3% for the full year as large markets in Italy, France and Spain return to positive territory. Our key emerging market licensee territories of Brazil and Mexico are expected to grow between 1% and 4%, while Argentina and South African markets are forecasted to decline by 25% and 2%, respectively. U.S. retail automotive growth is expected to grow in line with the U.S. economy, with analysts estimating light vehicle sales volume growth between 3% and 4% during 2014. North America Segment
Revenue related to our U.S. business declined slightly during the first quarter of 2014 as compared to the same period in the prior year. Our focus on the U.S. automotive business resulted in significant performance improvement during 2013, with unit sales in the dealer channel increasing 25% as compared to the prior year. Despite a comparatively slow start to the year, in the first quarter of 2014, our unit sales exceeded retail market performance by 2 percentage points, or 5% growth. This growth in unit volume during the first quarter was offset by a 4% decrease in average revenue per unit, as our domestic pre-install business, which has lower average revenue per unit, has continued to gain traction. In the first quarter of last year, pre-installed units accounted for 44% of our U.S. unit sales, while in the first quarter of 2014 that percentage was up to 52% of U.S. unit sales.
Industry experts are projecting 2014 automotive industry to grow in line with the U.S. economy, with growth in the 3% to 4% range. Although all of the 2013 growth factors are expected to remain factors into 2014, strong comparable sales volumes against 2013, and worked-off demand from the most accessible pool of buyers has weakened growth expectations as compared to 2013. Pent-up demand for light vehicles remains strong across all socio-economic segments, but the economy has not yet improved to a point where the means to buy has returned to all of those hurt by the latest recession. Buying from low income households and small businesses is expected to continue to lag behind the rest of the market, as sluggish economic growth and high unemployment leaves these potential buyers less accessible to the market.
Two key factors positively impacted demand for our product in 2013. The first factor is the strong and sustained auto demand experienced during 2013. The 2013 fiscal year was the fourth year in a row of solid U.S. automotive industry growth and 2014 is projected to remain positive. The second factor is the increasing need for profitable, value-add products within Financing and Insurance departments at automotive dealers. Decreased vehicle margins resulting from price transparency, and increased brand competition have put pressure on dealerships to increase profit contributions in other areas of the dealership. We believe that our well-known brand and long history of delivering on our consumer value proposition, coupled with a strong value proposition for the dealer, make the LoJack Stolen Vehicle Recovery system an attractive alternative to other after-market products available to the dealership. These two factors contributed to increased dealer receptivity to our pre-install programs and increased volumes within selling dealers during 2013. Sluggish U.S. employment growth, lackluster GDP growth, and European economic headwinds continue to be obstacles to sustaining this industry optimism.
Our heavy equipment, or commercial, channel experienced a slight decline in revenue of 3% during the first three months of 2014 as compared to the same period in the prior year. There has been a high level of interest, however, in our ruggedized self-powered product, which was recognized as one of Equipment Today's 2012 Contractors' Top 50 New Products. In the U.S., construction spending increased approximately 7% in 2013. Construction starts are expected to outpace economic growth in 2014 at 9%. As the rebound in the construction market continues, construction and industrial equipment rentals are forecast to grow between 6% and 9% in 2014 and accelerate thereafter, resulting in a compounded annual growth rate of almost 9% from 2013 to 2016. International Segment
Shipments in our international business decreased slightly in the first quarter of 2014 compared to the same period last year primarily due to a decrease in shipments to our licensees in the United Kingdom 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 very high frequency, or VHF, and GPS based tracking systems.


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We also are faced with uncertainty regarding developing governmental policies and enforcement actions in Argentina that have affected, and may continue to affect, sales to our licensee in that country, as well as uncertainty regarding the timing and potential impact of the Brazilian regulation mandating the installation of tracking devices using GPS positioning and mobile communications technologies.
In South Africa, our licensee has had recent success in expanding its target markets through a direct marketing campaign wherein they market and sell stolen vehicle recovery devices to consumers through call center representatives. Our South African licensee plans to continue these direct marketing efforts for the foreseeable future.
In Argentina, government controls restricting the importation of goods and the exchange of Argentine Pesos for U.S. Dollars continue to make 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. Several states and governmental bodies, including the U.S., Japan and the European Union, have submitted complaints and formal requests for the World Trade Organization, or WTO, to establish a Panel to rule on the legality of Argentina's trade measures. The WTO's Director-General composed such a Panel on May 27, 2013. Should the WTO Panel rule in favor of these complainants, Argentina could be ordered to remove the restrictions, or possibly face punitive tariffs from its foreign trading partners. Currently, it is unclear whether these proceedings with the WTO will result in changes to Argentina's trade policies that are favorable to our business.
During 2012, our Argentine license did not receive permission to import our products following adoption of the pre-approval requirement in February 2012. As a result, from February through December 2012 we did not ship any units to Argentina. Our Argentine licensee has informed us that it and its affiliates have developed several commodity export programs with the expectation that our licensee would be permitted to import a dollar amount of goods approximately equivalent to the dollar amount of exports our licensee and its affiliates generate. Subsequently, we were able to make several shipments of product to our licensee in Argentina in the second, third and fourth quarters of 2013. However, the amount of these shipments remained less that the dollar amount that our licensee has told us it has generated to date in exports. In the first quarter of 2014, we did not ship any units to our licensee in Argentina.
Our Argentine licensee continues to indicate that there is strong market demand for our product, supported primarily by insurance company mandates requiring customers to use an SVR product. In 2014, LoJack's ability to fulfill our licensee's orders based on this demand will remain contingent upon the ability of our licensee to comply with Government trade policies regulating the importation of manufactured goods. If our Argentine licensee and its affiliates are unable to generate significant exports or if the government changes its trade policies, we may not be able to ship products to Argentina in volumes consistent with prior years.
In Brazil, our licensee purchased units during the first quarter of 2013. During the last nine months of 2013 and the first three months of 2014, no units were shipped to our Brazilian licensee. Our sales in 2014 to our Brazilian licensee could be impacted by the results of our legal dispute (see Part II, Item 1, "Legal Proceedings" for detail on the Brazilian licensee litigation). Certain of our European territories are experiencing an economic downturn deepened by government wage and pension reductions, rising unemployment and tight consumer credit availability. While available economic data has indicated the start of improving economic conditions, the pace of recovery is expected to be slow. Growth in consumer spending and new vehicle sales are expected to remain muted in 2014. During the first quarter of 2014, certain European automobile industry trade associations have indicated that light vehicle sales in the European Union increased by approximately 8%. The effect of lower vehicle sales has been mitigated in part by a positive market response to our self-powered product.
Our business in Italy continued to grow in terms of subscribers during the first quarter of 2014, and our revenues grew by 34% compared to the same period in 2013 primarily due to a larger subscriber base. We entered 2014 with approximately 33,600 subscribers in Italy, and continued growing the number of subscribers, adding approximately 1,200 net new subscribers in the first quarter of 2014. As of March 31, 2014, our business in Italy had a total of approximately 34,800 subscribers. While we continue to grow our subscriber base 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 weak new vehicle registrations. During the first quarter of 2014, new car registrations were reported to have grown by 6% as compared to the same period in 2013. Certain auto industry analysts are projecting light vehicle registrations in Italy to grow between 3% and 4% in 2014.


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All Other Segment
During 2013 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. Key Factors of our Business
We embarked upon a critical evaluation of our business during 2011 and developed a strategy designed to stabilize the business financially and to control growth. During 2012, we improved our internal processes and continued to explore opportunities to expand our core businesses in the United States and internationally. Our focus on the U.S. automotive business resulted in significant improvement in performance during 2012, with unit sales in the dealer channel increasing 11% as compared to the prior year, and unit sales in the fourth quarter exceeding retail market performance by 9.5 percentage points, or 21% growth. We continued the expansion of our U.S. business in 2013, most particularly within the expansion of our pre-install program. Our unit sales in the U.S. dealer channel grew 5% in the first quarter of 2014 as compared to 2013. Pre-installed units accounted for 52% of our units sold in the domestic dealer channel during the first quarter of 2014, compared to 44% during the first quarter of the prior year.
In our international business we face a number of challenges and opportunities. In particular, during 2012 the Argentine government imposed significant trade restrictions on imports that have precluded our licensee in that country from purchasing product from us. The restrictions continued during 2013, and while we were successful in exporting some units to Argentina in 2013, our licensee in that country was unable to arrange for governmental approval to purchase the amount of product commensurate with the demand for stolen vehicle recovery products in Argentina and its market share. Our European business has also been impacted by ongoing recessionary pressures. In South Africa, our licensee has had recent success in expanding its target markets and plans to continue to explore this opportunity. We continue to explore opportunities to expand into new territories and to meet the demand for our products in our existing markets. We believe that our continued focus on executing our strategic goals for 2014 will enable us to continue our growth efforts and:
Build on the momentum established in 2013 to restore our domestic business to profitable growth;

Grow our existing core licensee business while identifying new international go-to-market opportunities;

Expand our product and service offerings through our strategic alliances, the first of which is with TomTom related to our fleet management offerings;

Increase our investment in those businesses that we view as potential significant sources of future revenue and profit;

Streamline and simplify our business processes to improve the overall experience for our customers and continue to aggressively manage our cost structure and discretionary spending;

Successfully implement our Enterprise Resource Planning (ERP) System initiative; and

Develop and maintain highly differentiated products and services in each line of our business while broadening our knowledge of the industry, current markets and potential new markets to pursue going forward.

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 that 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 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, 2013 for further discussion of our critical accounting policies and estimates.


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Recently Adopted Accounting Guidance and Accounting Guidance Issued But Not Yet Adopted
The Company has implemented all new accounting pronouncements that are in effect and that may impact its financial statements and does not believe that there are any other new accounting pronouncements that have been issued that might have a material impact on its financial position or results of operations. Results of Operations for the three months ended March 31, 2014 as compared to the three months ended March 31, 2013
Revenue
Revenue for the three months ended March 31, 2014 decreased by $1,088,000 as compared to the same period in 2013. The following table presents revenue by our segments (in thousands):
. . .

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