Document



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q
(Mark One)
x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended May 31, 2018

 or
 
o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
 
Commission file number: 0-28839
 
VOXX International Corporation
(Exact name of registrant as specified in its charter)
Delaware
(State or other jurisdiction of
incorporation or organization)
13-1964841
(IRS Employer Identification No.)
 
2351 J Lawson Blvd., Orlando, Florida
(Address of principal executive offices)
 
32824
(Zip Code)
 
(800) 654-7750
(Registrant's telephone number, including area code)
 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes   x No   o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company, as defined in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer  o      Accelerated filer  x Non-accelerated filer  o      Smaller reporting company   o    
Emerging growth company   o

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act
o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes   o       No   x

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes   x No   o

Number of shares of each class of the issuer's common stock outstanding as of the latest practicable date.

1





Class
As of July 9, 2018
Class A Common Stock
21,938,100

Shares
Class B Common Stock
2,260,954

Shares

2




VOXX International Corporation and Subsidiaries
 

 
Table of Contents
 
 
Page
PART I
FINANCIAL INFORMATION
 
 
 
 
Item 1
FINANCIAL STATEMENTS
 
 
Consolidated Balance Sheets at May 31, 2018 (unaudited) and February 28, 2018
 
Unaudited Consolidated Statements of Operations and Comprehensive Income (Loss) for the Three Months Ended May 31, 2018 and 2017
 
Unaudited Consolidated Statements of Cash Flows for the Three Months Ended May 31, 2018 and 2017
 
Notes to Unaudited Consolidated Financial Statements
Item 2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Item 3
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Item 4
CONTROLS AND PROCEDURES
 
 
 
PART II
OTHER INFORMATION
 
 
 
 
Item 1
LEGAL PROCEEDINGS
Item 1A
RISK FACTORS
Item 2
UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Item 6
EXHIBITS
SIGNATURES
 


3



PART I - FINANCIAL INFORMATION

ITEM 1.  FINANCIAL STATEMENTS

VOXX International Corporation and Subsidiaries
Consolidated Balance Sheets
(In thousands, except share and per share data)
 
 
May 31, 2018
 
February 28, 2018
Assets
 
(unaudited)
 
 
Current assets:
 
 
 
 
Cash and cash equivalents
 
$
49,827

 
$
51,740

Accounts receivable, net
 
65,608

 
81,116

Inventory, net
 
118,344

 
117,992

Receivables from vendors
 
1,717

 
493

Prepaid expenses and other current assets
 
17,228

 
14,007

Income tax receivable
 
646

 
511

Total current assets
 
253,370

 
265,859

Investment securities
 
3,373

 
4,167

Equity investments
 
22,227

 
21,857

Property, plant and equipment, net
 
63,835

 
65,259

Goodwill
 
54,785

 
54,785

Intangible assets, net
 
148,275

 
150,320

Deferred tax assets
 
24

 
24

Other assets
 
15,050

 
13,373

Total assets
 
$
560,939

 
$
575,644

Liabilities and Stockholders' Equity
 
 

 
 

Current liabilities:
 
 

 
 

Accounts payable
 
$
34,357

 
$
34,700

Accrued expenses and other current liabilities
 
32,660

 
36,350

Income taxes payable
 
317

 
2,587

Accrued sales incentives
 
10,854

 
14,020

Current portion of long-term debt
 
8,010

 
7,730

Total current liabilities
 
86,198

 
95,387

Long-term debt, net of debt issuance costs
 
8,153

 
8,476

Capital lease obligation
 
852

 
699

Deferred compensation
 
2,769

 
3,369

Deferred income tax liabilities
 
11,579

 
12,217

Other tax liabilities
 
2,163

 
2,191

Other long-term liabilities
 
3,085

 
3,187

Total liabilities
 
114,799

 
125,526

Commitments and contingencies
 
 
 
 
Stockholders' equity:
 
 

 
 

Preferred stock:
 
 
 
 
No shares issued or outstanding (see Note 20)
 

 

Common stock:
 
 
 
 
Class A, $.01 par value, 60,000,000 shares authorized, 24,106,194 shares issued and 21,938,100 shares outstanding at both May 31, 2018 and February 28, 2018
 
242

 
256

Class B Convertible, $.01 par value, 10,000,000 shares authorized, 2,260,954 shares issued and outstanding
 
22

 
22

Paid-in capital
 
296,502

 
296,395

Retained earnings
 
193,734

 
194,673

Accumulated other comprehensive loss
 
(15,740
)
 
(14,222
)
Treasury stock, at cost, 2,168,094 shares of Class A Common Stock at both May 31, 2018 and February 28, 2018
 
(21,176
)
 
(21,176
)
Total VOXX International Corporation stockholders' equity
 
453,584

 
455,948

Non-controlling interest
 
(7,444
)
 
(5,830
)
Total stockholders' equity
 
446,140

 
450,118

Total liabilities and stockholders' equity
 
$
560,939

 
$
575,644


4



See accompanying notes to unaudited consolidated financial statements.

5



VOXX International Corporation and Subsidiaries
Unaudited Consolidated Statements of Operations and Comprehensive (Loss) Income
 (In thousands, except share and per share data)
 
 
Three Months Ended
May 31,
 
 
2018
 
2017
Net sales
 
$
100,855

 
$
114,823

Cost of sales
 
73,178

 
84,679

Gross profit
 
27,677

 
30,144

 
 
 
 
 
Operating expenses:
 
 

 
 

Selling
 
10,694

 
12,409

General and administrative
 
16,112

 
20,197

Engineering and technical support
 
5,911

 
6,654

Total operating expenses
 
32,717

 
39,260

Operating loss
 
(5,040
)
 
(9,116
)
 
 
 
 
 
Other income (expense):
 
 

 
 

Interest and bank charges
 
(1,100
)
 
(1,792
)
Equity in income of equity investees
 
1,814

 
1,803

Other, net
 
661

 
(1,007
)
Total other income (expense), net
 
1,375

 
(996
)
 
 
 
 
 
Loss from continuing operations before income taxes
 
(3,665
)
 
(10,112
)
Income tax benefit from continuing operations
 
(1,113
)
 
(7,428
)
Net loss from continuing operations
 
(2,552
)
 
(2,684
)
 
 
 
 
 
Net loss from discontinued operations, net of tax (Note 2)
 

 
(2,222
)
Net loss
 
(2,552
)
 
(4,906
)
Less: net loss attributable to non-controlling interest
 
(1,613
)
 
(1,875
)
Net loss attributable to VOXX International Corporation
 
$
(939
)
 
$
(3,031
)
 
 
 
 
 
Other comprehensive (loss) income:
 
 
 
 
        Foreign currency translation adjustments
 
(2,020
)
 
7,359

        Derivatives designated for hedging
 
442

 
(1,052
)
        Pension plan adjustments
 
36

 
(120
)
        Unrealized holding gain (loss) on available-for-sale investment securities, net of tax
 
24

 
(4
)
          Other comprehensive (loss) income, net of tax
 
(1,518
)
 
6,183

Comprehensive (loss) income attributable to VOXX International Corporation
 
$
(2,457
)
 
$
3,152

 
 
 
 
 
Loss per share - basic:
 
 
 
 
          Continuing operations
 
$
(0.04
)
 
$
(0.03
)
          Discontinued operations
 
$

 
$
(0.09
)
          Attributable to VOXX International Corporation
 
$
(0.04
)
 
$
(0.13
)
 
 
 
 
 
Loss per share - diluted:
 
 
 
 
          Continuing operations
 
$
(0.04
)
 
$
(0.03
)
          Discontinued operations
 
$

 
$
(0.09
)
          Attributable to VOXX International Corporation
 
$
(0.04
)
 
$
(0.13
)
 
 
 
 
 
Weighted-average common shares outstanding (basic)
 
24,316,103

 
24,160,324

Weighted-average common shares outstanding (diluted)
 
24,316,103

 
24,160,324


See accompanying notes to unaudited consolidated financial statements.


6





7



VOXX International Corporation and Subsidiaries
Unaudited Consolidated Statements of Cash Flows
 
 
Three Months Ended
May 31,
 
 
2018
 
2017
Cash flows from operating activities:
 
 
 
 
Net loss from continuing operations
 
$
(2,552
)
 
$
(2,684
)
Net loss from discontinued operations
 

 
(2,222
)
 
 
 
 
 
Adjustments to reconcile net loss to net cash provided by operating activities:
 
 

 
 

Depreciation and amortization
 
2,962

 
4,445

Amortization of debt discount
 
206

 
205

Bad debt expense
 
95

 
96

Loss (gain) on forward contracts
 
244

 
(299
)
Equity in income of equity investees
 
(1,814
)
 
(1,803
)
Distribution of income from equity investees
 
1,444

 
2,515

Deferred income tax benefit
 
(716
)
 
(2,181
)
Non-cash compensation adjustment
 
(600
)
 
(45
)
Stock based compensation expense
 
107

 
142

Gain on sale of property, plant and equipment
 
(1
)
 
(10
)
Changes in operating assets and liabilities:
 
 

 
 

Accounts receivable
 
14,606

 
2,302

Inventory
 
(1,531
)
 
(7,231
)
Receivables from vendors
 
(1,226
)
 
(52
)
Prepaid expenses and other
 
8

 
(9,588
)
Investment securities-trading
 
788

 
627

Accounts payable, accrued expenses, accrued sales incentives and other liabilities
 
(6,385
)
 
18,111

Income taxes payable
 
(2,350
)
 
(1,901
)
Net cash provided by operating activities
 
3,285

 
427

Cash flows used in investing activities:
 
 

 
 

Purchases of property, plant and equipment
 
(179
)
 
(2,816
)
Proceeds from sale of property, plant and equipment
 
1

 
10

Issuance of notes receivable
 
(1,700
)
 

Purchase of business
 

 
(1,814
)
Net cash used in investing activities
 
(1,878
)
 
(4,620
)
Cash flows provided by financing activities:
 
 

 
 

Principal payments on capital lease obligation
 
(86
)
 
(172
)
Repayment of bank obligations
 
(679
)
 
(15,330
)
Borrowings on bank obligations
 
911

 
19,392

Net cash provided by financing activities
 
146

 
3,890

Effect of exchange rate changes on cash
 
(3,466
)
 
563

Net (decrease) increase in cash and cash equivalents
 
(1,913
)
 
260

Cash and cash equivalents at beginning of period
(a)
51,740

(a)
7,800

Cash and cash equivalents at end of period
 
$
49,827

(a)
$
8,060

(a) Cash and cash equivalents at February 28, 2017 and May 31, 2017 included $6,844, and $5,085, respectively, in current assets held for sale for Hirschmann.

See accompanying notes to unaudited consolidated financial statements.


8



VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
(Amounts in thousands, except share and per share data)

(1)    Basis of Presentation

The accompanying unaudited interim consolidated financial statements of VOXX International Corporation and Subsidiaries ("Voxx" or the "Company") have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission and in accordance with accounting principles generally accepted in the United States of America and include all adjustments (consisting of normal recurring adjustments), which, in the opinion of management, are necessary to present fairly the consolidated financial position, results of operations and cash flows for all periods presented.  The results of operations are not necessarily indicative of the results to be expected for the full fiscal year or any interim period.  These unaudited consolidated financial statements do not include all disclosures associated with consolidated financial statements prepared in accordance with accounting principles generally accepted in the United States of America. Accordingly, these statements should be read in conjunction with the Company's audited consolidated financial statements and notes thereto contained in the Company's Form 10-K for the fiscal year ended February 28, 2018. The Company's financial statements for the prior periods presented herein have been recast to reflect a certain business that was classified as discontinued operations during the second quarter of Fiscal 2018. See Note 2 for additional information. Net loss per share amounts for continuing and discontinued operations are computed independently. As a result, the sum of the per share amounts may not equal the total.

We operate in three reportable segments, Automotive, Premium Audio and Consumer Accessories. See Note 22 for the Company's segment reporting disclosures.

(2)    Acquisitions and Dispositions

Rosen Electronics LLC
On April 18, 2017, Voxx acquired certain assets and assumed certain liabilities of Rosen Electronics LLC for cash consideration of $1,814. In addition, the Company agreed to pay a 2% fee related to future net sales of Rosen products for three years, which resulted in contingent consideration of $530.

Rosen's results of operations have been included in the consolidated financial statements from the date of acquisition. The purpose of this acquisition was to increase the Company's market share and strengthen its intellectual property related to the rear seat entertainment market.

The following summarizes the final allocation of the purchase price for the fair value of the assets acquired and liabilities assumed at the date of acquisition:
 
April 18, 2017
Assets acquired:
 
   Inventory
$
1,444

   Goodwill
880

   Intangible assets including trademarks and customer relationships
520

      Total assets acquired
2,844

 
 
Liabilities assumed:
 
   Warranty accrual
500

      Total
500

Total purchase price
$
2,344


Hirschmann Car Communication GmbH
On August 31, 2017 (the "Closing Date"), the Company completed its sale of Hirschmann Car Communication GmbH and its subsidiaries (collectively, “Hirschmann”) to a subsidiary of TE Connectivity Ltd ("TE"). The consideration received by the Company was €148,500. The purchase price, at the exchange rate as of the close of business on the Closing Date

9

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)

approximated $177,000, and is subject to adjustment based upon the final working capital. VOXX International (Germany) GmbH, the Company's German wholly-owned subsidiary, was the selling entity in this transaction.

The Hirschmann subsidiary group, which was included within the Automotive segment, qualified to be presented as a discontinued operation in accordance with ASC 205-20 beginning in the Company's Fiscal 2018 second quarter ending August 31, 2017. Voxx will not have any continuing involvement in the Hirschmann business subsequent to the Closing Date. Hirschmann and TE will not be related parties of the Company after the deconsolidation of Hirschmann.

The following table presents a reconciliation of the major financial lines constituting the results of operations for discontinued operations to the net income from discontinued operations, net of tax, presented separately in the Unaudited Consolidated Statements of Operations and Comprehensive (Loss) Income:

 
 
Three Months Ended
May 31,
 
 
2017
Net sales
 
$
44,279

Cost of sales
 
30,685

Gross profit
 
13,594

 
 
 
Operating expenses:
 
 
Selling
 
1,382

General and administrative
 
6,996

Engineering and technical support
 
3,938

Total operating expenses
 
12,316

Operating income of discontinued operations
 
1,278

 
 
 
Other (expense) income:
 
 
Interest and bank charges (a)
 
(122
)
Other, net
 
(12
)
Total other expense of discontinued operations, net
 
(134
)
Total income from discontinued operations before taxes
 
1,144

Income tax expense on discontinued operations
 
3,366

Loss from discontinued operations, net of taxes
 
$
(2,222
)
Loss per share - basic
 
$
(0.09
)
Loss per share - diluted
 
$
(0.09
)

(a) Includes an allocation of consolidated interest expense and interest expense directly related to debt assumed by the buyer. The allocation of consolidated interest expense was based upon the ratio of net assets of the discontinued operations to that of the Consolidated Company.

The following table presents supplemental cash flow information of the discontinued operation:

10

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)

 
 
Three Months Ended
May 31,
 
 
2017
Operating activities:
 
 
Depreciation and amortization expense
 
$
1,406

Stock-based compensation expense
 
23

 
 
 
Investing activities:
 
 
Capital expenditures
 
$
1,222

 
 
 
Non-cash investing and financing activities:
 
 
Capital expenditures funded by long-term obligations
 
$
1,802


(3)    Net (Loss) Income Per Common Share
 
Basic net (loss) income per common share from continuing operations, net of non-controlling interest, is based upon the weighted-average common shares outstanding during the period. Diluted net (loss) income per common share from continuing operations, net of non-controlling interest reflects the potential dilution that would occur if common stock equivalent securities or other contracts to issue common stock were exercised or converted into common stock.

There are no reconciling items which impact the numerator of basic and diluted net (loss) income common share.  A reconciliation between the denominator of basic and diluted net (loss) income per common share is as follows:

 
 
Three Months Ended
May 31,
 
 
2018
 
2017
Weighted-average common shares outstanding
 
24,316,103

 
24,160,324

Effect of dilutive securities:
 
 

 
 

Stock options, warrants and restricted stock
 

 

Weighted-average common shares and potential common shares outstanding
 
24,316,103

 
24,160,324

 
Restricted stock, stock options and warrants totaling 439,299 and 553,693 for the three months ended May 31, 2018 and 2017, respectively, were not included in the net (loss) income per diluted share calculation because the exercise price of these stock options and warrants was greater than the average market price of the Company’s common stock during these periods, or the inclusion of these components would have been anti-dilutive.

(4)    Investment Securities

As of May 31, 2018, and February 28, 2018, the Company had the following investments:


11

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)

 
 
 
 
 
May 31, 2018
 
 
 
 
 
Carrying Value
Investment Securities
 
 
 

 
 

Marketable Equity Securities
 
 
 

 
 

Mutual funds
 
 
 
 
$
2,833

Total Marketable Equity Securities
 
 
 
 
2,833

Investment Held at Cost, Less Impairment
 
 
 
 
540

Total Investment Securities
 
 
 
 
$
3,373

 
 
 
 
 
 
 
February 28, 2018
 
Cost
Basis
 
Unrealized
Holding
Gain/(Loss)
 
Fair
Value
Investment Securities
 
 
 
 
 
Marketable Equity Securities
 
 
 
 
 
Trading
 
 
 
 
 
Mutual funds
$
3,620

 
$

 
$
3,620

Total Marketable Securities
3,620

 

 
3,620

Other Long-Term Investment at Cost
547

 

 
547

Total Investment Securities
$
4,167

 
$

 
$
4,167


Long-Term Investments

Equity Securities

As required, in the first quarter of Fiscal 2019 the Company adopted ASU 2016-01, “Recognition and Measurement of Financial Assets and Financial Liabilities” ("ASU 2016-01"), which requires changes to the accounting for financial instruments that affect the Company’s equity investments and the presentation and disclosure for such instruments. Marketable equity securities previously classified as available-for-sale equity investments are now measured and recorded at fair value with changes in fair value recorded in the consolidated statement of operations. The impact of adopting ASU 2016-01 resulted in a cumulative effect adjustment of $24, which was recorded in other income (expense) in the Unaudited Consolidated Statements of Operations and Comprehensive (Loss) Income for the three months ended May 31, 2018, rather than in retained earnings, as it was not considered material to the Company's consolidated financial statements for the period.

Mutual Funds

The Company’s mutual funds are held in connection with its deferred compensation plan. Changes in the carrying value of these securities are offset by changes in the corresponding deferred compensation liability.

In determining whether equity securities are other than temporarily impaired ("OTTI"), the Company considers its intent and ability to hold a security for a period of time sufficient to allow for the recovery of cost, along with factors including the length of time each security had been in an unrealized loss position, the extent of the decline and the near-term prospect for recovery. Additionally, on a quarterly basis, the Company is required to make a qualitative assessment of whether the investment is impaired. No impairment losses were incurred by the Company during the three months ended May 31, 2018 or 2017. Additionally, upon adoption of ASU 2016-01, changes in fair value of equity securities are now recorded within the Consolidated Statements of Operations, and as such, OTTI considerations are no longer made with respect to equity securities.

Investment Held at Cost, Less Impairment


12

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)

The Company's investment held at cost, less impairment, represents an investment in Fathom Systems Inc. ("Fathom"), a non-controlled corporation. On July 31, 2017, RxNetworks, a Canadian company in which Voxx held a cost method investment consisting of shares of the investee's preferred stock, was sold to a third party. In consideration for its holdings in RxNetworks on July 31, 2017, Voxx received cash, as well as a proportionate share of the value (consisting of preferred stock) in Fathom, a newly formed entity, formerly a subsidiary of RxNetworks. On March 1, 2018, the Company adopted ASU No. 2016-01. This guidance requires equity investments to be measured at fair value with changes in fair value recognized in net income.  Since it does not have a readily determinable market value, the Company has elected to measure its investment in Fathom at cost minus impairment, if any, plus or minus changes resulting from observable price changes in orderly transactions for the identical or similar investment. No adjustments have been made to the value of the Company’s investment in Fathom for the three months ended May 31, 2018 either due to impairment or based on observable price changes. The Company monitors any events or changes in circumstances that may have a significant adverse effect on the fair value of this investment and makes any necessary adjustments. As of May 31, 2018, the Company's investment in Fathom totaled $540, or 8.1% of the outstanding shares of this company.

During Fiscal 2018, the Company had an investment in 360fly, Inc., consisting of shares of the investee's preferred stock. The Company also issued a total of five senior secured notes to 360fly, Inc. during the fiscal year. One of the notes issued to the investee on February 28, 2018 was issued in the amount of, and in exchange for, the outstanding equity investment held by the Company on that date and as a result of this loan, all of the preferred stock shares of 360fly, Inc. owned by Voxx were canceled and the Company had no remaining investment in the equity of 360fly, Inc. as of May 31, 2018 or February 28, 2018. Interest on all of the notes accrues at 8%. The notes are due on August 31, 2019 and are convertible into equity at the option of the Company only. The total outstanding balance of the notes receivable from 360fly, Inc. at May 31, 2018 and February 28, 2018, net of allowances, is $12,588 and $10,888, respectively, and is included in other assets on the Consolidated Balance Sheet.

(5)    Fair Value Measurements and Derivatives

The Company applies the authoritative guidance on “Fair Value Measurements," which among other things, requires enhanced disclosures about investments that are measured and reported at fair value. This guidance establishes a hierarchal disclosure framework that prioritizes and ranks the level of market price observability used in measuring investments at fair value. Market price observability is impacted by a number of factors, including the type of investment and the characteristics specific to the investment. Investments with readily available active quoted prices, or for which fair value can be measured from actively quoted prices, generally will have a higher degree of market price observability and a lesser degree of judgment used in measuring fair value.
Investments measured and reported at fair value are classified and disclosed in one of the following categories:
Level 1 - Quoted market prices in active markets for identical assets or liabilities.
Level 2 - Inputs other than Level 1 inputs that are either directly or indirectly observable.
Level 3 - Unobservable inputs developed using the Company's estimates and assumptions, which reflect those that market participants would use.

The following table presents assets measured at fair value on a recurring basis at May 31, 2018:

 
 
 
Fair Value Measurements at Reporting Date Using
 
Total
 
Level 1
 
Level 2
Cash and cash equivalents:
 
 
 
 
 
Cash and money market funds
$
49,827

 
$
49,827

 
$

Derivatives
 

 
 

 
 

Designated for hedging
$
109

 
$

 
$
109

Investment securities:
 

 
 

 
 

Mutual funds
$
2,833

 
$
2,833

 
$

Investment held at cost, less impairment (a)
540

 

 

Total investment securities
$
3,373

 
$
2,833

 
$


13

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)


The following table presents assets and liabilities measured at fair value on a recurring basis at February 28, 2018:

 
 
 
Fair Value Measurements at Reporting Date Using
 
Total
 
Level 1
 
Level 2
Cash and cash equivalents:
 
 
 
 
 
Cash and money market funds
$
51,740

 
$
51,740

 
$

Derivatives
 

 
 

 
 

Designated for hedging
$
(262
)
 
$

 
$
(262
)
Investment securities:
 

 
 

 
 

Trading securities
$
3,620

 
$
3,620

 
$

Other investment at cost (a)
547

 

 

Total investment securities
$
4,167

 
$
3,620

 
$


(a)
This balance represents an investment in a non-controlled corporation held at cost, less impairment (see Note 4). The fair value of this investment would be based upon Level 3 inputs.

The carrying amount of the Company's accounts receivable, short-term debt, accounts payable, accrued expenses, bank obligations and long-term debt approximates fair value because of (i) the short-term nature of the financial instrument; (ii) the interest rate on the financial instrument being reset every quarter to reflect current market rates; or (iii) the stated or implicit interest rate approximates the current market rates or are not materially different from market rates.
Derivative Instruments
The Company's derivative instruments include forward foreign currency contracts utilized to hedge a portion of its foreign currency inventory purchases. The forward foreign currency derivatives qualifying for hedge accounting are designated as cash flow hedges and valued using observable forward rates for the same or similar instruments (Level 2). The duration of open forward foreign currency contracts ranges from 1 month - 9 months and are classified in the balance sheet according to their terms. The Company also has an interest rate swap agreement as of May 31, 2018 that hedges interest rate exposure related to the forecasted outstanding balance of its Florida Mortgage, with monthly payments due through March 2026. The swap agreement locks the interest rate on the debt at 3.48% (inclusive of credit spread) through the maturity date of the loan. Interest rate swap agreements qualifying for hedge accounting are designated as cash flow hedges and valued based on a comparison of the change in fair value of the actual swap contracts designated as the hedging instruments and the change in fair value of a hypothetical swap contract (Level 2). We calculate the fair value of interest rate swap agreements quarterly based on the quoted market price for the same or similar financial instruments. Interest rate swaps are classified in the balance sheet as either assets or liabilities based on the fair value of the instruments at the end of the period.
It is the Company's policy to enter into derivative instrument contracts with terms that coincide with the underlying exposure being hedged. As such, the Company's derivative instruments are expected to be highly effective. Hedge ineffectiveness, if any, is recognized as incurred through other income (expense) in the Company's Unaudited Consolidated Statements of Operations and Comprehensive (Loss) Income and amounted to $33 for the three months ended May 31, 2018 and $(43) for the three months ended May 31, 2017.
Financial Statement Classification
The following table discloses the fair value as of May 31, 2018 and February 28, 2018 of derivative instruments:

14

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)

 
 
Derivative Assets and Liabilities
 
 
 
 
Fair Value
 
 
Account
 
May 31, 2018
 
February 28, 2018
Designated derivative instruments
 
 
 
 
 
 
Foreign currency contracts
 
Prepaid expenses and other current assets
 
$
133

 
$

 
 
Accrued expenses and other current liabilities
 

 
(227
)
 
 
 
 
 
 
 
Interest rate swap agreements
 
Other long-term liabilities
 
(24
)
 
(35
)
 
 
 
 
 
 
 
Total derivatives
 
 
 
$
109

 
$
(262
)
Cash flow hedges

During Fiscal 2018, the Company entered into forward foreign currency contracts, which have a current outstanding notional value of $7,200 and are designated as cash flow hedges at May 31, 2018. The current outstanding notional value of the Company's interest rate swap at May 31, 2018 is $8,483. For cash flow hedges, the effective portion of the gain or loss is reported as a component of Other Comprehensive Income (Loss) and reclassified into earnings in the same period or periods during which the hedged transaction affects earnings.

Activity related to cash flow hedges pertaining to continuing operations recorded during the three months ended May 31, 2018 and 2017 was as follows:

15

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)

 
Three months ended
 
May 31, 2018
 
Pretax Gain(Loss) Recognized in Other Comprehensive Income
 
Pretax Gain (Loss) Reclassified from Accumulated Other Comprehensive Income
 
Gain (Loss)for Ineffectiveness in Other Income
Cash flow hedges
 
 
 
 
 
Foreign currency contracts
$
366

 
$
(235
)
 
$
33

Interest rate swaps
11

 

 

 
 
 
 
 
 
 
Three months ended
 
May 31, 2017
 
Pretax Gain(Loss) Recognized in Other Comprehensive Income
 
Pretax Gain (Loss) Reclassified from Accumulated Other Comprehensive Income
 
Gain (Loss)for Ineffectiveness in Other Income
Cash flow hedges
 
 
 
 
 
Foreign currency contracts
$
(733
)
 
$
274

 
$
(43
)
Interest rate swaps
(44
)
 

 

The net income (loss) recognized in Other Comprehensive Income (Loss) for foreign currency contracts is expected to be recognized in cost of sales within the next twelve months. No amounts were excluded from the assessment of hedge effectiveness during the respective periods. As of May 31, 2018, no foreign currency contracts originally designated for hedge accounting were de-designated or terminated.

(6)    Accumulated Other Comprehensive (Loss) Income

The Company’s accumulated other comprehensive (loss) income consists of the following:

 
 
Foreign Currency Translation (Losses) Gains
 
Unrealized (losses) gains on investments, net of tax (a)
 
Pension plan adjustments, net of tax
 
Derivatives designated in a hedging relationship, net of tax
 
Total
Balance at February 28, 2018
 
$
(13,027
)
 
$
(24
)
 
$
(786
)
 
$
(385
)
 
$
(14,222
)
Other comprehensive (loss) income before reclassifications
 
(2,020
)
 

 
36

 
280

 
(1,704
)
Reclassified from accumulated other comprehensive income (loss)
 

 
24

 

 
162

 
186

Net current-period other comprehensive (loss) income
 
(2,020
)
 
24

 
36

 
442

 
(1,518
)
Balance at May 31, 2018
 
$
(15,047
)
 
$

 
$
(750
)
 
$
57

 
$
(15,740
)
(a) Pursuant to ASU 2016-01 adopted by the Company (see Note 4), beginning on March 1, 2018, changes in fair value of the Company's investments in equity investments are recorded in earnings.

16

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)


During the three months ended May 31, 2018, the Company recorded tax expense (benefit) related to derivatives designated in a hedging relationship of $186 and pension plan adjustments of $0.

The other comprehensive income (loss) before reclassification of $(2,020) includes the remeasurement of intercompany transactions of a long-term investment nature of $(934) with certain subsidiaries whose functional currency is not the U.S. dollar, and $(1,086) from translating the financial statements of the Company's non-U.S. dollar functional currency subsidiaries into our reporting currency, which is the U.S. dollar.

(7)    Supplemental Cash Flow Information

The following is supplemental information relating to the Unaudited Consolidated Statements of Cash Flows, including continuing and discontinued operations:

 
 
Three Months Ended
May 31,
 
 
2018
 
2017
Non-cash investing and financing activities:
 
 
 
 
Capital expenditures funded by long-term obligations
 
$

 
$
1,917

Cash paid during the period:
 
 
 
 
Interest (excluding bank charges)
 
$
346

 
$
1,299

Income taxes (net of refunds)
 
1,851

 
53


See Note 2 for additional supplemental cash flow information pertaining to discontinued operations.

(8)    Accounting for Stock-Based Compensation
 
The Company has various stock-based compensation plans, which are more fully described in Note 1 of the Company’s Form 10-K for the fiscal year ended February 28, 2018.

A restricted stock award is an award of common stock that is subject to certain restrictions during a specified period. Restricted stock awards are independent of option grants and are subject to forfeiture if employment terminates for a reason other than death, disability or retirement, prior to the release of the restrictions. The Company has a Supplemental Executive Retirement Plan (SERP), which was established in Fiscal 2014. Shares are granted based on certain performance criteria and vest on the later of three years from the date of grant, or the grantee reaching the age of 65 years. The shares will also vest upon termination of the grantee's employment by the Company without cause, provided that the grantee, at the time of termination, has been employed by the Company for at least 10 years, or as a result of the sale of all of the issued and outstanding stock, or all, or substantially all, of the assets of the subsidiary of which the grantee serves as CEO and/or President. When vested shares are issued to the grantee, the awards will be settled in shares or in cash, at the Company's sole option. The grantee cannot transfer the rights to receive shares before the restricted shares vest. There are no market conditions inherent in the award, only an employee performance requirement, and the service requirement that the respective employee continues employment with the Company through the vesting date.

The following table presents a summary of the Company's restricted stock activity for the three months ended May 31, 2018:


17

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)

 
Number of Shares
 
Weighted Average Grant Date Fair Value
Balance at February 28, 2018
439,299
 
$
7.08

Granted

 

Forfeited

 

Balance at May 31, 2018
439,299

 
$
7.08

Vested and unissued at May 31, 2018
117,049

 
$
10.58


During the three months ended May 31, 2018 and 2017, the Company recorded $107 and $119, respectively, in stock-based compensation related to restricted stock awards for continuing operations. As of May 31, 2018, there was approximately $940 of unrecognized stock-based compensation expense related to unvested restricted stock awards.

(9)    Supply Chain Financing

The Company has supply chain financing agreements and factoring agreements that were entered into for the purpose of accelerating receivable collection and better managing cash flow. The balances under the agreements are sold without recourse and are accounted for as sales of accounts receivable. Total receivable balances sold for the three months ended May 31, 2018, net of discounts, were $22,979, compared to $32,360 for the three months ended May 31, 2017.

(10)    Research and Development

Expenditures for research and development are charged to expense as incurred. Such expenditures amounted to $2,358 for the three months ended May 31, 2018, compared to $2,786 for the three months ended May 31, 2017, net of customer reimbursements, and are included in continuing operations within engineering and technical support expenses on the Unaudited Consolidated Statements of Operations and Comprehensive (Loss) Income.

(11)    Goodwill and Intangible Assets

The change in goodwill pertaining to continuing operations by segment is as follows:

Automotive:
Amount
Beginning balance at March 1, 2018
$
8,252

Activity during the period

Balance at May 31, 2018
$
8,252

 
 
Gross carrying amount at May 31, 2018
$
8,252

Accumulated impairment charge

Net carrying amount at May 31, 2018
$
8,252

 
 
Premium Audio:
 
Beginning balance at March 1, 2018
$
46,533

Activity during the period

Balance at May 31, 2018
$
46,533

 
 
Gross carrying amount at May 31, 2018
$
78,696

Accumulated impairment charge
(32,163
)
Net carrying amount at May 31, 2018
$
46,533

 
 
Total Goodwill, net
$
54,785



18

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)

Note: The Company's Consumer Accessories segment did not carry a goodwill balance at May 31, 2018 or February 28, 2018.

At May 31, 2018, intangible assets consisted of the following:  

 
 
Gross
Carrying
Value
 
Accumulated
Amortization
 
Total Net
Book
Value
Finite-lived intangible assets:
 


 
 
 
 
Customer relationships
 
$
49,916

 
$
27,385

 
$
22,531

Trademarks/Tradenames
 
415

 
402

 
13

Developed technology
 
31,290

 
7,482

 
23,808

Patents
 
2,803

 
2,155

 
648

License
 
1,400

 
1,400

 

Contract
 
2,141

 
1,878

 
263

Total finite-lived intangible assets
 
$
87,965

 
$
40,702

 
47,263

Indefinite-lived intangible assets
 
 
 
 
 
 
Trademarks
 
 
 
 
 
101,012

Total net intangible assets
 
 
 
 
 
$
148,275


At February 28, 2018, intangible assets consisted of the following: 

 
 
Gross
Carrying
Value
 
Accumulated
Amortization
 
Total Net
Book
Value
Finite-lived intangible assets:
 
 
 
 
 
 
Customer relationships
 
$
50,249

 
$
26,807

 
$
23,442

Trademarks/Tradenames
 
415

 
400

 
15

Developed technology
 
31,290

 
6,802

 
24,488

Patents
 
2,830

 
2,138

 
692

License
 
1,400

 
1,400

 

Contract
 
2,141

 
1,849

 
292

Total finite-lived intangible assets
 
$
88,325

 
$
39,396

 
48,929

Indefinite-lived intangible assets
 
 
 
 
 
 
Trademarks
 
 
 
 
 
101,391

Total net intangible assets
 
 
 
 
 
$
150,320


The Company recorded amortization expense for continuing operations of $1,582 for the three months ended May 31, 2018, and $1,613 for the three months ended May 31, 2017. The estimated aggregate amortization expense for continuing operations for all amortizable intangibles for May 31 of each of the succeeding years is as follows:

Year
 
Amount
2019
 
$
6,307

2020
 
6,253

2021
 
6,043

2022
 
5,892

2023
 
5,588


19

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)


(12)    Equity Investment

As of May 31, 2018 and February 28, 2018, the Company had a 50% non-controlling ownership interest in ASA Electronics, LLC and Subsidiary (“ASA") which acts as a distributor of mobile electronics specifically designed for niche markets within the automotive industry, including RV's; buses; and commercial, heavy duty, agricultural, construction, powersport, and marine vehicles.

The following presents summary financial information for ASA. Such summary financial information has been provided herein based upon the individual significance of ASA to the consolidated financial information of the Company.

 
 
May 31,
2018
 
February 28,
2018
Current assets
 
$
44,646

 
$
42,318

Non-current assets
 
6,810

 
7,095

Current liabilities
 
7,002

 
5,699

Members' equity
 
44,454

 
43,714

 
 
 
 
 
 
 
Three Months Ended
May 31,
 
 
2018
 
2017
Net sales
 
$
25,081

 
$
24,895

Gross profit
 
8,477

 
7,983

Operating income
 
3,579

 
3,573

Net income
 
3,628

 
3,606

 
The Company's share of income from ASA was $1,814 for the three months ended May 31, 2018 and $1,803 for the three months ended May 31, 2017, respectively.  

(13)    Income Taxes

For the three months ended May 31, 2018, the Company recorded an income tax benefit from continuing operations of $1,113, which includes a discrete income tax benefit of $27 related to the accrual of interest for unrecognized tax benefits. For the three months ended May 31, 2017, the Company recorded an income tax benefit from continuing operations of $7,428, which includes a discrete income tax provision of $11 related to the accrual of interest for unrecognized tax benefits.

The effective tax rates for the three months ended May 31, 2018 and May 31, 2017 were an income tax benefit from continuing operations of 30.4% and an income tax benefit of 73.5%, respectively. The effective tax rate for the three months ended May 31, 2018 differs from the U.S. statutory rate of 21% primarily due to the non-controlling interest related to EyeLock LLC, state and local income taxes, nondeductible permanent differences, income taxed in foreign jurisdictions at varying tax rates, and the expected realization of certain deferred tax assets based on forecasted taxable income including deferred tax liabilities related to indefinite-lived intangible assets. Due to the modification providing for an indefinite carryforward of net operating losses arising in tax years beginning after December 31, 2017, future net operating losses are limited to 80% of taxable income in any given year, which limits the available source of taxable income provided by these deferred tax liabilities.

At May 31, 2018, the Company had an uncertain tax position liability from continuing operations of $2,163, including interest and penalties. The unrecognized tax benefits include amounts related to various U.S. federal, state and local, and foreign tax issues.

On December 22, 2017, the SEC staff issued Staff Accounting Bulletin No. 118 (“SAB No. 118”), which provides guidance on accounting for the tax effects of the Tax Cuts and Jobs Act ("TCJA"). The purpose of SAB No. 118 was to address

20

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)

any uncertainty or diversity of view in applying ASC Topic 740, Income Taxes in the reporting period in which the TCJA was enacted. SAB No. 118 addresses situations in which the accounting is incomplete for certain income tax effects of the TCJA upon issuance of a company’s financial statements for the reporting period that includes the enactment date. SAB No. 118 allows for a provisional amount to be recorded if it is a reasonable estimate of the impact of the TCJA. Additionally, SAB No. 118 allows for a measurement period to finalize the impacts of the TCJA, not to extend beyond one year from the date of enactment. The Company’s accounting for certain elements of the TCJA was incomplete as of the year ended February 28, 2018, and remains incomplete as of the quarter May 31, 2018; however, the Company was able to make reasonable estimates of the effects, and therefore, recorded provisional estimates for these items at May 31, 2018 and February 28, 2018.

(14)    Inventory

Inventories by major category are as follows:

 
 
May 31,
2018
 
February 28,
2018
Raw materials
 
$
28,909

 
$
28,071

Work in process
 
2,546

 
2,485

Finished goods
 
86,889

 
87,436

Inventory, net
 
$
118,344

 
$
117,992


(15)    Product Warranties and Product Repair Costs

The following table provides a summary of the activity with respect to product warranties and product repair costs. Liabilities for product warranties and product repair costs are included within accrued expenses and other current liabilities on the Consolidated Balance Sheets.

 
Three Months Ended
May 31,
 
2018
 
2017
Opening balance
$
6,233

 
$
5,608

Liabilities acquired during acquisition

 
500

Liabilities accrued for warranties accrued during the period
1,500

 
2,032

Balances transferred (a)
(832
)
 

Warranties paid during the period
(1,976
)
 
(2,213
)
Ending balance
$
4,925

 
$
5,927


(a) In conjunction with the implementation of ASC Topic 606, Revenue from Contracts with Customers (see Note 23), the Company recorded a refund liability, representing the amount of consideration received for products sold that the Company expects to refund to customers, as well as a corresponding return asset that reflects the Company's right to receive goods back from customers. The return asset is calculated as the carrying amount of goods at the time of sale, less any expected costs to recover the goods and any expected reduction in value and is included in prepaid expenses and other current assets on the Unaudited Consolidated Balance Sheet at May 31, 2018. The balance above represents amounts that would reduce the value of inventory returned to the Company and has been reclassified to the return asset in order to properly reflect the value of the inventory the Company expects to receive back from customers.

(16)     Financing Arrangements

The Company has the following financing arrangements:


21

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)

 
 
May 31,
2018
 
February 28,
2018
Debt
 
 
 
 
Domestic credit facility (a)
 
$

 
$

Florida mortgage (b)
 
8,483

 
8,613

Euro asset-based lending obligation (c)
 
6,450

 
6,119

Schwaiger mortgage (d)
 
378

 
468

Voxx Germany mortgage (e)
 
3,305

 
3,665

Total debt
 
18,616

 
18,865

Less: current portion of long-term debt
 
8,010

 
7,730

Long-term debt
 
10,606

 
11,135

Debt issuance costs
 
2,453

 
2,659

 Total long-term debt, net of debt issuance costs
 
$
8,153

 
$
8,476


(a)          Domestic Credit Facility
 
The Company has a senior secured credit facility (the "Credit Facility") that provides for a revolving credit facility with committed availability of up to $140,000, which may be increased, at the option of the Company, up to a maximum of $175,000, and a term loan in the amount of $15,000. The Credit Facility also includes a $15,000 sublimit for letters of credit and a $15,000 sublimit for swingline loans. The availability under the revolving credit line within the Credit Facility is subject to a borrowing base, which is based on eligible accounts receivable, eligible inventory and certain real estate, subject to reserves as determined by the lender, and is also limited by amounts outstanding under the Florida Mortgage (see Note 16(b)). In conjunction with the sale of Hirschmann on August 31, 2017 (see Note 2), the Company paid down substantially all of the outstanding balance of the revolving credit facility, as well as the entire outstanding balance of the term loan, which is not renewable. As of May 31, 2018, there was no balance outstanding under the revolving credit facility. The availability under the revolving credit line of the Credit Facility was $84,239 as of May 31, 2018.

All amounts outstanding under the Credit Facility will mature and become due on April 26, 2021; however, it is subject to acceleration upon the occurrence of an Event of Default (as defined in the Credit Agreement). The Company may prepay any amounts outstanding at any time, subject to payment of certain breakage and redeployment costs relating to LIBOR Rate Loans. The commitments under the Credit Facility may be irrevocably reduced at any time, without premium or penalty as set forth in the agreement.

Generally, the Company may designate specific borrowings under the Credit Facility as either Base Rate Loans or LIBOR Rate Loans, except that swingline loans may only be designated as Base Rate Loans. Loans designated as LIBOR Rate Loans bear interest at a rate equal to the then applicable LIBOR rate plus a range of 1.75 - 2.25%. Loans designated as Base Rate loans bear interest at a rate equal to the applicable margin for Base Rate Loans of 0.75 - 1.25% as defined in the agreement. As of May 31, 2018, the weighted average interest rate on the facility was 5.50%.

The Credit Facility requires compliance with a financial covenant calculated as of the last day of each month, consisting of a Fixed Charge Coverage Ratio. The Credit Facility also contains covenants that limit the ability of the loan parties and certain of their subsidiaries which are not loan parties to, among other things: (i) incur additional indebtedness; (ii) incur liens; (iii) merge, consolidate or dispose of a substantial portion of their business; (iv) transfer or dispose of assets; (v) change their name, organizational identification number, state or province of organization or organizational identity; (vi) make any material change in their nature of business; (vii) prepay or otherwise acquire indebtedness; (viii) cause any change of control; (ix) make any Restricted Junior Payment; (x) change their fiscal year or method of accounting; (xi) make advances, loans or investments; (xii) enter into or permit any transaction with an affiliate of any borrower or any of their subsidiaries; (xiii) use proceeds for certain items; (xiv) issue or sell any of their stock; or (xv) consign or sell any of their inventory on certain terms. In addition, if excess availability under the Credit Facility were to fall below certain specified levels, as defined in the agreement, the lenders would have the right to assume dominion and control over the

22

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)

Company's cash. As of May 31, 2018, the Company was in compliance with all debt covenants, including cash dominion.

The obligations under the loan documents are secured by a general lien on and security interest in substantially all of the assets of the borrowers and certain of the guarantors, including accounts receivable, equipment, real estate, general intangibles and inventory. The Company has guaranteed the obligations of the borrowers under the Credit Agreement.

Charges incurred on the unused portion of the Credit Facility during the three months ended May 31, 2018 totaled $147, compared to $61 during the three months ended May 31, 2017. These charges are included within interest and bank charges on the Unaudited Consolidated Statements of Operations and Comprehensive (Loss) Income.

The Company has deferred financing costs related to the Credit Facility and a previous amendment and modification of the Credit Facility. These deferred financing costs are included in long-term debt on the accompanying Consolidated Balance Sheets as a contra-liability balance and are amortized through interest and bank charges in the Unaudited Consolidated Statements of Operations and Comprehensive (Loss) Income over the five-year term of the Credit Facility. During both the three months ended May 31, 2018 and 2017, the Company amortized $198 of these costs. The net unamortized balance of these deferred financing costs as of May 31, 2018 is $2,213.

(b)    Florida Mortgage
        
On July 6, 2015, VOXX HQ LLC, the Company’s wholly owned subsidiary, closed on a $9,995 industrial development revenue tax exempt bond under a loan agreement in favor of the Orange County Industrial Development Authority (the “Authority”) to finance the construction of the Company's manufacturing facility and executive offices in Lake Nona, Florida.  Wells Fargo Bank, N.A. ("Wells Fargo") was the purchaser of the bond and U.S. Bank National Association is the trustee under an Indenture of Trust with the Authority. Voxx borrowed the proceeds of the bond purchase from the Authority during construction as a revolving loan, which converted to a permanent mortgage upon completion of the facility in January 2016 (the "Florida Mortgage"). The Company makes principal and interest payments to Wells Fargo, which began March 1, 2016 and will continue through March of 2026. The Florida Mortgage bears interest at 70% of 1-month LIBOR plus 1.54% (3.52% at May 31, 2018) and is secured by a first mortgage on the property, a collateral assignment of leases and rents and a guaranty by the Company. The financial covenants of the Florida Mortgage are as defined in the Company’s Credit Facility with Wells Fargo dated April 26, 2016.

The Company incurred debt financing costs totaling approximately $332 as a result of obtaining the Florida Mortgage, which are recorded as deferred financing costs and included in Long-term Debt as a contra-liability balance on the accompanying Consolidated Balance Sheets and are being amortized through interest and bank charges in the Unaudited Consolidated Statements of Operations and Comprehensive (Loss) Income over the ten-year term of the Florida Mortgage. The Company amortized $8 of these costs during the three months ended May 31, 2018 and $7 during the three months ended May 31, 2017, respectively. The net unamortized balance of these deferred financing costs as of May 31, 2018 is $241.

On July 20, 2015, the Company entered into an interest rate swap agreement in order to hedge interest rate exposure related to the Florida Mortgage and pays a fixed rate of 3.48% under the swap agreement (See Note 4).

(c)          Euro Asset-Based Lending Obligation
 
Foreign bank obligations include a Euro accounts receivable factoring arrangement, which has a credit limit of up to 60% of eligible non-factored accounts receivable (see Note 9), and a Euro Asset-Based Lending ("ABL") credit facility, which has a credit limit of €8,000 and expires on July 31, 2020 for the Company's subsidiary, VOXX Germany. The rate of interest for the factoring arrangement is the three-month Euribor plus 1.6% (1.25% at May 31, 2018) and the rate of interest for the ABL is the three-month Euribor plus 2.3% (1.95% at May 31,

23

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)

2018). As of May 31, 2018, the amounts outstanding under these credit facilities, which are payable on demand, do not exceed their respective credit limits.
  
(d)          Schwaiger Mortgage
 
In January 2012, the Company's Schwaiger subsidiary purchased a building, entering into a mortgage note payable. The mortgage note bears interest at 3.75% and will be fully paid by December 2019.

(e)    Voxx Germany Mortgage

This balance represents a mortgage on the land and building housing Voxx Germany's headquarters in Pulheim, Germany, which was entered into in January 2013. The mortgage bears interest at 2.85%, payable in twenty-six quarterly installments through June 2019.

(17)     Other Income (Expense)

Other income (expense) is comprised of the following:

 
 
Three Months Ended
May 31,
 
 
2018
 
2017
Foreign currency gain (loss)
 
$
335

 
$
(832
)
Interest income
 
206

 
15

Rental income
 
121

 
144

Miscellaneous
 
(1
)
 
(334
)
Total other, net
 
$
661

 
$
(1,007
)

(18)    Foreign Currency

The Company has a subsidiary in Venezuela. Venezuela is currently experiencing significant political and civil unrest and economic instability and has implemented various foreign currency and price controls. The country has also experienced high rates of inflation over the last several years. The President of Venezuela has the authority to legislate certain areas by decree, which allows the government to nationalize certain industries or expropriate certain companies and property. These factors have had a negative impact on our business and our financial condition. In 2003, Venezuela created the Commission of Administration of Foreign Currency ("CADIVI") which establishes and administers currency controls and their associated rules and regulations. These controls include creating a fixed exchange rate between the Bolivar Fuerte and the U.S. Dollar, and the ability to restrict the exchange of Bolivar Fuertes for U.S. Dollars and vice versa. On March 1, 2010, the Company transitioned to hyper-inflationary accounting for Venezuela in accordance with the guidelines in ASC 830, "Foreign Currency." A hyper-inflationary economy designation occurs when a country has experienced cumulative inflation of approximately 100 percent or more over a 3-year period.  The hyper-inflationary designation requires the local subsidiary in Venezuela to record all transactions as if they were denominated in U.S. dollars.  

Since January 2014, the Venezuelan government has created multiple alternative exchange rates designated to be used for the purchase of goods and services deemed non-essential. In March 2016, the former SIMADI exchange rate was replaced by the DICOM, a new floating exchange rate for non-essential imports. The Venezuelan government reported that the DICOM exchange rate would be allowed to float to meet market needs. In January 2018, the Venezuelan government eliminated the official government DIPRO exchange rate, stating that all currency transactions would now be carried out at the DICOM rate. As of May 31, 2018 and 2017, the DICOM rate was deemed to be the appropriate rate to use for remeasuring its Venezuelan subsidiary’s financial statements. As of May 31, 2018, the DICOM rate offered was approximately 80,000 bolivars to the U.S. dollar. Total net currency exchange losses of $(3) were recorded for the three months ended May 31, 2018 for Venezuela, as compared to $(84) for the three months ended May 31, 2017, and are included in other income (expense) on the Unaudited Consolidated Statements of Operations and Comprehensive (Loss) Income.

24

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)


Our investment in Venezuela mainly consists of $3,508 of properties that are currently being held for investment purposes. No impairments were recorded related to these properties during the three months ended May 31, 2018. The Company continues to monitor closely the continued economic instability, increasing inflation and currency restrictions imposed by the government and will continue to evaluate its local properties. Further devaluations or regulatory actions could impair the carrying value of these properties.

(19)     Lease Obligations

At May 31, 2018, the Company was obligated under non-cancelable operating leases for equipment, as well as warehouse and office facilities for minimum annual rental payments for continuing operations, as follows:

 
Operating
Leases
2019
$
1,383

2020
614

2021
414

2022
367

2023
211

Thereafter
195

Total minimum lease payments
$
3,184


The Company has capital leases with a total lease liability of $1,278 at May 31, 2018. These leases have maturities through Fiscal 2021.

(20)     Capital Structure
 
The Company's capital structure is as follows:
 
 
 
 
 
Shares Authorized
 
Shares Outstanding
 
 
 
 
Security
 
Par
Value
 
May 31,
2018
 
February 28,
2018
 
May 31,
2018
 
February 28,
2018
 
Voting
Rights per
Share
 
Liquidation
Rights
Preferred Stock
 
$
50.00

 
50,000

 
50,000

 

 

 

 
$50 per share
Series Preferred Stock
 
$
0.01

 
1,500,000

 
1,500,000

 

 

 

 

Class A Common Stock
 
$
0.01

 
60,000,000

 
60,000,000

 
21,938,100

 
21,938,100

 
1
 
Ratably with Class B
Class B Common Stock
 
$
0.01

 
10,000,000

 
10,000,000

 
2,260,954

 
2,260,954

 
10
 
Ratably with Class A
Treasury Stock at cost
 
at cost

 
2,168,094

 
2,168,094

 
N/A
 
N/A
 
N/A
 
 


(21)    Variable Interest Entities

A variable interest entity ("VIE") is an entity that either (i) has insufficient equity to permit the entity to finance its activities without additional subordinated financial support, or (ii) has equity investors who lack the characteristics of a controlling financial interest. Under ASC 810, an entity that holds a variable interest in a VIE and meets certain requirements would be considered to be the primary beneficiary of the VIE and required to consolidate the VIE in its consolidated financial statements. In order to be considered the primary beneficiary of a VIE, an entity must hold a variable interest in the VIE and have both:


25

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)

the power to direct the activities that most significantly impact the economic performance of the VIE; and

the right to receive benefits from, or the obligation to absorb losses of, the VIE that could be potentially significant to the VIE.

On September 1, 2015, Voxx acquired a majority voting interest in substantially all of the assets and certain specified liabilities of EyeLock, Inc. and EyeLock Corporation, a market leader of iris-based identity authentication solutions, through a newly-formed entity, EyeLock LLC. In connection with the acquisition, the Company entered into a Loan Agreement with EyeLock LLC. The terms of the Loan Agreement allowed EyeLock LLC to borrow funds for working capital purposes. During Fiscal 2017 and Fiscal 2018, the Company issued four convertible promissory notes to EyeLock LLC, allowing the entity to borrow additional funds. On April 1, 2018, all outstanding promissory notes were amended and restated with Voxx issuing a consolidated convertible promissory note to EyeLock LLC to borrow up to $39,000. The promissory note bears interest at 10% and can be used to repay protective advances and to fund working capital requirements of the company. The amended and restated promissory note is due on February 28, 2019. The outstanding principal balance of this promissory note is convertible at the sole option of Voxx into units of EyeLock LLC. If Voxx chooses not to convert into equity, the outstanding loan principal of the amended and restated promissory note will be repaid at a multiple of 1.50 based on the repayment date. The agreement includes customary events of default and is collateralized by all of the property of EyeLock LLC.

We determined that we hold a variable interest in EyeLock LLC as a result of:

our majority voting interest and ownership of substantially all of the assets and certain liabilities of the entity; and

the loan agreement with EyeLock LLC, which has a total outstanding balance of $37,106 as of May 31, 2018.
We concluded that we became the primary beneficiary of EyeLock LLC on September 1, 2015 in conjunction with the acquisition. This was the first date on which we had the power to direct the activities that most significantly impact the economic performance of the entity because we acquired a majority interest in substantially all of the assets and certain liabilities of EyeLock, Inc. and EyeLock Corporation on this date, as well as obtained a majority voting interest as a result of this transaction. Although we are considered to have control over EyeLock LLC under ASC 810, due to our majority ownership interest, the assets of EyeLock LLC can only be used to satisfy the obligations of EyeLock LLC. As a result of our majority ownership interest in the entity and our primary beneficiary conclusion, we consolidated EyeLock LLC within our consolidated financial statements beginning on September 1, 2015.

Assets and Liabilities of EyeLock LLC
The following table sets forth the carrying values of assets and liabilities of EyeLock LLC that were included on our Consolidated Balance Sheets as of May 31, 2018 and February 28, 2018:


26

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)

 
 
May 31, 2018
 
February 28, 2018

Assets
 
(unaudited)
 

Current assets:
 
 
 
 
Cash and cash equivalents
 
$
125

 
$
(101
)
Accounts receivable, net
 
243

 
128

Inventory, net
 
(10
)
 
(119
)
Receivables from vendors
 
1

 

Prepaid expenses and other current assets
 
63

 
117

Total current assets
 
422

 
25

Property, plant and equipment, net
 
166

 
186

Intangible assets, net
 
35,360

 
36,126

Other assets
 
242

 
119

Total assets
 
$
36,190

 
$
36,456

Liabilities and Partners' Equity
 
 
 
 
Current liabilities:
 
 
 
 
Accounts payable
 
$
6,604

 
$
4,610

Accrued expenses and other current liabilities
 
1,049

 
2,557

Current portion of debt
 
37,106

 

Total current liabilities
 
44,759

 
7,167

Long-term debt
 

 
33,722

Other long-term liabilities
 
1,200

 
1,200

Total liabilities
 
45,959

 
42,089

Commitments and contingencies
 
 
 
 
Partners' equity:
 
 
 
 
Capital
 
41,416

 
41,416

Retained earnings
 
(51,185
)
 
(47,049
)
Total partners' equity
 
(9,769
)
 
(5,633
)
Total liabilities and partners' equity
 
$
36,190

 
$
36,456



Revenue and Expenses of EyeLock LLC
The following table sets forth the revenues and expenses of EyeLock LLC that were included in our Unaudited Consolidated Statements of Operations and Comprehensive (Loss) Income for the three months ended May 31, 2018 and 2017, respectively:


27

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)

 
 
Three Months Ended
May 31,
 
 
2018
 
2017
Net sales
 
$
123

 
$
64

Cost of sales
 
10

 
(22
)
Gross profit
 
113

 
86

Operating expenses:
 
 
 
 
Selling
 
328

 
593

General and administrative
 
1,226

 
1,658

Engineering and technical support
 
1,790

 
2,033

Total operating expenses
 
3,344

 
4,284

Operating loss
 
(3,231
)
 
(4,198
)
Interest and bank charges
 
(905
)
 
(609
)
Loss before income taxes
 
(4,136
)
 
(4,807
)
Income tax expense
 

 

Net loss
 
$
(4,136
)
 
$
(4,807
)

(22)    Segment Reporting

The Company operates in three distinct segments based upon our products and our internal organizational structure. The three operating segments, which are also the Company's reportable segments, are Automotive, Premium Audio and Consumer Accessories.

Our Automotive segment designs, manufactures, distributes and markets rear-seat entertainment devices, satellite radio products, automotive security, remote start systems, mobile multimedia devices, aftermarket/OE-styled radios, car link-smartphone telematics applications, collision avoidance systems and location-based services.
Our Premium Audio segment designs, manufactures, distributes and markets home theater systems, high-end loudspeakers, outdoor speakers, iPad/iPod and computer speakers, business music systems, cinema speakers, flat panel speakers, Bluetooth speakers, soundbars, headphones and DLNA (Digital Living Network Alliance) compatible devices.
Our Consumer Accessories segment designs, markets and distributes remote controls; wireless and Bluetooth speakers; karaoke products; action cameras; iris identification and biometric security related products; personal sound amplifiers; infant/nursery products; activity tracking bands; smart-home security and safety products; and A/V connectivity, portable/home charging, reception, and digital consumer products.
The accounting principles applied at the consolidated financial statement level are generally the same as those applied at the operating segment level and there are no material intersegment sales. The segments are allocated interest expense, based upon a pre-determined formula, which utilizes a percentage of each operating segment's intercompany balance, which is offset in Corporate/Eliminations.

Segment data for each of the Company's segments are presented below:


28

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)

 
Automotive
 
Premium Audio
 
Consumer Accessories
 
Corporate/ Eliminations
 
Total
Three Months Ended May 31, 2018
 
 
 
 
 
 
 
 
 
Net sales
$
39,646

 
$
32,389

 
$
28,743

 
$
77

 
$
100,855

Equity in income of equity investees
1,814

 

 

 

 
1,814

Interest expense and bank charges
245

 
1,791

 
1,790

 
(2,726
)
 
1,100

Depreciation and amortization expense
239

 
836

 
1,113

 
774

 
2,962

Income (loss) before income taxes
4,514

 
1,646

 
(7,468
)
 
(2,357
)
 
(3,665
)
 
 
 
 
 
 
 
 
 
 
Three Months Ended May 31, 2017
 
 
 
 
 
 
 
 
 
Net sales
$
37,023

 
$
37,728

 
$
39,928

 
$
144

 
$
114,823

Equity in income of equity investees
1,803

 

 

 

 
1,803

Interest expense and bank charges
86

 
1,944

 
1,712

 
(1,950
)
 
1,792

Depreciation and amortization expense
269

 
883

 
1,164

 
723

 
3,039

Income (loss) before income taxes
3,546

 
(3,871
)
 
(7,125
)
 
(2,662
)
 
(10,112
)
 
 
 
 
 
 
 
 
 
 

(23)    Revenue from Contract with Customers

On March 1, 2018, the Company adopted ASC Topic 606, Revenue from Contracts with Customers, and all the related amendments (“ASC Topic 606”), using the modified retrospective method. In addition, we elected to apply certain of the permitted practical expedients within the revenue recognition guidance and make certain accounting policy elections, including those related to significant financing components, sales taxes and shipping and handling activities. Most of the changes resulting from the adoption of ASC Topic 606 on March 1, 2018 were changes in presentation within the Unaudited Consolidated Balance Sheet. Therefore, while we made adjustments to certain opening balances on our March 1, 2018 Unaudited Consolidated Balance Sheet, we made no adjustment to opening Retained Earnings. We expect the impact of the adoption of ASC Topic 606 to be immaterial to our net income on an ongoing basis; however, adoption did increase the level of disclosures concerning our net sales. Results for reporting periods beginning March 1, 2018 are presented under the new guidance, while prior period amounts continue to be reported in accordance with previous guidance without revision.
Revenue from Contracts with Customers
The core principle of ASC Topic 606 is that an entity recognizes revenue to depict the transfer of promised goods and services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods and services. We apply the FASB’s guidance on revenue recognition, which requires us to recognize the amount of revenue and consideration that we expect to receive in exchange for goods and services transferred to our customers. To do this, the Company applies the five-step model prescribed by the FASB, which requires us to: (i) identify the contract with the customer; (ii) identify the performance obligations in the contract; (iii) determine the transaction price; (iv) allocate the transaction price to the performance obligations in the contract; and (v) recognize revenue when, or as, we satisfy a performance obligation.
We account for a contract or purchase order when it has approval and commitment from both parties, the rights of the parties are identified, payment terms are identified, the contract has commercial substance and collectability of consideration is probable. Revenue is recognized when control of the product passes to the customer, which is upon shipment, unless otherwise specified within the customer contract or on the purchase order as delivery, and is recognized at the amount that reflects the consideration the Company expects to receive for the products sold, including various forms of discounts. When revenue is recorded, estimates of returns are made and recorded as a reduction of revenue. Contracts with customers are evaluated to determine if there are separate performance obligations related to timing of product shipment that will be satisfied in different accounting periods. When that is the case, revenue is deferred until each performance obligation is met. No performance obligation related amounts were deferred as of May 31, 2018. Within our Automotive segment, while the majority of the contracts we enter into with Original Equipment Manufacturers (“OEM”) are long-term supply arrangements, the performance obligations are established by the enforceable contract, which is generally considered to be the purchase order. The purchase orders are of durations less than one year. As such, the Company applies the practical expedient in ASC paragraph 606-10-50-14 and does not disclose information about remaining performance obligations that have original expected durations of one year or less, for which work has not yet been performed.

29

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)

Certain taxes assessed by governmental authorities on revenue producing transactions, such as value added taxes, are excluded from revenue and recorded on a net basis.
Performance Obligations
The Company’s primary source of revenue is derived from the manufacture and distribution of premium audio, consumer accessories, and automotive products. Our consumer accessories products primarily consist of finished goods sold to retail customers, while our premium audio products primarily consist of finished goods sold to both retail and commercial customers. Our automotive products are sold both to OEM and aftermarket customers. The majority of the products sold to our automotive customers are manufactured by the Company. We recognize revenue for sales to our customers when transfer of control of the related good or service has occurred. All of our revenue was recognized under the point in time approach for the three months ended May 31, 2018. Contract terms with certain of our OEM customers could result in products and services being transferred over time as a result of the customized nature of some of our products, together with contractual provisions in the customer contracts that provide us with an enforceable right to payment for performance completed to date; however, under typical terms, we do not have the right to consideration until the time of shipment from our manufacturing facilities or distribution centers, or until the time of delivery to our customers. If certain contracts in the future provide the Company with this enforceable right of payment, the timing of revenue recognition from products transferred to customers over time may be slightly accelerated compared to our right to consideration at the time of shipment or delivery.
Our typical payment terms vary based on the customer and the type of goods and services in the contract or purchase order. The period of time between invoicing and when payment is due is not significant. Amounts billed and due from our customers are classified as receivables on the Unaudited Consolidated Balance Sheet. As our standard payment terms are less than one year, we have elected the practical expedient under ASC paragraph 606-10-32-18 to not assess whether a contract has a significant financing component.
Our customers take delivery of goods, and they are recognized as revenue at the time of transfer of control to the customer, which is usually at the time of shipment, unless otherwise specified in the customer contract or purchase order. This determination is based on applicable shipping terms, as well as the consideration of other indicators, including timing of when the Company has a present right to payment, when physical possession of products is transferred to customers, when the customer has the significant risks and rewards of ownership of the asset, and any provisions in contracts regarding customer acceptance.
While unit prices are generally fixed, we provide variable consideration for certain of our customers, typically in the form of promotional incentives at the time of sale. We utilize the most likely amount consistently to estimate the effect of uncertainty on the amount of variable consideration to which we would be entitled. The most likely amount method considers the single most likely amount from a range of possible consideration amounts. The most likely amounts are based upon the contractual terms of the incentives and historical experience with each customer. We record estimates for cash discounts, promotional rebates, and other promotional allowances in the period the related revenue is recognized (“Customer Credits”). The provision for Customer Credits is recorded as a reduction from gross sales and reserves for Customer Credits are presented within accrued sales incentives on the Unaudited Consolidated Balance Sheet. Actual Customer Credits have not differed materially from estimated amounts for each period presented. Amounts billed to customers for shipping and handling are included in net sales and costs associated with shipping and handling are included in cost of sales. We have concluded that our estimates of variable consideration are not constrained according to the definition within the new standard. Additionally, the Company applies the practical expedient in ASC paragraph 606-10-25-18B and accounts for shipping and handling activities that occur after the customer has obtained control of a good as a fulfillment activity, rather than a separate performance obligation.
With the adoption of ASC Topic 606, we reclassified certain amounts related to variable consideration. Under ASC Topic 606, we are required to present a refund liability and a return asset within the Unaudited Consolidated Balance Sheet, whereas in periods prior to adoption, we presented the estimated margin impact of expected returns as a contra-asset within accounts receivable. The changes in the refund liability are reported in net sales, and the changes in the return asset are reported in cost of sales in the Unaudited Consolidated Statements of Operations and Comprehensive (Loss) Income. As a result, the balance sheet presentation was adjusted beginning in Fiscal 2019. As of May 31, 2018, the balance of the return asset is $1,654 and the balance of the refund liability is $3,906, and they are presented within prepaid expenses and other current assets and accrued expenses and other current liabilities, respectively, on the Unaudited Consolidated Balance Sheet.
We warrant our products against certain defects in material and workmanship when used as designed, which primarily range from 30 days to 3 years. We offer limited lifetime warranties on certain products, which limit the customer’s remedy to the repair or replacement of the defective product or part for the designated lifetime of the product, or for the life of the vehicle for the original owner, if it is an automotive product. We do not sell extended warranties.
Contract Balances

30

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)

Contract assets primarily relate to the Company’s rights to consideration for work completed but not billed at the reporting date on contracts with customers. Contract assets are transferred to receivables when the rights become unconditional. Contract liabilities primarily relate to contracts where advance payments or deposits have been received, but performance obligations have not yet been met, and therefore, revenue has not been recognized. The Company has no contract assets or contract liability balances at May 31, 2018.
Disaggregation of Revenue
The Company operates in three reportable segments: Automotive, Premium Audio and Consumer Accessories. ASC Topic 606 requires further disaggregation of an entity’s revenue. In the following table, the Company's net sales are disaggregated accordingly for the three months ended May 31, 2018 and 2017:
 
Three Months Ended
May 31,
 
2018
 
2017
 
 
 
 
Automotive Segment
 
 
 
Original Equipment Manufacturer Customers
$
23,085

 
$
19,809

Aftermarket Customers
16,561

 
17,214

Total Automotive Segment
39,646

 
37,023

 
 
 
 
Premium Audio Segment
 
 
 
Retail Customers
31,204

 
36,083

Commercial Customers
1,185

 
1,645

Total Premium Audio Segment
32,389

 
37,728

 
 
 
 
Consumer Accessories Segment
 
 
 
Retail Customers
28,743

 
39,928

Total Consumer Accessories Segment
28,743

 
39,928

 
 
 
 
Corporate/Eliminations
77

 
144

 
 
 
 
Total Net Sales
$
100,855

 
$
114,823

 
 
 
 

(24)    Contingencies

The Company is currently, and has in the past, been a party to various routine legal proceedings incident to the ordinary course of business.  If management determines, based on the underlying facts and circumstances, that it is probable a loss will result from a litigation contingency and the amount of the loss can be reasonably estimated, the estimated loss is accrued for.  The Company does not believe that any of its current outstanding litigation matters will have a material adverse effect on the Company's financial statements, individually, or in the aggregate.

The Company has been a plaintiff in a counterfeit lawsuit with ePro ("the Defendant") in the United States District Court for the Southern District of New York. On September 30, 2016, the judge in the lawsuit awarded the Company $2,681. On January 25, 2018, the United States Court of Appeals for the Second Circuit affirmed the District Court judgment and denied the Defendant's petition for appeal. The Defendant's time to appeal to the United States Supreme Court has expired and the award is final as of May 31, 2018. The Company has recorded $2,076 of this settlement as a reduction of general and administrative expense on the Unaudited Consolidated Statements of Operations and Comprehensive (Loss) Income for the three months ended May 31, 2018 and $605 as an offset against prepaid legal fees recorded in prior periods.
 

31

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)

The products the Company sells are continually changing as a result of improved technology.  As a result, although the Company and its suppliers attempt to avoid infringing known proprietary rights, the Company may be subject to legal proceedings and claims for alleged infringement by patent, trademark or other intellectual property owners.  Any claims relating to the infringement of third-party proprietary rights, even if not meritorious, could result in costly litigation, divert management’s attention and resources, or require the Company to either enter into royalty or license agreements that are not advantageous to the Company, or pay material amounts of damages.

(25)    New Accounting Pronouncements

Accounting Pronouncements Recently Adopted

In May 2014, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") 2014-09, "Revenues from Contracts with Customers (Topic 606)," which outlines a single comprehensive model for entities to use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance, including industry-specific guidance. The standard requires entities to recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods and services. The new guidance also includes a cohesive set of disclosure requirements intended to provide users of financial statements comprehensive information about the nature, amounts, timing and uncertainty of revenue and cash flows arising from a company's contracts with customers. ASU 2014-09 defines a five-step process to achieve this core principle and in doing so, it is possible that more judgment and estimates may be required within the revenue recognition process than were required under previous guidance, including identifying performance obligations in the contract, estimating the amount of variable consideration to include in the transaction price and allocating the transaction price to separate performance obligations, among others. The new standard was effective for the Company beginning March 1, 2018. The FASB issued four subsequent standards in 2016 containing implementation guidance related to the new standard. These standards provided additional guidance related to principal versus agent considerations, licensing, and identifying performance obligations. Additionally, these standards provided narrow-scope improvements and practical expedients as well as technical corrections and improvements.

The guidance permits two methods of adoption: retrospectively to each prior reporting period presented (full retrospective method), or retrospectively with the cumulative effect of initially applying the guidance recognized at the date of initial application (the modified retrospective method). The Company has adopted the standard using the modified retrospective method effective March 1, 2018. The adoption of ASC Topic 606 did not have a material impact on the Company's business process, internal controls, systems, consolidated financial condition, results of operations or cash flows. As such, a cumulative effective adjustment was not recorded to opening retained earnings. See Note 23 for information concerning the Company's revenue recognition policy.

In January 2016, the FASB issued ASU 2016-01 "Recognition and Measurement of Financial Assets and Financial Liabilities," which amends certain aspects of recognition, measurement, presentation and disclosure of financial instruments. This amendment requires all equity investments to be measured at fair value with changes in the fair value recognized through net income (other than those accounted for under equity method of accounting or those that result in consolidation of the investee).  This standard is effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years.  This standard was effective for the Company's quarter ended May 31, 2018 and did not have a material impact on the consolidated financial statements. In February 2018, the FASB issued ASU 2018-03, Technical Corrections and Improvements to Financial Instruments-Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities.” These amendments clarify the guidance in ASU No. 2016-01, on the following issues (among other things): Equity Securities without a Readily Determinable Fair Value-Discontinuation; Equity Securities without a Readily Determinable Fair Value Adjustments; Forward Contracts and Purchase Options; and Transition Guidance for Equity Securities without a Readily Determinable Fair Value. The amendments in this ASU are effective in conjunction with the adoption of ASU No. 2016-01. The adoption of these updates did not have a material impact on our consolidated financial statements (see Note 4).

In August 2016, the FASB issued ASU No. 2016-15, "Statement of Cash Flows (Topic 230) - Classification of Certain Cash Receipts and Cash Payments," which addresses eight specific cash flow issues and is intended to reduce diversity in practice in how certain cash receipts and cash payments are presented and classified in the statement of cash flows. The guidance is effective for interim and annual periods beginning after December 15, 2017, and early adoption is

32

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)

permitted. This standard was effective for the quarter ended May 31, 2018 and did not have a material impact on the Company's consolidated financial statements.

In October 2016, the FASB issued ASU No. 2016-16, “Income Taxes (Topic 740): Intra-Entity Transfers of Assets Other Than Inventory,” which is intended to improve the accounting for the income tax consequences of intra-entity transfers of assets other than inventory. This update removes the current exception in GAAP prohibiting entities from recognizing current and deferred income tax expenses or benefits related to transfer of assets, other than inventory, within the consolidated entity. The current exception to defer the recognition of any tax impact on the transfer of inventory within the consolidated entity until it is sold to a third party remains unaffected. The amendments in this update are effective for public entities for annual reporting periods beginning after December 15, 2017. This standard was effective for the quarter ended May 31, 2018 and did not have a material impact on the Company's consolidated financial statements.

In November 2016, the FASB issued ASU No. 2016-18, "Statement of Cash Flows (Topic 230)" to reduce diversity in practice related to the classification and presentation of changes in restricted cash on the statement of cash flows under Topic 230, Statement of Cash Flows. The revised guidance requires that amounts generally described as restricted cash and restricted cash equivalents be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows. The guidance will be applied on a retrospective basis beginning with the earliest period presented. The amendments in this ASU are effective for annual and interim periods beginning after December 15, 2017. This standard was effective for the quarter ended May 31, 2018 and did not have a material impact on the Company's consolidated financial statements.

In January 2017, the FASB issued ASU No. 2017-01, "Business Combinations (Topic 805) - Clarifying the Definition of a Business," with the objective to assist entities with evaluating whether transactions should be accounted for as acquisitions (or disposals) of assets versus businesses. The amendments in ASU 2017-01 provide a screen to determine when a set of assets and activities is not a business. The screen requires that when substantially all of the fair value of the gross assets acquired (or disposed of) is concentrated in a single identifiable asset or a group of similar identifiable assets, the set is not a business. This screen is expected to reduce the number of transactions that need to be further evaluated. If the screen is not met, the amendments in ASU 2017-01 (i) require that to be considered a business, a set of assets and liabilities acquired must include, at a minimum, an input and a substantive process that together significantly contribute to the ability to create output; and (ii) remove the evaluation of whether a market participant could replace missing elements. The amendments in this ASU are effective for annual and interim periods beginning after December 15, 2017 and should be applied prospectively. Early adoption is permitted for transactions for which the acquisition date occurs before the issuance date of ASU 2017-01, only when the transaction has not been reported in financial statements that have been issued or made available for issuance. This standard was effective for the quarter ended May 31, 2018 and did not have a material impact on the Company's consolidated financial statements.

In March 2017, the FASB issued ASU No. 2017-07, "Compensation-Retirement Benefits: Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost." The new standard requires that an employer disaggregate the service cost component of net benefit cost. Also, these amendments provide guidance on how to present the service cost component and the other components of net benefit costs in the income statement and allow only the service cost component of net benefit cost to be eligible for capitalization. The guidance is effective for fiscal years beginning after December 15, 2017. This standard was effective for the quarter ended May 31, 2018 and did not have a material impact on the Company's consolidated financial statements.

In May 2017, the FASB issued ASU No. 2017-09, “Compensation-Stock Compensation (Topic 718) - Scope of Modification Accounting," which amends the scope of modification accounting for share-based payment arrangements. The standard provides guidance on the types of changes to the terms or conditions of share-based payment awards to which an entity would be required to apply modification accounting under ASC 718. Specifically, an entity would not apply modification accounting if the fair value, vesting conditions, and classification of the awards are the same immediately before and after the modification. The new standard is effective for annual periods beginning after December 15, 2017 and interim periods within those years. This standard was effective for the quarter ended May 31, 2018 and did not have a material impact on the Company's consolidated financial statements.

Standards Issued Not Yet Adopted

In February 2016, the FASB issued ASU 2016-02, "Leases (Topic 842)." ASU 2016-02 requires that a lessee recognize the assets and liabilities that arise from operating leases. A lessee should recognize in the statement of financial position

33

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)

a liability to make lease payments (the lease liability) and a right-of-use asset representing its right to use the underlying asset for the lease term. For leases with a term of 12 months or less, a lessee is permitted to make an accounting policy election by class of underlying asset not to recognize lease assets and lease liabilities. In transition, lessees and lessors are required to recognize and measure leases at the beginning of the earliest period presented using a modified retrospective approach. This amendment will be effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Early application is permitted. The Company will adopt this guidance beginning with its first quarter ended May 31, 2019. The Company has established a task force, comprised of multiple functional groups inside the Company and is currently in the process of evaluating critical components of ASC Topic 842 and the potential impact of the guidance on the Company's financial position, results of operations and cash flows. Based on the preliminary work completed, the Company is considering the potential implications of the new standard in determining the discount rate to be used in valuing new and existing leases, procedural and operational changes that may be necessary to comply with the provisions of the guidance and all applicable financial statement disclosures required by the guidance, all of which are areas that could be impacted by adoption of the ASC. At this time, the Company has not completed its full evaluation; however, it believes the adoption of ASC Topic 842 will have a material impact on the total assets and total liabilities reported on the Company's Consolidated Balance Sheets.

In June 2016, the FASB issued ASU 2016-13, “Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments.” The standard significantly changes how entities will measure credit losses for most financial assets and certain other instruments that aren’t measured at fair value through net income. The standard will replace today’s “incurred loss” approach with an “expected loss” model for instruments measured at amortized cost. For available-for-sale debt securities, entities will be required to record allowances rather than reduce the carrying amount, as they do today under the other-than-temporary impairment model. It also simplifies the accounting model for purchased credit-impaired debt securities and loans. The amendment will affect loans, debt securities, trade receivables, net investments in leases, off balance sheet credit exposures, reinsurance receivables, and any other financial assets not excluded from the scope that have the contractual right to receive cash. The amendments should be applied on either a prospective transition or modified-retrospective approach depending on the subtopic. This ASU is effective for annual periods beginning after December 15, 2019, and interim periods therein. Early adoption is permitted for annual periods beginning after December 15, 2018, and interim periods therein. The Company is currently evaluating the impact of the adoption of this standard on its consolidated financial statements.

In January 2017, the FASB issued ASU No. 2017-04, "Intangibles - Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment." Under the new guidance, if a reporting unit's carrying value amount exceeds its fair value, an entity will record an impairment charge based on that difference. The impairment charge will be limited to the amount of goodwill allocated to that reporting unit. The standard eliminates today's requirement to calculate goodwill impairment using Step 2, which calculates an impairment charge by comparing the implied fair value of goodwill with its carrying amount. The standard does not change the guidance on completing Step 1 of the goodwill impairment test. The amendments in this ASU are effective for annual or any interim goodwill impairments tests in fiscal years beginning after December 15, 2019 and should be applied prospectively. Early adoption is permitted for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017. The Company is currently evaluating the impact of the new standard on our consolidated financial statements.

In August 2017, the FASB issued ASU No. 2017-12, "Derivatives and Hedging: Targeted Improvements to Accounting for Hedging Activities," which improves the financial reporting of hedging relationships to better align risk management activities in financial statements and make certain targeted improvements to simplify the application of the hedge accounting guidance in current GAAP. The standard is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Early adoption is permitted for any interim and annual financial statements that have not yet been issued. The Company is currently in the process of evaluating the impact of this new pronouncement on its consolidated financial statements.

In February 2018, the FASB issued ASU No. 2018-02, "Income Statement - Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income." ASU 2018-02 was issued to address the income tax accounting treatment of the stranded tax effects within other comprehensive income due to the prohibition of backward tracing due to an income tax rate change that was initially recorded in other comprehensive income due to the enactment of the Tax Cuts and Jobs Act ("TCJA") on December 22, 2017, which changed the Company's income tax rate from 35% to 21%. The amendments to the ASU changed US GAAP whereby an entity may elect to reclassify the stranded tax effect from accumulated other comprehensive income to retained earnings. The amendments of the ASU may be adopted in total or in part using a full retrospective or modified retrospective method. The amendments

34

VOXX International Corporation and Subsidiaries
Notes to Unaudited Consolidated Financial Statements, continued
(Amounts in thousands, except share and per share data)

of the ASU are effective for periods beginning after December 15, 2018. Early adoption is permitted. The Company is assessing the effect of ASU 2018-02 on its consolidated financial statements.

The effects of changes in tax laws are required to be recognized in the period in which the legislation is enacted. However, due to the complexity and significance of the TCJA’s provisions, the FASB issued ASU 2018-06, "Income Taxes (Topic 740)," pursuant to the SEC staff issued Staff Accounting Bulletin No. 118 (SAB 118), which allows companies to record the tax effects of the TCJA on a provisional basis based on a reasonable estimate, and then, if necessary, subsequently adjust such amounts during a limited measurement period as more information becomes available. The measurement period ends when a company has obtained, prepared, and analyzed the information necessary to finalize its accounting, but cannot extend beyond one year from enactment.


35



ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Forward-Looking Statements
 
Certain information in this Quarterly Report on Form 10-Q would constitute forward-looking statements, including, but not limited to, information relating to the future performance and financial condition of the Company, the plans and objectives of the Company’s management and the Company’s assumptions regarding such performance and plans that are forward-looking in nature and involve certain risks and uncertainties. Actual results could differ materially from such forward-looking information.

We begin Management’s Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") with an overview of the business. This is followed by a discussion of the Critical Accounting Policies and Estimates that we believe are important to understanding the assumptions and judgments incorporated in our reported financial results.  In the next section, we discuss our results of operations for the three months ended May 31, 2018 compared to the three months ended May 31, 2017. Next, we present EBITDA, Adjusted EBITDA and Diluted Adjusted EBITDA per common share attributable to Voxx for the three months ended May 31, 2018 compared to the three months ended May 31, 2017 in order to provide a useful and appropriate supplemental measure of our performance. We then provide an analysis of changes in our balance sheets and cash flows, and discuss our financial commitments in the sections entitled "Liquidity and Capital Resources." We conclude this MD&A with a discussion of "Related Party Transactions" and "Recent Accounting Pronouncements."

Unless specifically indicated otherwise, all amounts presented in our MD&A below are in thousands, except share and per share data.

Business Overview
 
VOXX International Corporation ("Voxx," "We," "Our," "Us" or the "Company") is a leading international manufacturer and distributor in the Automotive, Premium Audio and Consumer Accessories industries. The Company has widely diversified interests, with more than 30 global brands that it has acquired and grown throughout the years, achieving a powerful international corporate image and creating a vehicle for each of these respective brands to emerge with its own identity. We conduct our business through sixteen wholly-owned subsidiaries: Audiovox Atlanta Corp., VOXX Electronics Corporation, VOXX Accessories Corp., VOXX German Holdings GmbH ("Voxx Germany"), Audiovox Canada Limited, Voxx Hong Kong Ltd., Audiovox International Corp., Audiovox Mexico, S. de R.L. de C.V. ("Voxx Mexico"), Code Systems, Inc., Oehlbach Kabel GmbH ("Oehlbach"), Schwaiger GmbH ("Schwaiger"), Invision Automotive Systems, Inc. ("Invision"), Klipsch Holding LLC ("Klipsch"), Omega Research and Development, LLC ("Omega"), Voxx Automotive Corp., and Audiovox Websales LLC, as well as a majority owned subsidiary, EyeLock LLC ("EyeLock"). We market our products under the Audiovox® brand name and other brand names and licensed brands, such as 808®, AR for Her, Acoustic Research®, Advent®, Ambico®, Car Link®, Chapman®, Code-Alarm®, Discwasher®, Energy®, Heco®, Incaar, Invision®, Jamo®, Klipsch®, Mac Audio, Magnat®, Mirage®, myris®, Oehlbach®, Omega®, Phase Linear®, Prestige®, Project Nursery®, RCA®, RCA Accessories, Recoton®, Rosen®, Schwaiger®, Terk® and Voxx Automotive, as well as private labels through a large domestic and international distribution network.  We also function as an OEM ("Original Equipment Manufacturer") supplier to several customers, as well as market a number of products under exclusive distribution agreements, such as SiriusXM satellite radio products and 360Fly® Action Cameras.  

On August 31, 2017, the Company completed its sale of Hirschmann Car Communication GmbH and its subsidiaries. See Note 2 for more details of this transaction.
 
Reportable Segments

The Company operates in three segments based upon our products and internal organizational structure. The operating segments consist of the Automotive, Premium Audio and Consumer Accessories segments. See Note 22 to the Company's Consolidated Financial Statements for segment information.

Products included in these segments are as follows:

Automotive products include:

mobile multi-media video products, including in-dash, overhead and headrest systems,
autosound products including radios and amplifiers,
satellite radios including plug and play models and direct connect models,
smart phone telematics applications,

36



automotive security and remote start systems,
automotive power accessories,
rear observation and collision avoidance systems, and
power lift gates.

Premium Audio products include:

premium loudspeakers,
architectural speakers,
commercial speakers,
outdoor speakers,
flat panel speakers,
wireless speakers,
Bluetooth speakers,
home theater systems,
business music systems,
streaming music systems,
on-ear and in-ear headphones,
wireless and Bluetooth headphones,
soundbars and sound bases, and
DLNA (Digital Living Network Alliance) compatible devices.
 
Consumer Accessories products include:

High-Definition Television ("HDTV") antennas,
Wireless Fidelity ("WiFi") antennas,
High-Definition Multimedia Interface ("HDMI") accessories,
smart-home security and safety related products,
home electronic accessories such as cabling,
other connectivity products,
power cords,
performance enhancing electronics,
TV universal remotes,
flat panel TV mounting systems,
iPad/iPod specialized products,
wireless headphones,
wireless speakers,
Bluetooth speakers,
action cameras,
karaoke products,
infant/nursery products,
activity tracking bands,
power supply systems and charging products,
electronic equipment cleaning products,
personal sound amplifiers,
set-top boxes,
home and portable stereos,
digital multi-media products, such as personal video recorders and MP3 products, and
iris identification and biometric security related products.

We believe our segments have expanding market opportunities with certain levels of volatility related to domestic and international markets, new car sales, increased competition by manufacturers, private labels, technological advancements, discretionary consumer spending and general economic conditions.  Also, all of our products are subject to price fluctuations which could affect the carrying value of inventories and gross margins in the future.
 
Our objective is to continue to grow our business by acquiring new brands, embracing new technologies, expanding product development and applying this to a continued stream of new products that should increase gross margins and improve operating income.  In addition, it is our intention to continue to acquire synergistic companies that would allow us to leverage our overhead,

37



penetrate new markets and expand existing product categories through our business channels. Notwithstanding the above, if the appropriate opportunity arises, the Company will explore the potential divestiture of a product line or business.

Acquisitions and Dispositions

On April 18, 2017, Voxx acquired certain assets and assumed certain liabilities of Rosen Electronics LLC for cash consideration of $1,814. In addition, the Company agreed to pay a 2% fee related to future net sales of Rosen products for three years. The purpose of this acquisition was to increase the Company's market share and strengthen its intellectual property related to the rear seat entertainment market. Details of the tangible and intangible assets acquired are outlined in Note 2 of this report.

On August 31, 2017 (the "Closing Date"), the Company completed its sale of Hirschmann Car Communication GmbH and its subsidiaries (collectively, “Hirschmann”) to a subsidiary of TE Connectivity Ltd ("TE"). The consideration received by the Company was €148,500. The purchase price, at the exchange rate as of the close of business on the Closing Date approximated $177,000 and is subject to adjustment based upon the final working capital. The Hirschmann subsidiary group, which was included within the Automotive segment, qualified to be presented as a discontinued operation in accordance with ASC 205-20 beginning in the Company's Fiscal 2018 second quarter ending August 31, 2017. Financial results of the discontinued operation for the three months ended May 31, 2017 were as follows:
 
 
Three Months Ended
May 31,
 
 
2017
Net sales of discontinued operations
 
$
44,279

Income from discontinued operations, net of tax
 
(2,222
)
Income from discontinued operations per diluted share
 
$
(0.09
)

Details of the disposition are outlined in Note 2 of this report.

Critical Accounting Policies and Estimates
 
The preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses reported in those financial statements. These judgments can be subjective and complex, and consequently, actual results could differ from those estimates. Our most critical accounting policies and estimates relate to revenue recognition; sales incentives; accounts receivable reserves; inventory reserves; goodwill and other intangible assets; warranties; stock-based compensation; income taxes; and the fair value measurements of financial assets and liabilities.  A summary of the Company's critical accounting policies is identified in Management’s Discussion and Analysis of Financial Condition and Results of Operations in the Company's Form 10-K for the fiscal year ended February 28, 2018. Since February 28, 2018, there have been no changes in our critical accounting policies or changes to the assumptions and estimates related to them with the exception of revenue recognition. Refer to Note 23 for discussion of the Company's accounting policy for revenue from contracts with customers resulting from the adoption of ASC Topic 606, Revenue from Contracts with Customers on March 1, 2018.

Results of Operations
 
As you read this discussion and analysis, refer to the accompanying Unaudited Consolidated Statements of Operations and Comprehensive (Loss) Income, which present the results of our operations for the three months ended May 31, 2018 and 2017.  

The following tables set forth, for the periods indicated, certain statements of operations data from continuing operations for the three months ended May 31, 2018 and 2017, and therefore excludes all income statement activity of the discontinued operation.

Net Sales


38



 
 
May 31,
 
 
 
 
 
 
2018
 
2017
 
$ Change
 
% Change
Three Months Ended:
 
 
 
 
 
 
 
 
Automotive
 
$
39,646

 
$
37,023

 
$
2,623

 
7.1
 %
Premium Audio
 
32,389

 
37,728

 
(5,339
)
 
(14.2
)