ITEM 1 -
BUSINESS
OVERVIEW
LoJack is a leading global provider of technology products and services for the tracking and recovery of valuable mobile assets and people at risk of wandering. LoJack was organized as a Massachusetts corporation in 1978. Our unique integration with law enforcement agencies in the United States, together with our proprietary technology and radio frequency, or RF, network provide an effective means for the tracking and recovery of stolen vehicles, motorcycles, construction equipment, cargo and people at risk. As of December 31, 2010, LoJack products were operational in 28 states and the District of Columbia in the United States, Canada and 32 other countries internationally. Our technology has led to the recovery of 300,000 vehicles globally valued at more than $5 billion.
SEGMENT OPERATIONS
We have three separately reported business segments: North America, International and All Other. Our North America segment is comprised of our domestic operation, which sells products that operate in 28 states and the District of Columbia in the United States, as well as Boomerang, a provider of stolen vehicle recovery products in Canada. Our International segment sells products, licenses or owns and operates LoJack proprietary vehicle recovery technology in 32 countries and territories throughout Europe, Asia, Africa and Latin America and through our wholly owned subsidiary in Italy, LoJack Italia, SRL, or LoJack Italia. Our All Other segment includes LoJack SafetyNet and SC-Integrity, Inc., or SCI, which are providers of technology for the tracking and rescue or recovery of people at risk and of valuable cargo and business information, respectively.
For financial information about our segments, and for information reported by geographic area, see Note 12 to our consolidated financial statements contained herein at Item 8.
THE LOJACK AND BOOMERANG SYSTEMS
The LoJack Stolen Vehicle Recovery System
The LoJack Stolen Vehicle Recovery System, or the LoJack System, is based on RF technology. In the United States, the LoJack System is comprised of a Registration System, which we maintain and operate; a Sector Activation System, or SAS, and Vehicle Tracking Units, collectively the Law Enforcement Components, each maintained by us and operated by law enforcement officials; and a LoJack Unit, which is installed in customers’ vehicles. The LoJack System is designed to be integrated with existing law enforcement computer systems and telecommunication systems and procedures. If a vehicle equipped with a LoJack Unit is stolen, its owner reports the theft to the local police department. If the theft is reported in a jurisdiction where the LoJack System is operational, a unique radio signal is automatically transmitted to the LoJack Unit in the stolen vehicle, activating its tracking signal. The Vehicle Tracking Unit, installed in police patrol cars and aircraft in the coverage areas (for detail see Global Presence section below), is used by law enforcement officers to lead them to the stolen vehicle using RF direction-finding technology to locate the source of the tracking signal emitted from the LoJack Unit in the stolen vehicle.
Pursuant to agreements with state and local governmental agencies, we furnish the Law Enforcement Components to state, county and municipal law enforcement agencies at no cost to the agencies. The installation, testing and maintenance of the Law Enforcement Components are primarily our responsibility. Local law enforcement agencies operate the Law Enforcement Components pursuant to the terms of our agreements with states, counties or municipalities, as the case may be. The agreements with applicable law enforcement agencies generally are for initial terms of up to five years. Substantially all such agreements that would have expired have been formally renewed or informally continued upon completion of their initial term. The renewal or extension of any such agreement may be subject to competitive bidding. We have no legal obligation to customers to provide ongoing systems support and maintenance or to refund any of the purchase price if these agreements expire and are not renewed, or are terminated either by us or by the local law enforcement agencies.
We believe that the benefits to consumers from the LoJack System include the following:
•
Approximately 90% recovery rate for cars and light trucks in the United States;
•
Covert installation of the LoJack Unit which decreases the chance of discovery and system disablement;
•
RF based technology that penetrates buildings and containers to facilitate tracking and recovery of vehicles that are hidden from view;
•
Direct integration with law enforcement in the United States and in some foreign jurisdictions, which results in (a) the automatic activation of the LoJack Unit upon a report of theft to police, and (b) tracking and recovery by police; and
•
Insurance premium discounts which are mandated or offered in some foreign markets and some states within the United States.
The Boomerang System
The Boomerang System is based on RF and cellular technology and uses tracking devices internally developed by LoJack and the wireless network of a major Canadian telecommunications company for locating and tracking stolen assets. The cellular coverage area for Boomerang’s tracking of stolen assets includes most of North America; however its service area is primarily in certain Canadian provinces. The Boomerang System consists of the Boomerang Unit that is installed in a purchaser’s vehicle, the cellular network, the Boomerang Security Center and Boomerang Vehicle Tracking Units. If a vehicle equipped with a Boomerang Unit is stolen, the vehicle owner is instructed to report the theft to the local police department and the Boomerang Security Center. When the Boomerang Security Center is advised of a theft, it obtains the approximate location of the Boomerang Unit via a secure connection with the cellular carrier and then transmits a unique code causing the Boomerang Unit to transmit a tracking signal. Upon transmission of a tracking signal by the Boomerang Unit, a tracking vehicle, equipped with a Boomerang Vehicle Tracking Unit, is dispatched to the approximate location of the Boomerang Unit. In the provinces of Ontario and British Columbia, we use third parties to perform tracking. The Boomerang Vehicle Tracking Units use direction-finding technology to locate the source of the tracking signal emitted by the Boomerang Unit which, with the integration and/or assistance of local law enforcement personnel, leads to the recovery of the stolen vehicle.
THE LOJACK ADVANTAGE OVER GPS FOR STOLEN VEHICLE RECOVERY
Unlike systems based on Global Positioning System, or GPS technology, our technologies can penetrate buildings and containers for the effective tracking and recovery of stolen mobile assets hidden from view, while GPS technology is easily jammed by such interferences. We differ from such GPS products in that our products are covert without any visible antennas or markings on the vehicle indicating presence of the LoJack System. Additionally, the direct integration of the LoJack System with law enforcement in the United States results in the automatic activation of the LoJack Unit upon the vehicle owner’s report of the theft to police and therefore no third party intermediaries are involved in the activation or tracking process.
PRODUCTS AND TECHNOLOGY
LoJack®
The LoJack Unit is the component of the LoJack System that is installed in a consumer’s vehicle. The LoJack Unit consists of a very high frequency, or VHF, transponder with a hidden antenna; microprocessor and power supply and contains a set of secret codes unique to the LoJack Unit. The LoJack Unit’s transmitter is activated upon receipt of its unique activation code from the SAS. In the United States, the entry of a stolen vehicle report into law enforcement information systems in jurisdictions where the LoJack System is operational causes the SAS to broadcast the unique activation code to the LoJack Unit in the stolen vehicle, in turn causing the LoJack Unit to transmit a signal. An activated LoJack Unit will continue to broadcast until it receives a properly coded message to stop. The deactivation command is automatically sent to the LoJack Unit upon entry of theft recovery information in the law enforcement information system. All transmissions are made on a nationwide radio frequency allocated by
the Federal Communications Commission, or FCC, for a variety of law enforcement tracking and recovery applications, including tracking and recovery of stolen vehicles, people at risk, individuals of interest to law enforcement, lost or stolen cargo and hazardous materials.
LoJack Early Warning®,
sold as an optional component of the LoJack System, provides early notification to a vehicle or motorcycle owner in the event of operation by an unauthorized user. LoJack Early Warning consists of a uniquely coded key pass and a motion sensor that works with the LoJack Unit to monitor vehicle movement and detect the presence of the registered owner’s key pass. Should the vehicle move without the registered owner’s key pass present, a communication from the LoJack Unit in the vehicle is transmitted to the LoJack Control Center, a company-maintained database that provides automatic notification to the registered vehicle owner via e-mail, text message and/or phone call.
LoJack for Construction Equipment is designed specifically for installation on heavy equipment. It functions similarly to the traditional LoJack Unit, but has been modified to meet the Society of Automotive Engineers design standards for use on heavy-duty vehicles.
LoJack for Motorcycles is designed specifically for installation in “on road” motorcycles. It functions similarly to the traditional LoJack Unit, but has been modified and reduced in size so that it can be covertly installed in the limited space of a motorcycle. LoJack Early Warning is a standard feature in most markets on LoJack for Motorcycles.
We also offer warranty products that may be purchased as a supplement to the original purchaser’s warranty. These warranty products include: LoJack Extended Limited Recovery Warranty, LoJack Guarantee Plus 5000 (offered in all U.S. states except New York) and LoJack Protection Plus 5000 (New York only). For more information on our warranty products see the Product Warranty section below.
We license to Absolute Software, a Vancouver, British Columbia company, or Absolute, the right to market its portable computer theft recovery products under the brand name LoJack for Laptops®.
When a computer with LoJack for Laptops®
is reported stolen and subsequently connects to the internet, the computer sends a signal to Absolute’s monitoring center to identify its location and provide certain other information. Absolute then works with local law enforcement and internet service providers to recover the computer.
Boomerang®
The Boomerang Unit is the component of the Boomerang System that is installed in a purchaser’s vehicle. The Boomerang Unit consists of a cellular band RF transponder with antenna, microprocessor and power supply.
If a vehicle equipped with a Boomerang Unit is stolen, the vehicle owner reports the theft to the local police department and the Boomerang Security Center. When the Security Center is advised of a theft and after a police report has been filed, the Security Center locates the approximate location of the Boomerang Unit via a secure connection with the cellular carrier network and then sends a unique code causing the Boomerang Unit to transmit a tracking signal. A tracking vehicle, equipped with a Boomerang Vehicle Tracking Unit is dispatched to the general area reported by the Boomerang Unit. The Boomerang Vehicle Tracking Units use sophisticated direction-finding technology to locate the source of the tracking signal emitted from the Boomerang Unit. Upon location of the stolen vehicle, Boomerang Vehicle Tracking personnel notify local law enforcement, who recovers the vehicle.
Our BoomerangXpress product is similar in design and functionality to our Boomerang Unit but given the price point of the Boomerang Unit, it is generally installed in high-end luxury vehicles while our BoomerangXpress Unit is priced to address the needs of the mid-price vehicle market.
The Boomerang Espion and Espion Alert utilize multiple wireless sensors, to significantly increase the effectiveness of the Boomerang System. In the event that one of the sensors is compromised, the remaining sensors will continue to operate and transmit tracking data to the Boomerang Security Center or tracking vehicle.
The Boomerang2 and Boomerang Espion Alert Units are products that build upon the Boomerang Unit by integrating two-way communication and diagnostics to provide automatic theft notification by sending a tracking signal upon any unauthorized vehicle movements. A key fob, used in connection with both Units, contains a uniquely coded key pass and a motion sensor, which monitors vehicle movement and detects the presence of the
registered owner’s key pass. The Boomerang2 and Boomerang Espion Alert Units also monitor any tampering with the car battery. Should the motion sensor detect that the vehicle is moving without the presence of the registered owner’s key pass, an automatic call is made by the Unit to the Boomerang Security Center indicating an alarm on the customer vehicle. The Security Center then contacts the customer to verify the status of the vehicle. If it is determined the vehicle has been stolen, the Security Center proceeds with the same tracking and recovery steps as noted for the traditional Boomerang Unit.
A water resistant Boomerang Unit is designed specifically for installation on construction equipment and marine craft. It functions similarly to the traditional Boomerang Unit, but is enclosed in a water resistant housing.
A portable Boomerang Unit is designed for installation in special applications such as cargo. It functions similarly to the traditional Boomerang Unit, but is equipped with a longer lasting battery, enabling its operation without a connection to an independent power source.
LoJack SafetyNet
The LoJack SafetyNet System is comprised of a Personal Locator Unit, or PLU, worn on the wrist of the subscriber, a Search and Rescue, or SAR, Receiver used by public safety agencies, a database of key information about the subscribers to assist in the search and rescue, and training for law enforcement and public safety agencies in the use of our technology in the search and rescue process. The PLU constantly emits an RF signal which can be tracked by trained search and rescue agencies using a SAR Receiver. RF signal enables the police to pinpoint the precise location of a missing subscriber using a handheld, portable SAR Receiver.
SC Integrity
We own approximately 60% of SCI. We license to SCI the use of the LoJack brand name for its cargo and tracking recovery solution, called LoJack InTransittm.
LoJack InTransittm
uses three technologies (RF, GPS and Global System for Mobile Communication, or GSM) in combination to deliver a comprehensive solution for the prevention, detection, investigation and recovery of stolen cargo.
GLOBAL PRESENCE
As of December 31, 2010, the LoJack System was operational in 28 states and the District of Columbia in the United States. We have available statewide coverage, defined as coverage of at least 80% of the state population, in Arizona, California, Connecticut, the District of Columbia, Maryland, Massachusetts, Michigan, New Jersey and Rhode Island. We have coverage available in major metropolitan areas, cities and high crime areas in Colorado, Delaware, Florida, Georgia, Illinois, Louisiana, Nevada, New Hampshire, New York, North Carolina, Ohio, Oklahoma, Oregon, Pennsylvania, South Carolina, Tennessee, Texas, Utah, Virginia and Washington. We identify and define coverage areas based on a qualitative analysis of population density, new car sales and geography.
Internationally, we operate Canada’s leading stolen vehicle recovery provider, Boomerang, with sales concentrated in the provinces of Quebec and Ontario. Our stolen vehicle recovery technology is also operational in 32 other countries and territories around the world. We have a licensed presence in countries located in Latin and South America, Europe, Africa and Asia. In 2006, we began commercial activities in Italy through a wholly-owned subsidiary, and now have a national presence in Italy.
BUSINESS MODEL
North America Segment
Our revenue in the United States is derived primarily from the sale of LoJack Units, LoJack Early Warning Units and related products and extended product and recovery warranties to automobile dealers who resell the units to consumers. There are no additional monthly fees or service contracts associated with the sale of LoJack Units, LoJack Early Warning Units or extended product and recovery warranties. Approximately 87% of our revenue in the United States originates through this distribution network of automobile dealers. Expansion into additional markets beyond the automotive market through the introduction of new products, such as LoJack for Construction Equipment and LoJack for Motorcycles, leverages our existing network and requires no additional infrastructure.
Approximately 4% of our revenue in the United States was derived from the sale of LoJack for Construction Equipment units and LoJack for Motorcycles units during the year ended December 31, 2010.
We contract with and certify select dealers and other third parties to install our products. In 2010, 60% of our products sold in the United States were installed by third parties, compared to 56% and 51% for the years ended December 31, 2009 and 2008, respectively. We monitor the quality of these installations through an extensive quality control process.
Our revenue in Canada is derived primarily from the sale and installation of Boomerang Espion, Boomerang Espion Alert, Boomerang, Boomerang2 and BoomerangXpress Units and related service contracts. Purchasers of Boomerang Units are required to enter into a service contract with Boomerang. The terms of service contracts offered range from 12 to 60 months and are generally payable in full upon activation of the related unit or renewal of a previous service contract. Customers are also offered a monthly payment option. Approximately 17% of our revenue in Canada is derived from the sale of Boomerang Units through automotive accessory retailers and automobile dealers, while the remaining 83% of revenue is derived from associated service contracts. As of December 31, 2010, there was approximately $8,645,000 of deferred revenue resulting from approximately 62,000 active service contracts.
Many insurance companies based in Quebec and Ontario offer rebates to customers who install a Boomerang Unit in their vehicles, and in many instances, insurance companies require installation of a Boomerang Unit in such vehicles.
Revenue from the North America segment accounted for 66%, 71% and 67% of our consolidated revenue for the years ended December 31, 2010, 2009 and 2008, respectively.
International Segment
LoJack technology is operational in 32 countries and territories outside of North America. We have developed our technology such that the LoJack System can be used by local law enforcement, by our licensees’ own security organizations, or by a combination of both. International revenue is derived from the sale of LoJack Units, system infrastructure components, royalties, licensing fees and subscription and installation services. International licensing agreements are primarily denominated in U.S. dollars and are structured with up-front licensing fees, which may be substantial and are non-recurring. The agreements provide that we will supply components and products at prices to be determined from time to time and/or receive royalties based upon the licensees’ LoJack based revenue. Approximately 95% of our international revenue was from the sale of LoJack Units during the year ended December 31, 2010.
At December 31, 2010, we held a 12.5% equity investment, with a carrying value of $1,541,000, in our Mexican licensee, a 5.5% equity investment, with a carrying value of $314,000, in our French licensee, and a 17.5% equity investment with a carrying value of $496,000, in our Benelux licensee. In addition, we hold less than a 10% equity interest in our licensees in Argentina and Hong Kong, for which we have no carrying value in our financial statements.
We have commercial operations in Italy through LoJack Italia. Since 2005, we have invested approximately $23,000,000 (comprised of LoJack network build out and operating losses) in LoJack Italia. We estimate this ownership will require an additional investment of approximately $1,000,000 to $2,000,000 over the next two to three years. Based on our experience with our current international licensees, we believe that LoJack Italia will generate long-term profitability and value after the investment period.
Our revenue in Italy is derived primarily from the sale and installation of LoJack Units and related service contracts. Purchasers of LoJack Units in Italy are required to enter into a service contract with LoJack Italia. The terms of service contracts offered range from 12 to 84 months and are generally payable in full upon activation of the related unit or renewal of a previous service contract. Customers are also offered a monthly payment option. Approximately 64% of our revenue in Italy is derived from the sale of LoJack Units, while the remaining 36% of revenue is derived from associated service contracts. As of December 31, 2010, there was approximately $1,859,000 of deferred revenue resulting from approximately 13,000 active service contracts.
Revenue from the International segment accounted for 32%, 27%, and 32% of our consolidated revenue for the years ended December 31, 2010, 2009 and 2008, respectively.
All Other Segment
Revenue in our All Other segment is derived primarily from SCI and LoJack SafetyNet and accounted for 2% of total revenue in 2010. SCI revenue is derived from the sale of tracking devices as well as subscription fees for monitoring service alerts and activity reporting. At December 31, 2010, there was approximately $186,000 of deferred revenue relating to SCI subscription based services.
LoJack SafetyNet revenue is derived primarily from of the sale of SAR Receivers, PLUs and replacement parts. In 2010, LoJack SafetyNet continued the transition of the business model from an order fulfillment revenue model servicing one primary customer, to a fulfillment and service model, providing the LoJack SafetyNet offering to caregivers and consumers for an upfront product fee, followed by a monthly service fee. As part of this new business model, we provide SAR Receivers directly to participating law enforcement at no cost.
VEHICLE, ASSET THEFT AND PEOPLE AT RISK
North America Segment
According to the most recent Federal Bureau of Investigation Uniform Crime Report for 2009, a motor vehicle is stolen in the United States every 40 seconds. In 2009, total motor vehicle theft in the United States was approximately 800,000 vehicles, with an estimated value of $5.2 billion. Most auto theft is carried out by sophisticated thieves, rather than amateur thieves. Thieves typically steal vehicles because of the profit potential of the vehicle’s components on the black market. Also, in the United States, the national recovery rate for stolen vehicles has declined from a high in 1999 of 67% to 57% in 2009. The National Insurance Crime Bureau also reported that motorcycle theft totaled 56,093 stolen motorcycles in the United States in 2009. This represents a loss of over $370 million to motorcycle owners and the insurance industry.
According to Statistics Canada, a federally commissioned statistics bureau, more than 108,000 vehicles were stolen in Canada during 2009. Such crimes cost auto insurers and their policyholders approximately CAD$419 million in 2009. In addition, when considering emergency response, court, policing, legal and out-of-pocket expenses, such as deductibles, the annual cost of auto theft in Canada approached $1 billion.
International Segment
Interpol, which provides services for the law enforcement community to optimize the international effort to combat crime, indicated in a recent report that more than 6.2 million vehicles were stolen globally in 2009, which represented a 34% increase over the number of reported stolen vehicles globally in 2008.
All Other Segment
In the cargo security market, it is estimated that $10 to $30 billion in merchandise is stolen from cargo ships, trucks, ports, railroads and highways annually in the United States.
It is estimated that 5.3 million Americans suffer from Alzheimer’s disease and that there will be between 11 and 16 million Americans affected by 2050. Wandering, the most life-threatening behavior associated with Alzheimer’s disease, affects 59% of such patients, and 45% of the cases where the person is not located within 24 hours end in death. Additionally, Autism afflicts one in every 110 children in the United States and children with Autism are prone to wandering.
SALES AND MARKETING
North America Segment
Our sales and marketing approach in the United States focuses on the automotive channel, through which automobile dealers offer the LoJack Unit as an option for both their new and used car sales. We market LoJack Early Warning and extended warranties through automobile dealers. We market our products to these dealers primarily
through a national sales force, supplemented by outside sales agents, that routinely visits new and used car dealers to educate and train dealership personnel on the benefits of the LoJack System and related products. We have developed and are investing in new sales programs to address the need that automobile dealers have to generate new sources of sustained income. Our new sales programs are being rolled out to targeted dealers with the specific goal of driving deeper penetration, increasing profitability and developing stronger long-term relationships with our dealer base. We are developing arrangements with major finance companies to help improve the availability of credit for the end consumers to ensure that the LoJack Unit and related products can continue to be financed as a part of the purchase price of the vehicle.
The LoJack brand has an aided and unaided brand awareness of approximately 87% in the United States according to a brand study performed in 2008. This brand awareness is beneficial to all existing sales channels, including automotive, commercial, motorcycle and laptops and may prove beneficial to new channels we may enter in the future.
To supplement installation efforts, we have cooperative arrangements with third parties specializing in after-market sales and installation of vehicle accessories to increase penetration in existing markets in a cost effective manner.
We also market LoJack for Construction Equipment directly to owners of commercial equipment and to consumers using (a) a sales force that calls on construction equipment owners and manufacturers, (b) telemarketing representatives, and (c) direct mail.
We market LoJack for Motorcycles through the motorcycle dealer channel.
We license the LoJack brand name to Absolute for use in connection with theft recovery products for laptop computers. All sales and marketing efforts associated with the LoJack for Laptops product are controlled and funded by Absolute.
Our Canadian sales and marketing efforts are concentrated in Quebec because this market represents the most populated region of the country and provides the greatest concentrated channel for our Boomerang products. It is also where we have maintained a direct sales force. In Quebec, we partner with insurance companies that mandate a stolen vehicle recovery system as a condition for insurance coverage on high priced or high risk of theft vehicles. We maintain a direct sales force in Quebec, which works directly with insurance companies, insurance brokers and local resellers of the Boomerang Tracking System, including the Boomerang Unit, Boomerang2, and Boomerang Espion and Espion Alert. We also sell these products directly to consumers through two company-owned distribution centers. Subscribers in Quebec accounted for 75% of our total subscribers in Canada in 2010.
International Segment
In territories where our licensees operate, the business, sales and marketing efforts are typically controlled and funded by our international licensees and their respective management teams.
In Italy, our sales and marketing approach is focused on the automotive channel, fleet operators and participants in the insurance segment. In the automotive channel, LoJack Units, LoJack Early Warning and extended warranties are offered as options on new and used vehicle sales. We use a direct sales force, supplemented by outside sales agents, to visit automotive dealerships and to educate and train dealership personnel on the benefits of the LoJack System and related products. We engage with insurance companies, agents and brokers to provide premium discounts and to facilitate the distribution of LoJack products and services. We continue to use public relations campaigns and cooperative advertising initiatives with certain car dealers to promote consumer awareness of our product in Italy.
All Other Segment
SCI’s sales and marketing efforts are concentrated in the United States and target customers who transport high value cargo by truck or rail. In addition, SCI’s sales efforts target companies who want to track valuable business information and clinical data between multiple locations.
Our sales and marketing efforts for LoJack SafetyNet are concentrated in select markets the United States, specifically major metropolitan areas within Massachusetts, Florida and Pennsylvania, where we are expanding our network of law enforcement and public safety agencies that provide the tracking and rescue of people at risk. We are marketing the LoJack SafetyNet offering directly to caregivers of those with Alzheimer’s, autism and other cognitive disorders.
GROWTH STRATEGY
Our goal is to strengthen our leadership position in the markets for vehicle and mobile asset tracking and recovery, while building our business in newer markets such as cargo and people at risk. We plan to accomplish this through new product development, market expansion, relationships with new and established distributors and the global development of the LoJack brand. In addition, if appropriate, we may make acquisitions as a means to add channels of distribution for the LoJack brand or as a way to acquire new technology which could be sold through our existing channels of distribution.
North America Segment
Our growth strategy in North America is to use internal resources and partnerships with third parties to increase unit sales and profitability in the automotive, motorcycle and commercial channels, develop new alternative channels, and develop and introduce new products to leverage our strong brand recognition and reputation for tracking and recovering.
Since late 2007, changes have taken place in the United States automotive dealer network, including overall contraction of the channel, as well as a decrease in the profitability per car sold and a decrease in the revenue generated from service. We have worked to reposition our business within the automotive channel in the United States given these changes. We have developed and are investing in new sales programs to address the need that automobile dealers have to generate new sources of sustained income. We are strategically restructuring our relationships with targeted dealers to make it easier for them to sell our solutions, increase their profits and create a new business model. To this end, we are developing arrangements with major finance companies to help improve the availability of credit for consumers to ensure that the LoJack Unit and related products can continue to be financed as a part of the purchase price of the vehicle. We are also implementing a more robust system interface with our dealers and are offering expanded services to our dealers to generate higher penetration rates and stronger long term relationships. We will continue to expand our varied distribution and installation programs to sell and install LoJack Systems more cost effectively.
As of December 31, 2010, the LoJack System operated in 28 states and the District of Columbia, covering about two-thirds of the population in the United States. We will expand into additional markets as they become commercially feasible.
Our Canadian growth strategy focuses on sales and marketing efforts in Quebec. We are planning to introduce the LoJack technology in Quebec in 2011. We intend to continue to develop relationships with insurance companies to maintain and extend mandates for the LoJack or Boomerang System as a condition for consumers to obtain insurance coverage and to further educate insurance companies and insurance brokers about our services. We plan to maintain a direct sales force in Quebec that works with automotive accessory retailers and automobile dealers who sell and install LoJack and Boomerang products. We intend to continue to utilize our two distribution centers, which sell and install Boomerang Units and to install LoJack units in vehicles once the technology is introduced in the Quebec market.
International Segment
Our international growth strategy is to drive more aggressive unit sales growth in countries where the LoJack System presently operates, by leveraging strategic relationships with our licensees, insurance companies and automobile manufacturers. We intend to drive unit sales growth through existing licensees by helping them develop their business models and expand their system infrastructure. In addition, we expect to expand into new geographic markets. From time to time, we may make direct strategic investments in international licensees, some of which may be substantial, in order to enable them to gain market share. Our investment strategy has focused on those
markets which we believe represent the best opportunities for significant revenue generation or markets that we can positively impact market penetration and revenue growth.
Our growth strategy is to target international markets in which the combination of new vehicle sales, population density and incidence of vehicle theft is high. Market expansion may be in the form of (a) licensing the use of the LoJack System technology, and/or (b) making strategic investments or acquisitions.
We have a common global platform which utilizes the same basic unit to operate on the varying global radio frequencies used for stolen vehicle recovery. This common platform has contributed to growth in our international business due, in large part, to reduced product costs achieved through manufacturing efficiencies.
In Italy, our growth strategy is to use our internal and external sales and marketing resources to penetrate the stolen vehicle recovery market through the automotive dealership channel, automobile manufacturers, fleet operators and participants in the insurance segment.
Our International segment headquarters is located in Dublin, Ireland. Our subsidiary LoJack Equipment Ireland Limited, or LoJack Ireland, supports business development, administrative and distribution activities for our International segment and provides nearby support to our European operations.
All Other Segment
SCI’s growth strategy focuses on the expansion of its nationwide sales efforts and targets companies who transport valuable cargo by truck or rail in the United States as well as companies that want to track the movement of valuable business information and clinical data between multiple locations.
LoJack SafetyNet’s growth strategy focuses on creating consumer awareness of our technology to assist in the search and rescue process for people at risk in select markets in 2011. Prior to entering each such market, we plan to identify and engage with prospective public safety agencies, educate those agencies about our product, obtain commitments from them to provide search and rescue services, and develop the market through public relations and awareness campaigns.
PRODUCT DEVELOPMENT
We concentrate our research and development activities on enhancing our proprietary stolen vehicle recovery network and creating new products that meet market needs for tracking and recovery of valuable assets. Our product development efforts utilize our knowledge of law enforcement processes and systems to provide products that integrate into law enforcement operations and facilitate the tracking and recovery or rescue processes. Our engineering staff develops products either internally or in conjunction with third parties.
Our core LoJack Unit provides a common platform for both domestic and international operations by utilizing the same basic unit to operate on various radio frequencies used in the countries where our technology is utilized for stolen vehicle recovery. In the fourth quarter of 2009, we introduced the next generation LoJack Unit. The next generation self-powered LoJack Unit is based on a newly developed proprietary power management protocol. This self-powered unit does not draw any power from a vehicle’s battery or electrical system, which makes it well suited for the vehicles of today and the future, including hybrid and electric cars. Additionally, this next generation solution can be installed in more locations inside a vehicle, which makes the LoJack Unit even more covert. This is particularly important in countries in Latin America and in Africa where theft rates are especially high. Lastly, the installation process is simpler and thus more efficient for our technicians, dealers who are certified to install such devices and our global licensees and their installation partners.
We coordinate the research and development efforts for our North America and International segments in order to offer new products that meet market needs for the tracking and recovering of stolen mobile assets.
Costs for product development are expensed as incurred and include salaries, fees to consultants, and other related costs associated with the development of new products. Product development expenses totaled $6,162,000, $6,994,000 and $7,290,000 for the years ended December 31, 2010, 2009 and 2008, respectively. A portion of our product development efforts has been outsourced to third parties. The contracts with third parties require payments based upon completion of defined milestones. Expenses related to milestone achievements, which are expensed to
operations as the milestones are achieved, are included in the above-mentioned expenses, and were not material for the periods presented.
GOVERNMENT REGULATION AND APPROVAL
North America Segment
The FCC-allocated frequency used by the LoJack System in the United States is set aside for nationwide use by state and local law enforcement and public safety agencies for stolen vehicle recovery, the tracking and recovery of stolen or missing cargo and hazardous materials, the tracking and rescue of people at risk and people of interest to law enforcement when established boundaries are violated, automatic notifications of vehicle fires or collisions, and carjacking alerts. Law enforcement and public safety agencies in jurisdictions where we operate have been granted authority by the FCC to use this frequency.
In connection with our domestic operations, we must obtain the cooperation of law enforcement or public safety agencies for implementation of the LoJack System before sales of LoJack Units may commence in a given jurisdiction. This process may be time consuming and costly and is subject to considerations generally affecting the process of governmental decision-making. In some jurisdictions, governmental participation may be terminable at the convenience of the executive or legislative body. Any such termination could have a material adverse effect on future sales in such jurisdictions.
If we were to seek to charge more than nominal prices for the Law Enforcement Components, governmental appropriation of funds would be required. Most government agencies have established, by policy, statute or regulation, a process requiring competitive bidding for all acquisitions of products and equipment. This process may cause us additional delay and expense. To date, we have not sought to charge law enforcement agencies for the Law Enforcement Components and do not expect to do so in the near future.
The Boomerang tracking beacon operates on an unlicensed frequency and does not require specific government approval. Tracking of stolen Boomerang equipped vehicles is performed by our personnel or by private parties under contract with us. Although specific governmental licensing and approval are not required, once a Boomerang equipped stolen vehicle is located by our tracking team, we rely on local law enforcement agencies for the actual recovery. Establishing and maintaining a good relationship with law enforcement agencies is important to our business.
The planned expansion of the LoJack System technology into Canada requires approval by Industry Canada of equipment and authorization from Industry Canada for LoJack to transmit in Canada on the same radio frequency allocated by the FCC for the LoJack System in the United States. The necessary equipment approvals have been obtained, and LoJack has received temporary low power frequency authorization for system installation and testing. We anticipate that we will receive full power broadcast authority region by region in Canada as we expand our Canadian RF operations.
International Segment
Our international licensees and LoJack Italia are each subject to government regulation and approval risks similar to those in our North America segment.
All Other Segment
In August 2008, the FCC granted us a Rule and Order in response to our 2005 petition to use our existing frequency, which was previously limited to stolen vehicle recovery, for the tracking and recovery of stolen or missing cargo and hazardous materials, the tracking and rescue of people at risk and people of interest to law enforcement when established boundaries are violated, automatic notifications of vehicle fires or collisions, and carjacking alerts. As a result of this ruling, we are able to leverage our technical infrastructure and extend our integration with law enforcement and public safety agencies beyond stolen vehicles to include the other diverse applications. This Rule and Order complements our efforts to diversify the LoJack business, including the introduction of LoJack SafetyNet and our efforts to penetrate the cargo space, through our investment in SCI.
PRODUCT WARRANTY
North America Segment
LoJack Parts & Labor Warranty. We warrant to original purchasers that the LoJack Unit and LoJack Early Warning will be free from defects in material or workmanship for a period of two years from the date of installation. If the product proves to be defective in material or workmanship within that period, we will, at our option, either replace or repair the product.
LoJack Limited Recovery Warranty. We also warrant to original purchasers of LoJack Units that if their LoJack equipped vehicle is stolen and reported to police in a covered jurisdiction within two years of installation and not recovered within 24 hours from the time that the theft is reported to the police, we will pay the consumer an amount equal to the full purchase price paid for the LoJack Unit up to a maximum of $695 (up to $995 if the consumer also purchased LoJack Early Warning). For an additional charge, the original purchaser of the LoJack Unit can elect to extend the warranty period from two years to a period equal to the time they own their LoJack equipped vehicle, not to exceed seven years.
LoJack Guarantee Plus 5000 (sold in all U.S. states in which we do business other than New York). Consumers may purchase an additional five year warranty in which we, or in most jurisdictions an independent third party insurer, warrant to original purchasers of LoJack Units that, if the vehicle becomes a total loss due to theft, or is not recovered within 30 days from the time the theft is reported to the police, the consumer may receive up to $2,500 to cover theft-related expenses plus up to an additional $2,500 towards the purchase or lease of a replacement vehicle if the consumer purchases the replacement vehicle from the original dealer. We have insured the risk relating to these warranty claims with an independent third party provider.
LoJack Protection Plus 5000 (sold in New York State only). Certain dealers sell LoJack Units with an additional five year certificate in which an independent third party insurer guarantees to original purchasers of LoJack Units that, if the vehicle becomes a total loss due to theft or is not recovered within 30 days from the time the theft is reported to the police, the consumer may receive up to $2,500 to cover theft-related expenses such as insurance deductible, substitute vehicle rental, airfare if the vehicle is stolen more than 100 miles away from home, or nightly accommodations and meals. In addition, the consumer may be eligible to receive $2,500 towards the purchase or lease of a replacement vehicle if the consumer purchases the replacement vehicle from the original dealer.
Boomerang Parts & Labor Warranty. We warrant to original purchasers of Boomerang tracking systems that the units will be free from defects in material or workmanship for a period of two years from the date of purchase. A one-year limited warranty on parts and labor applies to BoomerangXpress Units. If the product proves to be defective in material or workmanship, during such period, we will, at our option, replace or repair the product or reimburse the purchase price paid.
Boomerang Limited Recovery Warranty. We warrant to purchasers of Boomerang tracking systems that if a Boomerang equipped vehicle is stolen and not recovered within 60 days of the reported theft, we will pay the consumer an amount equal to the actual purchase price of the unit, the installation fees and service fees for the current contract term, up to a maximum of CAD$1,000 for the Boomerang tracking systems and CAD$2,000 for the Boomerang tracking systems with automatic theft notification. For the BoomerangXpress Units we will offer the consumer a new unit, including installation, during such period.
All Other Segment
SCI warrants its hardware devices to be free of defects in materials or workmanship for a period of one year after date of purchase. All external batteries, cases or wiring provided by SCI as part of an assembled device are warranted for a period of 30 days from date of purchase. Any hardware item covered by SCI’s warranty and found to be defective during the warranty period will be repaired or replaced at SCI’s discretion.
We warrant to consumers that the SafetyNet PLU will be free from defects in material, workmanship or design for a period of one year from the date of purchase. If the product proves to be defective in material, workmanship or design within that period, we will replace the PLU. Under the SafetyNet warranty, our maximum liability may not exceed $500.
PATENTS, TRADEMARKS AND LICENSES
North America Segment
Our strategy regarding intellectual property in our North America segment is multifaceted. We apply for trademarks and for patents for our inventions whenever appropriate. We protect certain intellectual property as trade secrets. We are actively involved in protecting our intellectual property and have undertaken administrative and legal measures against companies, which, in our opinion, have infringed on our rights.
We hold a patent portfolio that covers vehicle tracking, security and recovery technology. The portfolio includes United States Patent Nos. 5,917,423, 6,229,988B1 and 6,522,698B1 which expire in 2015, 2018 and 2017, respectively, each of which covers portions of the LoJack System. Each of these patents adds to the predecessor patents by adding additional functionality that we believe yields a competitive advantage. Additional patent applications, including the patent covering LoJack Early Warning, are pending. In addition, we hold unpatented trade secrets that are integral to the operation of the LoJack System. We believe that protection of the unpatented intellectual property will continue beyond the expiration of the stated patents.
In Canada we hold a patent portfolio that covers location, tracking and recovery using an existing network, vehicle location using a kinetic network, our two-way tracking beacon and anti-jamming technology. The portfolio includes United States Patent No. 5,895,436 which expires in 2016 (corresponding to Canadian Patent No. 2,203,302 which expires in 2017), United States patent No. 7,091,835B2 which expires in 2023 and Canadian Patent No. 2,395,843 (corresponding to United States Patent 6,498,565B2) which expires in 2021.
Although management believes the patents and trade secrets have value, there can be no assurance such patents and trade secrets will effectively deter others from manufacturing and marketing a competitive stolen vehicle recovery system.
The LoJack name and logo are registered trademarks in the United States and many other countries. We believe that the LoJack trademark and other trademarks have sufficient recognition to give us a competitive advantage.
We have registered or filed for the registration of our trademarks Boomerang, Boomerang2, Boomerang & Design (logo), BoomerangXpress, Boomerang Espion and Boomerang Espion Alert in Canada. We believe these trademarks have sufficient recognition to give us competitive advantage in the Canadian market.
We license to Absolute the use of our trademark for their consumer mobile device theft recovery and data protection products which are marketed under the name LoJack for Laptops®.
We have a registered trademark for LoJack for Laptops®
in several jurisdictions.
International Segment
We hold patents corresponding to United States Patent Nos. 5,917,423, 6,229,988B1 and 6,522,698B1 in a number of jurisdictions. Additional patent applications corresponding to pending United States applications are pending in various countries where we or our licensees either currently do business or intend to do business. In addition, we protect internationally the unpatented trade secrets that are integral to the operation of the LoJack System. We believe that protection of the unpatented intellectual property will continue beyond the expiration of the stated patents, and we license those patents and our trade secrets to our international licensees.
The LoJack name and logo are registered trademarks in many countries internationally.
All Other Segment
LoJack SafetyNet, Inc. and SC-Integrity, Inc. have unpatented intellectual property which they believe is valuable to their respective businesses which they protect as trade secrets.
COMPETITION
North America Segment
We believe that we have several competitive advantages in the United States, including our proprietary RF technology and two-way tracking beacon, our distribution networks, our distributed installation capacity, our well-known brand and our integration with law enforcement. Our RF technology is proven to be effective for the tracking and recovery of stolen vehicles and mobile assets. We hold a patent portfolio that covers vehicle tracking, security and recovery. We have developed a network in the United States that would be very expensive for a competitor to replicate. We have an established distribution network in the automotive, motorcycle and construction channels in the United States. Additionally, in the United States, we have a distributed installation capacity which allows us to go to the customer, rather than requiring the customer to come to us. Based on a brand study performed in 2008, we have a well-known brand with an aided and unaided brand awareness of approximately 87% in the United States, which provides us a strong competitive advantage. The LoJack System is directly integrated with law enforcement in the United States and, as a result, we have a detailed understanding of law enforcement systems and procedures. We are unaware of any competitor who provides a system capable of being operated or actively monitored exclusively by law enforcement agencies. We believe these competitive advantages present substantial barriers to competitive entry into our existing markets.
We market the LoJack System and our Boomerang products as stolen vehicle recovery devices. Our management believes, however, that makers of auto theft prevention devices and GPS devices view the LoJack System as competitive, and, consequently, we face competition from companies that sell vehicle security and theft prevention devices. Some of the competitors and potential entrants into the vehicle tracking market have greater resources than we do. In addition, there can be no assurance that a competitor will not develop a system of theft detection or recovery which would compete with or be superior to the LoJack System.
We believe that we face competition in both the United States and Canada from companies selling GPS products, technologies offering concierge types of services, vehicle alarms and third party warranty and insurance products; not because the products are comparable to the products we offer, but because they are competing for the same available consumer funds in the automobile security products after-market space. Several competitors or potential competitors are marketing or have announced the development of products, including those that are based on GPS technology, which claim to have stolen vehicle tracking features that may compete directly with the LoJack System. To our knowledge, none of these products are directly integrated with law enforcement systems or operated and monitored exclusively by law enforcement agencies, as is the LoJack System.
We believe that our Boomerang products and technology have several competitive advantages including proprietary cellular tracking and location technology and established relationships with insurance companies in Quebec.
International Segment
We believe that we have several competitive advantages in the International segment, including an established network though our licensees and wholly owned operations in Italy. Several competitors or potential competitors are marketing or have announced the development of products, including those that are based on RF technology, cellular technology, GPS technology or some combination of these technologies, which claim to have stolen vehicle tracking features that may compete directly with the LoJack System in our International segment. In some instances, competitors have a market share comparable or larger than that of our licensees. The competitive environment in regions with relatively high rates of auto theft, such as many countries in South America and parts of Africa, is generally more intense than in regions with lower rates of theft. Competition in Europe has become more intense, with many competitors offering stolen vehicle tracking devices that utilize cellular and GPS technologies. In addition, certain competitors have established relationships with automobile manufacturers to promote or incorporate their product offerings.
All Other Segment
We believe SCI and LoJack SafetyNet face competition from companies selling GPS and cellular phone systems which market themselves as solutions for cargo tracking and tracking and rescuing people as a service offering.
CONTRACT MANUFACTURING ARRANGEMENTS
We have a contract manufacturing arrangement for the LoJack Unit and other LoJack System components sold in the North America and International segments with Celestica Inc., and Plextek Limited (which subcontracts the physical manufacturing to Clarion Malaysia). We believe that several companies have the capability to manufacture LoJack Units.
INVENTORY
We generally seek to maintain a 75-day domestic and international supply of LoJack Units, which we believe is in line with current sales levels and is sufficient to fulfill orders.
We assemble the Boomerang Units in our own facility. We maintain a supply of inventory, of which, as of December 31, 2010, 23% was raw materials, 29% was work in process and 48% was finished goods.
We fill orders as they are received and maintain no order backlog.
We maintain an inventory of certain LoJack System Law Enforcement Components beyond our current requirements in order to facilitate expansion into additional markets.
Seasonality
We generally record the sale of a LoJack Unit and recognize revenue when it is installed or delivered to our customer (i.e., the dealership, or licensee). See the “Overview” section in Item 7 for additional discussion of revenue recognition practices.
We manage our production schedule based on a number of factors, including domestic sales volume trends (i.e., units sold by dealerships to their customers at retail) and orders from our licensees. In the past, we have experienced some seasonal fluctuation in the business, primarily with respect to the International segment, with sales in many of our international markets tending to be higher in the fourth quarter of the year to meet demand caused by insurance mandates. First quarter sales have tended to be the lowest. As a result, revenue and operating results for the first quarter typically have been lower than other quarters.
EMPLOYEES
As of February 2011, we had a total of 624 full-time employees, 557 of whom were working in the North America segment, 37 of whom were working in the International segment and 30 of whom were working in the All Other segment.
INTERNET ADDRESS AND SEC REPORTS
We maintain a website with the address www.lojack.com. We are not including the information contained on our website as a part of, or incorporating it by reference into, this Annual Report on Form 10-K. We make available free of charge through our website our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q and Current Reports on Form 8-K, and amendments to these reports, as soon as reasonably practicable after we electronically file such material with, or furnish such material to, the Securities and Exchange Commission, or the SEC. We also include our corporate governance guidelines, certain policies and the charters for each of the major committees of our board of directors on our website and intend to update these documents if amended as soon as reasonably practicable. You may read and copy any materials we file with the SEC at the SEC’s Public Reference Room at 100 F Street, NE, Washington, DC 20549. You may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC maintains an internet site that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC, and the address of that site is www.sec.gov.
EXECUTIVE OFFICERS OF THE REGISTRANT
Information concerning our executive officers is set forth below.
Mr. Riley was elected as LoJack’s Chairman of the Board, President and Chief Executive Officer on May 24, 2010. Prior to becoming our Chairman of the Board, President and Chief Executive Officer, Mr. Riley served as our Executive Chairman of the Board of Directors from January 2009 until May 2010. Prior to becoming our Executive Chairman, Mr. Riley served as our Chairman and Chief Executive Officer from November 2006 until December 2008. From February 2005 until November 2006 Mr. Riley was our President and Chief Operating Officer and a member of our Board. Mr. Riley has served as a Director of the Company since February 2005. Prior to joining the Company, Mr. Riley served as an officer and director of New England Business Service, Inc., or NEBS, then a public company listed on the New York Stock Exchange prior to its acquisition by Deluxe Corporation. He served as President and Chief Operating Officer of NEBS from 2002 to 2003 and as President, Chief Executive Officer and Chief Operating Officer from 2003 to 2004. Prior to that, he served as a Senior Vice President of NEBS from 1998 to 2002, as President, NEBS Direct Marketing from 2001 to 2002, as President, Integrated Marketing Services from 2000 to 2001 and as President of Rapidforms (acquired by NEBS in 1997) from 1992 to 2000. Mr. Riley served as a director of NEBS from 2002 to 2004. He serves as Chairman of the Supervisory Board of VistaPrint, N.V., a publicly held company in the printing and graphic arts business, and Micro-Coax, Inc., a manufacturer of microwave and cable products, a privately held company. Mr. Riley also serves on the Board of Directors of Dorman Products, Inc., a publicly held supplier of automotive replacement parts and service line products.
Mr. O’Connor joined LoJack in November 2008 and is Executive Vice President and Chief Financial Officer. From November 2008 to June 2010, Mr. O’Connor served as Senior Vice President and Chief Financial Officer. Prior to joining the Company, Mr. O’Connor served as Senior Vice President, Finance Operations for American Tower Corporation, U.S. Tower Division, since 2007. From 2005 until joining American Tower Corporation, Mr. O’Connor served as Vice President, Finance for the Global Technology and Manufacturing Group with Procter & Gamble. From 1988 to 2005, Mr. O’Connor held various finance, administration, and internal audit positions with The Gillette Company.
Mr. Weichselbaum joined LoJack in November 2009 and is currently an Executive Vice President. From November 2009 to June 2010, Mr. Weichselbaum served as Senior Vice President, Business Management. Prior to joining the Company, from 2008 to 2009, Mr. Weichselbaum served as a principal in a private consultancy, providing strategic and go-to-market advice to investors and CEOs. Prior to that he served as Chief Marketing Officer of One Communications from 2006 to 2008, Senior Vice President of Marketing and Operations of CTC Communications from 2004 to 2006 and Chief Executive Officer and President of OpenReach, Inc. from 2001 to 2003. In these executive positions, Mr. Weichselbaum’s responsibilities included strategic planning, marketing, operations, information technology, engineering, new product development, business development and sales.
Mr. Schlerf joined LoJack in May 2006 and is Senior Vice President, Order Fulfillment. From May 2006 to April 2008, Mr. Schlerf served as Vice President of Operations. Prior to joining the Company, from 2004 to 2006, Mr. Schlerf was a private investor. Mr. Schlerf served in various positions for NEBS prior to 2004, serving as Senior Vice President of Manufacturing and Technical Operations from 1998 to 2004, Vice President, Manufacturing and Technical Operations from 1996 to 1998, and as Vice President, Image Manufacturing and Product Development from 1995 to 1996.
Mr. Mullins joined LoJack in February 1996 and is Senior Vice President and General Manager of U.S. Sales. From June 2001 to January 2005 Mr. Mullins served as Vice President of Sales and from February 1996 until May 2001, Mr. Mullins served as Vice President of Sales and Marketing. From 1976 until joining LoJack, Mr. Mullins served in a variety of positions at Procter & Gamble Company, Inc., including District Sales Manager, Customer Business Development Manager and Northeast Operation Manager.
Mr. Camp joined LoJack in May 2002 and is Senior Vice President and General Manager, International. He served as Vice President of Corporate Development from May 2002 to September 2004. From 1999 until joining LoJack, Mr. Camp held executive positions with Go2Net, Inc. from 1999 to 2000 and InfoSpace, Inc. from 2000 to 2001. He was a corporate and securities attorney with the law firm of Hutchins, Wheeler and Dittmar from 1990 to 1999.
Ms. Lundy joined LoJack in January 2007 and is Vice President and General Counsel. Ms. Lundy served as Deputy General Counsel from January 2007 to February 2010. Prior to joining the Company, Ms. Lundy served as Legal Counsel at Dunkin Brands Inc. since 2006. She was a corporate and securities attorney with the law firm of Sullivan & Worcester LLP from 2001 to 2006.
There are no arrangements or understandings pursuant to which any executive officer was or is to be selected for appointment, election or reelection. There are no family relationships among any directors or executive officers.
ITEM 1A
ITEM 1A -
RISK FACTORS
RISKS RELATING TO OUR BUSINESS
Our business faces many risks. The risks described below may not be the only risks we face. Additional risks that we do not yet know of, or that we currently think are immaterial, may also impair our business operations or financial results. If any of the events or circumstances described in the following risks actually occur, our business, financial condition or results of operations could suffer and the trading price of our equity securities could decline. Our shareholders should consider the following risks and the information contained under the heading “Warning Regarding Forward-Looking Statements” in Item 7 before deciding to invest in our securities.
The automotive industry is sensitive to changing economic conditions and various other factors. Our business and results of operations are substantially dependent on new vehicle sales levels in the United States and the sales of LoJack products in our particular geographic markets.
We believe that many factors affect sales of new vehicles in the United States and the sales of LoJack products in our particular geographic markets, including the U.S. economy, fuel prices, credit availability, interest rates, consumer confidence, the level of personal discretionary spending, unemployment rates, manufacturer incentives (and consumers’ reaction to such offers), product quality and affordability and innovation. Current and future economic conditions could adversely affect consumer spending in the automobile industry, as such spending is often discretionary and may decline during economic downturns when consumers have less disposable income. The great majority of our domestic gross unit sales for the year ended December 31, 2010 were made through a distribution network consisting of automobile dealers that offer LoJack Units as an option on both their new and used automobiles. Changes in interest rates or in the availability of financing for vehicles and accessories can significantly impact industry new vehicle sales and LoJack sales due to the direct relationship between interest rates and monthly loan payments, a critical factor for many vehicle buyers, and the impact on customers’ borrowing capacity and disposable income. Such impact also affects LoJack sales. The United States automotive market may remain challenging in 2011. Our product sales may differ from overall automotive industry sales due to particular economic conditions and other factors in the geographic markets in which we operate. Our ability to adequately respond to the changes in the automotive market and to maintain our competitiveness is key to our success and there can be no assurance that we will be able to compete successfully in the future.
Any negative impact on the sales, licensing and marketing efforts of our principal products would adversely affect our business and results of operations.
Our business depends primarily on the sale, licensing and market acceptance of our principal product, the LoJack System and related products and services, in the United States and 32 foreign countries and the Boomerang Stolen Vehicle Recovery System in Canada. Because our revenue is dependent on the success of our principal products, any factor affecting their marketability could have a material adverse affect on our business and results of operations. Factors that could harm the successful sale and licensing of the products include, among others:
•
If automobile dealers with whom we have relationships stop selling or emphasizing our products in connection with their vehicle sales;
•
If law enforcement agencies who currently utilize our LoJack System in the United States do not renew our service contracts or if such law enforcement agencies grant service contracts to our competitors;
•
If we are unable to fully develop and sustain a market for our products and services in Italy;
•
If our foreign licensees are unable to establish or maintain a market for our products in their jurisdictions;
•
If we are unable to develop enhancements to our products as required by market demand;
•
If we are unable to protect our proprietary rights;
•
If one or more of our competitors introduces a product or system that renders our products obsolete or less competitive;
•
If third parties are able to locate or impair the function of LoJack Units or Boomerang Units in vehicles, potentially adversely affecting our recovery rates; or
•
If vehicle manufacturers adopt practices, implement new technologies or create systems which adversely affect the efficacy of the LoJack System.
Unfavorable results of pending legal proceedings could materially adversely affect us.
We are subject to various legal proceedings and claims that have arisen which are not yet resolved and additional claims may arise in the future. Some of these matters are described in greater detail in “Item 3 - Legal Proceedings” below. Regardless of merit, litigation may be both time-consuming and disruptive to our operations and cause significant expense and diversion of management attention. Should we fail to prevail in certain matters, we may be faced with significant monetary damages or injunctive relief that could materially adversely affect our business and financial condition and operating results.
We face significant competition from original equipment manufacturers, or OEMs, and makers of location based services and automobile products to be sold by automobile dealers, which could make our products less effective or obsolete, and harm our business.
We compete with other makers of stolen vehicle recovery devices, but more significantly, we also face competition from all products which are sold by automobile dealers in the after-market space, including vehicle security devices, GPS products and navigation systems, as such products compete with us for consumer funds in the automobile products after-market. We also face competition from OEMs, including divisions of well-known automobile manufacturers, who have diversified their product offerings and place increased sales pressure on dealers to purchase OEM-supplied or approved equipment and products.
Our growth depends in part on the development, production and market acceptance of new products and sales channels which we cannot assure will happen successfully.
To maintain competitiveness in our industry, we must support and enhance our existing products and develop new products in response to market demands. Product development involves a high degree of risk and uncertainty due to unforeseen difficulties and costs. We may not be successful in developing, marketing and releasing new products that we believe are necessary to respond to technological developments, evolving industry standards,
increasing sophistication and complexities in vehicles or changing customer preferences. In addition, our new product enhancements may not adequately meet the requirements of the marketplace and may not achieve the broad market acceptance necessary to generate significant revenue. If the release date of any future products or enhancements is delayed, or if these products or enhancements fail to achieve market acceptance when released, we may not be able to recover our research and development costs and our competitive position in the marketplace may be harmed.
If we are unable to maintain our brand and product quality, it may damage our reputation which could have an adverse effect on our business, financial condition and results of operations.
We have established a strong reputation for the quality and effectiveness of our products in the tracking and recovery of stolen mobile assets. Our continued success depends on our ability to market our products and develop sales techniques tailored to the needs of our customers, maintain our brand image for our existing products and effectively establish brand image for new products and brand extensions. Brand value is largely based in part on consumer perceptions. Even isolated business incidents that erode consumer trust can significantly reduce brand value. Product quality issues could tarnish the image of the LoJack brand and may reduce demand for our products and cause consumers to choose other products. Poor product quality, low consumer acceptance, poor installation practices, or low recovery rates could affect our profitability and could negatively affect brand image. If we fail to maintain high standards for product quality and recovery, our reputation could be harmed. Damage to our reputation or loss of consumer confidence in our products for any of these reasons could have a material adverse effect on our business, financial condition and results of operations, as well as require additional resources to rebuild our reputation.
We depend on a limited number of third parties to manufacture and supply quality infrastructure components for our principal products. If our suppliers cannot provide the components or services we require and in such quality as we expect, our ability to market and sell our products could be harmed.
We rely on third-party manufacturers of our LoJack Units, a critical component of our LoJack System. If our suppliers fail to supply these components in a timely manner that meets our quantity, quality, cost requirements, or technical specifications, we may not be able to access alternative sources of these components within a reasonable period of time or at commercially reasonable rates. Our manufacturers are located outside the United States and their facilities are geographically concentrated in a specific region. We outsource much of the transportation and logistics management and while these arrangements may lower operating costs, they reduce our direct control over production and distribution. Such diminished control may reduce our flexibility and ability to quickly respond to changing conditions. A reduction or interruption in the supply of LoJack Units, or a significant increase in the price of these units, could have a material adverse effect on our marketing and sales initiatives, which could adversely affect our financial results domestically and internationally. Our agreements with our manufacturers include warranties and quality control measures, but any unanticipated product defect or warranty liability, whether pursuant to arrangements with contract manufacturers or otherwise, could have a material adverse effect on our reputation, financial condition and operating results.
We may need additional financing in the future, which could be difficult to obtain on acceptable terms or at all. Any such financing could also dilute shareholder value.
We may require additional financing to make future investments in new technologies, products, international markets, or to provide additional working capital. We believe the lenders participating in our revolving credit facility will be willing and able to provide financing in accordance with their contractual obligations. However, the current economic environment may adversely impact the availability and cost of credit in the future. Furthermore, if our current business does not generate sufficient cash flow from operations, we may fail to comply with our loan covenants and such failure could result in an event of default that, if not cured or waived, could adversely impact our financial condition. In the future we may decide to raise additional funds through public or private debt or equity financings to fund our activities. If we issue additional equity securities, shareholder value will be diluted and the new equity securities may have rights, preferences or privileges senior to those of our common stock. In addition, if we raise funds through debt financings, we will have to pay interest and may be subject to restrictive and other
covenants, which could negatively impact our business. If we cannot raise funds on acceptable terms, if and when needed, we may not be able to make strategic investments, develop or enhance our products, take advantage of acquisition and other opportunities, or otherwise respond to competitive challenges or unanticipated industry changes, any of which could have a material adverse effect on our business.
If we are unable to hire or retain key employees, it could have a negative impact on our business.
Our success as a company depends substantially on the contributions and abilities of key executives and other employees. We must continue to recruit, retain and motivate management and other employees sufficient to maintain our current business and support our strategic initiatives. Our operating results could be adversely affected by increased costs due to greater competition for employees, higher employee turnover or increased employee benefit costs. Any unplanned turnover could diminish our institutional knowledge base and erode our competitive advantage.
Failure to procure and maintain contracts with local law enforcement agencies would materially adversely affect the marketability of the LoJack System and would inhibit sales in the United States and Italy.
In the United States and Italy, the LoJack System is designed to be integrated into existing law enforcement computer systems and telecommunication systems and procedures. A LoJack Unit will not be effective if the vehicle in which it is installed is located outside a covered jurisdiction where we have procured an agreement with local law enforcement agencies. We have agreements covering 28 states and the District of Columbia in the U.S. and certain geographical areas of Italy. These agreements are generally for terms of up to five years. Renewal or extension of any of these agreements, either formally or informally, may be subject to competitive bidding. We cannot guarantee that we will be able to renew or extend our existing agreements with local law enforcement agencies or obtain agreements in new target jurisdictions in the future. Our competitors may seek agreements with local law enforcement agencies and if they obtain such agreements, we may be adversely affected. Furthermore, if we are unable to procure and maintain contracts with local law enforcement agencies in our existing and target markets, our financial results will be materially and adversely affected.
We are subject to government regulations and approvals which may result in costs and delays that could impede our ability to competitively offer our services and products in the market.
We must obtain the approval of law enforcement agencies, as well as other governmental agencies, for implementation of our LoJack System in any domestic jurisdiction. The approval process may be time consuming and costly and, in some jurisdictions, the governmental approvals that we obtain may be terminable by an executive or legislative body. The LoJack System is operated by law enforcement agencies utilizing a frequency assigned by the FCC and our LoJack System depends on the continued availability of the frequency which we cannot guarantee. Our international licensees may encounter similar or additional regulatory requirements and uncertainties under applicable local laws. In addition, certain countries have or may mandate the inclusion of GPS products in vehicles which may affect our licensees’ current business model and may harm our financial condition and operating results. Governmental regulations, requirements and approvals required for our services may impede our ability to offer competitive services, and may increase the cost of or decrease the demand for our product, either of which would have a negative impact on our results of operations.
Economic, political and other risks associated with the operations in our International Segment could adversely affect our revenue and earnings.
Our revenue and profit growth is partially dependent on the continuation of our license agreements with our international licensees and the success of their operations. Changes to our licensees’ existing management teams, or failure of our licensees to meet their working capital needs or execute fully on their existing business plans, could negatively impact: (a) the value of our equity investments, (b) the collectability of our receivables; (c) our target revenue and profits from our International segment; and (d) delay or preclude altogether our ability to generate
revenue in key international markets. Moreover, our licensees’ operations and our own international operations expose us to risks inherent in doing business outside of the United States including:
•
Potentially weak protection of intellectual property rights;
•
Economic and geo-political instability and fluctuations;
•
Import or export licensing requirements;
•
Trade or currency restrictions;
•
Business models that are more heavily weighted towards periodic payments rather than receiving full payment upon sale of the product;
•
Changes in regulatory requirements, tariffs or government mandates;
•
Seasonal reductions in business activities in some parts of the world, such as during the summer months in Europe;
•
In-country pricing which may be adversely impacted by fluctuations in exchange rates;
•
Potentially adverse tax consequences;
•
Limited access to capital to invest in infrastructure, hire and train employees; and
•
Uncertainties related to product acceptance.
Any of these factors could harm the operations of our licensees and, consequently, adversely affect our business and operating results.
The success of the Boomerang System and our Sales in Canada are heavily dependent on alliances with wireless carriers and insurance companies.
Wireless carriers are an integral facet of our Boomerang System. The continued availability and maintenance of the wireless telecommunications networks that we use in Canada is essential for operating the Boomerang tracking system.
Some insurance companies in the province of Quebec mandate installation of Boomerang Units in certain vehicles. Insurance companies’ acceptance of LoJack technology and consumers’ demand for LoJack products is necessary for the successful launch of LoJack RF technology in Canada. The continuation of these strategic alliances and insurance mandates is important for the continued development of our markets. Changes in insurance practices and requirements in Canada could adversely affect the demand for and sales of our Boomerang products.
If we fail to protect and enforce our intellectual property rights, our competitiveness could be impeded and our business and operating results could be harmed.
We seek to protect our intellectual property rights through patents, trademarks, copyrights, trade secret laws, confidentiality agreements and licensing arrangements, but we cannot ensure that we will be able to adequately protect our technology from misappropriation or infringement. We cannot ensure that our existing intellectual property rights will not be invalidated, circumvented, challenged or rendered unenforceable. In addition, the laws of some countries in which we offer or plan to offer our products through our international licensees may not protect our intellectual property rights to the same extent as the laws of the United States and/or Canada, increasing the possibility of piracy of our technology which could adversely affect our business and our operating results.
We may litigate to enforce our intellectual property rights and to protect our trade secrets. Such litigation can be time consuming and expensive, with outcomes often difficult to predict. Our failure to successfully protect or enforce our intellectual property rights could have an adverse effect on our business and results of operations.
If a court determines that our technology infringes on third parties’ intellectual property, we will likely face significant costs and we may lose our rights to the technology, which would harm our business.
We may inadvertently violate the intellectual property rights of other parties and those third parties may choose to assert infringement claims against us. If we are unsuccessful in any litigation based on a claim of infringement, in addition to exposure to substantial monetary damages, we could be required to expend considerable resources to modify our products, to develop non-infringing technology or to obtain licenses to permit our continued use of the technology that is the subject matter of the litigation. If we are unsuccessful in these endeavors, we may be enjoined from using the technology subject to the infringement claim which could cause us to incur substantial liabilities and could adversely affect our profits, perhaps significantly.
Our failure to successfully integrate businesses that we may acquire could disrupt our business and negatively impact our future financial condition and operating results.
We may make strategic acquisitions of complementary companies, products or technologies, and such acquisitions could disrupt our business, divert our management’s attention from our core business objectives or involve unforeseen difficulties and costs. We may not be able to successfully integrate the business, technology or personnel that we have acquired or those we might acquire in the future in a timely manner, or at all, and this could harm our financial condition and operating results. Any of these risks could negatively impact our ability to fully realize the expected benefits of our acquisitions. For example, in May 2008, we acquired the assets of Locator Systems of Victoria, British Columbia, Canada to provide a technology solution to track and rescue people at risk. We re-launched the Locator Systems product and service offerings under the LoJack SafetyNet brand name. There is no assurance that these efforts will result in substantial LoJack brand identity or commercial acceptance of any new or existing LoJack SafetyNet products and services. Furthermore, the success of LoJack SafetyNet is interdependent upon law enforcement, public service agencies and other third party agencies to assist with the search and rescue aspect of this service. Establishing and maintaining such relationships is essential to the success of LoJack SafetyNet.
Our failure to successfully execute on our key investments could disrupt our business and negatively impact our future financial condition and operating results.
Since 2005, we have invested approximately $23,000,000 (comprised of LoJack network build out and operating losses) in LoJack Italia. This initiative will continue to require significant amount of financial resources and senior management focus which may impact our core business. There is no assurance that there will be consumer acceptance in Italy sufficient to result in an acceptable return on our Italian investment.
Since 2006, we have invested approximately $8,562,000 in SCI and currently have approximately a 60% equity interest in the company. There is no assurance that our investment in SCI will result in substantial LoJack brand identity or commercial acceptance of any new or existing SCI products in the cargo tracking market.
RISKS RELATING TO OUR COMMON STOCK
There are risks inherent in owning our common stock.
The market price and volume of our common stock have been, and may continue to be, subject to significant fluctuations. These may arise from general stock market conditions, the impact of the risk factors described above on our financial condition and results of operations, a change in sentiment in the market regarding us or our business prospects or from other factors.
Sizeable future sales of our common stock may depress the share price for our common stock or prevent or delay our ability to sell equity investments in our Company at competitive rates.
If we or our shareholders sell sizeable amounts of shares of our common stock, including shares issued upon the exercise of options, or if the perception exists that we or our shareholders may sell a substantial number of shares of our common stock, the market price of our common stock may fall. In addition, any substantial sales of these
securities in the public market might make it more difficult for us to sell equity or equity related securities in the future at a time and in a place we deem appropriate or necessary for our business objectives.
Certain provisions of our governing documents and Massachusetts law might make a takeover of us more difficult, which could impede the ability of our shareholders to effectuate changes in our management and board of directors.
Provisions in our restated articles of organization and amended and restated by-laws and in Massachusetts corporate law may make it difficult and expensive for a third party to pursue a tender offer, change in control or takeover attempt which is opposed by our management and board of directors. Shareholders who might desire to participate in such a transaction may not have an opportunity to do so. Our board of directors has the authority to issue preferred stock in the future with voting or other rights or preferences superior to those of our common stock. The issuance of preferred stock could make it more difficult for third parties to acquire a majority of our outstanding voting stock which could have the effect of delaying, deferring or preventing a change in our control that may be desired by some shareholders. Finally, Massachusetts law (1) prohibits us from engaging in a merger, consolidation, stock or asset sale and other specified business combinations with a shareholder who owns or owned, in the past three years, 5% or more of our voting stock unless the transaction is approved in a prescribed manner and (2) provides that any shareholder who acquires 20% or more of our outstanding voting stock may not vote that stock unless our disinterested shareholders so authorize. These provisions have the effect of discouraging third parties from attempting to acquire us or to acquire control of us, even if the attempt would result in a premium over market price for the shares of our common stock held by our shareholders. These anti-takeover provisions could substantially impede the ability of our shareholders to benefit from a change in control or to change our management and board of directors.
The foregoing risk factors may be considered forward-looking statements. We undertake no obligation to release publicly the result of any revision to these forward-looking statements that may be made to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events.
ITEM 1B
ITEM 1B -
UNRESOLVED STAFF COMMENTS
None.
ITEM 2
ITEM 2 -
PROPERTIES
Our executive offices are located in Westwood, Massachusetts and are under leases for such space expiring in December 2011. We maintain a facility located in Canton, Massachusetts for our engineering operations under a lease that expires in December 2011. We also maintain facilities in Westwood, Massachusetts and Palmdale, California for our Call Center operations under leases that expire in December 2011 and February 2012, respectively. In addition, we lease facilities for our sales and operations personnel in California, Colorado, Florida, Georgia, New Jersey and Pennsylvania under operating leases that expire from 2011 to 2014.
The Canadian head office, marketing, sales, customer care, research and development, product assembly and installation activities are carried out in a single facility located in leased premises in Montreal, Quebec. We also lease space in Mississauga, Ontario for certain sales personnel. The Montreal lease expires in 2017 and the Ontario lease expires in 2011.
We also maintain facilities in Victoria, British Columbia, Canada, Dublin, Ireland and Rome and Milan, Italy for our administrative, sales and operations personnel under leases that expire in 2011, 2019, 2013 and 2012, respectively.
We do not own any real estate.
Because our operations do not require any special facilities, we do not anticipate any difficulty in finding space adequate for our purposes at reasonable rates, should the need arise. We believe that our current facilities are adequate for our current operations.
ITEM 3
ITEM 3 -
LEGAL PROCEEDINGS
As of December 31, 2010, we were subject to various legal proceedings and claims discussed below, as well as certain other legal proceedings and claims that have not been fully resolved and that have arisen in the ordinary course of business. The results of legal proceedings cannot be predicted with certainty. Should we fail to prevail in any of these legal matters, our financial condition and results of operations could be materially adversely affected.
California Class Action Litigation
Employee Claims
In April 2006, a suit was filed against LoJack Corporation in the United States District Court for the Central District of California by an employee alleging violations of the Fair Labor Standards Act, the California Labor Code and the California Business & Professions Code, and seeking class action status. In September 2007, our motion for summary judgment was granted and the district court dismissed all of the plaintiff’s federal law claims. The plaintiff appealed the dismissal to the Ninth Circuit Court of Appeals and in August 2009, the Ninth Circuit affirmed the district court’s grant of summary judgment on all claims except as to the claim for compensation for the required postliminary data transmission, or the data transmission claim, for which the dismissal was vacated. The plaintiff filed a petition for rehearing to the Ninth Circuit and on March 2, 2010, the Ninth Circuit affirmed the district court’s grant of summary judgment on all claims except as to (a) the claim for compensation for commuting under state law and (b) the data transmission claim, which are the two remaining claims. The plaintiff seeks to pursue the claim for compensation for commuting time in the State Court case referenced below. The plaintiff moved for conditional class certification for the data transmission claim and on January 14, 2011, the District Court for the Central District of California granted the plaintiff’s motion for conditional certification. Trial for this claim in federal court currently scheduled for November 2011.
Due to the dismissal of the plaintiff’s claims in federal court in September 2007 as discussed above, in November 2007, the plaintiff also filed state law claims in California State Court. In June 2009, the California State Court granted class certification with respect to nine claims and denied class certification with respect to five claims. The Company appealed this decision and on March 26, 2010, the California State Appellate Court granted our appeal in part, denying certification with respect to certain claims and affirming certification with respect to other claims, including claims related to meal and rest breaks, postliminary data transmission, and time traveling to UPS stores. There are currently six claims class certified in this State Court case. The plaintiff seeks to pursue the claim for compensation for commuting time in California State Court.
In both the Federal and State Court cases, the plaintiff, on behalf of the class, seeks unpaid wages, penalties, interest and attorneys’ fees. In November 2010, the parties had a mediation hearing to address all remaining Federal and State claims. However, the parties did not reach any resolution as a result of the mediation.
On February 14, 2011, the Company filed a Notice of Removal to remove this State Court case to the Federal Court, thereby requesting to consolidate both the Federal and State Court cases to be heard in the Federal Court. The Company believes that it has substantial legal and factual defenses to these claims and intends to defend its interests vigorously.
Consumer Claims
On June 15, 2010, a suit was filed by a consumer against LoJack Corporation in the Los Angeles County Superior Court of the State of California (Central District) alleging, amongst other claims, violations of the California Consumers Legal Remedies Act, the California Business and Professions Code § 17200 (unfair competition) and § 17500 (false advertising), and breach of implied warranty with respect to LoJack Early Warning for motorcycles, and seeking class action status. On July 29, 2010, the Company removed the case to the United States District Court for the Central District Court of California. On August 23, 2010, the Company filed a motion to dismiss all claims, which was granted by the Court on September 27, 2010, without prejudice. The dismissal without prejudice provided plaintiff with the opportunity to amend its complaint, and on October 25, 2010, the plaintiff filed an amended complaint, for alleged fraud, violations of the California Consumers Legal Remedies Act, the California Business and Professions Code § 17200 (unfair competition) and § 17500 (false
advertising), and breach of implied warranty and again seeks class certification. On November 12, 2010, the Company filed a motion to dismiss all claims and a motion to strike certain claims. On December 28, 2010, the Court denied the Company’s motion to dismiss. The plaintiff, on behalf of the class, seeks injunctive relief, restitution, disgorgement, punitive damages, and attorneys’ fees in unspecified amounts. The parties are currently engaged in discovery. On March 3, 2011, the plaintiff filed a motion for class certification. The Company is currently preparing its opposition to class certification. The parties have scheduled a mediation hearing for March 29, 2011 to address all claims. There can be no guarantee of the possible outcome of the mediation between the parties, and there may or may not be a resolution of the above matters as a result of the mediation. The Company believes that it has substantial legal and factual defenses to these claims and intends to defend its interests vigorously.
New York Litigation
On October 13, 2010, a suit was filed by G.L.M. Security & Sound, Inc. against LoJack Corporation in United States District Court for the Eastern District of New York alleging breach of contract, misrepresentation, violation of the New York franchise law, and price discrimination. Plaintiff seeks damages of $10,000,000, punitive damages, interest and attorneys fees, and treble damages. On December 14, 2010, the Company filed a motion to dismiss all claims. On February 1, 2011, the plaintiff filed a motion to amend the complaint and sought to add a claim for breach of fiduciary duty. On February 15, 2011, the Company filed its opposition to the motion to amend and sought the dismissal of all claims. The Company believes that it has substantial legal and factual defenses to these claims and intends to defend its interests vigorously.
ITEM 4
ITEM 4 -
REMOVED AND RESERVED
PART II
ITEM 5
ITEM 5 -
MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
Market Information
Our common stock is traded on the NASDAQ Global Select Market under the symbol: LOJN.
Stockholders
On March 1, 2011, there were approximately 1,900 record holders of our common stock. We believe the actual number of beneficial owners of our common stock is approximately 6,400 because a large number of the shares of our common stock are held in custodial or nominee accounts for the benefit of persons other than the record holders.
Dividends
We have never paid a dividend, and have no current intention to pay a dividend. At the present time we expect that future earnings will be retained for use in our business. The payment of dividends is permitted per the terms of our credit agreement and is limited only to the extent such payments affect our ability to meet certain financial performance measures.
Issuer Purchases of Equity Securities
On February 15, 2008 our Board of Directors authorized 1,000,000 shares to be repurchased under our stock repurchase plan, or the 2006 Repurchase Plan, pursuant to a plan intended to comply with rule 10b5-1 under the 1934 Securities and Exchange Act of 1934, as amended, or the Exchange Act, and renewed the remaining management discretionary authority to repurchase 2,000,000 shares, for a total repurchase authorization of 3,000,000 shares. During the years ended December 31, 2010, 2009 and 2008 we repurchased 98,942, 8,186 and 1,318,222 shares of common stock at an average price per share of $5.33, $4.02 and $10.83, respectively. No shares have been purchased by us other than through our publicly announced stock repurchase program. At December 31, 2010 there were 1,681,778 shares available for purchase under the 2006 Repurchase Plan.
During the fourth quarter of 2010, there were no common stock repurchases under the 2006 Repurchase Plan. All repurchases in 2010 were shares acquired from our employees or directors in accordance with our 2008 Stock Incentive Plan as a result of share withholdings to pay income tax related to the lapse of restrictions on restricted stock.
Unregistered Sales of Equity Securities
None.
Common Stock Sales Price Information
The following table sets forth the range of the high and low sales price information for our common stock for the periods indicated, as reported by the NASDAQ Global Select Market. This information reflects inter-dealer prices, without retail mark-up, markdown or commission and may not necessarily reflect actual transactions.
Stock Performance Graph
The following line graph compares the yearly percentage change in the cumulative shareholder return on our Common Stock to the NASDAQ Composite Index and a Company-selected peer group index over the five-year period beginning December 31, 2005 and ending December 31, 2010. Cumulative shareholder return has been measured on a weighted-average basis based on market capitalizations of the component companies comprising the peer group index at the close of trading on the last trading day preceding the beginning of each year assuming an initial investment of $100 and reinvestment of dividends.
In 2010, we established a new peer group index based upon the following primary selection criteria: (a) public, U.S. based companies with products and/or in an industry similar to the Company; (b) companies with annual revenue between $100 million and $450 million; and (c) companies with market capitalization between approximately $40 million and $650 million. The peer group was further refined based on input from management as to which businesses were most comparable to the Company. In 2010, our peer group was comprised of the following 10 companies: Applied Signal Technology Inc, Audiovox Corporation, CalAmp Corporation, EMS Technologies Inc., Herley Industries Inc., iRobot Corporation, Sparton Corporation, STRATTEC Security Corporation, TiVo Inc. and Universal Electronics Inc.
Our old peer group index, presented below for comparative purposes, consisted of Audiovox Corporation, I.D. Systems, Inc., Ituran Location & Control Ltd., Garmin Ltd., Numerex Corporation and Trimble Navigation Ltd. The former peer group was selected based on products and markets similar to ours.
Our peer group will change from time to time to reflect changes in the market. The stock price performance shown on the graph is not necessarily indicative of future performance.
COMPARISON OF 5 YEAR CUMULATIVE TOTAL RETURN*
Among LoJack Corporation, the NASDAQ Composite Index,
an Old Peer Group and a New Peer Group
*
$100 invested on 12/31/05 in stock or index, including reinvestment of dividends.
Fiscal year ending December 31.
Source : Returns were derived from Research Data Group, Inc.
Note: The stock price performance shown on the graph above is not necessarily indicative of future price performance. This graph shall not be deemed “filed” for purposes of Section 18 of the Exchange Act or otherwise subject to the liabilities of that section nor shall it be deemed incorporated by reference in any filing under the Securities Act of 1933 or the Exchange Act, regardless of any general incorporation language in such filing.
ITEM 6
ITEM 6 -
SELECTED FINANCIAL DATA
The selected condensed consolidated financial data set forth below are derived from our audited consolidated financial statements. The information set forth below should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” at Item 7
Item 7 and the consolidated financial statements and notes thereto included herein at Item 8.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS:
CONDENSED CONSOLIDATED BALANCE SHEET DATA:
(1)
In the year ended December 31, 2009, we recognized a charge of $18,250,000 related to a legal settlement entered into with our former licensee in China. See a further discussion of the settlement under the heading Legal Settlement within “Management’s Discussion and Analysis of Financial Condition and Results of Operations” at Item 7.
(2)
For the years ended December 31, 2009, 2008 and 2007, we determined that lower than previously projected operating profitability at our Boomerang reporting unit caused triggering events that resulted in our assessment of the carrying value of this reporting unit. As a result of these assessments, for the years ended December 31, 2009, 2008 and 2007, we recognized impairment charges of $411,000, $1,260,000 and $3,298,000, respectively, relating to Boomerang’s intangible assets consisting of monitoring contracts, completed technology and trade name and trademark. In the second quarter of 2009 and, previously, in the third quarter of 2008, we also incurred impairment charges of $13,627,000 and $36,830,000, respectively, relating to Boomerang’s goodwill. As a result of these impairments operating income decreased by $14,038,000, $38,090,000 and $3,298,000, for the years ended December 31, 2009, 2008 and 2007, respectively. No impairments were recorded in the years ended December 31, 2010 or 2006.
(3)
For the year ended December 31, 2010, we recorded a worldwide provision for income taxes of $17,428,000, which includes a non-cash tax charge of $14,919,000, recorded to establish a valuation allowance for our net U.S. deferred tax assets. We have net U.S. deferred tax assets that have arisen as a result of temporary differences between book and tax accounting, primarily related to deferred revenue and stock compensation. The Financial Accounting Standards Board, or FASB, authoritative guidance on accounting for income taxes, requires the establishment of a valuation allowance to reflect the likelihood of realization of deferred tax assets. Our ability to realize a deferred tax asset is based on our ability to generate sufficient future taxable income. The valuation allowance was determined in accordance with the guidance, which requires an assessment of both positive and negative evidence when determining whether it is more likely than not that deferred tax assets are recoverable. Such assessment is required on a jurisdiction-by-jurisdiction basis. We will maintain a full valuation allowance on our net U.S. deferred tax assets until sufficient positive evidence exists to support reversal of the valuation allowance.
ITEM 7 -
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with our consolidated financial statements and notes thereto which appear in Item 8 in this Annual Report on Form 10-K. The following discussion contains forward-looking statements and should also be read in conjunction with the risk factors set forth in Item 1A.
Overview
We are a leading global provider of technology products and services for the tracking and recovery or rescue of valuable mobile assets and people at risk of wandering. Our proprietary technology, wireless network and unique integration with law enforcement agencies in the United States provide an effective means for tracking and recovery or rescue of stolen vehicles, construction equipment, motorcycles, cargo and people at risk.
We have three separately managed and reported business segments: North America, International and All Other.
North America Segment
Our revenue in the United States is derived primarily from the sale of LoJack Units, LoJack Early Warning, and extended warranty products to consumers. Approximately 87% of sales in the United States market are made through a distribution network consisting of dealers of new and used automobiles. We have strong consumer brand awareness in the United States.
The price paid by the consumer for a LoJack Unit includes installation. We maintain a workforce that performs these installations and we supplement our installation capacity by contracting with and certifying select dealers and other third parties to install our products. We continually seek to minimize the fixed costs related to the installation
of a LoJack Unit by increasing our installation volumes with certified dealers and other third parties. We monitor the quality of these installations through the use of an expanded quality control process.
We also offer warranty products at the point of sale to new customers and through direct sales efforts to our existing customers.
We record additions to deferred revenue for our LoJack Early Warning product and for certain warranty products for which we are the primary obligor of the underlying contract. We typically receive full payment within 60 days of the transaction, but recognition of the deferred revenue is recognized over the estimated life of the product or service. These payments are a significant component of our cash flow from operations. Additions to deferred revenue, net of deferred costs, were $8,379,000 for the year ended December 31, 2010, compared to additions of $9,776,000 for the year ended December 31, 2009.
Our revenue in Canada is derived primarily from the sale of Boomerang Espion, Boomerang Espion Alert, Boomerang, Boomerang2 and BoomerangXpress Units, related products, and service contracts. Several insurance companies in Quebec and Ontario offer rebates to customers who install a Boomerang Unit in their high priced or high risk of theft vehicles, and in many instances, require installation of a Boomerang Unit in such vehicles.
Those who purchase Boomerang Units are also required to enter into a service contract. The terms of service contracts offered range from 12 to 60 months and are payable in full upon activation of the related unit or renewal of a previous service contract. As of December 31, 2010, there was approximately $8,645,000 of deferred revenue, compared to $9,354,000 as of December 31, 2009, resulting from approximately 62,000 active service contracts. Boomerang customers are also offered a monthly payment option.
International Segment
Internationally, our licensed stolen vehicle recovery technology is operational in 32 countries and territories around the world. We have licensed our stolen vehicle recovery technology in Latin and South America, Europe and Africa, and the Asia Pacific Rim. Revenue from this segment consists of product sales to our licensees, royalties, licensing fees, and subscription and installation services. Revenue from the international segment accounted for approximately 32% of consolidated revenue for the year ended December 31, 2010, compared to 27% and 32% in 2009 and 2008, respectively.
We record additions to deferred revenue for international license fees and recognize the revenue over the term of the license (generally ten years). Royalty revenue is recognized in the year it is earned.
Italy is the only country outside the United States and Canada where we own and operate a stolen vehicle recovery network. Customers who purchase LoJack Units in Italy are also required to enter into a service contract with LoJack Italia. The terms of service contracts offered range from 12 to 84 months and are payable in full upon activation of the related unit or renewal of a previous service contract. At December 31, 2010 and December 31, 2009, respectively, there was approximately $1,859,000 and $828,000 of deferred revenue relating to LoJack Italia service contracts.
All Other Segment
SCI revenue is derived from the sale of tracking devices as well as subscription fees for monitoring service alerts and activity reporting. At December 31, 2010, there was approximately $186,000 of deferred revenue relating to SCI subscription based services.
LoJack SafetyNet revenue in 2010 was primarily comprised of the sale of SAR Receivers, PLUs and replacement parts. In 2010, LoJack SafetyNet continued the transition from an order fulfillment revenue model servicing one primary customer, to a fulfillment and service model providing the LoJack SafetyNet solution to caregivers and consumers for a monthly fee. As part of this new business model, we plan to provide SAR Receivers directly to participating public safety and law enforcement agencies at nominal or no cost.
Key Economic Factors and Trends and our Business
North America Segment
The uncertainty created by the overall economic conditions in the United States which began in 2008, continues to have an adverse effect on the automotive industry. As discussed in the paragraphs that follow, in 2008 and 2009 the demand for new and used vehicles declined significantly and negatively impacted our results of operations. In 2010, our North American business began to stabilize after disruptions caused by the general economic climate; however, the turnaround of the United States auto industry was uneven during 2010. Due to the disruptions in the financial services industry, the availability of credit has declined substantially for most consumers except those with particularly high credit scores. Our business is dependent on consumer confidence and the availability of consumer credit.
In 2008, the domestic auto industry experienced, what was then, its worst performance in 16 years, with the seasonally adjusted annual rate, or SAAR, of new vehicle sales in the United States declining approximately 18% from the prior year to approximately 13.2 million vehicles sold. This trend continued to worsen during 2009, with the SAAR of new vehicle sales in the United States of only 10.4 million units for the year. With the stabilization that took place in 2010, the SAAR improved to approximately 11.5 million units for the year and industry experts are estimating new vehicle sales to be upwards of 13.0 million units for 2011. Consumer purchases continue to be impacted by the restrictive credit environment, continued high unemployment and fewer incentives offered by auto manufacturers. Our unit volume performance has improved and, as confidence returns to certain dealerships, we continue to expand our bulk installation program. As the United States auto market recovers, we expect that our installations will increase in a manner that is consistent with the retail market trends.
Our business in Canada has been challenged by increased recall rates since the conversion from an analog to digital infrastructure. In response to the challenges experienced as a result of the conversion from analog to digital technology, management has decided to launch the LoJack technology in our Canadian market beginning in 2011.
Additionally, our business in Canada has been challenged by the economic and credit conditions in Canada and the continued shift in the Canadian auto market away from high-end vehicles, where we have historically had a high penetration rate. In 2010, management took steps to reduce our workforce, both domestically and in Canada, in order to lower costs and ensure that we are spending at a level appropriate for the size of our business.
International Segment
Our international business stabilized in 2010 as our licensees returned to more normalized purchasing patterns and their orders reflect demand for our products. Our results from our International segment reflect the growth in sales across our licensees, particularly those in Africa and Latin America. Additionally, some of our licensees have begun to take delivery of our new self-powered product. Our business in Italy is continuing to gain traction and has delivered growth in terms of both revenue and subscribers during 2010.
All Other Segment
The challenges we have faced in the automotive sector have reinforced the importance of our diversification efforts, which include the extension of the LoJack brand and the introduction of products for cargo and people at risk.
Key Factors of our Business
In 2010, the United States began to emerge from a global economic downturn that had resulted in a substantial decline in the global automotive industry, with sales of aftermarket products like LoJack Units being particularly adversely affected. The decline in automotive industry sales volume, combined with tight credit markets, and other economic factors and trends described above constrained our earnings and affected our liquidity. As a result, we embarked upon a critical evaluation of our business during 2010 and developed a strategy designed to stabilize the business financially and then develop a strategy for controlled growth.
We believe that our continued focus on executing our strategic goals for 2011 will enable us to continue our diversification efforts and:
•
Effectively manage our business in a difficult global macro-economic environment by balancing investment in programs and technology necessary for future growth while aggressively managing costs to maintain our financial position;
•
Expand our core domestic automotive business through the development of new sales programs which strategically restructure our dealer relationships and help create a new selling model for our dealers;
•
Continue to drive international expansion by growing our operations in Italy, and partnering with our existing licensees to address global economic challenges;
•
Launch the LoJack RF technology in Canada; and
•
Support LoJack SafetyNet and SCI in developing offerings for people at risk and cargo security, respectively.
Many companies in the vehicle security industry have marketed stolen vehicle recovery solutions and many automobile manufacturers are installing GPS products at the factory. These factors have not had a material adverse impact on our revenue, unit sales or penetration rates to date.
Critical Accounting Policies and Estimates
The consolidated financial statements include the accounts of LoJack, our wholly-owned subsidiaries and our majority interest in SCI. We consolidate entities which we own or control. All intercompany transactions and balances have been eliminated in consolidation. Management is required, in certain instances, to use estimates and assumptions that affect the amounts reported in the consolidated financial statements and the notes included herein. The actual results could differ from those estimates. Our accounting policies are described in Note 1 to the consolidated financial statements included herein at Item 8. A critical accounting policy is one that is both important to the portrayal of our financial condition and results of operations and requires management’s most difficult, subjective and complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. The significant accounting policies and estimates, which we believe to be the most critical in understanding and evaluating our reported financial position and results of operations, include:
Revenue Recognition and Deferred Revenue. We earn revenue primarily from the domestic sale and installation of LoJack Units and LoJack Early Warning, the sale of products and components to international licensees, royalties, the sale of extended warranty programs and the sale of our Boomerang products and service contracts.
We recognize revenue on domestic sales of LoJack Units and Canadian sales of Boomerang Units and related products upon installation, or upon shipment to our installation partners and distributors when all revenue recognition criteria have been met.
Revenue relating to the sale of LoJack Early Warning is recognized over the period of the estimated life of new vehicle ownership, which management estimates is five years. Management continually monitors and evaluates this estimate based on published industry data. If the estimated life of new vehicle ownership proves to vary materially from the estimates we use, we would be required to change our estimates, which could result in material differences in the amount of revenue recognized in any given period. Historically, there have not been any changes to our five-year estimate.
Revenue relating to the sale of service contracts associated with our Boomerang product line is recognized over the life of the contract. The term of service contracts offered ranges from 12 to 60 months and are payable in full upon initial activation of the Unit or on renewal of a service contract.
We recognize license fees to our international licensees in revenue over the term of the license (typically ten years) and we recognize royalty revenue when earned or when payment is reasonably assured, whichever is later. (Also see Note 5 to the consolidated financial statements included herein in Item 8 for a discussion of the license income related to Absolute Software).
Revenue relating to SCI and LoJack SafetyNet consists of the sale of tracking devices and subscription fees. Sales of units are recognized upon shipment and subscription fees are recognized over the life of the contractual agreement which can range from 12 to 24 months.
We sell several types of extended warranties. For those warranties for which a third party, and not LoJack, is the primary obligor, we recognize payments for these insurance contracts in revenue at the time of sale. Effective January 2007, we changed insurance underwriters for our LoJack Guarantee Plus 5000 warranty products for automobiles. The new underwriter is an authorized provider of insurance services in all states in which we currently operate and thus is the primary obligor.
For those LoJack Guarantee Plus 5000 warranty agreements entered into before January 1, 2007, as well as for other types of warranties for which we are the primary obligor, revenue is deferred and recognized over the estimated term of the warranties, determined to be equivalent to the estimated life of new vehicle ownership, which is five years. If the estimated life of new vehicle ownership varies significantly from the estimates we use, material differences in the amount of revenue recognized in any given period could result. Incremental costs directly related to the provision of such warranties are deferred and charged to expense proportionately as the revenue is recognized. Any remaining warranty costs relating to actual claims made are recognized when incurred. We believe the likelihood of material changes to the average estimated life of vehicle ownership is low.
Accounts Receivable and Allowance for Doubtful Accounts. In our North America segment, our customers, primarily automobile dealerships in the United States, are billed for product sales either via bulk sale or at the time of installation. The customer base is principally automobile dealers that are geographically dispersed. Payment terms for LoJack performed installations are generally 10 days. Payment terms for bulk product sales to LoJack certified dealer installers and expeditors range from 30 to 90 days. Except for contract termination due to misconduct or insolvency, which requires the return of all LoJack units and materials, all LoJack Unit sales to these parties are final with no right of return.
Accounts receivable related to our Canadian customers consists of payments due from our commercial accounts, automotive dealers, accessory retailers and, in limited situations, consumers. Payment terms range from 30 to 60 days from shipment or invoicing. Initial service contracts and subsequent renewals are generally recognized as deferred revenue upon payment via credit card and as a result there is no significant collection risk for a substantial portion of our revenue in Canada.
If the creditworthiness or the financial strength of our dealers were to decline, there could be an adverse effect on our operating results and cash flows. We provide specific reserves on known losses and supplement that estimate with additional reserves based on our historical loss experience. There have been no changes to our North America segment’s billing and returns policy for the periods presented.
Our international customers or licensees are billed for product sales, royalties and in some cases, license fees. Payment terms for our international licensees vary, depending on the length of the supply chain, the financial strength of the licensee and the business climate in the market our licensee operates and are generally longer than our North America business. We mitigate the credit risk in our International segment by obtaining, in many cases, private trade credit insurance for our large international customers. Changes in the geopolitical situation in the countries where we have international customers could create additional credit risk and bad debt exposure. Sales of LoJack Units and component systems to international customers are final with no right of return.
In our All Other segment, our customers are billed for product sales generally at the time of shipment. Payment terms range from 30 to 90 days and all sales are final with no right of return.
The following table presents accounts receivable and the related allowance for doubtful accounts by our segments (dollars in thousands):
In the normal course of business, we monitor the financial condition of our customers and limit the amount of credit extended when deemed necessary. We maintain reserves for estimated potential credit losses. We have established an allowance for doubtful accounts that corresponds to the creditworthiness of our customers, historical trends and economic circumstances. Changes to these estimates are possible and could result in a material effect on our reported results of operations. At each of December 31, 2010 and 2009, approximately 80% of the North America segment’s gross accounts receivable balances were less than 60 days old.
As of December 31, 2010, two international licensees accounted for 20% and 14% of our international accounts receivable. As of December 31, 2009, two international licensees accounted for 27% and 22% of our international accounts receivable. For the year ended December 31, 2010, one international licensee accounted for 10% of revenue. For the years ended December 31, 2009 and 2008, one international licensee accounted for 11% of revenue.
Valuation of Investments. Periodically, we have made equity investments in our international licensees and other entities. As of December 31, 2010, our investments in international licensees consisted of: a 12.5% equity investment, with a carrying value of $1,541,000, in our Mexican licensee; a 5.5% equity investment, with a carrying value of $314,000, in our French licensee; and a 17.5% equity investment, with a carrying value of $496,000, in our Benelux licensee. Our investments in our Mexican and Benelux licensees are accounted for using the cost method of accounting and are carried at cost and adjusted only for other-than-temporary declines in fair value, returns of capital and additional investments made. Management periodically reviews the carrying value of these investments. Based upon projections of anticipated cash flows, market conditions, legal factors, operational performance, and valuations, when appropriate, we have concluded that there is no impairment to the fair value of these investments that should be viewed as other-than-temporary. Our investment in our French licensee, in the form of common stock, is accounted for as an available-for-sale security, and is valued at the quoted closing price on its market exchange as of the reporting date. When the fair value of an available-for-sale security falls below cost for an extended period or the magnitude of the unrealized loss is significant, the loss may be deemed other-than-temporary. No realized gains or losses were recorded for the year ended December 31, 2010. For the years ended December 31, 2009 and 2008, we recorded other-than-temporary impairment charges of $308,000 and $1,958,000, respectively, for our investment in our French licensee.
We also have equity interests of less than 10% in our licensees in Argentina and Hong Kong, for which we have no carrying value in our financial statements.
We may be required to record an impairment charge in a future period with respect to our Mexican or Benelux licensees if (a) the licensee requires additional capital and is unable to raise sufficient capital to continue operations, (b) the licensee raises sufficient capital, but at an enterprise value less than currently valued, (c) its operations and
future cash flows vary significantly from current projections, adversely affecting the viability of the business, or (d) other negative events were to occur. If the quoted price of the investment in our French licensee were to drop below our new recorded cost basis for an extended period of time we would have to evaluate the investment for further impairment. (Also see Note 5 to the consolidated financial statements included herein at Item 8).
Income Taxes and Deferred Taxes. Our annual tax rate is based on our income, statutory tax rates and tax planning opportunities available to us in the various jurisdictions in which we operate. Significant judgment is required in determining our annual tax expense and in evaluating our tax positions.
We file federal and state income tax returns in the United States and tax returns in 10 international jurisdictions. We estimate our income tax expense after considering, among other factors, differing tax rates between jurisdictions, allocation factors, tax credits, nondeductible items and changes in enacted tax rates.
Deferred taxes arise because of differences in treatment between financial statement accounting and tax accounting, known as temporary differences. The tax effects of these temporary differences are recorded as deferred tax assets and deferred tax liabilities on the consolidated balance sheet. Deferred tax assets generally result in tax deductions or credits subsequent to the period in which the related item was recorded in the consolidated statement of operations. At December 31, 2010, we maintain a full valuation allowance against our worldwide deferred tax assets with the exception of Ireland, which has a deferred tax asset of $101,000. If sufficient evidence of our ability to generate future taxable income in any of the jurisdictions in which we currently maintain a valuation allowance becomes more likely than not, we may reduce our valuation allowance, which would result in an income tax benefit being recorded in our consolidated statement of operations.
Effective January 1, 2006, LoJack Ireland commenced operations. As a result of this business structure, a substantial part of our international business activities are supported by LoJack Ireland. LoJack Ireland’s business activities are taxed at a rate of 12.5%.
As we continue to expand globally, due to complexity within and diversity among the various jurisdictions in which we do business, there is a risk that a governmental agency may disagree with the manner in which we have computed our taxes. Additionally, due to the lack of uniformity among all of the foreign and domestic taxing authorities, there may be situations where the tax treatment of an item in one jurisdiction is different from the tax treatment in another jurisdiction or that a transaction causes a tax liability to arise in another jurisdiction.
As of December 31, 2010, we had $18,591,000 of gross unrecognized tax benefits, of which approximately $15,302,000, if not realized, will result in the expiration of a capital loss carryforward. The liability amounts related to the unrecognized tax benefits recorded at December 31, 2010 and 2009 were $3,220,000 and $2,098,000, respectively.
We do not provide for income taxes on undistributed earnings of our foreign operations that are intended to be invested indefinitely outside the United States. The undistributed earnings of our foreign operations are approximately $85,000,000. We do not believe it is practical to estimate the income taxes payable on the earnings that are indefinitely reinvested in our foreign operations.
Recently Adopted Accounting Guidance
In June 2009, the FASB issued SFAS No. 167, Amendments to FASB Interpretation No. 46(R), or SFAS 167, as codified in ASC 810, Consolidations, or ASC 810. ASC 810 amends FIN 46(R), Consolidation of Variable Interest Entities (revised December 2003) - an interpretation previously known as ARB No. 51, by replacing the quantitative-based risks and rewards calculation for determining which enterprise, if any, has a controlling financial interest in a variable interest entity with a primarily qualitative approach. ASC 810 requires an additional reconsideration event when determining whether an entity is a variable interest entity when any changes in facts and circumstances occur, ongoing assessments of whether an enterprise is the primary beneficiary of a variable interest entity and additional disclosures about an enterprise’s involvement in variable interest entities. Our adoption of ASC 810 as of January 1, 2010 did not have an impact on our consolidated results of operations, financial position, or statement of cash flows.
In January 2010, the FASB revised accounting standards related to fair value measurements to expand disclosure requirements to include significant transfers of assets and liabilities in and out of Level 1 and Level 2 fair value measurements and the reasons for those transfers, as well as a gross presentation of purchases, sales, issuances and settlements within the rollforward of changes in Level 3 assets and liabilities. The revised standards also provide clarification to existing fair value disclosure requirements related to the level of disaggregation and disclosure about inputs and valuation techniques. The majority of the requirements of these revised accounting standards was effective and adopted by us in the first quarter of 2010 and had no impact on the consolidated balance sheet, results of operations, or statement of cash flows. Certain requirements related to the gross presentation of activity in the rollfoward of changes in Level 3 assets and liabilities will become effective for fiscal years beginning after December 15, 2010 and for interim reporting periods within those fiscal years.
Accounting Guidance Issued But Not Yet Adopted
In September 2009, the FASB issued ASU No. 2009-13 (previously Emerging Issues Task Force, or EITF, Issue No. 08-1, Revenue Arrangements with Multiple Deliverables,) as codified in ASC 605, Revenue Recognition, or ASC 605. ASC 605 provides greater ability to separate and allocate arrangement consideration in a multiple element revenue arrangement. In addition, ASC 605 requires the use of estimated selling price to allocate arrangement considerations, therefore eliminating the use of the residual method of accounting. ASC 605 will be effective for fiscal years beginning after June 15, 2010 and may be applied retrospectively or prospectively for new or materially modified arrangements. Earlier application is permitted. We have evaluated the impact of ASC 605 and determined that the adoption will not have a material impact on our consolidated results of operations, financial position or cash flows.
RESULTS OF OPERATIONS
Revenue
For the year ended December 31, 2010, consolidated revenue increased $11,622,000, or 9%, as compared to 2009. Consolidated revenue for the year ended December 31, 2009 decreased $63,666,000, or 32%, as compared to 2008. The following table presents revenue by our segments (dollars in thousands):
North America Segment
Revenue related to our North America segment increased $453,000 for the year ended December 31, 2010 as compared to the year ended December 31, 2009.
The turnaround of the United States auto industry was uneven during 2010. In the United States market, LoJack unit volume trends tracked the retail trends in the broader domestic auto market in 2010. Consumer purchases continue to be impacted by the restrictive credit environment, continued high unemployment and fewer incentives offered by auto manufacturers. Revenue from our LoJack Units remained flat, because while our 2010 unit volume performance has improved over 2009, we have continued to expand our bulk installation program as confidence returns to certain dealerships, therefore the increases in unit volume were mostly offset by decreases in average revenue per unit for the year ended December 31, 2010. Revenue for our motorcycle, commercial and direct sale channels decreased 17%, 2% and 2%, respectively, as compared to the same period in 2009, while our dealer channel saw revenue increase 2%. The increase in North America segment revenue for the year ended December 31, 2010 as compared to 2009 was primarily attributable to an increase of $1,574,000 in other revenue
driven by a $1,546,000 decrease in payments made by LoJack pursuant to the recourse agreements in the dealer channel, offset by:
•
A decrease of $410,000, or 4%, in revenue recognized from the sale of warranty products;
•
A decrease of $406,000, or 17%, in revenue from the motorcycle channel caused by a 30% decrease in units sold from 6,500 to 4,500, partially offset by a 20% increase in average revenue per unit sold; and
•
A decrease of $342,000, or 35%, in royalty and other revenue, primarily related to a decline in royalty revenue from the stock warrants issued to us by Absolute as all remaining warrants vested during the year.
In 2008 and 2009, revenue related to our North America segment was adversely impacted by North American economic conditions which led to a widespread credit freeze, liquidity problems for businesses and consumers alike, decreased consumer confidence and a dramatic decline in the capital markets. All of these factors adversely affected United States businesses, including the domestic auto industry and related aftermarket products like LoJack Units. Domestic auto sales declined 21% to approximately 10.4 million vehicles in 2009 from approximately 13.2 million vehicles in 2008.
Revenue related to our North America segment decreased $36,767,000 in 2009 as compared to 2008. All of our United States distribution channels were affected by the economic downturn in the year ended December 31, 2009 as our auto, commercial, direct to consumer and motorcycle channels experienced revenue declines of 28%, 41%, 15% and 45%, respectively, as compared to the year ended December 31, 2008.
The decrease in North America segment revenue for 2009 as compared to 2008 was primarily attributable to:
•
A decrease of $29,468,000, or 33%, in LoJack Unit revenue, caused by a 35% decrease in the number of units sold from 397,800 to 258,000, partially offset by a 3% increase in average revenue per unit sold;
•
A decrease of $3,660,000, or 27%, in service revenue related to our Boomerang product driven by a 21% decline in the average number of subscribers to 69,000 subscribers as of December 31, 2009;
•
A decrease of $2,482,000, or 50%, in Boomerang Unit revenue, driven by a 36% decrease in the number of base units sold from 18,300 to 11,600;
•
A decrease of $1,984,000, or 45%, in revenue from the motorcycle channel caused by a 57% decrease in units sold from 15,200 to 6,500, partially offset by a 28% increase in average revenue per unit sold;
•
A decrease of $939,000, or 9%, in revenue recognized from the sale of warranty products; and
•
A decrease of $609,000, or 6%, in revenue from our Early Warning product, which is deferred at the time of sale and amortized over a 5 year period;
The decrease in North America segment revenue for 2009 as compared to 2008 was partially offset by:
•
An increase of $1,716,000, or 230%, in royalty and other revenue, primarily related to royalty revenue from an increase in the fair value of the stock warrants issued to us by Absolute; and
•
An increase of $659,000, or 117%, in all other revenue including a decrease in sales promotions offered to our dealers offset by an increase fees charged for inspections and offsite installations.
International Segment
Revenue related to our International segment increased $10,837,000 in 2010 as compared to 2009, while International segment revenue decreased $27,672,000 in 2009 as compared to 2008.
For the year ended December 31, 2010 the increase in our International segment was primarily due to a 42% increase in unit volume as compared to the prior year. During 2010, our International business strengthened, principally as a result of orders from our licensees in Latin America and Africa. Our licensees are returning to more normalized purchasing patterns and their orders reflect restored demand for our products. Our International segment unit volume and revenue in 2009 reflected the impact of the deteriorating global economic conditions and the effects of inventory build-up by certain licensees at the end of the fourth quarter of 2008.
The increase in International segment revenue for 2010 as compared to 2009 was primarily attributable to:
•
An increase of $10,534,000 in product revenue from our licensees as a result of an increase in the number of units sold from 431,700 to 611,500; and
•
An increase of $303,000, or 12%, in other revenue including sales of infrastructure components, licensee fees, and other charges related to our international licensees.
The decrease in International segment revenue for 2009 as compared to 2008 was primarily attributable to:
•
A decrease of $27,592,000 in product revenue from our licensees primarily resulting from a 351,300 decrease in the number of units sold; and
•
A decrease of $80,000, or 3%, in other revenue, including sales of infrastructure components, licensee fees, and other charges related to our international licensees.
All Other Segment
Revenue related to our All Other segment increased $332,000 in 2010 as compared to 2009, and $773,000 in 2009 as compared to 2008.
The increase in All Other segment revenue for 2010 as compared to 2009 was attributable to:
•
An increase of $263,000, or 12%, in revenue from SCI to $2,413,000 for 2010 from $2,150,000 for 2009; and
•
The inclusion of $1,093,000 in revenue from LoJack SafetyNet for 2010 as compared to $1,025,000 for 2009.
The increase in All Other segment revenue for 2009 as compared to 2008 was attributable to:
•
The inclusion of $2,150,000 in revenue from SCI for 2009, for which only five months of revenue of $1,169,000 was captured in 2008 following its consolidation; offset by
•
The inclusion of $1,025,000 in revenue from LoJack SafetyNet for 2009 as compared to $1,233,000 for 2008.
Cost of Goods Sold
The following table presents cost of goods sold by our segments (dollars in thousands):
As a percentage of total revenue, total cost of goods sold was 50%, 47% and 48% in 2010, 2009 and 2008, respectively.
North America Segment
As a percentage of North America segment revenue, North America segment cost of goods sold was 51%, 47% and 49% in 2010, 2009 and 2008, respectively.
Unit volumes increased 5% in 2010 as compared to 2009 and declined 36% in 2009 as compared to 2008. While we undertook a thorough evaluation of our installation costs in the fourth quarter of 2008, the continuing decline of the United States auto market in the first quarter of 2009 led us to make additional installation staff and expense reductions. These reductions provided a gross margin benefit beginning in the third quarter of 2009, as the North America segment gross margin percentages began to improve from the first half of 2009. With the expansion
of our bulk installation program, which occurred as confidence returned to certain dealerships, our increases in unit volume were mostly offset by decreases in average revenue per unit for the year ended December 31, 2010. The decrease in average revenue per unit caused an increase in the cost of goods sold as a percentage of revenue.
In addition, the North America segment cost of goods sold percentage was adversely impacted in 2010 by a decrease of $372,000 in royalty revenue associated with the Absolute warrants which has no corresponding impact on cost of goods sold. In 2009, the North America segment cost of goods sold percentage was favorably impacted by a change of $1,876,000 in royalty revenue associated with the Absolute warrants which has no corresponding impact on cost of goods sold.
International Segment
As a percentage of International segment revenue, International segment cost of goods sold was 47%, 48% and 45% in 2010, 2009 and 2008, respectively. The decrease in cost of goods sold as a percentage of revenue from 2009 to 2010 was largely the result of a decrease in the cost of the manufactured unit due to the increase in the number of units purchased in 2010 as compared to 2009. The increase in cost of goods sold as a percentage of revenue from 2008 to 2009 was largely the result of an increase in the cost of the manufactured unit due to the decrease in the number of units purchased in 2009 as compared to 2008 based upon our volume based pricing agreement with our contract manufacturer.
All Other Segment
As a percentage of All Other segment revenue, All Other segment cost of goods sold was 37%, 47% and 48% in 2010, 2009 and 2008, respectively.
Operating Expenses
The following table presents our consolidated operating expenses (dollars in thousands):
NM-not measurable
Product Development
As a percentage of revenue, product development expenses were 4%, 5% and 4% in 2010, 2009 and 2008, respectively. Product development expense decreased $832,000 in 2010 as compared to 2009 and decreased $296,000 in 2009 as compared to 2008. The decrease in 2010 was primarily due to lower personnel-related costs, including salaries, benefits, recruiting, contract labor and consulting costs. The decrease in 2009 was primarily due to lower third party product development costs.
We expect product development expenses to increase as a percentage of revenue in 2011 due to our continuing plans to develop new products and expand the LoJack technology to other applications.
Sales and Marketing
As a percentage of total revenue, sales and marketing expenses were 20%, 23% and 23% in 2010, 2009 and 2008, respectively. Sales and marketing expenses decreased $2,221,000 in 2010 as compared to 2009 and decreased $13,351,000 in 2009 as compared to 2008.
The decrease in 2010 as compared to 2009 was attributable to:
•
Decreased personnel related costs of $977,000 based upon a reduction in the workforce and decreased incentive compensation as a result of lower sales volumes;
•
Decreased advertising expenses of $2,532,000 due to management’s decision to further reduce the advertising budget as a cost saving measure; and
•
Decreased costs of $167,000 in maintaining our dealer incentive program.
The decrease in 2010, as compared to 2009 was partially offset by:
•
Increased facilities expenses of $688,000 related to the costs of maintaining our sales offices which were previously included in general and administrative expenses and are now classified as sales and marketing expenses; and
•
Increased bad debt expense of $796,000.
The decrease in 2009 as compared to 2008 was primarily attributable to:
•
Decreased personnel related costs of $5,167,000 based upon a reduction in the workforce and decreased incentive compensation as a result of lower sales volumes;
•
Decreased travel and entertainment costs of $856,000; and
•
Decreased advertising expenses of $6,202,000 as a result of expenses incurred in conjunction with the rollout of our cable television advertising campaign in 2008 with no comparable expenses incurred in 2009 due to management’s decision to reduce the advertising budget.
We expect sales and marketing expenses as a percentage of revenue to increase slightly in 2011 to support our planned investment in personnel, continued advertising, expansion at LoJack Italia and marketing initiatives related to LoJack SafetyNet.
General and Administrative
As a percentage of total revenue, general and administrative expenses were 21%, 27% and 17% in 2010, 2009 and 2008, respectively. General and administrative expenses decreased by $4,956,000 in 2010 as compared to 2009 and increased by $2,843,000 in 2009 as compared to 2008.
The decrease in 2010 as compared to 2009 was primarily attributable to:
•
Decreased legal expenses of $2,828,000, attributable to decreased costs related to the arbitration proceeding of the termination of our licensee in China;
•
Decreased general and administrative costs of $817,000 at SCI and Locator resulting from the workforce reductions which took place in 2010;
•
Decreased facilities expenses of $688,000 related to the costs of maintaining our sales offices which were previously included in general and administrative expenses and are now classified as sales and marketing expenses; and
•
Decreased tax and accounting costs of $379,000.
The increase in 2009 as compared to 2008 was primarily attributable to:
•
Increased general and administrative expenses of $1,859,000 attributable to a full year of expenses for LoJack SafetyNet and SCI as compared to a partial year of expenses in 2008;
•
Increased legal expenses of $3,057,000, attributable to increased costs related to the arbitration proceeding of the termination of our licensee in China; offset by
•
Decreased general and administrative costs of $1,636,000 at Boomerang resulting from the workforce reductions which took place in the fourth quarter of 2008 and the first quarter of 2009.
General and administrative expenses as a percentage of revenue in 2011 are expected to decline since 2010 contained several expenses not expected to recur in 2011. These nonrecurring expenses primarily related to the compensation costs associated with the workforce reductions completed during the second quarter of 2010.
Legal Settlement
LoJack Ireland and its former China licensee, Kington Holdings Limited, or Kington, were involved in an arbitration proceeding relating to the termination of the license agreement between the parties. The matter was arbitrated in Boston, Massachusetts in February 2009 and on March 17, 2009, the arbitrator issued a partial final award. The arbitrator determined that LoJack Ireland improperly terminated the license agreement and that LoJack Ireland breached the license agreement. On September 22, 2009, in resolution of the aforementioned arbitration and related litigation between the parties, LoJack, LoJack Ireland, and certain of their affiliates and Kington and certain of its affiliates, entered into a Release and Settlement Agreement, or the Settlement Agreement, providing for a settlement and release of all disputes and claims. Pursuant to the terms of the Settlement Agreement, the parties agreed to release any and all claims and disputes, pending or potential, based on any event or matters occurring on or before the effectiveness of the releases, including those related to or arising out of the agreements among the parties and the matters that were the subject of the pending litigation and arbitration. In consideration of the release and settlement, LoJack and LoJack Ireland paid a total of $18,250,000 in cash to Kington on September 25, 2009 upon satisfaction of the conditions specified in the Settlement Agreement, including the return to the Company of the LoJack infrastructure purchased by Kington and the dismissal with prejudice of all pending litigation and the arbitration among the parties. LoJack also discharged the remaining outstanding balance of approximately $950,000 owed to LoJack under the separate notes and loan agreements between the parties, a majority of which had been written off in prior periods.
Depreciation and Amortization
As a percentage of total revenue, depreciation and amortization expense was 5%, 6% and 4% in 2010, 2009 and 2008, respectively.
Depreciation and amortization expense decreased by $747,000, or 10%, in 2010 as compared to 2009 while depreciation and amortization expense increased by $644,000, or 9%, in 2009 as compared to 2008. The decrease in 2010 was driven by an adjustment made in 2009 to depreciation of approximately $750,000 associated with software development and other equipment placed into service in prior years, offset by a decrease in depreciation caused by assets that are still in use becoming fully depreciated in the current year.
Depreciation and amortization expense as a percentage of revenue in 2011 is expected to remain consistent with 2010.
Impairment of Intangible Assets and Goodwill
We have adopted an annual measurement date of November 30 for SCI and LoJack SafetyNet. Tests for impairment are also performed on an interim basis if there are triggering events identified. On each measurement date the carrying value of the reporting unit is compared to its estimated fair value, and an impairment charge is measured based upon the excess of the carrying value of goodwill over the implied fair value if impairment is indicated. There was no goodwill impairment recognized in the year ended December 31, 2010. For the years ended December 31, 2009 and 2008 we recognized an impairment charge relating to goodwill of $13,627,000 and $36,830,000, respectively, related to our Boomerang reporting unit within the North America segment. The impairment expense taken in June 2009 eliminated the goodwill balance for the Boomerang reporting unit; therefore no impairment analysis was performed during the year ended December 31, 2010.
Intangible assets consist of amortizing intangibles, including customer relationships, patents, trademarks, trade names and radio frequencies. Whenever events or changes in circumstances indicate that the carrying value may not be recoverable, an assessment is completed to determine whether the fair value of the asset exceeds the carrying value. When a potential impairment has been identified, forecasted undiscounted net cash flows of the operations to which the asset relates are compared to the current carrying value. If such cash flows are less than the carrying amounts, the intangible assets are written down to their respective fair values.
In making this assessment, we rely on a number of factors including operating results, business plans, economic projections, anticipated future cash flows, and transactions and marketplace data. For the years ended December 31, 2010, 2009 and 2008 we recognized impairment charges relating to other intangible assets of $0, $411,000 and $1,260,000, respectively, at our Boomerang reporting unit within the North America segment.
Other Income (Expense)
The following table presents our other income and expenses (dollars in thousands):
Other income (expense) for 2010 decreased by $1,956,000 as compared to 2009. This decrease is attributable to the following:
•
Decreased interest income of $1,007,000, due to a decrease in interest realized on the outstanding accounts receivable balances of some of our international licensees;
•
Increased interest expense of $141,000, due to the increase in the interest rate on our debt, offset by the decrease in our average debt balance versus the prior year; and
•
Increased other loss of $808,000 which was primarily due to: (a) a $643,000 increase in losses related to valuing foreign currency and foreign currency transactions (primarily the Euro); (b) a $27,000 increase in losses associated with marketable securities; and (c) a $139,000 decrease in dividends and other items.
Other income (expense) for 2009 increased by $6,116,000 as compared to 2008. This increase is attributable to the following:
•
Decreased interest income of $1,046,000, due to the decrease in our average cash balance versus the prior year, and a decrease in short-term interest rates; offset by
•
Decreased interest expense of $719,000, due to the decrease in our average debt balance versus the prior year;
•
Decreased equity loss in affiliate of $1,205,000 as a result of the consolidation of SCI’s results for the full year in 2009 as compared to five months in 2008; and
•
Decreased other loss of $5,238,000 which was primarily due to: (a) a $1,406,000 increase in gains related to valuing foreign currency and foreign currency transactions (primarily the Euro); (b) a $3,952,000 decrease in losses associated with marketable securities, primarily related to a $1,958,000 other-than-temporary impairment of our investment in our French licensee and a $1,663,000 increase in realized gains associated with the valuation and exercise of Absolute warrants; and was partially offset by (c) a $120,000 decrease in dividends and other items.
Provision (Benefit) for Income Taxes
We recorded a $17,428,000 provision for income taxes for the year ended December 31, 2010, which includes the establishment of a valuation allowance for our net U.S. deferred tax assets of $14,919,000 and the establishment of a valuation allowance for deferred tax assets in a Canadian subsidiary of $276,000. The provision for income taxes of $17,428,000 for the year ended December 31, 2010 is significantly higher than the statutory federal income tax benefit of $423,000 due primarily to the establishment of a valuation allowance on our net U.S. deferred tax assets in the second quarter of 2010.
We have net U.S. deferred tax assets that have arisen as a result of temporary differences between book and tax accounting, primarily related to deferred revenue, stock compensation and net operating loss and credit carryforwards. The FASB authoritative guidance on accounting for income taxes requires the establishment of a valuation allowance to reflect the likelihood of realization of deferred tax assets. Our ability to realize a deferred tax asset is based on our ability to generate sufficient future taxable income. The valuation allowance was determined in accordance with the guidance, which requires an assessment of both positive and negative evidence when determining whether it is more likely than not that deferred tax assets are recoverable. Such assessment is required on a jurisdiction-by-jurisdiction basis. Significant management judgment is required in determining our provision for income taxes, our deferred tax assets and liabilities and any valuation allowance recorded against the net deferred tax assets. At year end 2009 and for the three months ended March 31, 2010, we had recorded a U.S. income tax benefit. At that time, management determined that the ultimate realization of deferred tax assets for U.S. federal and state income tax purposes was considered more likely than not, primarily due to taxable income in the federal carry back period and anticipated sufficient future taxable income. As a result of U.S. operating losses incurred in the quarter ended June 30, 2010, cumulative losses incurred in recent years and uncertainty as to the extent and timing of profitability in future periods, we recorded a $15,127,000 valuation allowance against our net U.S. deferred tax assets. As a result of establishing a full valuation allowance against our net U.S. deferred tax assets, we did not recognize any deferred tax benefits related to U.S. net operating losses incurred in the second, third or fourth quarters of 2010. We will continue to maintain a full valuation allowance on our net U.S. deferred tax assets until sufficient positive evidence exists to support the reversal of the valuation allowance.
The provision for income taxes decreased by $8,574,000 for 2009, as compared to 2008. The decrease was in part the result of an $11,167,000 reduction in pre-tax income. A significant part of the 2009 tax benefit is related to the legal settlement payments, which also contributes to reduction of our provision for income taxes when compared to 2008.
Net Loss Attributable to LoJack Corporation and Loss Per Share
As a result of the foregoing, for the years ended December 31, 2010, 2009 and 2008, net loss attributable to LoJack Corporation and fully diluted loss per share were as follows (dollars in thousands, except for per share amounts):
LIQUIDITY AND CAPITAL RESOURCES
Our liquidity is primarily contingent on continued customer demand for our products and services and continuing our existing relationships with automobile dealers, insurance companies, international licensees and certain law enforcement agencies. In response to trends in the automotive industry, we developed, and in the fourth quarter of 2009 we launched, our next generation, self-powered, product which enables us to expand into the hybrid
auto segment, further expedite installations and provide the opportunity for covert installation of the LoJack units in a greater number of locations within a vehicle. We believe that we will be able to keep pace with required technological changes in our products and expect that our sales and marketing initiatives will continue to drive demand.
On August 10, 2010, SCI issued a one year, 11% interest Convertible Promissory Note totaling $400,000 to its shareholders. As a 64% holder of SCI, a $254,000 note was issued to LoJack Corporation and is considered an intercompany loan, eliminated in consolidation. The remaining $146,000 due to the non controlling holders of SCI is considered a third-party loan and as such is classified as short-term debt on our consolidated balance sheet. At December 31, 2010, we had accrued $6,000 in third party interest payable under the note, included in the Accrued and Other Liabilities total on the consolidated balance sheet.
On December 29, 2009, we entered into a two year multicurrency revolving credit agreement, or the Credit Agreement, with RBS Citizens, N.A., as a Lender, Administrative Agent and Lead Arranger, and TD Bank, N.A., as a Lender and Issuing Bank. The Credit Agreement provides for a multicurrency revolving credit facility in the maximum amount of USD $30,000,000, subject to a borrowing base calculation (or its equivalent in alternate currencies). We have the right to increase the aggregate amount available to be borrowed under the Credit Agreement to US $50,000,000, subject to certain conditions, including consent of the lenders.
We entered into two amendments to the Credit Agreement during 2010. The first amendment, entered into on June 30, 2010, allowed for certain one-time severance costs that would otherwise be deducted in calculating Consolidated Net Income to be added back in determining Consolidated EBITDA for the purpose of determining the Debt Service Coverage Ratio covenant for the quarters ending June 30, 2010 and September 30, 2010. The second amendment, entered into on December 29, 2010, extended the maturity date of the revolving credit loans to January 10, 2014, increased the Company’s authorization for stock repurchase to $10,000,000 and amended the definitions of Applicable Margin, Consolidated EBITDA and Interest Payment Date.
The outstanding borrowings under the Credit Agreement totaled CAD $8,800,000 (equivalent to USD $8,798,000) as of December 31, 2010. The interest rate on borrowings under the Credit Agreement varies depending on our choice of interest rate and currency options, plus an applicable margin. The interest rate in effect as of December 31, 2010 was 4.1%. As of December 31, 2010, we also had three outstanding irrevocable letters of credit in the aggregate amount of $1,296,000. These letters of credit reduce our outstanding borrowing availability under the Credit Agreement.
The Credit Agreement contains limitations on capital expenditures, repurchases of common stock, certain investments, acquisitions and/or mergers and prohibits disposition of assets other than in the normal course of business. Additionally, we are required to maintain certain financial performance measures including maximum leverage ratio, minimum cash flow coverage ratio, minimum quick ratio and maximum capital expenditures. The payment of dividends is permitted but is limited only to the extent such payments do not affect our ability to meet certain financial performance measures. Failure to maintain compliance with covenants could impair the availability of loans under the facility. At December 31, 2010, based upon the borrowing base calculation, we had borrowing availability of $13,180,000. At December 31, 2010, we were in compliance with all financial covenants in the Credit Agreement.
The Credit Agreement terminates on January 10, 2014, at which point all amounts outstanding under the revolving credit facility are due. The Credit Agreement is guaranteed by our United States domestic subsidiaries and certain Canadian subsidiaries and is secured by all domestic assets, including our intellectual property and a pledge of 100% of the stock of Boomerang Tracking Inc. and 65% of the capital stock of LoJack Ireland.
In recent years, we have made no attempt to raise capital from external sources nor do we have any credit rated debt outstanding. Therefore, it is difficult to predict whether any efforts to raise capital would be successful. Furthermore, we believe our ability to raise such funds may be limited due to the condition of the automotive industry and the United States economy as a whole. If additional equity securities were to be issued, shareholder value would be diluted and the new equity securities may have rights, preferences or privileges senior to those of our common stock.
On February 15, 2008, our Board of Directors authorized the repurchase of 1,000,000 shares of our common stock under a trading plan intended to comply with Rule 10b5-1 under the Exchange Act, and additionally renewed the remaining management discretion authority to repurchase an incremental 2,000,000 shares, for a total repurchase authorization of 3,000,000 shares. We did not repurchase any shares under the stock repurchase plan in the fourth quarter of 2010 and given the current capital market environment, we do not expect to repurchase any stock under the repurchase program in 2011. At December 31, 2010 there were 1,681,778 shares available for repurchase under the 2006 Repurchase Plan.
In 2010, the U.S. economy began to emerge from a global economic downturn that resulted in a substantial decline in the global automotive industry, with sales of aftermarket products like LoJack Units being particularly adversely affected. The decline in automotive industry sales volume, combined with tight credit markets, and other economic factors and trends described above constrained our earnings and affected our liquidity. As a result, we embarked upon a critical evaluation of our business during 2010 and developed a strategy designed to stabilize the business financially so that we could then develop a strategy for controlled growth. As we move into 2011, we plan to continue to improve our infrastructure and production processes and explore opportunities to expand our core businesses in the United States and internationally.
We expect our initiative to own and operate the Italian stolen vehicle recovery network, expand the LoJack SafetyNet business in the United States, fund Boomerang and SCI’s operating cash deficits, combined with our longer term international investment requirements and domestic growth, to be funded using existing cash, cash flows from operations and, if needed, our credit agreement.
We expect capital expenditures for 2011 to be between $4,000,000 and $6,000,000 which we expect to fund out of our existing working capital, which was $48,874,000 as of December 31, 2010 and included $51,789,000 of cash and cash equivalents. Non-discretionary capital expenditures budgeted for 2011 include: $500,000 to $1,000,000 for enhancement of our core tracking and recovery technology; and $500,000 to $1,000,000 for enhancements to our internal systems and technology infrastructure. Discretionary expenditures for 2011, which could be delayed to a future period, include $1,000,000 to $2,000,000 for additional hardware infrastructure and system upgrades. However, we currently have no plans to delay these projects or reduce these spending levels. For the year ended December 31, 2010, we had capital expenditures of $3,251,000.
If we decide to pursue significant opportunities in domestic and international markets, we may be required to find sources of capital in addition to existing working capital. We believe the sources currently available to us will be adequate for the next 12 months and on a long-term basis. We plan to fund our existing operations, including capital expenditures, using existing cash and cash equivalents, cash flows from operations and, if needed, the existing Credit Agreement discussed above.
Our cash flows from operating, investing and financing activities, as reflected in the consolidated statements of cash flows, are summarized in the following table (in thousands):
Operating activities provided $22,263,000 of cash during the year ended December 31, 2010, as compared to using $6,494,000 of cash during the same period in 2009. This $28,757,000 change was due to an increase of $17,299,000 in net income after non-cash reconciling items and an $11,458,000 increase in cash flows from working capital, including $8,455,000 of net tax refunds received during 2010.
Investing activities used cash of $1,791,000 during the year ended December 31, 2010, as compared to using $2,016,000 of cash during the same period in 2009. This $225,000 decrease was primarily due to a decrease in the
net proceeds from our marketable securities activity of $2,835,000 and a change in restricted cash activity of $1,031,000, from $428,000 in cash provided during 2010, as compared to $603,000 in cash used during 2009; offset by a decrease in capital expenditures of $2,027,000.
Cash used for financing activities decreased by $7,550,000 during the year ended December 31, 2010, as compared to the same period in 2009. The decrease in cash used for financing activities was due primarily to an $8,690,000 decrease in net cash provided by borrowing activities.
We do not enter into financial instrument transactions for trading or speculative purposes. We do not intend to establish any special purpose entities for financing purposes.
We will continue to monitor our foreign currency exposure and will implement a hedging strategy if we feel that we are materially at risk and that the hedge is cost effective.
To date, inflation has not had a material impact on our financial results.
CONTRACTUAL OBLIGATIONS
We have fixed contractual obligations under various operating lease agreements relating to our office locations, computer and office equipment, vehicles and tower infrastructure locations. Other contractual obligations include long-term debt and non-cancelable inventory purchase commitments. Contractual obligations and commercial commitments existing at December 31, 2010 were as follows (in thousands):
(1)
This debt is denominated in Canadian dollars and the maturities have been presented at the exchange rate for U.S. dollars prevailing at December 31, 2010.
(2)
Borrowings under the term loan bear interest at a variable rate, adjustable quarterly, at our option, at either the Canadian base rate or a Euro-currency denominated rate, or Canadian LIBOR. Interest has been calculated assuming the interest rate prevailing as of December 31, 2010, which was 4.10%.
(3)
As of December 31, 2010 we had $3,480,000 of non-current liabilities for uncertain tax positions. We are not able to provide a reasonable estimate of the timing of future payments relating to these obligations.
OFF BALANCE SHEET ARRANGEMENTS
We have no material off balance sheet arrangements as defined in Regulation S-K, Item 303(a)(4)(ii).
WARNING REGARDING FORWARD-LOOKING STATEMENTS
The Private Securities Litigation Reform Act of 1995 and other federal securities laws contain certain safe harbors regarding forward-looking statements. From time to time, information we provide or statements made by our employees may contain “forward-looking” information, which involves risk and uncertainty. Any statements in this report that are not statements of historical fact are forward-looking statements (including, but not limited to, statements concerning the characteristics and growth of our markets and customers, our objectives and plans for future operations and products, our expected capital expenditures and our expected liquidity and capital resources). Forward looking statements can often be identified by words such as “anticipate”, “expects”, “intends”, “plans”, “believes”, “seeks”, “estimates”, “may”, “will”, “should”, “would”, “could”, “potential”, “continue”, “ongoing”, or similar expressions and variations or negatives of these words. Such forward-looking statements are based on a
number of assumptions and involve a number of risks and uncertainties, and accordingly, actual results could differ materially. Risk factors that may cause such differences are described in Item 1A - Risk Factors.
ITEM 7A
ITEM 7A -
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We have limited exposure to market risk due to the nature of the financial instruments carried on our consolidated balance sheet. Our financial instruments as of December 31, 2010 consisted of cash and cash equivalents, restricted cash, marketable securities, other assets, accounts receivable, accounts payable, accrued liabilities, long-term debt and credit facilities. Our financial position is subject to market risk, including, but not limited to, changes in the value of financial instruments including those resulting from changes in interest rates, foreign currency exchange rates and market valuation. As of December 31, 2010, the fair value of these financial instruments approximated their carrying values.
We are exposed to changes in interest rates primarily through amounts outstanding under our Credit Agreement. As of December 31, 2010, we analyzed the effect of interest rates on our variable-rate Credit Agreement, for which there was CAD$8,800,000 (equivalent to USD $8,798,000) of borrowing as of December 31, 2010. Based on the outstanding borrowings under the agreement at December 31, 2010, a 1% increase in the interest rate would result in an additional $88,000 of annual interest expense.
We are subject to foreign currency risk through our international operations. As of December 31, 2010, we carry cash denominated in foreign currencies, primarily in Euro, Canadian Dollar, and Brazilian Real. These assets accounted for approximately 17% of the total cash and cash equivalents at December 31, 2010. We translate accounts for subsidiaries whose functional currency is not the U.S. dollar using exchange rates in effect at period-end for assets and liabilities and exchange rates averaged over the period for results of operations. The related translation adjustments are reported in accumulated other comprehensive income in equity. Transaction gains and losses are reported in the consolidated statement of operations. As a result, both positive and negative currency fluctuations against the U.S. dollar may affect our results of operations and accumulated other comprehensive income. Our exposure to foreign currency exchange risk is minimized in relation to our results of operations since a significant portion of our International segment revenue is denominated in U.S. dollars. This situation may change in the future if revenue earned and expenses incurred denominated in foreign currencies increases.
We manage future foreign exchange risk exposures that cause both earnings and cash volatility by utilizing a hedging strategy if the exposure is material and the hedge is cost effective. As of December 31, 2010, we had no derivative contracts outstanding. We do not enter into financial instrument transactions for trading or speculative purposes. We have not established any special purpose entities and do not have any material off balance sheet financing transactions. We will continue to monitor our foreign currency exposure and will implement a hedging strategy if we feel that we are materially at risk and that the hedge is cost effective.
We are exposed to market valuation risks related to securities we hold that are carried at fair value. Our marketable securities consist of Absolute common stock carried at fair value in the financial statements. Significant changes in the market price of Absolute’s common stock could result in significant changes in other income (expense). Based on the 366,500 shares held as of December 31, 2010, a $1.00 change in the market price of Absolute’s common stock would result in a $367,000 increase/decrease in the fair value of the shares. Our other assets include our investment in our French licensee, in the form of a publicly traded common stock, accounted for as an available-for-sale security and valued at the quoted closing price on its market exchange as of the reporting date. Unrealized gains or losses on available-for-sale securities are included, net of tax, in accumulated other comprehensive income in equity until the disposition of the security. During the year ended December 31, 2010, we recorded $461,000 in unrealized losses in accumulated other comprehensive income. Realized gains and losses on available-for-sale securities are included in other income (expense). No realized gains or losses were recorded for the year ended December 31, 2010.
As of December 31, 2010 we held $51,789,000 of cash and cash equivalents. Of this balance, $8,809,000, or 17%, is denominated in foreign currencies, including the Canadian Dollar, Euro and Brazilian Real. The remaining $42,980,000, or 83%, is denominated in U.S. Dollars. At December 31, 2010, $29,728,000, or 57%, of our total cash and cash equivalents balance was held in money market accounts, with the remaining $22,061,000 held in traditional deposit accounts.
ITEM 8
ITEM 8 -
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Shareholders
LoJack Corporation:
We have audited the accompanying consolidated balance sheet of LoJack Corporation and subsidiaries as of December 31, 2010, and the related consolidated statements of operations, changes in equity, and cash flows for the year then ended. We also have audited LoJack Corporation’s internal control over financial reporting as of December 31, 2010, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO)”). LoJack Corporation’s management is responsible for these consolidated financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on these consolidated financial statements and an opinion on the Company’s internal control over financial reporting based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audit of the consolidated financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of LoJack Corporation and subsidiaries as of December 31, 2010, and the results of their operations and their cash flows for the year then ended, in conformity with U.S. generally accepted accounting principles. Also in our opinion, LoJack Corporation maintained, in all material respects, effective internal control over financial reporting as of December 31, 2010, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.
/s/ KPMG LLP
Boston, Massachusetts
March 14, 2011
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders of
LoJack Corporation
Westwood, Massachusetts
We have audited the accompanying consolidated balance sheet of LoJack Corporation and subsidiaries (the “Company”) as of December 31, 2009, and the related consolidated statements of operations, changes in equity and cash flows for the years ended December 31, 2009 and 2008. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2009, and the results of its operations and its cash flows for the years ended December 31, 2009 and 2008, in conformity with accounting principles generally accepted in the United States of America.
/s/ Deloitte & Touche LLP
Boston, Massachusetts
March 16, 2010
LOJACK CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
The accompanying notes are an integral part of the consolidated financial statements.
LOJACK CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
The accompanying notes are an integral part of the consolidated financial statements.
LOJACK CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY
YEARS ENDED DECEMBER 31, 2010, 2009 AND 2008
The accompanying notes are an integral part of the consolidated financial statements.
LOJACK CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
The accompanying notes are an integral part of the consolidated financial statements.
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2010, 2009 AND 2008
1.
THE COMPANY AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The Company - LoJack Corporation and subsidiaries, or “LoJack”, “we”, “our”, or “the Company”, is a global provider of technology products and services for the tracking and recovery or rescue of valuable mobile assets and people at risk of wandering. Our proprietary technology, wireless network and integration with law enforcement agencies provide a means for the tracking and recovery of stolen vehicles, motorcycles, construction equipment, cargo, laptops and people at risk. Our headquarters are located in Westwood, Massachusetts and as of December 31, 2010 we have operations in 28 states and the District of Columbia in the United States and 33 countries and territories.
The LoJack Stolen Vehicle Recovery System - The LoJack System is based on radio frequency, or RF, technology. If a vehicle equipped with a LoJack Unit is stolen, its owner reports the theft to the local police department. If the theft is reported in a jurisdiction where the LoJack System is operational, a unique radio signal is automatically transmitted to the LoJack Unit in the stolen vehicle, activating its tracking signal. The Vehicle Tracking Unit, installed in police patrol cars and aircraft in the coverage areas, is used by law enforcement officers to lead them to the stolen vehicle using RF direction-finding technology to locate the source of the tracking signal emitted from the LoJack Unit in the stolen vehicle.
The Boomerang System - The Boomerang System is based on RF and cellular technology and uses tracking devices internally developed by LoJack and the wireless network of a major Canadian telecommunications company for locating and tracking stolen assets. If a vehicle equipped with a Boomerang Unit is stolen, the vehicle owner reports the theft to the local police department and the Boomerang Security Center. The Boomerang Security Center then obtains the approximate location of the Boomerang Unit via a secure connection with the cellular carrier and then transmits a unique code causing the Boomerang Unit to transmit a tracking signal. A tracking vehicle, equipped with a Boomerang Vehicle Tracking Unit, is then dispatched to the approximate location of the Boomerang Unit and local police are notified when the vehicle has been located. In the provinces of Ontario and British Columbia, we use third parties to perform tracking.
Summary of Significant Accounting Policies
Principles of Consolidation - The consolidated financial statements include the accounts of LoJack, our wholly-owned subsidiaries and our majority interest in SC-Integrity Inc., or SCI. We consolidate entities which we own or control. All intercompany transactions and balances have been eliminated in consolidation.
Use of Estimates - Preparing financial statements in conformity with U.S. generally accepted accounting principles, or GAAP, requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses, and related disclosures of contingent liabilities. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual amounts may differ from these estimates under different assumptions or conditions.
Revenue Recognition and Deferred Revenue - We recognize revenue principally on four types of transactions - sales of products, subscriber fees for service contracts, extended warranty sales, licensing and royalty fees. In accordance with the guidance provided by the Securities and Exchange Commission’s Staff Accounting Bulletin, SAB No. 104, Revenue Recognition, or SAB No. 104, revenue is recognized when all of the following are met: (a) persuasive evidence of an arrangement exists, (b) title and risk of loss have passed, (c) delivery has occurred or the services have been rendered, (d) the sales price is fixed or determinable and (e) collection is reasonably assured.
We generally recognize revenue on product sales with no continuing obligations upon installation. Revenue relating to sales made to our third party installation partners, who purchase our products and perform installations
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
themselves, is recognized upon shipment, which is prior to the installation of the related products in the consumer’s vehicle. Revenue from the sales of products and components of the LoJack System to international licensees is recognized upon shipment to the licensee or when payment becomes reasonably assured, whichever is later.
Revenue relating to the sale of the LoJack Early Warning®
Recovery System product, or LoJack Early Warning, is recognized over a period of the estimated life of new vehicle ownership, which we estimate to be a service period of approximately five years.
Revenue relating to the sale of service contracts is recognized over the life of the contract. The purchase of an initial service contract is a requirement at the time the consumer purchases a Boomerang Unit. In instances where we sell these service contracts with a Boomerang Unit, we recognize revenue related to the combined sale under the residual method. Under this method revenue equal to the fair value of the services is deferred and recognized over the contract period with any remaining revenue being allocated to the Boomerang Unit and recognized upon installation. We separately sell the services to our customers. The term of service contracts offered ranges from 12 to 60 months and are payable in full upon activation of the related unit or renewal of a previous service contract.
We offer several types of contractual extended warranties. For those warranties for which an independent third party insurer, and not LoJack, is the primary obligor, we recognize payments for these contracts in revenue at the time of sale. For those warranty products to which we are the primary obligor, revenue is deferred and is recognized over the term of the warranties, determined to be equivalent to the estimated life of vehicle ownership, which we estimate to be five years. Subsequent to January 1, 2007 we are no longer the primary obligor for our vehicle warranty products with the exception of the extended recovery warranty. Incremental costs directly related to the provision of such warranties are deferred and charged to expense ratably as the revenue is recognized.
We recognize license fees to our international licensees in revenue over the term of the license (typically ten years) and we recognize royalty revenue when earned or when payment is reasonably assured, whichever is later. (Also see Note 5 for a discussion of the license income related to Absolute Software.)
Revenue relating to SCI and LoJack SafetyNet consist of the sale of tracking devices and subscription fees. Sales of units are recognized upon shipment and subscription fees are recognized over the life of the contractual agreement which can range from 12 to 24 months.
Any revenue that has been deferred and is expected to be recognized beyond one year is classified as long-term deferred revenue.
Stock-Based Compensation - Stock-based compensation cost is measured at the grant date based on the fair value of the award and is recognized as expense over the applicable vesting period of the stock award using the straight-line method.
Advertising Expenses - Advertising costs, which include the placement of advertisements, third party media consulting firm fees, trade shows and promotional literature, are expensed as incurred and are classified under sales and marketing expense. Advertising expenses for the years ended December 31, 2010, 2009 and 2008 were $2,130,000, $4,481,000 and $11,187,000, respectively.
Warranty Costs - We provide for the estimated costs associated with fulfilling our warranty related obligations based primarily on our historical experience of the cost of fulfilling our warranty obligations. The estimated provision for accrued warranty costs is included in the consolidated balance sheet within accrued and other liabilities. Warranty coverage is provided on both our LoJack Units and Boomerang Units. We warrant to consumers that LoJack Units and Boomerang Units will be free from defects in material or workmanship for a period of two years from the date of installation. We also warrant to purchasers of the LoJack Unit that if a LoJack Unit equipped vehicle is stolen in a covered jurisdiction within two years of installation and not recovered within 24 hours from the time that the theft is reported to the police, we will pay the consumer an amount equal to the full purchase price of the LoJack Unit up to a maximum of $695 (up to $995 if the consumer has purchased LoJack Early Warning). We warrant to purchasers of the Boomerang Units that if the Boomerang equipped vehicle is stolen and
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
not recovered within 60 days of the reported theft, we will pay the consumer an amount equal to the full purchase price of the unit and the service fees, up to a maximum of CAD$1,000 for the Boomerang Unit and CAD$2,000 for the Boomerang Unit with automatic theft notification. For the BoomerangXpress Units, we will offer the consumer a new unit, including installation, free of charge.
SCI warrants its hardware devices to be free of defects in materials or workmanship for a period of one year after date of purchase. All external batteries, cases or wiring provided by SCI as part of an assembled device is warranted for a period of 30 days from date of purchase. Any hardware item covered by SCI’s warranty and found to be defective during the warranty period will be repaired or replaced at our discretion.
We warrant to consumers that the SafetyNet PLU transmitter will be free from defects in material, workmanship or design for a period of one year from the date of purchase. If the product proves to be defective in material, workmanship or design within that period, we will replace the transmitter. Under the SafetyNet warranty, our maximum liability may not exceed $500.
A rollforward of the activity of the warranty reserve is as follows (in thousands):
Our business in Canada has experienced increased recall rates related to the Boomerang products since the conversion from an analog to digital infrastructure and as a result, we incurred additional warranty expense during the year ended December 31, 2010.
Commitments and Contingent Liabilities - We are subject to various claims and contingencies related to lawsuits as well as commitments under contractual and other commercial obligations. We recognize liabilities for contingencies and commitments, including any legal costs associated with a loss contingency, when it is probable that a liability has been incurred and the amount can be reasonably estimated. Legal proceedings are subject to uncertainties, and the outcomes are difficult to predict. Because of such uncertainties, accruals are based only on the best information available at the time. As additional information becomes available, we reassess the potential liability related to pending claims and litigation and may revise estimates. Given the nature of most litigation, the company is typically unable to estimate probable legal costs associated with pending litigation matters and therefore, such costs are most often expensed as incurred. (Also see Note 10.)
Cash and Cash Equivalents - We consider all highly liquid instruments with an original maturity of three months or less to be cash equivalents. We periodically maintain bank balances which exceed the federally insured limit. We routinely assess the financial strength of our depository banks and believe we had no significant exposure to credit risks as of December 31, 2010.
Marketable Securities - All marketable securities must be classified as one of the following: held-to-maturity, available-for-sale, or trading. We determine the classification at the time of purchase.
Our investment in our French licensee, in the form of a publicly traded common stock, is accounted for as an available-for-sale security and is valued at the quoted closing price on its market exchange as of the reporting date. Included in other income (expense) for the years ended December 31, 2009 and 2008 are other-than-temporary impairment charges of $308,000 and $1,958,000, respectively. These impairment charges were recorded because the fair value of our investment in the licensee fell below our recorded cost for an extended period of time. No realized gains or losses were recorded for the year ended December 31, 2010. Our investment in our French licensee is reported as a long-term asset on our consolidated balance sheet. Unrealized gains or losses on available-for-sale
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
securities are included, net of tax, in accumulated other comprehensive income in equity until the disposition of the security. We follow the specific identification method in determining the cost basis in computing realized gains and losses on the sale of available-for-sale securities. Realized gains and losses on available-for-sale securities are included in other income (expense).
The investments of the deferred compensation plan are included in other assets at fair value. See Note 11 for further discussion.
At both December 31, 2010 and 2009 we held 366,500 shares of Absolute common stock. We acquired these shares upon the exercise of the Absolute warrants in July 2010 and September 2009. The fair market value of these shares at December 31, 2010 and 2009 was $1,365,000 and $1,834,000, respectively, and is accounted for as a trading security classified within marketable securities in the consolidated balance sheet.
Accounts Receivable - We maintain an allowance for doubtful accounts based on an assessment of collectability of all outstanding receivables. We make this assessment by evaluating the creditworthiness of our customers, historical trends and economic circumstances. A rollforward of the activity of the allowance for doubtful accounts is as follows (in thousands):
Customer Concentration - Accounts receivable in the United States are due principally from automobile dealers that are geographically dispersed. Accounts receivable in Canada consist of payments due from our dealer channel and corporate accounts. International accounts receivable are principally due from international licensees. As of December 31, 2010, two international licensees accounted for 20% and 14% of accounts receivable. As of December 31, 2009, two international licensees accounted for 27% and 22% of accounts receivable. For the year ended December 31, 2010, one international licensee accounted for 10% of revenue. For the years ended December 31, 2009 and 2008, one international licensee accounted for 11% of revenue. When possible, payment for our products from international licensees is supported by the purchase of private trade-credit insurance paid for by the licensee.
Inventories - Inventories are stated at the lower of cost or market value using the first-in, first-out method.
Property and Equipment - Property and equipment is stated at cost and depreciated using the straight-line method over the estimated useful lives of the related assets as detailed below:
Upon retirement or other disposition, the cost and the related accumulated depreciation of the assets are eliminated from the consolidated balance sheet and the related gains or losses are reflected in the consolidated statement of operations. Expenditures for maintenance and repairs are charged to expense while the costs of significant improvements that extend the life of the property and equipment are capitalized.
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Internal Software Development Costs - We capitalize internal software development costs associated with software developed for internal use. In accordance with ASC 350-40, Internal-Use Software, expenses related to the design of software, coding and installation of hardware, and certain costs incurred to allow access to or conversion of old data by new systems are capitalized. Costs related to training and data conversion activities are expensed as incurred. Capitalized internal software development costs are amortized over the period of economic benefit, generally between three and five years. For the years ended December 31, 2010 and 2009, capitalized software included in property and equipment totaled $3,853,000 and $4,077,000, net of accumulated amortization of $10,089,000 and $9,230,000, respectively. For the years ended December 31, 2010, 2009 and 2008, we capitalized internal software development costs of $518,000, $2,277,000 and $2,911,000, respectively. For the years ended December 31, 2010, 2009, and 2008, $778,000, $2,206,000 and $2,707,000, respectively, of amortization expense was recorded for these capitalized internal software costs. Additions to internal software development costs are included in investments for property and equipment in the consolidated statements of cash flows.
Cost-Basis Investments - We have made investments in some of our international licensees. These investments to date have resulted in ownership of less than 20% of any one licensee. Unless the shares are marketable securities, these investments are accounted for using the cost method of accounting. Under the cost method of accounting, investments are carried at cost and are adjusted only for other-than-temporary declines in fair value, distributions of earnings, additional investments made and other ownership changes. We have not recorded any gains or losses on these investments in the years ended December 31, 2010, 2009 and 2008. (Also see Note 5.)
Equity Investments- We have a 64% interest in SCI, a Texas based company which provides comprehensive solutions for cargo theft monitoring prevention, investigation, tracking and recovery. Prior to August 2008, we had accounted for our interest in SCI utilizing the equity method of accounting. During the third quarter of 2008 we increased our equity investment in SCI from 40% to 60% and as a result began consolidating the results of their operations in our consolidated financial statements as well as accounting for the corresponding impact of SCI’s noncontrolling interest in a separate component of our consolidated balance sheet and statement of operations. In October 2009, we along with the noncontrolling interest in SCI, invested an additional $800,000 into SCI in exchange for 1,188,707 shares of SCI common stock. Our portion of this investment was $508,000. Our ownership percentage did not change as a result of this transaction. In August 2010, we along with the noncontrolling interest in SCI, invested an additional $400,000 in the form of convertible debt. Our portion of this investment was $254,000. (Also see Note 4.)
Goodwill and Other Intangible Assets - Goodwill is not amortized but instead is assessed for impairment at least annually and as triggering events occur. We have adopted an annual measurement date of November 30 for SCI and LoJack SafetyNet. On each annual measurement date the carrying value of the reporting unit is compared to its estimated fair value, and an impairment charge is measured based upon the excess of the carrying value of goodwill over the implied fair value if impairment is indicated. This analysis is performed at a reporting unit level. There was no goodwill impairment recognized for the year ended December 31, 2010. For the years ended December 31, 2009 and 2008, we recognized impairment charges relating to goodwill of $13,627,000 and $36,830,000, respectively, related to our Boomerang reporting unit. (Also see Note 4.)
Other intangible assets consist of amortizing intangibles, including customer relationships, patents, trademarks, trade names and radio frequencies. Whenever events or changes in circumstances indicate that the carrying value may not be recoverable, an assessment is completed to determine whether the fair value of the asset exceeds the carrying value. When a potential impairment has been identified, forecasted undiscounted net cash flows of the operations to which the asset relates are compared to the current carrying value. If such cash flows are less than the carrying amounts, the intangible assets are written down to their respective fair values.
In making this assessment, we rely on a number of factors including operating results, business plans, economic projections, anticipated future cash flows, and transactions and marketplace data. There was no impairment charge recognized relating to other intangible assets for the year ended December 31, 2010. For
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
the years ended December 31, 2009 and 2008, we recognized impairment charges relating to other intangible assets of $411,000 and $1,260,000, respectively, at our Boomerang reporting unit. (Also see Note 4.)
Impairment of Other Long-lived Assets - Other long-lived assets including property and equipment and internal software development costs are also periodically assessed for impairments. No such impairments were recorded in the periods presented.
Income Taxes - We recognize deferred tax liabilities and assets for the expected future tax consequences of events that have been included in our financial statements or tax returns. Deferred tax assets and liabilities are determined based upon the difference between the financial statement carrying amounts and tax basis of existing assets and liabilities, using enacted tax rates anticipated to be in effect in the year(s) in which the differences are expected to reverse. Valuation allowances are provided against deferred tax assets that are not deemed to be recoverable.
Our annual tax rate is based on our income (loss), statutory tax rates and tax planning opportunities available to us in the various jurisdictions in which we operate. Significant judgment is required in determining our annual tax expense and in evaluating our tax positions. We provide reserves for potential payments of tax to various tax authorities related to uncertain tax positions and other issues. In accordance with ASC subtopic 740, Income Taxes, or ASC 740, tax benefits are based on a determination of whether and how much of a tax benefit taken by us in our tax filings or positions is more likely than not to be realized following resolution of any potential contingencies present related to the tax benefit, assuming that the matter in question will be raised by the tax authorities. Potential interest and penalties associated with such uncertain tax positions is recorded as a component of income tax expense. (Also see Note 9.)
Product Development - Costs for product development are expensed as incurred and include salaries, fees to consultants, and other related costs associated with the development of new products. A portion of our product development effort has been outsourced to unrelated third parties.
Loss Per Share - Basic loss per common share is computed using the weighted average number of common shares and common share equivalents outstanding during each year. Diluted loss per common share is computed using the weighted average number of common shares outstanding during the year, including the effect of our outstanding stock options and restricted stock (using the treasury stock method), except where such stock options or restricted stock would be antidilutive. A reconciliation of weighted average shares used for the basic and diluted computations is as follows:
Because of the net losses reported for the years ended December 31, 2010, 2009 and 2008, respectively, all shares of stock issuable pursuant to stock options and unvested stock have not been considered for dilution as their effect would be antidilutive. For the year ended December 31, 2010, 2,261,565 options and 784,063 shares of restricted stock were excluded from the computation of diluted net loss per share. For the year ended December 31, 2009, 2,265,080 options and 799,524 shares of restricted stock were excluded from the computation of diluted net loss per share. For the year ended December 31, 2008, 1,764,557 options and 402,713 shares of restricted stock were excluded from the computation of diluted net loss per share.
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Comprehensive Income - Other comprehensive income, as defined, includes all changes in equity during a period from non-owner sources, such as unrealized gains and losses on available-for-sale securities and foreign currency translation. Accumulated other comprehensive income and its components were as follows (in thousands):
Foreign Currency - The functional currency for each of our subsidiaries is the currency of the primary economic environment in which the subsidiary operates, generally defined as the currency in which the entity generates and expends cash. For all entities, with the exception of LoJack Ireland the functional currency is the local currency. LoJack Ireland’s functional currency is the U.S. dollar. All assets and liabilities are translated into U.S. dollar equivalents at the exchange rate in effect on the balance sheet date. Revenues and expenses are translated at the average exchange rates for the year. Translation gains or losses are recorded in equity as an element of accumulated other comprehensive income. We also incur transactional gains and losses resulting from transactions denominated in foreign currencies and the translation of intercompany balances which are not permanently invested. Such items are recorded as other income (expense) in the consolidated statement of operations. For the years ended December 31, 2010, 2009 and 2008 we recorded foreign currency (losses) gains of ($363,000), $280,000 and ($1,126,000), respectively.
Derivative Instruments and Hedging - We account for derivative instruments at fair value. We will occasionally use derivative financial instruments to manage exposures to foreign currency or interest rate risks. Our primary objective for holding derivatives is to minimize interest rate and foreign currency risk using the most effective methods to eliminate or reduce the impact of these risks. If the derivative is designated as a cash flow hedge, the effective portions of changes in the fair value of the derivative are recorded in accumulated other comprehensive income and are recognized in earnings when the hedged item affects earnings; ineffective portions of changes in fair value are recognized in earnings.
During the first quarter of 2009, we entered into two forward contracts to purchase Euros as part of our strategy to hedge certain foreign currency commitments at our Irish subsidiary, which were denominated in Euros. These contracts expired on June 8, 2009 and we recognized a currency transaction gain of $49,000 which is included in other income on our consolidated statement of operations for the year ended December 31, 2009. As of December 31, 2010 and 2009 we had no derivative contracts outstanding.
Recently Adopted Accounting Guidance
In June 2009, the FASB issued SFAS No. 167, Amendments to FASB Interpretation No. 46(R), or SFAS 167, as codified in ASC 810. ASC 810 amends FIN 46(R), Consolidation of Variable Interest Entities (revised December 2003) - an interpretation previously known as ARB No. 51, by replacing the quantitative-based risks and rewards calculation for determining which enterprise, if any, has a controlling financial interest in a variable interest entity with a primarily qualitative approach. ASC 810 requires an additional reconsideration event when determining whether an entity is a variable interest entity when any changes in facts and circumstances occur, ongoing assessments of whether an enterprise is the primary beneficiary of a variable interest entity and additional disclosures about an enterprise’s involvement in variable interest entities. Our adoption of ASC 810 as of January 1, 2010 did not have an impact on our consolidated results of operations, financial position, or cash flows.
In January 2010, the FASB revised accounting standards related to fair value measurements to expand disclosure requirements to include significant transfers of assets and liabilities in and out of Level 1 and Level 2 fair value measurements and the reasons for those transfers, as well as a gross presentation of purchases, sales, issuances
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
and settlements within the rollforward of changes in Level 3 assets and liabilities. The revised standards also provide clarification to existing fair value disclosure requirements related to the level of disaggregation and disclosure about inputs and valuation techniques. The majority of the requirements of these revised accounting standards was effective and adopted by us in the first quarter of 2010 and had no impact on the consolidated balance sheet, statement of operations, or statement of cash flows. Certain requirements related to the gross presentation of activity in the rollfoward of changes in Level 3 assets and liabilities will become effective for fiscal years beginning after December 15, 2010 and for interim reporting periods within those fiscal years.
Accounting Guidance Issued But Not Yet Adopted
In September 2009, the FASB issued ASU No. 2009-13, as codified in ASC 605, Revenue Recognition, or ASC 605. ASC 605 provides greater ability to separate and allocate arrangement consideration in a multiple element revenue arrangement. In addition, ASC 605 requires the use of estimated selling price to allocate arrangement considerations, therefore eliminating the use of the residual method of accounting. ASC 605 will be effective for fiscal years beginning after June 15, 2010 and may be applied retrospectively or prospectively for new or materially modified arrangements. Earlier application is permitted. We have evaluated the impact of ASC 605 and determined that the 2011 adoption will not have a material impact on our consolidated results of operations, financial position or statement of cash flows.
2.
INVENTORIES
Inventories are classified as follows (in thousands):
3.
PROPERTY AND EQUIPMENT
Property and equipment consist of the following (in thousands):
Depreciation expense relating to property and equipment totaled $7,194,000, $8,343,000 and $7,853,000 for the years ended December 31, 2010, 2009 and 2008, respectively.
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
System components and fixed assets not yet in service consist primarily of certain infrastructure, tooling, and other equipment that has not been placed into service.
4.
GOODWILL AND OTHER INTANGIBLE ASSETS
Upon the acquisitions of Boomerang, SCI and Locator Systems (now known as LoJack SafetyNet), we recorded goodwill and acquired certain intangible assets with finite lives. The intangible assets acquired include customer relationships and trade names and trademarks.
We have adopted an annual measurement date of November 30 for SCI and LoJack SafetyNet. These tests for impairment are performed on an interim basis if there are triggering events identified. Triggering events are events or changes in circumstance that would more-likely-than-not reduce the fair value of a reporting unit below its carrying amount. Examples of such events or circumstances include: (a) a significant adverse change in legal factors or in the business climate; (b) an adverse action or assessment by a regulator; (c) unanticipated competition; (d) a loss of key personnel; (e) a more-likely-than-not expectation that a reporting unit or a significant portion of a reporting unit will be sold or otherwise disposed of; (f) the testing for recoverability of a significant asset group within a reporting unit; or (g) recognition of a goodwill impairment loss in the financial statements of a subsidiary that is a component of a reporting unit.
The first step in goodwill impairment testing is to compare the estimated fair value of the reporting unit to its carrying value. We utilize the discounted cash flow, or DCF, method under the income approach to estimate a reporting unit’s fair value. Use of a DCF valuation model is common practice in impairment testing in the absence of available transactional market evidence to determine the fair value. The key assumptions used in the DCF valuation model include discount rates, growth rates, cash flow projections and terminal value rates. Discount rates, growth rates and cash flow projections are the most sensitive and susceptible to change as they require significant management judgment. Discount rates are determined by using a weighted average cost of capital, or WACC. The WACC considers market and industry data as well as Company-specific risk factors for each reporting unit in determining the appropriate discount rates to be used. Using historical and projected data, growth rates and cash flow projections are generated for each reporting unit. Terminal value rate determination follows common methodology of capturing the present value of perpetual cash flow estimates beyond the last projected period assuming a constant WACC and low long-term growth rates.
We corroborate the results of the DCF model by using the guideline company method and the comparable transaction method, both of which are market-based approaches. In the event that the estimated fair value of the reporting unit is less than its carrying amount, we would then proceed to the second step to determine if an impairment charge is necessary. The second step in the goodwill impairment testing involves comparing the implied fair value of goodwill with its carrying value. The implied fair value of goodwill is equivalent to the excess of the fair value of a reporting unit over the amounts assigned to its assets and liabilities, as if the reporting unit had been acquired in a business combination. Should the carrying value of the reporting unit’s goodwill exceed the implied fair value, an impairment loss would be recognized in the amount of the excess.
Boomerang
The impairment expense taken in June 2009 eliminated the goodwill balance for the Boomerang reporting unit; therefore no impairment analysis was performed during the year ended December 31, 2010.
In 2009, based upon a review of external economic factors and internal business performance we identified a triggering event in the Boomerang reporting Unit. As such, Boomerang’s goodwill was tested for impairment. Utilizing a DCF model we determined the fair value of the Boomerang reporting unit to be less than its carrying value. We then allocated the fair value to the reporting unit’s assets and liabilities and determined that there was no implied fair value of reporting unit’s goodwill. As a result of this impairment analysis, we recognized a goodwill impairment charge of $13,627,000 at June 30, 2009, thus eliminating the goodwill balance attributable to the
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Boomerang reporting unit. The impairment is included in Impairment of goodwill and intangible assets on the consolidated statement of operations for the year ended December 31, 2009.
As of June 30, 2009, we also tested the other intangible assets of our Boomerang reporting unit for recoverability and determined that the monitoring contractual relationships and trade name and trademark intangible assets were not fully recoverable since the expected future undiscounted cash flows attributable to each asset were below their respective carrying values. We then determined the fair value of these intangible assets using a DCF model. As a result of this impairment analysis, we recognized an impairment charge of $411,000 at June 30, 2009. The impairment is included in Impairment of goodwill and intangible assets on the consolidated statement of operations for the year ended December 31, 2009.
In 2008, based upon a review of external economic factors and internal business performance we identified a triggering event and accordingly, we tested the long-lived assets of our Boomerang reporting unit for recoverability and determined that the contractual relationships, completed technology and tradename and trademark intangible assets were not fully recoverable since the expected future undiscounted cash flows attributable to each asset were below their respective carrying values. We then determined the fair value of these intangible assets using a DCF model. As a result of this impairment analysis, we recognized an impairment charge of $1,260,000. The impairment charge by each intangible asset class was as follows: (a) $1,193,000 for contractual relationships; (b) $16,000 for completed technology; and (c) $51,000 for tradename and trademark assets. The impairment is included in Impairment of intangible assets and goodwill on the consolidated statement of operations for the year ended December 31, 2008.
During 2008, Boomerang’s goodwill was also tested for impairment. Utilizing a DCF model we determined the fair value of the Boomerang reporting unit to be less than its carrying value. We then allocated the fair value to the reporting unit’s assets and liabilities and determined that the implied fair value of the reporting unit’s goodwill was $15,173,000, resulting in an impairment charge of $36,830,000. The impairment is included in Impairment of intangible assets and goodwill on the consolidated statement of operations for the year ended December 31, 2008.
LoJack SafetyNet
We perform the annual assessment of the goodwill for LoJack SafetyNet at its annual testing date of November 30. At November 30, 2010, we estimated that the fair value of the LoJack SafetyNet reporting unit to be in excess of its carrying value of $1,303,000 by a significant margin. As a result of the foregoing, we determined that the second step of the goodwill impairment process was not required.
SCI
We performed the annual assessment of the goodwill for SCI at its annual testing date of November 30th. At November 30, 2010, we estimated that the fair value of the SCI reporting unit to be in excess of its carrying value of $1,291,000 by a significant margin. As a result of the foregoing, we determined that the second step of the goodwill impairment process was not required.
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The following table summarizes the changes in goodwill (in thousands):
(1)
The goodwill balance at January 1, 2008 relates entirely to goodwill recorded in connection with our acquisition of Boomerang on October 29, 2004. The gross value of goodwill recorded upon the acquisition was $44,002,000. The increase in goodwill from the acquisition date to January 1, 2008 is attributable to currency translation adjustments.
The following table summarizes the changes in intangible assets (in thousands):
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Our intangible assets are detailed as follows (in thousands):
(1)
Intangible asset balances as of December 31, 2009 reflect the impairment charges recorded as of June 30, 2009 of $411,000 and accumulated amortization reflects amortization expense since the date of impairment.
(2)
Included in the carrying value of contractual relationships at December 31, 2009 are the values acquired in the 2004 acquisition of Boomerang and values acquired with our acquisitions of Locator Systems and SCI in 2008.
Estimated amortization expense for the next five years and thereafter for our intangible assets as of December 31, 2010 is as follows (in thousands):
5.
OTHER ASSETS
Other assets consist of the following (in thousands):
Deferred Costs Related to Deferred Revenue Arrangements
As discussed in our revenue recognition policy in Note 1, revenue relating to the sales of LoJack Early Warning and certain warranty products are deferred and recognized over five years. The direct and incremental costs of these revenues, comprised of the cost of the Early Warning device and paid up insurance premiums for which the Company is the primary obligor, are also deferred and recognized over this period. The deferred cost is presented as a long-term asset.
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Investment in International Licensees
As of December 31, 2010, investments in international licensees of $2,351,000 included a 12.5% equity interest in our Mexican licensee, totaling $1,541,000, a 5.5% interest in our French licensee, totaling $314,000 and a 17.5% equity interest in our Benelux licensee, totaling $496,000.
The investment in our Mexican licensee, over which we do not exercise significant influence, is accounted for using the cost method of accounting and is carried at cost and adjusted only for other-than-temporary declines in fair value, distributions of capital and additional investments made. Management periodically reviews the carrying value of this investment, based upon projections of anticipated cash flows, market conditions, legal factors, operational performance, and valuations, when appropriate. We have concluded that there are no impairments to the fair value of this investment for all years presented. During 2010, 2009 and 2008, our Mexican licensee declared and paid dividends of $110,000, $229,000 and $183,000, respectively, which we recorded in other income.
The investment in our Benelux licensee, over which we do not exercise significant influence, is accounted for using the cost method of accounting and is carried at cost and adjusted only for other-than-temporary declines in fair value, distributions of capital and additional investments made. In 2009, we obtained this investment in exchange for the licensing rights related to the Benelux region. We valued the investment based on the fair value of the licensing rights. The revenue related to the license is reflected in deferred revenue on the balance sheet at December 31, 2010 and will begin to be recognized as license revenue once the licensee has completed the build-out of the RF network. Management periodically reviews the carrying value of this investment, based upon projections of anticipated cash flows, market conditions, legal factors, operational performance, and valuations, when appropriate.
We may be required to record an impairment charge in a future period if (1) the licensee would require additional capital and is unable to raise sufficient capital to continue operations, (2) the licensee raises sufficient capital, but at a lower stock price than currently valued and/or (3) the operations and future cash flows of the licensee vary significantly from current projections, adversely affecting the viability of the business, or other negative events were to occur.
Our investment in our French licensee, in the form of a marketable equity security, is accounted for as an available-for-sale security and is valued at the quoted closing price of its market exchange as of the reporting date. If the quoted price of the investment in our French licensee were to drop below our recorded cost for an extended period of time we would evaluate the investment for impairment. No realized gains or losses were recorded for the year ended December 31, 2010. For the years ended December 31, 2009 and 2008, we recorded other-than-temporary impairment charges of $308,000 and $1,958,000, respectively, for our investment in our French licensee.
We also hold less than a 10% equity interest in our licensees in Argentina and Hong Kong, for which we have no carrying value.
Below are the revenue associated with, and the receivables outstanding from, our international licensees in which we maintain some ownership (in thousands):
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Absolute Warrants
In June 2005, we entered into a ten year trademark license agreement with Absolute Software, Inc., or Absolute, a Vancouver, British Columbia, Canada based computer theft recovery company to brand its consumer offering LoJack for Laptops®.
In addition to an annual per unit royalty, we were granted 1,000,000 (on a post split basis) warrants to purchase Absolute’s common stock with vesting on a pro rata basis over a five year period commencing on July 1, 2006. We concluded that a measurement date is not achieved until the warrants become vested and exercisable. Prior to reaching a measurement date, the fair value of unvested warrants is calculated utilizing a Black-Scholes option pricing model and the earned and unearned revenue is adjusted to fair value. Once a measurement date has been reached, the fair value of vested warrants is measured and the revenue related to the vested warrants becomes fixed with revenue recognized over the remaining term of the licensing agreement. Subsequent to reaching a measurement date, the vested warrants are accounted for as a derivative, which requires the warrants to be recorded at fair value at each reporting date with any changes in fair value being recorded in the consolidated statement of operations. We classify the gains (losses) on investments in other income (expense). During the years ended December 31, 2010, 2009 and 2008, we recognized $507,000, $879,000 and ($997,000) in revenue (contra revenue) and $47,000, $377,000 and ($1,290,000) in other income (expense), respectively, related to the Absolute warrants, and the common shares received upon exercise of the warrants that vested in May 2010, June 2009 and June 2008.
At December 31, 2010, there are no unvested Absolute warrants outstanding, as the five year vesting period was completed in May 2010. Short and long-term deferred revenue, reflecting the value of the vested warrants at the vesting dates, totaling $547,000 and $1,915,000, respectively, will be recognized ratably over the remaining life of the license agreement. At December 31, 2010, we held 366,500 shares of Absolute common stock acquired through the exercise of the Absolute warrants in June 2010 and September 2009, for warrants that vested in 2010 and 2009, respectively. The fair market value of these shares at December 31, 2010 is $1,365,000 and is accounted for as marketable securities that we have designated as trading securities in the balance sheet as of December 31, 2010.
Deferred Compensation Plan
The investments of the deferred compensation plan are included in other assets at fair value. See Note 11 for further discussion.
6.
FAIR VALUE MEASUREMENTS
The FASB authoritative guidance on fair value measurements defines fair value, establishes a framework for measuring fair value and expands disclosure requirements about fair value measurements. Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date.
Financial assets and liabilities recorded on the accompanying consolidated balance sheets are categorized based on the inputs to the valuation techniques as follows:
Level 1 - Financial assets and liabilities whose values are based on unadjusted quoted prices for identical assets or liabilities in an active market that the company has the ability to access at the measurement date (examples include active exchange-traded equity securities, listed derivatives and most United States Government and agency securities).
Level 2 - Financial assets and liabilities whose values are based on quoted prices in markets where trading occurs infrequently or whose values are based on quoted prices of instruments with similar attributes in active markets. Level 2 inputs include the following:
•
Quoted prices for identical or similar assets or liabilities in non-active markets (examples include corporate and municipal bonds which trade infrequently);
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
•
Inputs other than quoted prices that are observable for substantially the full term of the asset or liability (examples include interest rate and currency swaps); and
•
Inputs that are derived principally from or corroborated by observable market data for substantially the full term of the asset or liability (examples include certain securities and derivatives).
Level 3 - Financial assets and liabilities whose values are based on prices or valuation techniques that require inputs that are both unobservable and significant to the overall fair value measurement. These inputs reflect management’s own assumptions about the assumptions a market participant would use in pricing the asset or liability.
We do not have any Level 3 or Level 2 financial assets or liabilities as of December 31, 2010.
Assets and Liabilities Measured at Fair Value on a Recurring Basis
The fair value hierarchy requires the use of observable market data when available. In instances where the inputs used to measure fair value fall into different levels of the fair value hierarchy, the fair value measurement has been determined based on the lowest level input significant to the fair value measurement in its entirety. Our assessment of the significance of a particular item to the fair value measurement in its entirety requires judgment, including the consideration of inputs specific to the asset or liability. The following table sets forth by level within the fair value hierarchy, our financial assets that are accounted for at fair value on a recurring basis at December 31, 2010 and 2009, according to the valuation techniques we used to determine their fair values (in thousands):
Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis
Certain assets are measured at fair value on a non-recurring basis. These assets are not measured at fair value on an ongoing basis but are subject to fair value adjustments only under certain circumstances. These include cost and equity method investments that are written down to fair value when their declines are determined to be
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
other-than-temporary, and long-lived assets or goodwill that are written down to fair value when they are held for sale or determined to be impaired.
We use Level 3 inputs to measure the fair value of goodwill and intangible assets on their annual measurement dates or if a triggering event occurs on an interim basis. We recorded an impairment to the goodwill and intangible assets of our Boomerang reporting unit during the year ended December 31, 2009 which is discussed in Note 4. No impairment was recognized for the year ended December 31, 2010.
As of December 31, 2010, investments in international licensees included a 12.5% equity interest in our Mexican licensee, totaling $2,351,000, a 17.5% equity interest in our Benelux licensee, totaling $496,000 and a 5.5% equity interest in our French licensee, totaling $314,000. In addition, we hold less than a 10% equity interest in our licensees in Argentina and Hong Kong, for which we have no carrying value in our financial statements.
Our investments in the aforementioned licensees are carried at cost and adjusted only for other-than-temporary declines in fair value, distributions of capital and additional investments made. We periodically review the carrying value of these investments using Level 3 inputs such as projections of anticipated cash flows, market conditions, legal factors, operational performance, and valuations, when appropriate. We have concluded that there are no impairments to the fair value of these investments for all periods presented.
Financial Instruments not Measured at Fair Value
Some of our financial instruments, including cash and cash equivalents, restricted cash, accounts receivable and accounts payable are not measured at fair value on a recurring basis but are recorded at amounts that approximate fair value due to their liquid or short-term nature.
At December 31, 2010, the carrying value of $8,798,000 of our long-term debt approximated the fair value, because our two year multicurrency revolving credit agreement, which was established on December 29, 2009 and amended on June 30, 2010 and December 29, 2010, carries a variable rate of interest which is adjusted periodically and reflects current market conditions. Also see Note 7 below.
7.
DEBT
Our debt consisted of the following as of December 31, 2010 and 2009 (in thousands):
On August 10, 2010, SCI issued a one year, 11% interest Convertible Promissory Note totaling $400,000 to its shareholders. As a 64% holder of SCI, a $254,000 note was issued to LoJack Corporation and is considered an intercompany loan, eliminated in consolidation. The remaining $146,000 due to the noncontrolling holders of SCI is classified as short-term debt on our consolidated balance sheet. At December 31, 2010, we had accrued $6,000 of interest payable under the note, included in the Accrued and other liabilities total on the consolidated balance sheet.
On December 29, 2009, we entered into a two year multicurrency revolving credit agreement, or the Credit Agreement, with RBS Citizens, N.A., as a Lender, Administrative Agent and Lead Arranger, and TD Bank, N.A., as a Lender and Issuing Bank. The Credit Agreement provides for a multicurrency revolving credit facility in the maximum amount of USD $30,000,000, subject to a borrowing base calculation (or its equivalent in alternate
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
currencies). We have the right to increase the aggregate amount available to be borrowed under the Credit Agreement to US $50,000,000, subject to certain conditions, including consent of the lenders.
We entered into two amendments to the Credit Agreement during 2010. The first amendment, entered into on June 30, 2010, allowed for certain one-time severance costs that would otherwise be deducted in calculating Consolidated Net Income to be added back in determining Consolidated EBITDA for the purpose of determining the Debt Service Coverage Ratio covenant for the quarters ending June 30, 2010 and September 30, 2010. The second amendment, entered into on December 29, 2010, extended the maturity date of the revolving credit loans to January 10, 2014, increased the Company’s authorization for stock repurchase to $10,000,000 and amended the definitions of Applicable Margin, Consolidated EBITDA and Interest Payment Date.
The outstanding borrowings under the Credit Agreement totaled CAD $8,800,000 (equivalent to USD $8,798,000) as of December 31, 2010. The interest rate on borrowings under the Credit Agreement varies depending on our choice of interest rate and currency options, plus an applicable margin. The interest rate in effect as of December 31, 2010 was 4.1%. As of December 31, 2010, we also had three outstanding irrevocable letters of credit in the aggregate amount of $1,296,000. These letters of credit reduce our outstanding borrowing availability under the Credit Agreement.
The Credit Agreement contains limitations on capital expenditures, repurchases of common stock, certain investments, acquisitions and/or mergers and prohibits disposition of assets other than in the normal course of business. Additionally, we are required to maintain certain financial performance measures including maximum leverage ratio, minimum cash flow coverage ratio, minimum quick ratio and maximum capital expenditures. The payment of dividends is permitted but is limited only to the extent such payments do not affect our ability to meet certain financial performance measures. Failure to maintain compliance with covenants could impair the availability of the loans under the facility. At December 31, 2010, based upon the borrowing base calculation, we had borrowing availability of $13,180,000. At December 31, 2010, we were in compliance with all financial covenants in the Credit Agreement.
The Credit Agreement terminates on January 10, 2014, at which point all amounts outstanding under the revolving credit facility are due. The Credit Agreement is guaranteed by our United States domestic subsidiaries and certain Canadian subsidiaries and is secured by all domestic assets, including our intellectual property and a pledge of 100% of the stock of Boomerang Tracking Inc. and 65% of the capital stock of LoJack Ireland.
8.
EQUITY AND STOCK COMPENSATION
Preferred Stock - As of December 31, 2010, we had 10,000,000 authorized shares of $.01 par value preferred stock.
Common Stock - As of December 31, 2010, we had 35,000,000 authorized shares of $.01 par value common stock and had reserved 4,140,364 shares for the future issuance and exercise of stock options.
Incentive Plan - In May 2008, our shareholders approved the 2008 Stock Incentive Plan, or the Incentive Plan, which provides for the issuance of stock options and the granting of restricted stock to our executive officers, officers and other key employees. A total of 2,090,000 shares of common stock were authorized for issuance under the Incentive Plan, consisting of 2,000,000 new shares and 90,000 shares allocated from our 2003 Stock Incentive Plan, which we terminated in May 2008. On May 20, 2009, our shareholders approved an additional 2,000,000 shares of common stock for issuance under the Incentive Plan. We grant stock options at exercise prices equal to the fair market value of our common stock on the date of grant. Options issued under the Incentive Plan generally become exercisable over periods of two to five years and expire seven years from the date of the grant. At December 31, 2010, there were 1,878,799 shares available for future grant under the Incentive Plan.
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The following table presents activity of all stock options for the year ended December 31, 2010:
The aggregate intrinsic values in the preceding table represent the total intrinsic values based on our closing stock price of $6.46 per share as of December 31, 2010.
The total intrinsic values of options exercised for the years ended December 31, 2010, 2009 and 2008 were $1,000, $0 and $23,000, respectively. Proceeds from the exercise of stock options were $6,000, $0 and $118,000 for the years ended December 31, 2010, 2009 and 2008, respectively. The cash related to the 2010 stock option exercise had not been received as of December 31, 2010 because the settlement date of the cashless exercise transaction was subsequent to December 31, 2010. Income tax deficiencies realized from the exercise of stock options and the vesting of restricted stock for the years ended December 31, 2010, 2009 and 2008 were $618,000, $159,000 and $358,000, respectively. The income tax benefit in excess of, or less than, previously recognized stock compensation expense is recognized in additional paid-in-capital to the extent of previously recognized excess tax benefits as calculated.
As of December 31, 2010, there was $2,005,000 of unrecognized compensation cost related to our stock option plans. The cost is expected to be recognized over a weighted average period of two years.
Unvested Stock - Unvested stock represents shares of common stock that are subject to the risk of forfeiture until the fulfillment of specified conditions. Our restricted stock awards generally cliff vest either on the first, second or third anniversary date of the grant.
For grants that vest based on certain specified performance criteria, the grant date fair value of the shares is recognized as compensation expense over the requisite period of performance once achievement of criteria is deemed probable. For grants that vest through only the passage of time, the grant date fair value of the award is recognized as compensation expense on a straight line basis over the vesting period. The fair value of unvested stock awards is determined based on the number of shares granted and the market value of our shares on the grant date. For the years ended December 31, 2010, 2009 and 2008, $1,775,000, $1,445,000 and $876,000 of compensation expense, respectively, has been recorded in operating expenses for unvested stock awards. As of December 31, 2010, there was $1,664,000, of unrecognized compensation cost related to unvested stock-based compensation arrangements granted under our stock plans that is expected to be recognized as compensation expense in the amounts of $997,000, $574,000, and $93,000 for the years ended December 31, 2011, 2012, and 2013, respectively.
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The following table presents activity of all unvested stock for the year ended December 31, 2010:
The following table presents the total amount of stock-based compensation expense included in our consolidated statement of operations for the years ended December 31, 2010, 2009 and 2008 (in thousands):
The fair value of options at date of grant is estimated using the Black-Scholes option pricing model. The fair value is then amortized on a straight-line basis over the requisite service periods of the awards, which is generally the vesting period. Use of an option pricing model requires management to make certain assumptions with respect to selected model inputs. Expected stock price volatility was calculated based on the historical volatility of our common stock over the expected life of the option. The average expected life was based on the contractual term of the option and expected employee exercise behavior. The risk-free interest rate is based on United States Treasury zero-coupon issues with a remaining term equal to the expected life assumed at the date of grant.
The weighted-average assumptions used in the Black-Scholes option pricing model for the years ended December 31, 2010, 2009 and 2008, were as follows:
Employee Stock Purchase Plan - In May 2002, our stockholders authorized 250,000 shares of common stock to be available for our Employee Stock Purchase Plan, or ESPP. In May 2004, our stockholders voted to increase the shares available under the ESPP to 1,000,000 shares. The ESPP was available to all employees in the United States who had at least six months of service and allowed eligible employees to purchase our stock at the lower of 85% of the fair market value of the shares on the offering date or the purchase date, which was six months after commencement of the offering date. After the purchases made on May 31, 2009, there were no longer any
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
shares available for purchase under the ESPP and the plan was terminated. For the years ended December 31, 2009 and 2008, 123,617 and 240,049 shares, respectively, were issued under the ESPP.
For the years ended December 31, 2009 and 2008, we recorded stock compensation expense of $182,000 and $385,000, respectively, with respect to the ESPP. The weighted-average ESPP assumptions used in the Black-Scholes option pricing model for the years ended December 31, 2009 and 2008, were as follows:
Stock Repurchase Plans - On February 28, 2006, our Board of Directors authorized a stock repurchase plan, or the 2006 Repurchase Plan. The 2006 Repurchase Plan authorized us to purchase up to 2,000,000 shares of our outstanding common stock on or before February 25, 2008. From the date of the adoption of the 2006 Repurchase Plan through December 18, 2006 we repurchased 1,244,566 shares. On December 19, 2006, the Board of Directors increased the remaining authorization to 2,000,000 shares. On February 15, 2008, our Board of Directors approved an increase of 1,000,000 shares to be repurchased under the 2006 Repurchase Plan, pursuant to a plan intended to comply with Rule 10b5-1 under the Exchange Act, and additionally renewed the remaining management discretionary authority to repurchase 2,000,000 shares, for a total repurchase authorization of 3,000,000 shares. For the years ended December 31, 2010, 2009 and 2008 we repurchased 98,942, 8,816 and 1,318,222 shares of common stock at an average price per share of $5.33, $4.02 and $10.83, respectively. At December 31, 2010 there are 1,681,778 shares available for repurchase under the 2006 Repurchase Plan.
All repurchases in 2010 and 2009 were shares acquired from our employees or directors in accordance with our 2008 Stock Incentive Plan as a result of share withholdings to pay income tax related to the lapse of restrictions on restricted stock and thus did not impact the shares available for repurchase under the 2006 Repurchase Plan.
9.
INCOME TAXES
The components of loss before taxes and net loss of noncontrolling interest are as follows (in thousands):
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The provision (benefit) for income taxes consists of the following (in thousands):
A reconciliation of statutory federal income tax benefit at a 35% tax rate to recorded income tax expense (benefit) is as follows (in thousands):
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The tax effects of the items comprising our deferred tax assets and liabilities as of December 31, 2010 and 2009 are as follows (in thousands):
As of December 31, 2010, we had state net operating loss carryforwards which will result in state tax benefits of approximately $1,086,000, which will expire at various dates through 2029. We also had domestic R&D tax credit carryforwards of $512,000, which will expire beginning in 2029, and United States foreign tax credit carryforwards of $311,000, which will expire beginning in 2019.
At December 31, 2010, we had foreign net operating loss carryforwards of approximately $27,017,000 primarily related to our operations in Italy and Canada. Our net operating loss carryforwards in the Netherlands, Belgium, and Cyprus have indefinite lives and the remaining carryforwards begin to expire in 2014. We also had domestic federal net operating loss carry forwards of $4,528,000 for the LoJack Corporation tax group and $9,112,000 related to our investment in SCI. The realization of these deferred tax assets is not considered to be more likely than not and a full valuation allowance has been provided on our worldwide net operating loss carryforwards. The valuation allowance increased by approximately $20,988,000, $2,393,000 and $3,000,000 during the years ended December 31, 2010, 2009 and 2008, respectively. The 2010 increase in valuation allowance is primarily due to the establishment of a complete valuation allowance against our net U.S. deferred tax assets as a result of declines in our U.S. profitability and the uncertainty as to the extent and timing of U.S. profitability in future periods. The 2008 and 2009 increases in valuation allowance are primarily due to changes in fully reserved deferred tax assets. If sufficient evidence of our ability to generate future taxable income in those jurisdictions becomes more likely than not, we may reduce our valuation allowance, which would result in an income tax benefit being recorded in our consolidated statement of operations.
We recorded a $17,428,000 provision for income taxes for the year ended December 31, 2010, which includes the establishment of a valuation allowance for our net U.S. deferred tax assets of $14,919,000 and the establishment of a valuation allowance for deferred tax assets in a Canadian subsidiary of $276,000. The provision for income taxes of $17,428,000 for the year ended December 31, 2010 is significantly higher than the federal statutory rate
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
benefit of $423,000 due primarily to the establishment of a valuation allowance on our net U.S. deferred tax assets in the second quarter of 2010.
In applying ASC 718, Accounting for Stock Based Compensation in 2010, we recorded a $618,000 reduction to additional paid in capital to reduce deferred tax assets related to stock based compensation awards that resulted in tax deductions that were less than compensation expense recorded for financial reporting purposes.
During the year ended December 31, 2009, we recorded an expense associated with a legal settlement with our former China licensee in the amount of $18,250,000, which generated a tax benefit of $4,582,000. We have analyzed the tax consequences associated with the settlement payments and believe we have taken the appropriate tax deduction. In the event this position is challenged by the tax authorities, we are prepared to do what is necessary to sustain our position, including defending our position through the court of last resort. As such, we have not recorded an uncertain tax position related to the position taken. Although we believe the measurement of the tax position is proper, there can be no assurance we will ultimately prevail if disputed by the tax authorities.
We do not provide for income taxes on undistributed earnings of our foreign operations that are intended to be invested indefinitely outside the United States. Our undistributed earnings of our foreign operations are approximately $85,000,000. We do not believe it is practical to estimate the income taxes payable on the earnings that are indefinitely reinvested in our foreign operations.
Uncertain Tax Positions
During 2010, 2009 and 2008, the total amount of unrecognized tax benefits was as follows (in thousands):
The 2010 additions relate to U.S. expenses deducted in previous years of which the realization of the tax benefit is uncertain. Of the above total $18,591,000 balance as of December 31, 2010, approximately $15,302,000, if not realized, will result in the expiration of a capital loss carryforward in 2015. The liability amounts related to the unrecognized tax benefits recorded at December 31, 2010 and 2009 were $3,220,000 and $2,098,000, respectively. We do not anticipate a material change in our liabilities for uncertain tax positions during the next 12 months.
The 2009 addition represented a capital loss deduction with respect to our investment in Boomerang, of which the realization of the tax benefit is uncertain. To the extent the remaining unrecognized benefits at December 31, 2010 are ultimately recognized, we estimate that we will recognize a benefit of approximately $3,220,000 which will impact our effective tax rate.
We recognize interest and penalties related to income tax matters within income tax expense. At December 31, 2010 and 2009 we had accrued interest related to our uncertain tax positions of $260,000 and $192,000 respectively. Included in our consolidated statement of operations for 2010 is $68,000 of tax expense related to interest on uncertain tax positions. During 2009, we released penalties and interest, net of accruals, of $151,000 and $233,000, respectively, related to these unrecognized tax benefits with a net credit to tax expense of $384,000 included in our statement of
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
operations. Our accrued penalties and interest were released in 2009 due to a lapse in the statute of limitations as it related to certain state items. As of December 31, 2008, we had a liability for potential penalties and interest of $151,000 and $425,000, respectively. During 2008, we reduced our potential penalties due to settlement of an IRS audit for tax years 2005 and 2006 by $248,000 and accrued $100,000 of interest, with a net credit to tax expense of $148,000 included in our statement of operations.
We are subject to United States federal income tax as well as income tax in multiple state and foreign jurisdictions. We have concluded all United States federal income tax matters for tax years through 2007. In addition, substantially all material state, local, and foreign income tax matters have been concluded for tax years through 2004. Foreign income tax matters generally remain open for examination for years after 2006.
10.
COMMITMENTS AND CONTINGENT LIABILITIES
Lease Commitments - We lease various facilities, equipment and vehicles under operating leases whose terms expire from 2011 to 2019. Certain facility and equipment leases contain renewal options ranging from one to five years. Certain of our facility and equipment leases contain escalation clauses. For facility leases, we record the total expense of the lease on a straight-line basis over the estimated term of lease.
Minimum annual lease payments under operating leases as of December 31, 2010 are as follows (in thousands):
Rental expense under operating leases aggregated approximately $5,928,000, $6,302,000 and $5,845,000 for the years ended December 31, 2010, 2009 and 2008, respectively.
Purchase Commitments and Milestone Payments - As of December 31, 2010, we had outstanding commitments to our suppliers for certain system components and tooling equipment totaling approximately $414,000. The total of these purchase commitments as of December 31, 2010 is significantly lower than those outstanding as of December 31, 2009 due to timing of purchase orders placed with vendors. Subsequent to December 31, 2010, we entered into product purchase commitments of approximately $6,700,000 with a major supplier.
Loan Guarantees - We guarantee the amortized value of LoJack Units purchased by customers via auto loans underwritten by a certain financing company. Under this agreement, we will reimburse participating dealers the unamortized cost of a financed LoJack Unit upon a borrower’s default within the initial eighteen months of the auto loan. This agreement terminated effective December 31, 2010 but is automatically renewed for subsequent one year terms until either of the parties provides a notification of intent to terminate the agreement.
Payment to the participating dealers is remitted by us under this agreement on a claim-by-claim basis. Based on the unamortized cost of units sold, our maximum potential amount of future payments under this agreement is $5,244,000 as of December 31, 2010. Our expected obligation is accrued for based on sales to the participating dealers and industry default statistics. As of December 31, 2010 we had accrued $479,000 under this guarantee. Accruals for loan guarantees are charged as a reduction of revenue in the consolidated statement of operations.
Contingencies - From time to time, we are engaged in certain legal matters arising in the ordinary course of business and in certain matters more fully described below. The results of legal proceedings cannot be predicted
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
with certainty. Should we fail to prevail in any of these legal matters, our financial condition and results of operations could be materially adversely affected.
California Class Action Litigation
Employee Claims
In April 2006, a suit was filed against LoJack Corporation in the United States District Court for the Central District of California by an employee alleging violations of the Fair Labor Standards Act, the California Labor Code and the California Business & Professions Code, and seeking class action status. In September 2007, our motion for summary judgment was granted and the district court dismissed all of the plaintiff’s federal law claims. The plaintiff appealed the dismissal to the Ninth Circuit Court of Appeals and in August 2009, the Ninth Circuit affirmed the district court’s grant of summary judgment on all claims except as to the claim for compensation for the required postliminary data transmission, or the data transmission claim, for which the dismissal was vacated. The plaintiff filed a petition for rehearing to the Ninth Circuit and on March 2, 2010, the Ninth Circuit affirmed the district court’s grant of summary judgment on all claims except as to (a) the claim for compensation for commuting under state law and (b) the data transmission claim, which are the two remaining claims. The plaintiff intends to pursue the claim for compensation for commuting time in the State Court case referenced below. The plaintiff moved for conditional class certification for the data transmission claim and on January 14, 2011, the District Court for the Central District of California granted plaintiffs’ motion for conditional certification. Trial for this claim in federal court currently scheduled for November 2011.
Due to the dismissal of the plaintiff’s claims in federal court in September 2007 as discussed above, in November 2007, the plaintiff also filed state law claims in California State Court. In June 2009, the California State Court granted class certification with respect to nine claims and denied class certification with respect to five claims. The Company appealed this decision and on March 26, 2010, the California State Appellate Court granted our appeal in part, denying certification with respect to certain claims and affirming certification with respect to other claims, including claims related to meal and rest breaks, postliminary data transmission, and time traveling to UPS stores. There are currently six claims class certified in this State Court case. The plaintiff seeks to pursue the claim for compensation for commuting time in California State Court.
In both the Federal and State Court cases, the plaintiff, on behalf of the class, seeks unpaid wages, penalties, interest and attorneys’ fees. In November 2010, the parties had a mediation hearing to address all remaining Federal and State claims. However, the parties did not reach any resolution as a result of the mediation.
On February 14, 2011, the Company filed a Notice of Removal to remove the State Court Case to Federal Court, thereby requesting to consolidate both the Federal and State Court cases to be heard in Federal Court. The Company believes that it has substantial legal and factual defenses to these claims and intends to defend its interests vigorously.
We have made accruals in the amount of $750,000 in the year ended December 31, 2010, with respect to certain of the above claims based on our best estimates, where a potential loss is considered probable. For other claims, due to a variety of uncertain factors, including whether the claims will be heard in state or federal court, whether the claims will be certified or remain certified, the actual number of individuals who will choose to opt into the class or opt out of the class and the merits of the claims, we cannot at this time predict the outcome of the case related to such claims nor estimate the possible loss or range of loss, if any, we could incur if there was an unfavorable outcome with respect to this litigation.
Consumer Claims
On June 15, 2010, a suit was filed by a consumer against LoJack Corporation in the Los Angeles County Superior Court of the State of California (Central District) alleging, amongst other claims, violations of the California Consumers Legal Remedies Act, the California Business and Professions Code § 17200 (unfair
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
competition) and § 17500 (false advertising), and breach of implied warranty with respect to LoJack Early Warning for motorcycles, and seeking class action status. On July 29, 2010, the Company removed the case to the United States District Court for the Central District Court of California. On August 23, 2010, the Company filed a motion to dismiss all claims, which was granted by the Court on September 27, 2010, without prejudice. The dismissal without prejudice provided plaintiff with the opportunity to amend its complaint, and on October 25, 2010, the plaintiff filed an amended complaint, for alleged fraud, violations of the California Consumers Legal Remedies Act, the California Business and Professions Code § 17200 (unfair competition) and § 17500 (false advertising), and breach of implied warranty and again seeks class certification. On November 12, 2010, the Company filed it a motion to dismiss all claims and a motion to strike certain claims. On December 28, 2010, the Court denied the Company’s motion to dismiss. The plaintiff, on behalf of the class, seeks injunctive relief, restitution, disgorgement, punitive damages, and attorneys’ fees in unspecified amounts. The parties are currently engaged in discovery. On March 3, 2011, the plaintiff filed a motion for class certification. The Company is currently preparing its opposition to class certification. The parties have scheduled a mediation hearing for March 29, 2011 to address all claims. There can be no guarantee of the possible outcome of the mediation between the parties, and there may or may not be a resolution of the above matters as a result of the mediation. The Company believes that it has substantial legal and factual defenses to these claims and intends to defend its interests vigorously.
We cannot at this time predict the outcome of this case nor estimate the possible loss or range of loss, if any, we could incur if there was an unfavorable outcome with respect to this litigation.
New York Litigation
On October 13, 2010, a suit was filed by G.L.M. Security & Sound, Inc. against LoJack Corporation in United States District Court for the Eastern District of New York alleging breach of contract, misrepresentation, violation of the NY franchise law, and price discrimination. Plaintiff seeks damages of $10,000,000, punitive damages, interest and attorneys fees, and treble damages. On December 14, 2010, the Company filed a motion to dismiss all claims. On February 1, 2011, the plaintiff filed a motion to amend the complaint and sought to add a claim for breach of fiduciary duty. On February 15, 2011, the Company filed its opposition to the motion to amend and sought dismiss of all claims. The Company believes that it has substantial legal and factual defenses to these claims and intends to defend its interests vigorously.
Given the early stages of this matter, we cannot predict the outcome of the case nor estimate the possible loss or range of loss, if any, we could incur if there was an unfavorable outcome with respect to this litigation.
11.
EMPLOYEE BENEFIT PLANS
We have a profit sharing plan with a Section 401(k) feature to provide retirement benefits covering substantially all of our full-time domestic employees. Under the provisions of the plan, employees are eligible to contribute a portion of their compensation within certain limitations as established by the plan and the Internal Revenue Code. On March 26, 2009, our Board of Directors amended the Company’s 401(k) Plan to make the Company’s match of employee contributions discretionary on the part of the Company. Pursuant to that authority, as of such date, we suspended all matching contributions for the year ended December 31, 2009. Our Board of Directors elected to match 50% of employee contributions (100% of employee contributions for those individuals with more than five years of service) up to a maximum of 6% of the participants’ compensation, for the years ended December 31, 2010 and 2008, subject to certain limitations. Company contributions become fully vested after five years of continuous service. Company contributions related to the plan were approximately $1,022,000 and $1,365,000 for the years ended December 31, 2010 and 2008, respectively.
We also maintain a nonqualified deferred compensation plan for the benefit of our key employees. The plan allows for eligible employees to defer a percentage of their total cash compensation. We typically match 50% of employee contributions (100% of employee contributions for those individuals with more than five years of service) up to a maximum of 6% of their total cash compensation. Company contributions become 100% vested three years
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
after contribution. We may also make discretionary contributions to the deferred compensation plan. On March 26, 2009, we suspended all matching contributions to the nonqualified deferred compensation plan for the remainder of the year ended December 31, 2009. Matching contributions to the nonqualified deferred compensation plan were not resumed during the year ended December 31, 2010. Prior to suspension of all matching contributions, Company contributions related to the plan were approximately $34,000 and $176,000 for the years ended December 31, 2009 and 2008, respectively.
Our investments associated with our nonqualified deferred compensation plan consist of mutual funds that are publicly traded and for which market prices are readily available. The investments of the deferred compensation plan are included in other assets at fair value. Investments related to the deferred compensation plan are classified as trading securities and reported at fair value with unrealized gains and losses included in other income (expense) in the consolidated statement of operations. The other income (expense) is offset in equal amounts by adjustments to compensation expense recognized and included in general and administrative expenses. Our investments in the deferred compensation plan are reported as long-term assets on our consolidated balance sheets. Our liabilities to the participants in the deferred compensation plan, which are equal to the fair value of the assets in the plan are reported as long-term accrued compensation on our consolidated balance sheet.
12.
BUSINESS SEGMENT AND GEOGRAPHIC INFORMATION
We have three separately managed and reported business segments: North America, International and All Other. The accounting policies of our segments are consistent with those policies described in Note 1.
Our North America segment includes our domestic operation which sells products that operate in all or a portion of 28 states and the District of Columbia, in the United States as well as Boomerang, a provider of stolen vehicle recovery products and services in Canada.
Our International segment sells products, licenses or owns and operates LoJack proprietary vehicle recovery technology in 32 countries and territories throughout Europe, Asia, Africa and Latin and South America and LoJack Italia.
In 2008 we acquired the assets of Locator Systems (now known as LoJack SafetyNet) and SCI, providers of technology for the tracking and rescue or recovery of people at risk of wandering and valuable cargo and business information, respectively. The financial statement impact of these businesses is included in the All Other segment below.
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The following table presents information about our operating segments for the years ended December 31, 2010, 2009 and 2008 (in thousands). Certain general overhead costs have been allocated to the North America and International segments based on methods considered to be reasonable by our management.
(1)
In the year ended December 31, 2009, we recognized a charge of $18,250,000 related to a legal settlement entered into with our former licensee in China. Based on management’s analysis, we allocated the settlement charge equally between LoJack Corporation, and LoJack Ireland, which are in our North America and International segments, respectively.
The following table presents information about our geographic revenue, based on the location of our customers, for the years ended December 31, 2010, 2009 and 2008 (in thousands):
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The following table presents information about our revenue, by product and service lines, for the years ended December 31, 2010, 2009 and 2008 (in thousands):
The following table presents information about our long-lived assets as of December 31, 2010 and 2009 (in thousands):
13.
UNAUDITED QUARTERLY RESULTS
Our unaudited quarterly results are summarized below (in thousands, except per share data):
LOJACK CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(1)
In the second quarter of 2010, we recorded a non-cash tax charge of $15,127,000 to establish a valuation allowance for our net U.S. deferred tax assets.
(2)
In the second quarter of 2009, we recognized a pre-tax impairment charge of $14,038,000, which did not receive a tax benefit.
(3)
In the third quarter of 2009, we recognized a pre-tax charge of $18,250,000, or $13,551,000 net of tax, in connection with the settlement of the litigation and arbitration between the parties, LoJack Corp, LoJack Ireland, and certain of their affiliates, and Kington Holdings Limited and certain of its affiliates.
(4)
In the fourth quarter of 2009, we recognized additional depreciation of $1,000,000 related to software and other equipment placed into service in prior periods.
ITEM 9
ITEM 9 -
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.
ITEM 9A
ITEM 9A -
CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
Our Chief Executive Officer and Chief Financial Officer (our principal executive officer and principal financial officer, respectively) have evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended) as of the end of the period covered by this Annual Report on Form 10-K. Based on this evaluation, our principal executive officer and principal financial officer have concluded that, as of the end of the period covered by this report, our disclosure controls and procedures were effective to ensure that the information required to be disclosed by us in this Annual Report on Form 10-K was recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.
Changes in Internal Control Over Financial Reporting
There were no significant changes in the our internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act) that occurred during the quarter ended December 31, 2010 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
Management’s Report on Internal Control Over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Rule 13a-15(f) under the Exchange Act. Our internal control system was designed to provide reasonable assurance to our management and board of directors regarding the preparation and fair presentation of financial reporting. All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation.
Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, we conducted an evaluation of the effectiveness of our internal control over financial reporting based on the framework in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on our evaluation under the framework in Internal Control - Integrated Framework, our management concluded that our internal control over financial reporting was effective as of December 31, 2010.
Our internal control over financial reporting was audited by KPMG LLP, an independent registered public accounting firm, as stated in their report appearing on page 48.
ITEM 9B
ITEM 9B -
OTHER INFORMATION
The Company and LoJack Ireland entered into an Agreement for Manufacture with Celestica Corporation, or Celestica, effective November 25, 2010, which provides for the terms under which Celestica will manufacture and LoJack will purchase LoJack units. The Agreement for Manufacture is attached hereto as Exhibit 10CC, with portions of the exhibit omitted pursuant to a request for confidential treatment.
PART III
ITEM 10
ITEM 10 -
DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
Code of Ethics
Our Amended and Restated Code of Business Conduct and Ethics, or the Code of Business Conduct and Ethics, applies to our directors, officers and employees. The Code of Business Conduct and Ethics is posted on our website, www.lojack.com, under the heading “ABOUT US”, then under the heading “Investor Relations”. Any waiver for directors or executive officers from a provision of the Code of Business Conduct and Ethics must be approved by our Board of Directors and shall be disclosed on a Form 8-K within four business days. Additionally, we intend to satisfy our disclosure requirement regarding any amendment to the Code of Business Conduct and Ethics by posting such information on our website within four business days.
Our website address is included in this Annual Report on Form 10-K as a textual reference only and the information in our website is not incorporated by reference into this Annual Report on Form 10-K.
See Item 1, Business - Executive Officers of the Registrant.
The remainder of the information required by this Item 10 is incorporated herein by reference to our definitive Proxy Statement for our Annual Meeting of Stockholders to be held May 20, 2011, or our definitive Proxy Statement, under the headings “Proposal No. 1 - Election of Directors,” “Corporate Governance” and “Security Ownership of Certain Beneficial Owners and Management Shareholders”.
ITEM 11
ITEM 11 -
EXECUTIVE COMPENSATION
The information required by this Item 11 is incorporated herein by reference to the information appearing in our definitive Proxy Statement under the headings “Executive Compensation” and “Compensation of Directors” and “Proposal No. 1 - Election of Directors.”
ITEM 12
ITEM 12 -
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
The information required by this Item 12 is incorporated herein by reference to the information appearing in our definitive Proxy Statement under the headings “Security Ownership of Certain Beneficial Owners and Management Shareholders” and “Securities Authorized For Issuance Under Equity Compensation Plans.”
ITEM 13
ITEM 13 -
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
The information required by this Item 13 is incorporated herein by reference to our definitive Proxy Statement under the headings “Policy Governing Related Person Transactions” and “Corporate Governance.”
ITEM 14
ITEM 14 -
PRINCIPAL ACCOUNTANT FEES AND SERVICES
The information required by this Item 14 is incorporated herein by reference to our definitive Proxy Statement under the heading “Auditors.”
PART IV
ITEM 15
ITEM 15 -
EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) Financial Statements
The following documents are filed as part of this annual report:
The financial statements and report of the independent registered public accounting firm required by this Item are included in Part II, Item 8.
(b) Exhibits
*
Indicates an exhibit which is filed herewith.
++
Indicates an exhibit which constitutes a management contract or compensatory plan or arrangement.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
LOJACK CORPORATION
(Registrant)
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacity and on the dates indicated.