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Audiovox Corporation (NASDAQ:VOXX)

Q1 2006 Earnings Conference Call

July 11, 2006 10:00 am ET

Executives

Glenn Wiener - Investor Relations

Patrick Lavelle - President and Chief Executive Officer

Michael Stoehr - Senior Vice President and Chief Financial Officer

Analysts

John Bucher - BMO Capital Markets

Presentation

Operator

Good morning ladies and gentlemen, and welcome to the Audiovox conference call. My name is Janelle and I will be your coordinator for today. (Operator Instructions).

I would now like to turn the presentation over to your host for today’s call, Mr. Glenn Wiener, Investor Relations. Please proceed, sir.

Glenn Wiener

Thank you and good morning. Welcome to Audiovox’s 2006 fiscal first quarter conference call for the period ended May 31, 2006. As the operator mentioned, today’s call is being webcast from the Company’s website www.audiovox.com, under the Investor Relations section, and a replay has been arranged for those who are unable to participate. The replay will be available approximately one hour after the completion of the call, or by dialing 888-286-8010 and entering passcode 62300820.

Fiscal first quarter results were released after market closed yesterday. If you have not received a copy of the announcement, you can obtain one by calling my office after the completion of this call, or by visiting the Company’s website. Additionally, our Form 10-Q was filed yesterday and can be found on our website under SEC filings.

Speaking for management this morning will be Patrick Lavelle; President and Chief Executive Officer, and Michael Stoehr; Senior Vice President and Chief Financial Officer. Both will make opening remarks before opening up the call for questions. Before getting started, I’ve been instructed by legal counsel to read the following Safe Harbor statements.

Except for historical information contained herein, statements made on today’s call and on today’s webcast that would constitute forward-looking statements may involve certain risks and uncertainties. All forward-looking statements made are based on currently available information and the Company assumes no responsibility to update any such forward-looking statements.

The following factors, among others, may cause actual results to differ materially from the results suggested in the forward-looking statements. These factors include, but are not limited to: risks that may result in changes in the Company's business operations; our ability to keep pace with technological advances; significant competition in the mobile and consumer electronics businesses; relationships with key suppliers and customers; quality and consumer acceptance of newly introduced products; market volatility; non-availability of products; excess inventory; price and product competition; new product introductions; the possibility that the review of our prior filings by the SEC may result in changes to our financial statements; and the possibility that stockholders or regulatory authorities may initiate proceedings against Audiovox and/or our officers and directors as a result of any numerous statements or other corporate actions.

Risk factors with our business, including some of the factors set forth herein, are detailed in the Company's Form 10-K for the period ended November 30, 2005 and in our Form 10-Q for the fiscal first quarter ended May 31, 2006.

Thank you again for your participation. At this time I’d like to introduce Patrick Lavelle, President and Chief Executive Officer of Audiovox.

Patrick Lavelle

Thank you, Glenn and good morning, everyone. I’d like to thank you for joining us on our first quarter conference call. I’ll begin today by providing a brief overview of our results thus far, and then give you an idea of what’s on tap for the remainder of the year. Mike will then provide more details on the financials before we open up the call for your questions.

As you saw from yesterday’s announcement, we reported net sales of $111.3 million, which on a sequential basis were up 8% over our last quarter, which was our transition period. Net income from continuing operations was $1.8 million, or $0.08 per diluted share, which was also up sequentially over the transitional quarter from a reported $400,000 or $0.02 per diluted share.

On a pro forma basis, taking into consideration extraordinary, one-time occurrences from the comparable period last year that included the unrealized gain on the sale of Bliss-Tel’s stock and a favorable tax benefit, net income from continuing operations was $1.8 million or $0.08 per diluted share, as compared to $1.2 million or $0.05 per diluted share in the same period.

Mobile Electronic sales came in at $83.1 million, and represented almost 75% of net sales versus 64.3% in the second quarter of ’05. Consumer sales were $28.2 million, or 25.4% of net sales, compared to 35.7% last year.

Our gross margin for the quarter was 18.1%, which compares to 15.8% in the second quarter of ’05, and 15.2% reported in the transition period last quarter. The increase in our gross profit margin was due to a number of factors, which I’ve discussed with you over the past few quarters.

Restoring margins to historical levels remains our number one priority. The shift in sales to higher Mobile Electronic products, which traditionally carries higher GP, and our decision to walk away from some consumer deals that did not meet our minimum profit requirements, have played a major role in increase of margins. With new product introductions scheduled throughout the remainder of the year, I feel confident in our ability to sustain and potentially improve upon these levels.

Mobile Electronics represented a larger percent of our mix, however ME sales did decline by roughly 10% versus the prior year period, primarily as a result of three factors: Lower sales in Satellite Radio, a slight decline in Jensen Mobile, and a decline in Mobile Video.

Satellite Radio sales continue to be impacted by selling prices that are roughly 50% lower than those we saw in the first half of 2005. In addition, we lost nearly all of May’s XM sales, as a result of a voluntary halt in shipments of our XM Xpress. Sales of this product remain suspended pending approval of the FCC.

As I’ve said before, we believe our strategic relationship with XM should position Satellite Radio as a growth category for us, as this new arrangement minimizes the effects of price erosion. The increase in XM sales will offset the results of our exit from the Sirius Plug and Play products.

Mobile sales for the quarter were also down due to slightly lower sales of Jensen products, which benefited last year from the initial load ins at major retailers as we reintroduced the line. Jensen Mobile is expected to remain one of our drivers this year as they continue to dominate the market in mobile multimedia.

Finally, our much publicized decision to exist the Video in a Bag business affected total Mobile Video sales when compared to the prior year. As a result of the discontinuance of that line, as well as the continued decline of SUV sales due to the rising cost of fuel, there is still softness in the Mobile Video market.

However, while our sales were off in this segment, our margins significantly improved with the introduction of some of our customized Headrests and Drop Down Solutions and have returned to historical levels. As I’ve said this before, Mobile Video will not be the sales driver of years past, but we still remain the market leader, and have innovative solutions that should provide steady income.

Lower consumer electronic sales, down by nearly 45%, were the primary reason for our decline in revenue for the quarter. This was driven by lower portable DVD sales as the market continues to be affected by price erosion and direct import arrangements by the large retailers.

Consistent with our decision to focus on returning to profitability, we chose to only entertain retail promotions that meet our minimum profit targets, which has impacted our top line sales. As this category continues to mature, we will pursue profitable sales programs and are negotiating license arrangements which will allow a continued revenue stream, free from negative market exposure.

Moving on to the remainder of the year, Audiovox today boasts a portfolio of respected brands like Jensen, Phase Linear, Acoustic Research, Advent, Code Alarm, and Terk in the US; and Magnate, Heco, and Mac Audio in Europe.

Having a diversified portfolio provides us with greater flexibility when presenting programs to target customers, and an opportunity to offset channel conflict at retail. Our distribution mix has changed from recent quarters in that this past quarter, 43% of our sales went to mass merchants and power retailers; 47% to the expediter, distributor and independent retailer channel; and 10% to original equipment manufacturers. Our distribution network is broad and no single account represents more than 10% of our sales, and no single product segment within the category is more than 10%.

As we look to the remainder of 2006, we believe that we will see improvement in our operating performance, which will ultimately lead to increased shareholder value.

Starting with Mobile Video, the market fluctuations are stabilizing, and margins in this category have improved substantially as we offer new, unique and customized solutions to the retailer. Now I expect this trend will continue. New Headrest Solutions started shipping in April, and our ’06 Overhead lineup began shipping in June.

Currently, we have over 40 different customized Headrest Solutions that match the vehicle interior as if it were factory installed. Our Overhead Solutions, our single and dual screens, also feature custom options to match any vehicle interior. These new products carry higher margins which are contributing to the better gross profits that we are generating.

According to NPD’s May 2006 report, Jensen Mobile Multimedia ranked number one for in-dash Mobile Multimedia Solutions in the United States. We believe we have a very competitive product line-up in ’06. Our units take advantage of converging technologies and bring together communications, navigation, and entertainment in one system. This year’s line up will incorporate MP3 and iPod features, as well as Satellite Radio. These units have higher average selling prices and carry better margins than the traditional head units that they replace.

In navigation, we plan to introduce three new portable GPS navigation systems later in the second half. These will compete with Garmin, TomTom, and Magellan. They will range in price from a suggested retail of $399 for the lower end model to approximately $599 for the Jensen model, which will have a key differentiator to the competition. It will double as an XM Plug and Play, and offer XM Real-time Traffic. It has built in MP3 and a personal media player. It accepts optional rear observations camera interface. It is virtually an all-in-one portable navigation and entertainment center, and a very unique system.

Turning to Satellite Radio, we expect our strategic relationship with XM to position us to be the number one supplier of XM Plug and Play products in the after market by the end of this fiscal year. Satellite Radio continues to be a strong component of our mobile electronic sales from Plug and Play to the new Mini XM Tuner, to XM Direct. We believe we have a strong line up of XM products.

In Collision Avoidance, we also expect to be the market leader. As I mentioned last quarter, we’re supporting Kids in Cars, a non-profit organization focused on drawing attention to Collision Avoidance products. We launched unique products this quarter that includes a wireless trailer hitch camera, the License Plate Camera System, and screens embedded in the rear view mirrors, all sold at major retailers. This is a growing category for us at healthy margins, and although a niche market, it should be a good profit generator in fiscal ’06.

Turning our attention to the other side of our business, Consumer Electronics, our Consumer Electronics business remains a strong, but volatile category. As I’ve cautioned in previous calls, we have been concerned with the trend in portable DVD sales that is marked by continued price erosion. During our transitional quarter conference call, I advised that we had passed on a number of retail promotions that did not meet profit minimums, and we would only entertain certain select deals. That trend continues, and this selectivity will result in lower sales in this category, that will impact our overall top line performance.

Of course we will continue to pursue profitable DVD sales, and plan to alter our business model for DVD by creating a balance between distribution sales and license income. I indicated earlier in the call that we have entered into certain license agreements with key manufacturers to generate income from portable DVD sales that is not subject to pricing volatility and inventory risk.

Flat panel TVs remain a contributor to our sales and our growth, though they too are affected by substantial price erosion. Our strategy in this category is to work with our regional retailers who have embraced Audiovox programs, given our select distribution and the profit opportunities that we offer them. We are selling a complete line up of LCD TVs from 15 inches to 47 inches, and two large size plasmas in 42 inch and 50 inch. Our ’06 line has just started shipping and should have a positive impact on our second half.

Home Décor under our Acoustic Research brand officially launched this past quarter. It is an industry first: a 5.1 high performance, high-end home theatre system, which marries sound with Home Décor. We’ve developed acoustically transparent covers that are specifically designed to only fit our speakers. The response has been terrific, but the roll out will be slow. We do not expect Home Décor to be a major revenue contributor to 2006 results, though they should have a positive impact on our gross margins.

Our cautious approach in this category in very much intentional. There are a wide variety of covers, and several different ways the program can be sold at retail. We are literally turning our retailers on one at a time and providing substantial assistance in helping them design in-store displays and merchandising, as well as develop the fulfillment programs that suit their particular needs. We believe customizing programs on a selective basis will minimize the risk, as well as assist us in managing our own inventory position. The margin potential on this line is strong and can accommodate this custom approach to marketing and still provide us with solid gross profits.

Now I’d like to spend just a few minutes to discuss our investment plans. Our financial strength positions us to focus on growth and we remain committed to an M&A strategy that targets companies where we can leverage the Audiovox infrastructure and distribution synergies. This will allow us to acquire companies that can be purchased at a discount and assimilate them into our infrastructure as we did with Jensen, Code and Terk.

That being said, a very accretive acquisition purchased at a premium would not be out of the question as our financial position does provide us with that flexibility. As I’ve said before, we remain very active on the M&A front.

Our second investment is in ourselves. As a result of the disparity between our share price and the Company’s book value, our Board of Directors has approved the repurchase of up to 2 million shares of our common stock, and we are preparing plans to initiate a buy back program. The shares will be purchased in open market transactions, or privately negotiated transactions at the Company’s discretion. Shares of the stock repurchase under the plan will be held as Treasury shares.

Summarizing our position at this time, all of the changes that we implemented over the past 12 to 18 months have begun to take effect in 2006. We are operating more efficiently as an organization. We’ve strengthened our talent pool at all levels, and our product portfolio is strong. We believe that we can show an improved profit picture in 2006, and will continue to focus on that goal.

We are watching the economy very closely, especially vehicle sales that tend to tie closely to our own sales, especially in the Mobile Electronics sector. Obviously, there is more work to be done -- and I think you all know the job is never really done -- but I am encouraged with our prospects and the balance of 2006.

Thank you for your time this morning and your support of the Company. I’d like to turn the call over to Michael to review the financials.

Michael Stoehr

Thanks, Pat. Good morning, everyone.

Consolidated sales for the first quarter were $111 million versus $144 million last year. Sales in our consumer group were $28.2 million versus $51.6 million last year. This decline was caused by lower sales in the portable DVD category which, as Pat mentioned, are the results of our avoiding certain retail promotions that are not profitable.

Sales in Mobile Electronics were $83.1 million versus $93 million last year. There were several factors affecting Mobile Electronic sales:

  • A reduction in the average selling price of XM Satellite product being sold this year versus last year;
  • The voluntary suspension of sales of the Audiovox XM Xpress;
  • Jensen Mobile sales were lower due to the absence of retail load ins that occurred last year;
  • Mobile Video sales declined as a result of the discontinuance of Video in a Bag products; and,
  • Lower SUV sales impacted by rising fuel costs.

Gross margins improved to 18.1% versus 15.8% last year. Margins also improved sequentially from 15.2% posted in the transitional quarter. Improvements in our gross margin were the result of:

  • Better sales pricing;
  • Less inventory charges;
  • Reversal of sales incentives; and
  • The introduction of new products.

These improvements were partially offset by increased freight costs as a result of higher energy prices.

As we mentioned in our previous conference call, new products are being introduced and shipped, which will continue to impact our gross margins for the quarters ahead. Additionally, as Mobile Electronics continues to represent a large percentage of our overall sales mix, it will be favorably impacted, since Mobile Electronics tends to have a higher gross margin than consumer products.

Overhead for the quarter was $20.1 million versus $22.2 million, a decrease of $2.1 million versus last year. This was a result of declines in selling expenses, which includes commissions in advertising; declines in our general and administrative expenses, such as office salaries, professional fees, provisions for doubtful accounts, and other overhead expenses.

Net income from continuing operations was $1.8 million or $0.08 a share compared to $5.8 million last year or $0.26 a share. On a pro forma basis, considering the impact last year of a favorable tax benefit and an unrealized gain from our Bliss-Tel investment, the net income from continuing operations was $0.05 a share for 2005 versus $0.08 a share for 2006.

The loss in the first quarter for discontinued operations is principally for legal costs associated with contingencies related to our discontinued businesses.

Interest and bank charges declined $178,000 due to the reduction in outstanding bank obligations in our foreign companies. Our joint venture, ASA had a good quarter, which resulted in an increase in our income and equity of undistributed earnings, as a result of stronger sales and better margins.

Other income declined principally as a result of less income from our Bliss-Tel investment as compared to last year. This was partially offset by higher interest income from our short-term investments as a result of increased cash balances and higher interest rates for our investments as compared to last year.

The effective tax rate for this quarter was 21%, which is principally due to the tax exempt interest income earned on our short-term investments.

Operating activities provided $19.3 million in cash versus a use of cash of $14.4 million last year. Our cash flow was favorably impacted by a decrease in accounts receivable balance, primarily as a result of lower sales and improved collections. Accounts receivable turns were approximately 5.1 this quarter versus 4.9 the prior year.

Our inventory balances also declined as a result of lower purchases and better turns. Inventory turns were 3.9 compared to 3.3 in prior years. This improvement is not a result of inventory markdown.

Our working capital this quarter was $342.4 million, which includes cash, cash equivalents and short-term investments of $194.2 million. This compares to our working capital of $340.6 million and cash and cash equivalents of $177.1 million at the end of the transitional quarter of February 28, 2006.

Thank you and I’m here to address any of your questions. Pat.

Patrick Lavelle

I’d like to open up the floor to any questions at this time.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions). Our first question comes from the line of John Bucher of BMO Capital Markets. Please proceed.

John Bucher - BMO Capital Markets

Thank you very much. Great job on the gross margin improvement. A couple of questions for you just on the financials and to see what we can do about getting some outlook from you all. In fiscal 2005, you did just under $540 million in revenues. Should we be expecting a flat fiscal 2006? Slightly up? Can you give us any idea on the top line?

Patrick Lavelle

Well John, we haven’t really given any guidance, but with the situation as I’ve indicated on DVD portables, we will see somewhat of a decline in our consumer sales for the year.

John Bucher - BMO Capital Markets

You had mentioned in your commentary, Patrick, you mentioned that you thought the gross profit margin levels were sustainable. In fact, there was possible improvement there throughout the year. Should we assume a couple hundred basis points? In the past you had consolidated electronics margins in the low 20% range in some quarters. Is that possible?

Patrick Lavelle

Within the Mobile group, that could be possible. In any one of the categories, there are areas for improvement. As you know, we don’t provide guidance on our gross profit at this time, but as new products roll out, it will impact our gross profit. We’ll update you at that point.

John Bucher - BMO Capital Markets

With respect to the Xpress units you mentioned, I think that those remain suspended for the time being. Had those units been shipping as you’d expected, as they were originally going to, what would have been the impact on your gross margin?

Patrick Lavelle

Again, I really couldn’t comment on that, but I don’t believe it would have been material for the quarter.

Michael Stoehr

That’s correct, Pat. John, this is Michael. It would not really have impacted the margins that we reported in the first quarter.

John Bucher - BMO Capital Markets

Then Michael, can you give us any outlook for operating expenses as a percentage of revenues for the second quarter on a sequential basis? Should we expect about the same there? Or on an absolute basis, however you want to handle that.

Michael Stoehr

I think what you’ll see, John, as we move into the quarters; there is still a degree of seasonality in the Company even though we’ve shifted the fiscal years. You would see as a percentage of sales, overhead would drop.

John Bucher - BMO Capital Markets

Then can you give any comment at all, Michael, on your expectations for the quarter that we’re in right now for the top line?

Michael Stoehr

At this point, John, as Pat said, we gave guidance at the transitional. If you follow the seasonality of the Company, normally you will see in our second and third quarter, which was the old third and fourth quarter; you should see some sequential growth in revenue.

John Bucher - BMO Capital Markets

Then just two other quick ones here. Patrick, I think you said that with respect to your strategic M&A plan, you could purchase a company or companies that are premium if they were accretive. Could you elaborate on that?

Patrick Lavelle

Obviously, based on the purchase price, if we can find a company and put a deal together, that would be accretive in the first year of operation, we would consider an acquisition of something like that.

John Bucher - BMO Capital Markets

Can you say whether you’re in active due diligence presently?

Patrick Lavelle

I couldn’t comment at this point.

John Bucher - BMO Capital Markets

Then Michael, last one for you. On inventory management, we’ve seen some improvement there. Can you say how far through the steps that you have previously described that you are going to be taking to improve inventory management from an MIS IT standpoint, and others? How far through that process are you?

Michael Stoehr

We’re about; I would say about 65% of the way through. The supply chain and change in management with the introduction of our new operations executive are coming together, and the system is now moving into the projection areas.

John Bucher - BMO Capital Markets

I’ll give somebody else a chance to ask questions here. Thank you very much for taking my questions.

Patrick Lavelle

Thank you, John.

Operator

At this time there are no audio questions.

Patrick Lavelle

If there are no more questions, I once again would like to thank you for spending time with us this morning, learning a little bit more about Audiovox and I hope you have a good day.

Operator

Thank you for your participation in today’s conference. This concludes our presentation. You may now disconnect. Have a wonderful day.

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