Harman International Industries, Incorporated Management Discusses Q4 2013 Results - Earnings Call Transcript

Aug. 6.13 | About: Harman International (HAR)

Harman International Industries, Incorporated (NYSE:HAR)

Q4 2013 Earnings Call

August 06, 2013 11:00 am ET

Executives

Sandra Rowland - Vice President of Investor Relations

Dinesh C. Paliwal - Chairman, Chief Executive Officer and President

Herbert K. Parker - Chief Financial Officer and Executive Vice President

Analysts

Adam Brooks - Sidoti & Company, LLC

David H. Lim - Wells Fargo Securities, LLC, Research Division

Ryan Brinkman - JP Morgan Chase & Co, Research Division

Ravi Shanker - Morgan Stanley, Research Division

Brian Arthur Johnson - Barclays Capital, Research Division

David Leiker - Robert W. Baird & Co. Incorporated, Research Division

Matthew T. Stover - Guggenheim Securities, LLC, Research Division

Operator

Ladies and gentlemen, thank you for standing by. Welcome to the HARMAN Fiscal 2013 Fourth Quarter and Full Year Earnings Call. [Operator Instructions] As a reminder, this conference is being recorded Tuesday, August 6, 2013.

I would now like to turn the conference over to Sandy Rowland, Vice President, Corporate Development and Investor Relations.

Sandra Rowland

Good morning, and thank you for joining the fourth quarter fiscal year 2013 investor call. I'm joined in Stanford today by Dinesh Paliwal, our Chairman, President and Chief Executive Officer; and by Herbert Parker, our Chief Financial Officer.

If you haven't done so already, I invite you to visit the Investors section of our website where you can download copies of our earnings release and the supporting slide presentation that we will be referencing today. Also, if you have not registered for our Investor Day, which we'll be holding in New York City on Thursday morning, please take a few minutes to do so. The registration link is also available on our website.

Before Dinesh and Herbert provide their remarks on the quarter, let me also remind you that certain statements during this conference call and question-and-answer session may be forward-looking statements as defined in the United States Private Securities Litigation Reform Act of 1995. These forward-looking statements are based on management's beliefs, assumptions and current expectations that are subject to a number of important risk factors and uncertainties, which are fully described in the press release that we issued this morning.

Now let me turn the call over to Dinesh.

Dinesh C. Paliwal

Thank you, Sandy and good morning, ladies and gentlemen. On our last conference call, we stated that we expected to complete fiscal 2013 with revenues at the mid- to high-end of our previously announced guidance range and we expected operating income and EBITDA to meet the high-end of our guidance ranges. We also stated that we expected to deliver $3 of earnings per share. I'm very pleased to report that the results we issued this morning exceeded all of those expectations.

We finished fiscal 2013 with revenue of $4.3 billion as all 3 of our divisions delivered revenues, exceeding the high-end of our updated guidance range. The upside on the top line resulted into stronger bottom line performance as we wrapped up the year with operating profit and EBITDA of $290 million and $413 million, respectively, and earnings per share of $3.07.

When I look at the fourth quarter, we grew our revenue by approximately 8% and our EBITDA by 19%, primarily as a result of the top line growth in all 3 of our divisions and our continued cost focus. The operating environment in Europe, particularly in the auto sector, remains challenging but we're beginning to see signs of stabilization. In its latest report, J.D. Powers stated that auto production in Western Europe declined only 3 percentage points compared to last year. This compares to double-digit percent decline in the prior 2 quarters.

Let me now take a closer look at our divisions and review some recent notable achievements. Let's start with our Infotainment Division, which is highlighted on Page 6 of our slide deck. HARMAN continues to be the global driving force for innovation in embedded Infotainment systems. Our best-in-class approach was recently acknowledged by the global research and consulting firm, Frost & Sullivan after a rigorous review, including interviews with several of our customers and users. Frost & Sullivan named us as Best Practices Honorary and presented HARMAN with its 2013 Award for Global Industrial Leadership for In-vehicle Infotainment. We're very pleased with that accomplishment and achievement. We're also seeing traction with the 5 new SOPs, that is start of production, that we launched this year with BMW, Mercedes-Benz, Chrysler/Fiat, Volkswagen and Harley-Davidson. As we expected, volumes are increasing and our Infotainment solutions are expanding across car line.

Now let's take a look at our Lifestyle Division. Highlights from the quarter are referenced on Slide 7 of the deck. We continue to build tremendous momentum with our home and multimedia product lines. We grew revenues 33% during the quarter for home and multimedia while maintaining all-time high single-digit profitability. Our home and multimedia products were recognized in Germany with 17 red dot design awards, more than any other competitor and that is also a new HARMAN record. Over 4,600 products from around the world were entered in this annual competition, which recognizes products judged best among their peers. In just 7 last months, our Lifestyle products have earned 39 international design and innovation awards from organizations like Red Dot, CES and other prestigious global organizations. These awards have tremendous marketing value by creating consumer stickiness and are helping us to expand channels in new markets.

In car audio, we received a significant new award from Volvo to provide branded audio across several of their car lines globally. We also secured new business with Chrysler to provide them with our HALOsonic sound management solutions on board 7 car lines globally.

Now turning to our Professional Division, featured on Slide 8 of the deck. We maintained our sector leadership and increased our penetration in the tooling and install market during the quarter. In the developed markets, our Professional solutions were again featured at high-profile events like the Tony Awards, Rock and Roll Hall of Fame awards. Paul McCartney, Rolling Stones and Brad Paisley also used HARMAN's solutions on their tours. We won the business to outfit Madison Square Garden theater, Pepsi Stadium in Denver and Levi’s Stadium, the new home for the San Francisco 49ers. In addition, we were awarded contracts with Amtrak and MGM hotels worldwide for our IDX integrated audio and video information delivery system. Let me remind all of you, IDX is a new addition to our Pro Division. This is a highly software applications driven system and its a glue, which brings a lot of our products together and it's a very high-margin business, which is creating massive differentiation in the marketplace. Our focus on the emerging markets continues to yield results. We're pleased to announce that we have been awarded 2 additional FIFA World Cup Stadiums, bringing the HARMAN total to 8 new stadiums in Brazil. The 2 new stadiums will be fitted with full suite of our leading audio products, including our IDX integrated audio and video information delivery system.

Before I turn the call over to our CFO, Herbert Parker, I wanted to spend a few minutes to -- a few moments to recap and reflect on fiscal '13. While the slowdown in European auto production was a challenge, particularly in our fiscal second quarter, overall, fiscal 2013 was a successful year for HARMAN. We executed in all of our strategic pillars and expanded our technology leadership. This year, we added close to 500 new patents to our intellectual property portfolio, which gives us a patent count approaching 5,000. It is important to note that our intellectual property portfolio has grown and grown rapidly in the last few years. We filed approximately 3,100 patent applications over the last 5 fiscal years and we are rapidly incorporating these cutting-edge innovations into our products. This is helping us add customers and new awards to our backlog, including 3 new competitive replacement wins for Infotainment. And I'll also tell you, with such large and very young patent portfolio, it also will allow flexibility for HARMAN to license, cross license and even monetize some of our patents and you should expect some of those initiatives in coming years. We will discuss our new wins, which I will highlighted on our Investor Day on Thursday.

We have taken actions this year to continue to improve our global footprint and cost structure. We have completed the restructuring actions that we announced halfway through our fiscal year and eliminated more than 500 positions in high-cost countries. We have also divested a manufacturing facility in Germany, which further reduced 430 positions. So if you put them together, that's 930 jobs reduced in high-cost countries.

On our third quarter call, I mentioned we added a fifth strategic growth pillar, that is diversification of our portfolio. We have made good progress already with the acquisition of Martin Professional Light -- Lighting company, which expanded our product line in the Professional Division to include lighting. We also launched our automotive services business to reduce the cyclicity and give us a secular growth, which is also very profitable. On the financial front, we retired our outstanding note with KKR and expanded our revolving credit facility. This was followed by an upgrade of our credit rating to investment grade by both Standard & Poor and Moody's. We doubled our dividend in fiscal '13 from $0.30 to $0.60 and have announced doubling our 2014 dividend from $0.60 to $1.20. At the same time, we announced a second tranche to our share buyback program, which increases our outstanding authorization to $270 million. We are pleased that HARMAN's strong financial foundation and free cash flow allows us to simultaneously invest in organic and external growth opportunities. At the same time, we are implementing even more shareholder-friendly capital return program with increased dividend and share repurchase. Herbert will give you additional details.

Thank you for your continued support. I look forward to meeting with you on Thursday when we will outline our long-term strategy in more detail and share with you our financial targets for fiscal year 2014, as well as our long-term outlook. I will now ask Herbert to give you a closer look at our fourth quarter performance.

Herbert K. Parker

Thank you, Dinesh, and good morning, everyone. First, let me walk you through a few of our financial highlights for the quarter. As usual, most of our financial comments are provided on a non-GAAP basis, which basically excludes restructuring costs and other non-recurring items. The reconciliation of our GAAP to non-GAAP results is included in the press release issued this morning.

Okay, starting with the top line. Our revenues in the quarter were $1,182,000,000 an increase of 8% compared to the prior year and I'd like to note that our revenues grew in all 3 divisions. Specifically, revenues in our Infotainment Division were up 4% as our recent SOP launches started to gain traction and gain -- and expand across car lines. Revenues in our Lifestyle Division increased by 5% as we continue to see strong sales growth in our home and multimedia product lines but this strong growth was partially offset by weakness in our car audio business. Revenue in our Professional Division was up 28% due to the expansion of our product portfolio into lighting, which was enabled by our recent Martin acquisition. We also had growth due to strong demand for our audio products in emerging markets.

At the total company level, our gross profit in the quarter was 26.7% compared to 27.4% in the prior year. This reduction was primarily due to lower margins in our Infotainment Division and Lifestyle Divisions, partially offset by stronger margins in our Professional Division. Our Infotainment Division's gross profit declined 170 basis points, primarily due to lower operating leverage as a result of lower production volumes in Europe and higher warranty costs. In the Lifestyle Division, gross profit declined 250 basis points compared to the prior year. This was primarily due to lower operating leverage in car audio as a result of lower volumes. In the Professional Division, gross profit increased by 320 basis points compared to the prior year due to higher margin, new product introductions and productivity initiatives.

Our SG&A expense decreased 170 basis points primarily due to increased operating leverage. Our consolidated operating income on a non-GAAP basis was $87 million compared to $70 million in the prior year. Our net income was $63 million in the quarter or $0.91 per share compared to $48 million or $0.67 per share in the prior year.

We continue to take actions that will shift our global footprint to best-cost countries. We recorded restructuring and nonrecurring charges of $72 million this quarter at the operating income level. This includes the charges related to a sale of our manufacturing site in Germany and an accrual for potential customs duties related to prior years. This was partially offset by the release of contingent consideration related to the acquisitions of MWM Acoustics. The charges related to the manufacturing site in Germany resulted in the elimination of 430 positions. We will gradually transfer the production of this site to our operation in Hungary and we will realize savings from this transaction over time. Also, I'd like to note that we did achieve our target to eliminate 500 positions in high-cost countries and we are on track to deliver $35 million in annual savings from these programs from fiscal year 2014 and beyond.

As previously mentioned by Dinesh, we recently announced that we increased our share buyback authorization by $200 million. This brings the total outstanding authorization to $270 million. We plan to complete the buyback within this fiscal year.

Thank you, and we are now ready to take your questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from Adam Brooks with Sidoti & Company.

Adam Brooks - Sidoti & Company, LLC

Just a few quick questions here. Just wanted to start on China. Can you give us a sense of how demand has been trending in recent months and I know you've been ramping up a lot of business there. Can you just give us some color on how the ramp up have gone so far?

Dinesh C. Paliwal

Adam, thanks. HARMAN had a little slow down last year in auto sector, as you witnessed, across the industry and we also noticed that. So China did not keep up with our growth expectation last year. However, we have grown in China just in 5 years from $25 million to $500 million in 4 years. So we are starting to see on a monthly basis, some improvement especially after the Chinese new presidential leadership and macroeconomic policy adjustments. We expect fiscal '14 to be a growth year for us and we are counting 2x the China GDP growth in fiscal '14.

Adam Brooks - Sidoti & Company, LLC

Sure. And can we go to maybe the Infotainment margin for a second? Two things kind of stuck out, the gross margin was a bit light, so maybe can you speak a little more to that? And then on the operating side, it's very solid. It seems like monetizing change orders is sticking. So can you maybe speak to both of those?

Herbert K. Parker

This is Herbert. Yes, as we've said in the earnings release, we've a lower cost in Europe than we've had in the prior year. So you can imagine, we still have the cost base there. Now you know we've taken actions to reduce this cost in Europe. We're getting good traction in North America and in other places from our new SOPs especially scalable and also in addition to the cost base that we have now higher, we had a higher warranty cost. And finally, we continue to move our cost base to best-cost countries but at the same time, we have a little bit of an overlap of some people that are still in Europe until we can get the reductions that we have announced now.

Adam Brooks - Sidoti & Company, LLC

So -- and then just maybe on the operating line as far as the stickiness of monetizing the changeovers and recovering some of those engineering costs.

Dinesh C. Paliwal

Yes, sure. Adam, as you heard me in the last couple of quarters, I'm actually very firm in going after and not only reimbursing some of the R&D earlier but also actually pushing our customers to realize that there's a different way of doing business going forward, which means most of the new contracts we have entered in, you would expect us, and I expect us, to recover all of our R&D for the development prior to we start shipping. That day will improve our cash flow, also improve our profitability early in the years. That's 1 second. On change orders is a whole new world now as my executive committee colleague, David Slump, has undertaken the service business under his wings and you should expect our changed auto business to be proactively driven and managed. And this business can have 70%, 80% profitability. So last year, in fiscal '13, we only booked $40 million for that business. And then next year, we'll obviously invest in more infrastructure and putting more sales people and also putting some processes and productizing things. So you should expect that business to grow and improve our overall profitability in Infotainment since we will only report division level profitability and not break out the services. So you'll see improvement in Infotainment profitability.

Adam Brooks - Sidoti & Company, LLC

Great. And then just one more question before I hop back in the queue. Can you give us an update on scalable branded audio?

Dinesh C. Paliwal

Sure. Scalable branded audio is basically a page from our playbook for what we did in Infotainment and that has been another success. The revenue we are taking from scalable platform is in double digits. Now I can say confidently. Initially, I used to say 9 to 11. So car audio has been sort of left alone for all these years because it's a good solid, business, does not have the same vulnerability as Infotainment and it's always been producing mid-teens profitability. So we tend to sort of ignore those and not pay as much attention. And now, I turned an absolute laser-focused eye. We not only -- we took restructuring, you heard us say $35 million restructuring last year, $23 million of that came from Lifestyle and $20 million of that straight into car audio. So that you will see as profit improvement in fiscal '14 and a scalable solution will allow us to not only take cost out for the existing shipment but also, it will improve our possibility to jack up the penetration rate and also winning new contracts where we would otherwise not even bid for because they would not meet our profitability requirements. So scalable will actually expand the scope. Let's say, before, we were doing only 12 channels, 12 speaker systems. Now we have solutions for 8, for 6 and 4 and is still maintaining the profitability. And many of the scalable solutions will also be going through David Slump's car audio service business. So that's the new channel for the existing captive HARMAN client base of some 25 million cars out there, which have HARMAN Infotainment audio but they don't have the current technology. So I think scalable will also help us, our service business to grow.

Operator

The next question comes from David Lim with Wells Fargo Securities.

David H. Lim - Wells Fargo Securities, LLC, Research Division

So the question I have is on Lifestyle. I was wondering 1 of 2 things. Can you sort of parse out what was the home entertainment revenue for this quarter? And also, relative to what we are expecting, production was really good in the quarter, better than expected in both North America, as well as Europe and we were sort of anticipating a higher Lifestyle performance from you guys. Can you sort of parse out what may have happened?

Dinesh C. Paliwal

We can. I mean, we just stopped giving actually revenue at the BU level. So that's a business unit home and multimedia and business unit car audio. As you know, you guys know, you used to track us so our home and multimedia is close to $500 million business, give and take, and that business actually grew for the full year at 23% and achieved record high 8% profitability. And we, obviously, and our peers, expect this business to be around $1 billion and at 10% EBIT margin profitability, which is fantastic in terms of return on investment, if it does not have any capital, does not have factory investments, ROI would pretty decent on this business. Car audio, actually, did perform well with the exception of top line. And it's bottom line came in pretty darn good. It did deliver where we expected it to be for the full year. You saw car audio was about 14% profitability. That's almost 100 basis point improvement over last year. I'm pleased with that but we're not done yet. I'd like to see this business do -- add another 100 basis points on an annual basis year after year. And that would come in with the restructuring, which we just completed. So that would add $20 million to the bottom line just in car audio. On top of that, we have a scalable design-to-cost concept coming in and also, some more pruning of the cost without really taking further people out. As I said, designed to cost is one and channel expansion, that will also help. So all in all, although we talk about mix issue as home and multimedia grows, that reduced division line of profitability but we are happy about it because 8% EBIT margin is better than the company's weighted average margin so it helps the EPS line anyhow. So, Herbert, anything else you want to add?

Herbert K. Parker

No, that's pretty much it. Car audio -- just keep in mind, the large orders we took in fiscal year '13 with car audio and you'll start to see those pay dividends in '14 to a small degree but in a big way in fiscal year '15.

David H. Lim - Wells Fargo Securities, LLC, Research Division

Do see any kind of situation with, maybe, the content build or mix issue within automotive production where it may have slanted towards more of the small cars versus more of the midrange and premium cars?

Dinesh C. Paliwal

We showed, David -- good observation. In fact, we saw a couple of things, which, hopefully are now being corrected. One, between 3 or 4 car companies, 1 from Korea, 1 from Japan and a couple here, there was sort of a race going on who wins the year end market share as the largest car company. And there was some decontenting was witnessed at certain trim levels but that was one thing. At the same time, when we addressed, when we talked to the global product planners, they said, look, this was more like a quarterly push from the corporate. The direction is to have more and more audio pushed in because that's also required, more like demanded by the users. Second point I'll make, with this yen depreciation, a lot of people are asking me the question, what does that mean. I said, to me, it's actually pretty good because Japanese companies, even in the past, have exercised very good discipline not to dump the car prices to win market share but what we expect them to do with the end going in their favor, to add more content, more Infotainment and more audio. So that should actually play out for us in case of Subaru, which is our audio customer and also Toyota, which is our audio and Infotainment customer. So we expect actually take risk to improve in audio during fiscal '14 and continue to improve in '15, '16 and we'll give you a bit more color when you speak to the division president on Thursday.

David H. Lim - Wells Fargo Securities, LLC, Research Division

Excellent. My last question before I hop back into the queue is warranty accruals on your balance sheet. Saw that take us sort of a notch up. Can you sort of explain what may be going on there?

Herbert K. Parker

Yes, David, it's sort of in line with our SOP launches. We've launched quite a few new ones, big ones especially when it comes to the customs-type business even though it's higher margin, it still has a warranty risk than the scalable business. So basically, we talked about the launches you've heard. Dinesh talked about Mercedes, BMW, so it's primarily related to that.

Operator

The next question comes from Ryan Brinkman with JPMorgan.

Ryan Brinkman - JP Morgan Chase & Co, Research Division

Okay, so first, just a housekeeping question. Can you help us to better understand what led to the higher foreign currency losses during the quarter and also, that miscellaneous expense that was also called out in order to just better gauge if there's anything of a one-time-ish nature running through either of those lines?

Herbert K. Parker

Yes. Basically, the -- out of the $8 million you seen on the financial net, $6 million related to what we had as available-for-sale security, which are related to prior deals that we deemed as an immaterial matter, as a noncurrent item -- recurring item, that's what that primarily relates to.

Ryan Brinkman - JP Morgan Chase & Co, Research Division

Sure. And the excess of that, the other miscellaneous expense?

Herbert K. Parker

Just higher volatility in our -- in the [indiscernible] rates so hedging rates were higher, the hedging cost, the cost.

Ryan Brinkman - JP Morgan Chase & Co, Research Division

Okay, great. And then, obviously, the Infotainment Division results were very respectable but the greatest difference versus our model was actually on the Professional side. So can you help us with the strength in the quarter there? Was there anything during the quarter, which contributed to stronger margins at Professional that might not repeat going forward? And then just more generally, I had thought that maybe there would be some margin dilution in Professional post the Martin Professional acquisition but in fact, the margins there were also the strongest level in a couple of years. So anything you'd just say that would help us understand what's going on over there and how we should think about modeling it going forward.

Dinesh C. Paliwal

Ryan, this is a business, which consistently, year after year, I'd say is our crown jewel, together with car audio. These are very high-profitable business and very sort of strong resilience even in economic can turn ups and downs. So what happened in Pro business, a couple of things happened. One, Europe recovery, especially in the broadcast business, that was very helpful and broadcast business that's our world leading brand called Studer, which is a very high-margins business. It's a system business. When we start to sell more of those units, that really improves and we are seeing that demand in our sort of quotation activity spreading over the next 9 to 12 months. So I expect that to continue, number one. Number two, you asked the question, lighting. With lighting, even the margin held up and did not get diluted all partly to do with the Pro audio business actually not only had a good quarter but also their cost management across the board was pretty good. They've gone direct channels in India, there've gone direct channels in Brazil, that improves the margin. Plus every year they launch some 30, 40 brand-new products. That's sustainable. The brand-new products always have the very high contribution margin and also falls through the bottom line. This business, count on it, this business will continue to improve year-over-year. That's the strong confidence I have seeing what I've seen in the product portfolio. And also, lighting synergy will also come in as we have said and more to come on Thursday, when you will hear from our President, Blake Augsburger, to tell you how he sees and what he sees.

Ryan Brinkman - JP Morgan Chase & Co, Research Division

Okay, great. I'm looking forward to that. And then just a very last question. In the release, you mentioned, I think it was a full year 2013 comment or -- that you've now signed up 10 automakers to offer your Aha by HARMAN service. And I know this includes a couple of automakers at least with which you have traditionally done little or no Infotainment business and I know that you currently do good audio business with some automakers that you don't do much Infotainment business with. But given that Aha is really more about Infotainment system than the radio, I'm curious if you see more potential to capitalize upon these new business relationships you're forging on the Aha side in terms of selling more integrated Infotainment systems with these automakers in the future.

Dinesh C. Paliwal

Sure. It's is a great question. When we acquired Aha, our intent was to give us access to the cloud so that we can bring live content without worrying about what the source is today. It might be tomorrow very different. Like Facebook today and MySpace was 5 years ago, it doesn't matter. So we bring in content. So Aha has gone into 10 car platforms and many of these actually are not even current HARMAN customers but they will soon be because based on what I hear. In time, what Aha has evolved in, it was a radio, that means it brought all the information that is a podcast, or a television show or live traffic advisory or weather forecast, brought to you through audio as a radio. And now, it has access to 20,000 radio stations worldwide free of cost. It is becoming pretty big. This Aha would also be part of our services business, very big way. Aha, as a license, we can put it together as a standard module software and hardware and David will be able to sell it to cars, which are 1 year, 2 years, 3 years or 5 year old and give them what Aha is giving to the new car, new generation. So you should expect Aha to drive even forward and it's almost becoming a standard part. I mean, it's part of the Chrysler offering, it's part of the Porsche in Germany, it's part of a Fiat offering, it's part of Subaru, it's part of Honda. Honda Link is all about Aha, Toyota. So we are excited about it. That was a small acquisition we made in Palo Alto that has grown into some 70-plus developers and scientists in the Palo Alto lab and it's doing well for us.

Operator

The next question comes from Ravi Shanker with Morgan Stanley.

Ravi Shanker - Morgan Stanley, Research Division

So a question on the SG&A. Herbert, you said that operating leverage hurt you on the gross profit line but aided you on the SG&A line. Can you just get into a little more detail there as to what drove your SG&A to the sales level at a pretty low run rate versus what you've been doing in the last few quarters?

Herbert K. Parker

Ravi, it's pretty much in line with most quarters. If you look at it sequentially but year-over-year the R&D is one of the big factors that we've had and that's been in line with our strategy. And also, I'd just like to point out that one of the things we talked about with the scalable system, even though it has decent gross margins, one of our big benefits to the scalable is the engineering and line items below that, coupled with the engineering structural change that we've done, we're getting more reimbursements.

Ravi Shanker - Morgan Stanley, Research Division

Okay. So can you clarify what R&D was in the quarter and what's the run rate, you expect it to be?

Herbert K. Parker

Yes. The R&D we had for Infotainment was $47 million versus $58 million last year; Lifestyle, $14 million versus $16 million; Professional, $10 million versus $7 million; and a company level, of course, it's corporate there, $73 million versus $84 million at the company level.

Ravi Shanker - Morgan Stanley, Research Division

Okay. And in terms of the run rate, do you think a low $70 million level is sustainable or do you think it goes back up to, I don't know, mid $80 million or something as percentage of sales?

Herbert K. Parker

On an annual basis, we're probably looking around 7% for the company level. I mean, we have a goal to ultimately get closer to 6% but that won't happen within the next year.

Ravi Shanker - Morgan Stanley, Research Division

Got it. And the last question I had for you was the -- you'd mentioned a special item in terms of the accrual or reserve for customs over the last several years. Can you just go into that in a little more detail and tell us exactly what's going on there?

Herbert K. Parker

Okay, let me talk about the cost position. First of all, let me just describe it. This is not related to fiscal year '13. It's only related to transactions recorded in the prior years -- fiscal year '08 through '12. Now I'll just describe it a little bit to you because it is new. For the materials imported from our manufacturing facilities in Mexico, we declare that it qualified for the preferential NAFTA duty status. And we still believe that the majority of these transactions are being -- that are being assessed will qualify for these preferred rates. The regulations, however, require that imported materials must a have certification of origin on file when the goods cross the border or the importer is subject to higher duty taxes than they have paid. Now some of these certifications are not in good order and -- but is considered an administrative technicality. Custom has traditionally waived these type of administrative technicality once the company can prove that it qualified for the NAFTA duty status but just last week, just last week, U.S. Customs changed their practice and they're now requiring that the agents enforce their certification policy with 100% compliance. This stature still, however, will allow to reviewer the option of a waiver or exemption, which we still believe is possible. So what we've done, we approved the $27 million for this matter but in event that we end up having to pay these duties, we will provide our audited case to the authorities and we will vigorously pursue all legal means to obtain a refund. And just for your further information, out of this $27 million, $21 million is related to the Lifestyle car audio division and $6 million is related to the Professional Division.

Ravi Shanker - Morgan Stanley, Research Division

Got it. And the reason it doesn't apply in 2013 is because the products are now appropriately labeled?

Herbert K. Parker

No, '13, we've -- yes, we've done everything correctly in fiscal year '13. We have all the certificates on hand, as well as we've taken the right resumptions.

Operator

The next question comes from Brian Johnson with Barclays.

Brian Arthur Johnson - Barclays Capital, Research Division

In your Infotainment Division, can you give us some color on growth of or lack of growth in high-end Infotainment of the custom variety, high-end scalable and midrange scalable, in particular since another competitor, Delphi, had somewhat softer results in one segment, which they ascribed to lower penetration of higher ended Infotainment systems.

Dinesh C. Paliwal

This is Dinesh. With the exception of overall European sort of lightness, we did not see any trend which would indicate to what you referred. We're seeing the similar takeaways on the high-end platform around the world and even with Europe now stabilizing, production releases we are getting from our customers in Europe are pretty much in line with what we had forecasted. So that's that clarification. Then come to scalable platform, that actually has higher penetration rate to begin with and also has -- when we booked this business in our backlog, we actually set it between 9% and 11% EBIT margin and now, we are starting to see revenue coming in from a number of customers, which is starting to ramp up is actually in double digits period. So very encouraged with scalable to continue to grow, however, the reality of life is that there'll always be some custom business, which we'll keep pushing for the higher margins, otherwise we will walk or we'll push the scalable. Our goal is to push Infotainment business soon in double-digit profitability and we are actually going in that direction pretty clearly now.

Brian Arthur Johnson - Barclays Capital, Research Division

And within the scalable, is there any difference in take rates versus your expectations at the upper end of scalables, say with embedded nav [ph] and then midrange scalable?

Dinesh C. Paliwal

It's -- so far, we have only shipped all the mid segment cars and a little bit of the high-end and that seems to be pretty much in line with what we had thought. This segment has higher growth potential because of the price, the scalable is so competitive that they are able to put in more cost and to provide some higher profitability and we expect, Brian, this strength to continue. All the tapered [ph] improvement we're expecting will come from a segment of the car, high segment where we are very strong already, that's pretty saturated to begin with. We're talking 90% to 100% penetration at the Mercedes S-Class, which we just rolled out; BMW 7 Series, which we just rolled out; our Audi A8 and others. So there, we have pretty high. So mid would give us the penetration rate and that would also result into top line growth.

Brian Arthur Johnson - Barclays Capital, Research Division

Right. On the mid range systems. And I guess, related to that, are you seeing as you kind of look, and maybe it's too early, at model year 2014 OEM showroom pricing especially both in the midrange systems and then over in branded audio, any greater competitiveness with the OEMs in terms of having a more reasonable market, shall we say, branded audio or midrange Infotainment? And if so, is that good news for HARMAN in terms of potential for take rates and penetration or bad news in terms of them coming back and looking for a lower wholesale price?

Dinesh C. Paliwal

I think it's a good news because first of all, the backlog, which you will hear on Thursday, I'm holding my enthusiasm till Thursday, you're going to hear some good news, but we've been very successful winning more business, including customers who we never had before and some of the customers actually never had branded audio. They're going first time because they're realizing that brand means a lot to a user when they walk in the dealership and that's where I would make a connection, Brian, that selling successfully, home and multimedia is the real ultimate tool to build a brand. That's where we build the brand and that will bring more consumers to the dealership and asking for branded audio. So with that said, I'll answer your question, it's about bundling. At mid segment, do we have an opportunity to bundle Infotainment and car audio? We sure do but not necessarily we have such a huge influence to influence the product planners in the car companies how to bundle. But I think they're starting to see with the brand recognition emerging and with the price competitiveness of scalable Infotainment and a scalable car audio, I think that would be so difficult for them to pass. So looking at that, you will see again on Thursday, Brian, I see you're registered, I really hope you will get a lot more color on that on Thursday, which I'll hold now.

Operator

The next question comes from David Leiker with Baird.

David Leiker - Robert W. Baird & Co. Incorporated, Research Division

On the Professional side, Herbert, how much revenue was contributed by Martin, the acquisition, in the quarter?

Herbert K. Parker

Yes. Well, the growth without Martin is 4%, it's around $40 million, just a little over $40 million for Martin.

David Leiker - Robert W. Baird & Co. Incorporated, Research Division

$40 million. And then if -- does that part of the business -- is there anything like a backlog that you have there for new installations or anything that's worth talking about?

Dinesh C. Paliwal

In that $40 million, it's not worth talking about. This is a business of 3 months book and build typically. So this is good for inventory and very similar to our audio systems business, not much of a backlog. At most, you have 3 months of backlog.

David Leiker - Robert W. Baird & Co. Incorporated, Research Division

What about in other parts of the Professional business?

Dinesh C. Paliwal

Professional business will have some backlog in installed sound vertical, where we are packaging the whole thing, all the signal processing, amplification, loud speakers, IDX and now, of course, lighting. So big FIFA stadiums, those are the kind of thing, you get an order and you have 3 to 6 -- 3 months. Sometimes even longer than 3 months but not more than 3 to 6 months ever. But that part of our business has grown about 25%, 30% of the total Professional Division revenue.

David Leiker - Robert W. Baird & Co. Incorporated, Research Division

And that's the part of your business, if I recall correctly, in the last several quarters was weaker due to the economy. It sounds like it's doing better now.

Dinesh C. Paliwal

That is correct. Europe was slow, China was slow and the U.S. was sort of coming together. Put all those factors, people were sort of holding back, including, I mentioned earlier in the call that Middle East and Europe is very big for Studer's broadcasting business and that has come back with a lot of pent-up demand and we expect '14 to be a better year than '13.

David Leiker - Robert W. Baird & Co. Incorporated, Research Division

Okay. And then in the Lifestyle business, you've had a strong product flow in the home and multimedia space. What does that look like going forward?

Dinesh C. Paliwal

David, revenue have such high growth of 23%, we're very happy. I don't know whether we'll repeat that but we definitely will try to get there but my focus would be continue to build brand and that's where you guys should allow us to spend few more dollars on marketing because we've done a superb job and I could say we have earned the right from my investors that we can invest wisely without throwing hundreds of millions, which some of our competitors do and not get much out of it. We're very smart in investing but this will definitely -- this is connecting the dots, home and multimedia brand buildup is connecting the dot in car audio. So I'm going to drive double-digit growth in home and multimedia but push would be a whole 8% or more in profitability, that's the key.

David Leiker - Robert W. Baird & Co. Incorporated, Research Division

Okay. And then on the Infotainment side, you said that your scalable business -- you can say you're comfortably double digits on that, are those the programs -- is that the entire scalable platform or are those just the ones that you have launched 1.5 years, 2 years ago?

Dinesh C. Paliwal

So far, what we have launched but you can draw your conclusion. The revenue of scalable platform or the backlog of the scalable platform was booked between 9% and 11% but what we are seeing in our revenues stream is double-digit. I expect -- to be frank, I expect double-digit revenue EBIT margin in our scalable platform as we ramp it up.

David Leiker - Robert W. Baird & Co. Incorporated, Research Division

And then, are you -- it sounds like you're able to, in that the part of your business, to be able to take costs out in productivity gains to offset the price down. Is that the right way to be looking at that?

Dinesh C. Paliwal

I think that's the right way to look at it, David, because we are able to reuse quite a bit of our technology, which is the secret sauce. I mean, it's a very proprietary technology using some hybrid of open source and some of our own proprietary but we are able to reuse 60%, 65% from 1 customer to another customer and that really allows us to reduce the R&D. That's one big reason why Infotainment R&D, as a percent of sales, has come down and has more potential to come down.

David Leiker - Robert W. Baird & Co. Incorporated, Research Division

Okay. And then the last item year here. If we look at the launches, you had 5 OEMs you've launched with here in 2013. Some of those scaled in pretty late in the fiscal year that give us some tailwind going into the beginning part of your fiscal year. Is that the right way to look at that?

Dinesh C. Paliwal

Yes, that is true. That will be a tailwind but not all of them will ramp at the same pace. So if I put together Infotainment as a total division and also factor in Europe, which is a big part for us, Europe is finally stabilizing, I hope. I expect, let's say, Europe stays where they are, no growth in the first half or second half of '14, should see a little bit of a light towards the quality of growth and of course, scalable will also be ramping up more towards second half. That's more color on the '14.

Operator

The next question comes from Matt Stover with Guggenheim.

Matthew T. Stover - Guggenheim Securities, LLC, Research Division

Most of the questions have been asked. I just want to sort of delve into the scalable. I'm wondering if the proportion of revenues that the scalable business represented and Infotainment worked out to be about the quarter that you have been expecting coming into this year. So if the margins on the scalable business are coming in better on an operating margin basis, is there something offsetting that, that is causing the gross margin headwind? I guess, the B of that question is when should we expect for the proportion of scalable to represent a significant amount of -- enough of overall business then it starts to drive the gross margin higher?

Dinesh C. Paliwal

That's a great question. Let me give you a little color on it. First of all, in fiscal '13, only 1 quarter of our division revenue came from high margin scalable. Others came from single-digit revenue-based custom business. And going forward, in fiscal '14, which you've already seen, we have said nearly half of our division revenue in '14 will come from scalable. So that gives you a starting point double-digit margin whether it's 10, 11 or whatever. That's good starting point but the rest of the business, which is other half of the division revenue will come from single-digit. So even there, now you have to put one additional dimension. More successful we are, winning more jobs, more R&D we have to start almost immediately. And that's where you need to listen to us on Thursday to see what jobs we have won, which of those are scalable, which of the recent wins are not scalable. So if I were to do a private equity kind of around that, stop taking new business, I can give you double-digit operating margin actually with the next 12 months. But I then I have to stop investing in R&D and call it forward planning, forward loading for that loading I will invest in R&D. I will see a return 2 years out, but that would be not such a smart thing to do. So more business we are winning, we are immediately starting with the customers but no revenue gains. So if you were to do a walk and say, okay, half of the business coming from double digit, other half coming from, let's say, mid- to high-single digits and what is your offset, this is your R&D and that's where your resulting EBIT margin comes in. That's how it works. So eventually, what would happen, more and more scalable approach will take hold because that is the winning approach and we are seeing it. We're winning ton of business on that and more and more software we are putting in our system and more and more integration we are doing, which is sort of reusable and actually margins and software are improving and will continue to improve and service will bring in double-digit operating margin and as service revenue start to pick up, that would also offset some of the R&D investment we make in the systems upfront. So once that is in play and is probably 2 years out, now we're in a pretty much in a game where you have double-digit and you will not go down below double-digit.

Matthew T. Stover - Guggenheim Securities, LLC, Research Division

So if I think arithmetically next year, we should expect to see gross margin improvement and then you'll have to reinvest some R&D to give you guys a significant backlog developing and you just need to program expenses to go along with that. Is that the right way to think about the margin?

Dinesh C. Paliwal

I think it's the right way to think about it but then, if I tell you more, then my division friends will be mad at me because they are holding their thunder. So Thursday, you will hear more on it but I'll tell you, the right way to think about for Paliwal is operating margin. I mean, I like GM discussion, gross margin, but I really care for what do you guys care as operating margin. The scalable may not have the highest gross margin upfront but EBIT margin is significantly higher because of the R&D cost. So you will hear more detail from our division president, Sachin Lawande, on that, what is he thinking. Just to give you a little positive sight, yes, you should see improvement for sure. But how much and where it will come from, you'll see it on Thursday.

Matthew T. Stover - Guggenheim Securities, LLC, Research Division

Okay. And then the last -- just clarification. Herbert, when you were walking through the discussion, did you suggest that there was a recovery in the R&D or no? This was a pretty normal quarter from that standpoint?

Herbert K. Parker

The answer is yes to both. I mean, it is a recovery and it is normal. That's what we've been doing for the last 3 quarters.

Matthew T. Stover - Guggenheim Securities, LLC, Research Division

No. Just -- was it unusually large?

Herbert K. Parker

No.

Matthew T. Stover - Guggenheim Securities, LLC, Research Division

Okay. What was the value of that, by the way?

Herbert K. Parker

No. There wasn't a value we gave on the recovery, we just gave you the engineering number, which was $47 million for Infotainment and $58 million compared to last year, same quarter.

Matthew T. Stover - Guggenheim Securities, LLC, Research Division

Was that net -- was that a net number there?

Herbert K. Parker

Yes, net number.

Operator

Next question is a follow-up question from David Lim with Wells Fargo.

David H. Lim - Wells Fargo Securities, LLC, Research Division

Just quickly. I just wanted to ask about Google Glass -- Glasses being integrated of the Mercedes Infotainment system. I'm wondering, what are you guys doing, if anything at all, to help in that integration process? There was some articles related to that.

Dinesh C. Paliwal

I think -- David, that's a good question. I'll let our division president talk about that plus a few other things on Thursday, if you don't mind. It has very little impact on current business but directionally, I think we'll also tell you some of the things, which we are doing ourselves in the Bay Area and also a lot of cooperation with the company G and company A and you will hear more on Thursday.

Operator

And there appear to be no further questions.

Dinesh C. Paliwal

Very well. Edison, let me make my closing comments in that case. So a special thank you to all of you for joining our conference today. I know especially many of our analysts here, they are covering so many companies giving their earnings today, tomorrow, yesterday, this week. So we really appreciate you taking time. This wraps up our fiscal 2013, which overall, was a strong year for HARMAN. I'm very pleased for the team. They've done a great job and we do seem to have now pretty good momentum of high performance culture in our company, with clear cost focus and clear desire to keep on improving profitability. I think with that said, Thursday will be a day which we'll give you a lot more details and look forward to seeing you -- all of you on Thursday. Thank you, so much.

Operator

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your line.

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