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Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

 

 

(Mark One)

    x     QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended August 31, 2012

OR

 

    ¨     TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from          to         

Commission file number: 0-9061

 

 

ELECTRO RENT CORPORATION

(Exact name of registrant as specified in its charter)

 

 

 

California   95-2412961

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

6060 Sepulveda Boulevard, Van Nuys, California   91411-2501
(Address of principal executive offices)   (Zip Code)

(818) 787-2100

(Issuer’s telephone number, including area code)

 

 

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

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

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer    ¨    Accelerated filer    x
Non-accelerated filer    ¨    Smaller reporting company    ¨

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

The number of shares outstanding of the registrant’s common stock as of September 28, 2012 was 23,995,626.

 

 

 


Table of Contents

Electro Rent Corporation

Quarterly Report on Form 10-Q

For the Quarterly Period Ended August 31, 2012

TABLE OF CONTENTS

 

         Page  

EXPLANATORY NOTE

     3   

SPECIAL NOTE ABOUT FORWARD-LOOKING STATEMENTS

     3   

PART I—FINANCIAL INFORMATION

     4   

Item 1.

  Financial Statements      4   
 

Condensed Consolidated Statements of Operations for the Three Months Ended August  31, 2012 and 2011 (Unaudited)

     4   
 

Condensed Consolidated Balance Sheets at August 31, 2012 and May 31, 2012 (Unaudited)

     5   
 

Condensed Consolidated Statements of Cash Flows for the Three Months Ended August  31, 2012 and 2011 (Unaudited)

     6   
  Notes to Condensed Consolidated Financial Statements (Unaudited)      7   

Item 2.

  Management’s Discussion and Analysis of Financial Condition and Results of Operations      17   

Item 3.

  Quantitative and Qualitative Disclosures About Market Risk      21   

Item 4.

  Controls and Procedures      21   

PART II—OTHER INFORMATION

     22   

Item 1.

  Legal Proceedings      22   

Item 1A.

  Risk Factors      22   

Item 2.

  Unregistered Sales of Equity Securities and Use of Proceeds      22   

Item 3.

  Defaults Upon Senior Securities      22   

Item 4.

  Mine Safety Disclosures      22   

Item 5.

  Other Information      22   

Item 6.

  Exhibits      22   

SIGNATURES

     24   

 

Page 2


Table of Contents

EXPLANATORY NOTE

In this report, unless the context indicates otherwise, the terms “Electro Rent,” “Company,” “we,” “us” and “our” refer to Electro Rent Corporation, a California corporation, and its subsidiaries.

SPECIAL NOTE ABOUT FORWARD-LOOKING STATEMENTS

This report contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). You can find many (but not all) of these statements by looking for words such as “approximates,” “believes,” “expects,” “anticipates,” “estimates,” “intends,” “plans,” “would,” “may” or other similar expressions in this report. We claim the protection of the safe harbor contained in the Private Securities Litigation Reform Act of 1995. We caution investors that any forward-looking statements presented in this report, or that we may make orally or in writing from time to time, are based on the beliefs of, assumptions made by, and information currently available to, us. Such statements are based on assumptions, and the actual outcome will be affected by known and unknown risks, trends, uncertainties and factors that are beyond our control. Although we believe that our assumptions are reasonable, they are not guarantees of future performance, and some will inevitably prove to be incorrect. As a result, our actual future results may differ from our expectations, and those differences may be material. We are not undertaking any obligation to update any forward-looking statements. Accordingly, investors should use caution in relying on past forward-looking statements, which are based on known results and trends at the time they are made, to anticipate future results or trends.

Factors that could cause or contribute to these differences include, among others, those risks and uncertainties discussed under the sections contained in this Form 10-Q entitled “Part I, Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations,” “Part I, Item 3. Quantitative and Qualitative Disclosures About Market Risk,” and “Part II, Item 1A. Risk Factors” as well as in our Annual Report on Form 10-K for the fiscal year ended May 31, 2012 (including the “Risk Factors” discussed in Item 1A in that document), and our other filings with the Securities and Exchange Commission. The risks included in those documents are not exhaustive, and additional factors could adversely affect our business and financial performance. We operate in a very competitive and rapidly changing environment. New risk factors emerge from time to time, and it is not possible for us to predict all such risk factors, nor can we assess the impact of all such risk factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements.

 

Page 3


Table of Contents

Part I. FINANCIAL INFORMATION

Item 1. Financial Statements

ELECTRO RENT CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited) (in thousands, except per share data)

 

     Three Months Ended  
     August 31,  
     2012      2011  

Revenues:

     

Rentals and leases

   $ 33,665       $ 31,309   

Sales of equipment and other revenues

     24,836         27,341   
  

 

 

    

 

 

 

Total revenues

     58,501         58,650   
  

 

 

    

 

 

 

Operating expenses:

     

Depreciation of rental and lease equipment

     14,058         12,527   

Costs of revenues other than depreciation of rental and lease equipment

     19,576         21,610   

Selling, general and administrative expenses

     16,622         15,893   
  

 

 

    

 

 

 

Total operating expenses

     50,256         50,030   
  

 

 

    

 

 

 

Operating profit

     8,245         8,620   

Gain on bargain purchase, net of deferred taxes

     —           3,194   

Interest income, net

     146         99   
  

 

 

    

 

 

 

Income before income taxes

     8,391         11,913   

Income tax provision

     3,305         3,408   
  

 

 

    

 

 

 

Net income

   $ 5,086       $ 8,505   
  

 

 

    

 

 

 

Earnings per share:

     

Basic

   $ 0.21       $ 0.35   
  

 

 

    

 

 

 

Diluted

   $ 0.21       $ 0.35   
  

 

 

    

 

 

 

Shares used in per share calculation:

     

Basic

     23,993         23,981   
  

 

 

    

 

 

 

Diluted

     24,216         24,132   
  

 

 

    

 

 

 

Cash paid per common share

   $ 0.20       $ 0.20   
  

 

 

    

 

 

 

See accompanying notes to condensed consolidated financial statements (unaudited).

 

Page 4


Table of Contents

ELECTRO RENT CORPORATION

CONDENSED CONSOLIDATED BALANCE SHEETS

(Unaudited) (in thousands, except share numbers)

 

     August 31,      May 31,  
     2012      2012  

ASSETS

     

Cash and cash equivalents

   $ 11,679       $ 9,290   

Accounts receivable, net of allowance for doubtful accounts of $428 and $522

     34,211         35,915   

Rental and lease equipment, net of accumulated depreciation of $209,867 and $204,108

     243,388         243,173   

Other property, net of accumulated depreciation and amortization of $18,121 and $17,832

     13,721         13,871   

Goodwill

     3,109         3,109   

Intangibles, net of amortization of $1,345 and $1,304

     1,160         1,201   

Other assets

     21,655         23,272   
  

 

 

    

 

 

 
   $ 328,923       $ 329,831   
  

 

 

    

 

 

 

LIABILITIES AND SHAREHOLDERS’ EQUITY

     

Liabilities:

     

Accounts payable

   $ 6,529       $ 8,555   

Accrued expenses

     13,123         11,870   

Deferred revenue

     6,759         6,904   

Deferred tax liability

     53,817         54,371   
  

 

 

    

 

 

 

Total liabilities

     80,228         81,700   
  

 

 

    

 

 

 

Commitments and contingencies (Note 13)

     

Shareholders’ equity:

     

Preferred stock, $1 par - shares authorized 1,000,000, none issued

     

Common stock, no par - shares authorized 40,000,000; issued and outstanding August 31, 2012 - 23,995,626; May 31, 2012 - 23,987,826

     36,522         36,179   

Retained earnings

     212,173         211,952   
  

 

 

    

 

 

 

Total shareholders’ equity

     248,695         248,131   
  

 

 

    

 

 

 
   $ 328,923       $ 329,831   
  

 

 

    

 

 

 

See accompanying notes to condensed consolidated financial statements (unaudited).

 

Page 5


Table of Contents

ELECTRO RENT CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited) (in thousands)

 

     Three Months Ended  
     August 31,  
     2012     2011  

Cash flows from operating activities:

    

Net income

   $ 5,086      $ 8,505   

Adjustments to reconcile net income to net cash provided by operating activities:

    

Depreciation and amortization

     14,358        12,835   

Remeasurement loss on foreign currency

     19        66   

Provision for losses on accounts receivable

     100        6   

Gain on sale of rental and lease equipment

     (2,644     (2,412

Gain on bargain purchase, net of taxes

     —          (3,194

Stock compensation expense

     289        326   

Excess tax benefit for share based compensation

     (90     (37

Deferred income taxes

     (554     2,384   

Changes in operating assets and liabilities:

    

Accounts receivable

     1,716        (1,434

Other assets

     1,645        2,080   

Accounts payable

     (116     (1,883

Accrued expenses

     1,357        (1,417

Deferred revenue

     (166     440   
  

 

 

   

 

 

 

Net cash provided by operating activities

     21,000        16,265   
  

 

 

   

 

 

 

Cash flows from investing activities:

    

Proceeds from sale of rental and lease equipment

     6,308        5,456   

Cash paid for acquisition

     —          (10,673

Payments for purchase of rental and lease equipment

     (19,821     (24,130

Payments for purchase of other property

     (109     (108
  

 

 

   

 

 

 

Net cash used in investing activities

     (13,622     (29,455
  

 

 

   

 

 

 

Cash flows from financing activities:

    

Minimum tax withholdings on share based compensation

     (36     —     

Excess tax benefit for share based compensation

     90        37   

Payment of dividends

     (4,865     (4,796
  

 

 

   

 

 

 

Net cash used in financing activities

     (4,811     (4,759
  

 

 

   

 

 

 

Effect of exchange rate changes on cash

     (178     —     
  

 

 

   

 

 

 

Net increase (decrease) in cash and cash equivalents

     2,389        (17,949

Cash and cash equivalents at beginning of period

     9,290        41,441   
  

 

 

   

 

 

 

Cash and cash equivalents at end of period

   $ 11,679      $ 23,492   
  

 

 

   

 

 

 

See accompanying notes to condensed consolidated financial statements (unaudited).

 

Page 6


Table of Contents

ELECTRO RENT CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(dollar and share amounts in thousands, except per share amounts)

Note 1: Basis of Presentation

The unaudited condensed consolidated financial statements included herein have been prepared by Electro Rent Corporation, pursuant to the rules and regulations of the United States Securities and Exchange Commission (the “SEC”). The condensed consolidated financial statements include the accounts of Electro Rent Corporation and its wholly owned subsidiaries, Electro Rent, LLC, ER International, Inc., Electro Rent Europe NV, Electro Rent Asia, Inc., Electro Rent (Beijing) Test and Measurement Equipment Rental Co., Ltd., and Electro Rent (Tianjin) Rental Co., Ltd. (collectively “we”, “us”, or “our”) as well as the elimination of all intercompany transactions.

Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) have been condensed or omitted pursuant to such SEC rules and regulations. These condensed consolidated financial statements reflect all adjustments, consisting of only normal recurring adjustments, and disclosures that are, in our opinion, necessary for a fair presentation of our financial position and results of operations for the interim periods presented. These condensed consolidated financial statements should be read in conjunction with the audited financial statements and notes thereto included in our latest Annual Report on Form 10-K filed with the SEC on August 13, 2012.

The preparation of financial statements in conformity with GAAP requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities as well as the disclosures of contingent assets and liabilities as of the date of these financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates, and results of operations for interim periods are not necessarily indicative of results for the full year.

Foreign Currency

The U.S. dollar has been determined to be our functional currency. The assets and liabilities of our foreign subsidiaries are remeasured from their foreign currency to U.S. dollars at current or historic exchange rates, as appropriate. Revenues and expenses are remeasured from any foreign currencies to U.S. dollars using historic or average monthly exchange rates, as appropriate, for the month in which the transaction occurred. Remeasurement gains and losses are included in selling, general and administrative expenses or income taxes, as appropriate. The assets, liabilities, revenues and expenses of our foreign subsidiaries are individually less than 10% of our respective consolidated amounts. The euro, Canadian dollar and Chinese yuan are our primary foreign currencies.

We enter into forward contracts to hedge against unfavorable currency fluctuations in our monetary assets and liabilities in our European and Canadian operations. These contracts are designed to minimize the effect of fluctuations in foreign currencies. Such derivative instruments are not designated as hedging instruments and, therefore, are recorded at fair value as a current asset or liability, and any changes in fair value are recorded in our condensed consolidated statements of operations.

The fair value of our foreign exchange forward contracts in the consolidated balance sheets is shown in the table below:

 

Derivatives Not Designated as

Hedging Instruments

   Consolidated Balance Sheet Location    August 31,
2012
     May 31,
2012
 

Foreign exchange forward contracts

   Other assets    $ —         $ 179   

Foreign exchange forward contracts

   Accrued expenses      99         —     

The table below provides data about the amount of losses and gains recognized in income for derivative instruments not designated as hedging instruments:

 

Derivatives Not Designated as

Hedging Instruments

   Location of (Loss) Gain
Recognized in Income on
Derivatives
   Three Months
Ended

August  31,
2012
    Three Months
Ended

August  31,
2011
 

Foreign exchange forward contracts

   Selling, general and
administrative expenses
   $ (188   $ 6   

 

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Table of Contents

ELECTRO RENT CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(dollar and share amounts in thousands, except per share amounts)

 

Other Assets

We include demonstration equipment used in connection with our resale activity of $5,024 and $5,495 as of August 31, 2012 and May 31, 2012, respectively, in other assets for a period of up to two years. Demonstration equipment is recorded at the lower of cost or estimated market value until the units are sold or transferred to our rental and lease equipment pool. Demonstration equipment transferred to our rental and lease equipment pool is depreciated over its remaining estimated useful life.

Other assets consisted of the following:

 

     August 31,
2012
     May 31,
2012
 

Net investment in sales-type leases

   $ 10,801       $ 11,681   

Demonstration equipment

     5,024         5,495   

Supplemental executive retirement plan assets

     2,616         2,370   

Income taxes receivable

     288         861   

Prepaid expenses and other

     2,926         2,865   
  

 

 

    

 

 

 
   $ 21,655       $ 23,272   
  

 

 

    

 

 

 

Recent Accounting Pronouncements

In June 2011, the FASB issued guidance on presentation of comprehensive income. The new guidance eliminates the current option to report other comprehensive income (OCI) and its components in the statement of changes in equity. Instead, an entity will be required to present components of comprehensive income in either (1) a continuous statement of net income or (2) two separate but consecutive statements. This guidance is effective for fiscal years, and interim periods within those years, beginning after December 15, 2011. Early adoption of the new guidance is permitted and full retrospective application is required. We adopted this guidance effective June 1, 2012 and elected to disclose comprehensive income in a single continuous statement. Adoption of this guidance had no material impact on our consolidated financial position, results of operations or cash flows.

In September 2011, the FASB issued guidance to simplify how an entity tests goodwill for impairment. The amendments in the update provide for an option to first assess qualitative factors to determine whether it is necessary to perform the two-step quantitative goodwill impairment test. An entity that adopts this option will no longer be required to calculate the fair value of a reporting unit (Step 1) unless the entity determines, based on a qualitative assessment, that it is more likely than not that the fair value of the reporting unit is less than its carrying amount. We adopted this guidance effective June 1, 2012 with no material impact on our consolidated financial position, results of operations or cash flows.

In July 2012, the FASB issued guidance to simplify how an entity tests indefinite-lived intangible assets other than goodwill for impairment and permitting an entity to first assess qualitative factors to determine whether it is more likely than not that the fair value of the indefinite-lived intangible asset is less than its carrying amount as a basis for determining whether it is necessary to perform a quantitative impairment test. This ASU is effective for annual and interim impairment tests performed for fiscal years beginning after December 15, 2011 (early adoption is permitted). The guidance for the qualitative process became effective our first quarter of fiscal 2013.

Other Comprehensive Income

Comprehensive income is equivalent to net income for all periods presented.

Note 2: Cash and Cash Equivalents

We consider highly liquid investments with maturities of three months or less at the date of purchase to be cash equivalents. Cash equivalents consisted primarily of AAA-rated money market funds in all periods presented.

 

Page 8


Table of Contents

ELECTRO RENT CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(dollar and share amounts in thousands, except per share amounts)

 

Note 3: Fair Value Measurements

We measure certain financial assets and liabilities at fair value on a recurring basis, including cash equivalents, supplemental executive retirement plan assets and liabilities, and foreign currency derivatives. The fair value of financial assets and liabilities can be determined based on three levels of inputs, of which the first two are considered observable and the last unobservable, that may be used to measure fair value, as follows:

Level 1 – Observable inputs, such as quoted prices in active markets for identical assets or liabilities;

Level 2 – Inputs, other than the quoted prices in active markets, that are observable either directly or through corroboration with observable market data; and

Level 3 – Unobservable inputs, for which there is little or no market data for the assets or liabilities, such as internally-developed valuation models.

Our assets and liabilities measured at fair value on a recurring basis were determined as follows:

 

     At August 31, 2012  
     Quoted Prices
in Active
Markets for
Identical
Instruments

(Level 1)
     Significant
Other
Observable
Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
     Total
Balance
 

Assets

           

Money market funds

   $ 3,258       $ —         $ —         $ 3,258   

Supplemental executive retirement plan

     2,616         —           —           2,616   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total assets measured at fair value

   $ 5,874       $ —         $ —         $ 5,874   
  

 

 

    

 

 

    

 

 

    

 

 

 

Liabilities

           

Supplemental executive retirement plan

   $ 2,616       $ —         $ —         $ 2,616   

Foreign exchange forward contracts

     —           99         —           99   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total liabilities measured at fair value

   $ 2,616       $ 99       $ —         $ 2,715   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

     At May 31, 2012  
     Quoted Prices
in Active
Markets for
Identical
Instruments

(Level 1)
     Significant
Other
Observable
Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
     Total
Balance
 

Assets

           

Money market funds

   $ 2,507       $ —         $ —         $ 2,507   

Supplemental executive retirement plan

     2,370         —           —           2,370   

Foreign exchange forward contracts

     —           179         —           179   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total assets measured at fair value

   $ 4,877       $ 179       $ —         $ 5,056   
  

 

 

    

 

 

    

 

 

    

 

 

 

Liabilities

           

Supplemental executive retirement plan

   $ 2,370       $ —         $ —         $ 2,370   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total liabilities measured at fair value

   $ 2,370       $ —         $ —         $ 2,370   
  

 

 

    

 

 

    

 

 

    

 

 

 

The fair value measures for our money market funds and supplemental executive retirement plan asset and liability were derived from quoted market prices in active markets and are included in Level 1 inputs. Foreign currency forward contracts were valued based on observable market spot and forward rates as of our reporting date and are included in Level 2 inputs.

 

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Table of Contents

ELECTRO RENT CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(dollar and share amounts in thousands, except per share amounts)

 

Note 4: Acquisitions

Equipment Management Technology, Inc.

On August 24, 2011, pursuant to an Asset Purchase Agreement (“APA”), we completed the purchase of certain assets and the assumption of specified post-closing liabilities of Equipment Management Technology, Inc., a Nevada Corporation (“EMT”), for cash consideration of $10,673. EMT, headquartered in Las Vegas, Nevada, was a provider of electronic test and measurement (“T&M”) equipment. We acquired EMT in order to facilitate growth in our T&M business. EMT had previously filed a voluntary petition for relief under Chapter 11 of the Bankruptcy Code in the United States Bankruptcy Court for the District of Nevada. The sale was approved by the Bankruptcy Court on August 11, 2011, and the related sale order was issued on August 12, 2011. At closing, $500 was deposited into an escrow account for any post-closing adjustments that reduce the purchase price. We have accounted for the acquisition of EMT as a business combination in accordance with the applicable accounting guidance.

At August 31, 2011, we completed our estimates of the fair value of rental and lease equipment and deferred revenue. Due to the timing of the acquisition, we completed our evaluation of intangible assets and accounts receivable in our second quarter ending November 30, 2011. We acquired gross accounts receivable of $972, of which an estimated $430 is not expected to be collected, resulting in a fair value of $542. Under the accounting guidance, a bargain purchase gain results if the fair value of the purchase consideration is less than the net fair value of the assets acquired and liabilities assumed. We recorded a bargain purchase gain of $3,194, net of deferred taxes, related to our acquisition of EMT at August 31, 2011. We believe that we were able to negotiate a bargain purchase price as a result of our access to the liquidity necessary to complete the transaction and EMT’s recurring losses and bankruptcy filing.

The following table provides the estimated fair values of the assets acquired and liabilities assumed as of the date of acquisition.

 

Total cash consideration

   $ 10,673   
  

 

 

 

Preliminary purchase price allocation:

  

Accounts receivable

     542   

Rental and lease equipment

     15,896   

Deferred tax liability

     (2,092

Deferred revenue

     (479
  

 

 

 

Net assets acquired

     13,867   
  

 

 

 

Bargain purchase gain, net of deferred taxes of $2,092

   $ (3,194
  

 

 

 

The bargain purchase gain is classified separately in our condensed consolidated statements of operations.

Acquisition-related transaction costs of $55 were accounted for as expenses in the periods in which the costs were incurred and are included in our selling, general and administrative expenses during fiscal 2012.

The acquisition of EMT was an asset purchase, and EMT’s operations were integrated with ours immediately after the acquisition date. Revenues and income before income taxes from the acquired assets included in our consolidated statements of operations were $5,232 and $2,862, respectively, for fiscal 2012.

During the second and third quarters of fiscal 2012, we increased the bargain purchase gain by a total of $396 ($241, net of deferred tax), consisting of (i) $140, representing the estimated fair value of customer relationships acquired, (ii) $273, of post-closing adjustments, which were disbursed from the escrow funds in accordance with the APA, offset by (iii) $17, representing the final determination of assets acquired and other components of the purchase price. These adjustments are not considered material, and therefore are not included in the purchase price allocation table presented above.

Supplemental pro forma information reflecting the acquisition of EMT as if it occurred on June 1, 2010 was not practicable because we were not able to obtain reliable historical financial information for 2010 and 2011, primarily due to a deterioration of the organization and controls leading up to and following EMT’s February 2011 bankruptcy filing.

 

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Table of Contents

ELECTRO RENT CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(dollar and share amounts in thousands, except per share amounts)

 

Note 5: Equity Incentive Plan

Our 2005 Equity Incentive Plan (the “Equity Incentive Plan”) authorizes our Board of Directors to grant incentive and non-statutory stock option grants, stock appreciation rights, restricted stock awards, restricted stock units, performance unit awards and performance share awards covering a maximum of 1,000 shares of our common stock. The Equity Incentive Plan replaced our prior stock option plans, under which there are no outstanding options. Pursuant to the Equity Incentive Plan, we have granted incentive and non-statutory options to directors, officers and key employees at prices not less than 100% of the fair market value on the day of grant. In addition, we have granted restricted stock and restricted stock units to directors, officers and key employees. The Equity Incentive Plan provides for a variety of vesting dates. All outstanding options expired in October 2011.

Restricted Stock Units

A restricted stock unit represents the right to receive one share of our common stock, provided that the vesting conditions are satisfied. The following table represents restricted stock unit activity for the three months ended August 31, 2012:

 

     Restricted
Stock
Units
    Weighted –
Average
Grant
Date
Fair Value
 

Nonvested at June 1, 2012

     203      $ 13.82   

Granted

     59        17.14   

Vested

     (109     12.87   

Forfeited/canceled

     (11     12.88   
  

 

 

   

 

 

 

Nonvested at August 31, 2012

     142      $ 16.01   
  

 

 

   

 

 

 

We granted 59 restricted stock units during the three months ended August 31, 2012, and 84 restricted stock units during the three months ended August 31, 2011. As of August 31, 2012, we have unrecognized share-based compensation cost of approximately $2,102 associated with restricted stock unit awards. This cost is expected to be recognized over a weighted-average period of approximately 2.2 years.

Accounting for Share Based Payments

Accounting guidance requires all share-based payments to employees, including grants of employee stock options, restricted stock and restricted stock units, to be recognized as compensation expense in the consolidated financial statements based on their fair values. Compensation expense is recognized over the period that an employee provides service in exchange for the award, approximately 3 years.

Forfeitures are estimated at the date of grant based on historical experience. We use the market price of our common stock on the date of grant to calculate the fair value of each grant of restricted stock and restricted stock units.

We recorded $289 and $326 of stock-based compensation as part of selling, general and administrative expenses for the three months ended August 31, 2012 and 2011, respectively.

We receive a tax deduction for certain stock option exercises during the period the options are exercised, generally for the excess of the fair value of our common stock at the date of exercise over the exercise price of the options, and dividends paid on vested restricted stock units. Excess tax benefits are realized tax benefits from tax deductions for exercised options in excess of the deferred tax asset attributable to stock compensation costs for such options. The total tax benefit realized from stock option exercises, shares issued and dividend payments for vested restricted stock units for the three months ended August 31, 2012 and 2011 was $90 and $37, respectively. Cash received from stock option exercises was $0 for the three months ended August 31, 2012 and 2011, respectively.

 

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ELECTRO RENT CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(dollar and share amounts in thousands, except per share amounts)

 

Note 6: Goodwill and Intangibles

Goodwill represents the excess of the purchase price over the fair value of the net tangible and identifiable intangible assets acquired in a business combination. Intangible assets resulting from the acquisitions of entities accounted for using the purchase method of accounting are recorded at the estimated fair value of the assets acquired. Identifiable intangible assets consist of purchased customer relationships and trade names.

Our goodwill and intangibles at August 31, 2012 are the result of our acquisition of EMT on August 24, 2011, Telogy on March 31, 2010 and of Rush Computer Rentals, Inc. on January 31, 2006.

The changes in carrying amount of goodwill and other intangible assets for the three months ended August 31, 2012 were as follows:

 

     Balance as of
June 1, 2012
(net of
amortization)
     Additions      Amortization     Balance as of
August 31, 2012
 

Goodwill

   $ 3,109       $ —         $ —        $ 3,109   

Trade name

     411         —           —          411   

Customer relationships

     790         —           (41     749   
  

 

 

    

 

 

    

 

 

   

 

 

 
   $ 4,310       $ —         $ (41   $ 4,269   
  

 

 

    

 

 

    

 

 

   

 

 

 

Goodwill is not deductible for tax purposes.

We evaluate the recoverability of goodwill and indefinite-lived intangible assets annually as of May 31, and whenever events or changes in circumstances indicate to us that the carrying amount may not be recoverable. There were no conditions that indicated any impairment of goodwill or identifiable intangible assets as of May 31, 2012.

Intangible assets with finite useful lives are amortized over their respective estimated useful lives. The following table provides a summary of our intangible assets:

 

     August 31, 2012  
     Estimated
Useful Life
     Gross Carrying
Amount
     Accumulated
Amortization
    Net Carrying
Amount
 

Trade name

     —         $ 411       $ —        $ 411   

Customer relationships

     3-8 years         2,094         (1,345     749   
  

 

 

    

 

 

    

 

 

   

 

 

 
      $ 2,505       $ (1,345   $ 1,160   
  

 

 

    

 

 

    

 

 

   

 

 

 

 

     May 31, 2012  
     Estimated
Useful Life
     Gross Carrying
Amount
     Accumulated
Amortization
    Net Carrying
Amount
 

Trade name

     —         $ 411       $ —        $ 411   

Customer relationships

     3-8 years         2,094         (1,304     790   
  

 

 

    

 

 

    

 

 

   

 

 

 
      $ 2,505       $ (1,304   $ 1,201   
  

 

 

    

 

 

    

 

 

   

 

 

 

Amortization expense related to intangible assets was $41 and $29 for the three months ended August 31, 2012 and 2011, respectively.

 

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ELECTRO RENT CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(dollar and share amounts in thousands, except per share amounts)

 

Amortization expense for customer relationships is included in selling, general and administrative expenses. The following table provides estimated future amortization expense related to intangible assets as of August 31, 2012:

 

Year ending May 31,

   Future
Amortization
 

2013 (remaining)

   $ 123   

2014

     164   

2015

     129   

2016

     118   

2017

     118   

Thereafter

     97   
  

 

 

 
   $ 749   
  

 

 

 

Note 7: Borrowings

We have a commercial credit agreement with an institutional lender that provides us with a revolving line of credit for $25,000. The commercial credit agreement provides for (i) an October 1, 2015 maturity date; (ii) interest rate provisions such that the margin on loans bears interest at the reference rate minus 0.25% or LIBOR plus 1.50%; and (iii) financial covenants requiring a minimum quick ratio, tangible net worth and net profit after tax. We are in compliance with all loan covenants at August 31, 2012. We do not currently have any outstanding loan balance under the commercial credit agreement.

Note 8: Supplemental Cash Flow Information

Non-Cash Investing and Financing Activities

We had rental equipment purchases, not yet paid for, totaling $3,448 and $5,308 as of August 31, 2012 and 2011, respectively, all of which amounts were subsequently paid. During the three months ended August 31, 2012 and 2011, we transferred $1,623 and $79, respectively, of demonstration equipment, included in other assets, to rental and lease equipment.

Supplemental Disclosures of Cash Paid (Refunded)

 

Three months ended August 31,

   2012      2011  

Interest

   $ 1       $ 8   

Income taxes

     609         (2,471
  

 

 

    

 

 

 

Note 9: Sales-Type Leases

We have certain customer leases providing bargain purchase options, which are accounted for as sales-type leases. Interest income is recognized over the life of the lease using the effective interest method.

The initial acceptance of customer finance arrangements is based on an in-depth review of each customer’s credit profile, including review of third party credit reports, customer financial statements and bank verifications. We monitor the credit quality of our sales-type lease portfolio based on payment activity that drives the finance lease receivable aging. This credit quality is assessed on a monthly basis. Our historical losses on finance lease receivables are insignificant, and therefore we do not have a specific allowance for credit losses.

 

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ELECTRO RENT CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(dollar and share amounts in thousands, except per share amounts)

 

The minimum lease payments receivable and the net investment included in other assets for such leases were as follows:

 

     August 31,
2012
    May 31,
2012
 

Gross minimum lease payments receivable

   $ 11,343      $ 12,284   

Less – unearned interest

     (542     (603
  

 

 

   

 

 

 

Net investment in sales-type lease receivables

   $ 10,801      $ 11,681   
  

 

 

   

 

 

 

The following table provides estimated future minimum lease payments receivable related to sales-type leases:

 

Year ending May 31,

      

2013 (remaining)

   $ 5,619   

2014

     3,966   

2015

     1,473   

2016

2017

    

 

170

115

  

  

  

 

 

 
   $ 11,343   
  

 

 

 

Note 10: Segment Reporting and Related Disclosures

Accounting guidance establishes reporting standards for an enterprise’s operating segments and related disclosures about its products, services, geographic areas and major customers. Operating segments are defined as components of an enterprise for which separate financial information is available that is regularly evaluated by the chief operating decision maker in deciding how to allocate resources and in assessing performance. In order to determine our operating segments, we considered the following: an operating segment is a component of an enterprise (i) that engages in business activities from which it may earn revenues and incur expenses, (ii) whose operating results are regularly reviewed by the enterprise’s chief operating decision maker to make decisions about resources to be allocated to the segment and assess its performance, and (iii) for which discrete financial information is available. In accordance with this guidance, we have identified two operating segments: the rental, lease and sale of T&M equipment and the rental, lease and sale of data products (“DP”) equipment.

Although we have separate operating segments for T&M and DP equipment, these two segments are aggregated into a single reportable segment because they have similar economic characteristics and qualitative factors. The T&M and DP segments have similar long-term average gross margins, and both rent, lease and sell electronic equipment to large corporations, purchase directly from major manufacturers, configure and calibrate the equipment, and ship directly to customers. Additionally, DP segment revenues are less than 10% of total company revenues, and are not considered material.

Our equipment pool, based on acquisition cost, consisted of $415,955 of T&M equipment and $37,300 of DP equipment at August 31, 2012 and $409,686 of T&M equipment and $37,595 of DP equipment at May 31, 2012.

Revenues for these product groups were as follows for the three months ended August 31, 2012 and 2011:

 

     T&M      DP      Total  

2012

        

Rentals and leases

   $ 29,605       $ 4,060       $ 33,665   

Sales of equipment and other revenues

     24,147         689         24,836   
  

 

 

    

 

 

    

 

 

 
   $ 53,752       $ 4,749       $ 58,501   
  

 

 

    

 

 

    

 

 

 

2011

        

Rentals and leases

   $ 26,602       $ 4,707       $ 31,309   

Sales of equipment and other revenues

     26,716         625         27,341   
  

 

 

    

 

 

    

 

 

 
   $ 53,318       $ 5,332       $ 58,650   
  

 

 

    

 

 

    

 

 

 

 

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ELECTRO RENT CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(dollar and share amounts in thousands, except per share amounts)

 

No single customer accounted for more than 10% of total revenues during the three months ended August 31, 2012 and 2011.

Selected country information is presented below:

 

     Three Months Ended  
     August 31,  
     2012      2011  

Revenues: (1)

     

U.S.

   $ 49,114       $ 50,087   

Other (2)

     9,387         8,563   
  

 

 

    

 

 

 

Total

   $ 58,501       $ 58,650   
  

 

 

    

 

 

 
     As of  
     August 31,
2012
     May 31,
2012
 

Net Long-Lived Assets: (3)

     

U.S.

   $ 208,045       $ 207,449   

Other (2)

     49,064         49,595   
  

 

 

    

 

 

 

Total

   $ 257,109       $ 257,044   
  

 

 

    

 

 

 

 

(1) Revenues by country are based on the location of shipping destination, and not whether the order originates in the United States parent or a foreign subsidiary.
(2) Other consists of foreign countries that each individually account for less than 10% of the total revenues or assets.
(3) Net long-lived assets include rental and lease equipment and other property, net of accumulated depreciation and amortization. Subsequent to the issuance of the May 31, 2012 consolidated financial statements, we determined that, for geographic disclosure purposes, the previously reported amount of net long-lived assets as of May 31, 2012 should not have included goodwill and other intangible assets (which totaled $4,310 at that date) and, accordingly, such amount has been excluded from the May 31, 2012 balance displayed in the table above.

Note 11: Computation of Earnings Per Share

The following is a reconciliation of the denominator used in the computation of basic and diluted earnings per share for the three months ended August 31, 2012 and 2011:

 

     Three Months Ended  
     August 31,  
     2012      2011  

Denominator:

     

Denominator for basic earnings per share - weighted average common shares outstanding

     23,993         23,981   

Dilutive effect of restricted stock (1)

     223         151   
  

 

 

    

 

 

 

Diluted shares used in per share calculation

     24,216         24,132   
  

 

 

    

 

 

 

Net income

   $ 5,085       $ 8,505   

Earnings per share:

     

Basic

   $ 0.21       $ 0.35   

Diluted

   $ 0.21       $ 0.35   

 

(1) Excludes 36 options, representing all of our outstanding stock options, during the three months ended August 31, 2011 for which the exercise price exceeded the average market price of our common stock during that period. There were no stock options outstanding during the three months ended August 31, 2012.

 

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ELECTRO RENT CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(dollar and share amounts in thousands, except per share amounts)

 

Note 12: Income Taxes

We recognize a liability or asset for the deferred tax consequences of temporary differences between the tax basis of assets and liabilities and their reported amounts in the financial statements. These temporary differences will result in taxable or deductible amounts in future years when reported amounts of the assets or liabilities are recovered or settled. The deferred tax assets are periodically reviewed for recoverability.

Accounting guidance for uncertain tax positions prescribes a recognition threshold that a tax position is required to meet before being recognized in the financial statements and provides guidance on derecognition, measurement, classification, interest and penalties, accounting in interim periods, disclosure and transition issues.

We recognize the tax impact from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. The tax impact recognized in the financial statements from such a position is measured based on the largest benefit that has a greater than 50% likelihood of being realized upon ultimate resolution. We recognize interest, penalties and foreign currency gains and losses with respect to uncertain tax positions as components of our income tax provision. Accrued interest and penalties are included within accrued expenses in the consolidated balance sheet. Significant judgment is required in the identification of uncertain tax positions and in the estimation of penalties and interest on uncertain tax positions. During the second quarter of fiscal 2011, we effectively settled our remaining uncertain tax positions, and derecognized $4,515 of previously recognized uncertain tax positions, and the related deferred tax asset, and $1,396 for interest and penalties previously recognized.

We are subject to taxation in the U.S., as well as various states and foreign jurisdictions. We have substantially settled all income tax matters for the United States federal jurisdiction for years through fiscal 2009. Major state jurisdictions have been examined through fiscal years 2004 and 2005, and foreign jurisdictions have not been examined for their respective maximum statutory periods.

Note 13: Commitments and Contingencies

We are subject to legal proceedings and business disputes involving ordinary routine legal proceedings and claims incidental to our business. The ultimate legal and financial liability with respect to such matters generally cannot be estimated with certainty and requires the use of estimates in recording liabilities for potential litigation settlements. Estimates for losses from litigation are made after consultation with outside counsel. If estimates of potential losses increase or the related facts and circumstances change in the future, we may be required to record either more or less litigation expense. We are not involved in any pending or threatened legal proceedings, other than ordinary routine legal proceedings and claims incidental to our business, that we believe could reasonably be expected to have a material adverse effect on our financial condition, results of operations or cash flows.

Note 14: Subsequent Events

On September 3, 2012 our Board of Directors declared a quarterly cash dividend of $0.20 per common share. The dividend will be paid on October 10, 2012 to shareholders of record as of September 20, 2012.

 

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

The following discussion addresses our financial condition as of August 31, 2012 and May 31, 2012, the results of our operations for the three months ended August 31, 2012 and 2011, respectively, and cash flows for the three month periods ended August 31, 2012 and 2011, respectively. This discussion should be read in conjunction with Management’s Discussion and Analysis of Financial Condition and Results of Operations in Item 7 and the Risk Factors in Item 1A of our Annual Report on Form 10-K for the fiscal year ended May 31, 2012, to which you are directed for additional information.

Overview

We are one of the largest global organizations devoted to the rental, lease and sale of new and used electronic test and measurement (“T&M”) equipment. We purchase that equipment from leading manufacturers such as Agilent Technologies, Inc. (“Agilent”) and Tektronix Inc. primarily for use by our customers in the aerospace, defense, telecommunications, electronics, industrial and semiconductor industries. Although it represented only approximately 9% of our revenues for the three months ended August 31, 2011 and 8% for the three months ended August 31, 2012, we believe our data products (“DP”) equipment division is one of the largest rental businesses in the United States for personal computers and servers from manufacturers including Dell, Hewlett Packard and Toshiba.

We became a reseller for Agilent in fiscal 2010. Through January 31, 2014, we have the exclusive right to sell Agilent’s more complex T&M equipment to small and medium size customers (who previously purchased directly from Agilent) in the United States and Canada. Since establishing our resale channel, we have expanded our sales force to support our sales of Agilent’s T&M equipment and have cross trained our new resale organization and existing T&M sales force to provide both new and existing customers a complete product offering, including rental, lease and sales of new and used equipment.

On August 24, 2011, we completed the acquisition of certain assets (including accounts receivable and rental equipment but excluding certain designated assets) and the assumption of specified post-closing liabilities of Equipment Management Technology, Inc., for $10.7 million in cash, of which $0.5 million was deposited into an escrow account for any post-closing adjustments. The purchase price was reduced by $0.3 million in fiscal 2012 reflecting the final determination of the post-closing adjustment of the purchase price in accordance with the asset purchase agreement with EMT. (See Note 4 to the condensed consolidated financial statements (unaudited) included in this Form 10-Q.)

In recent years, our financial results were impacted by competitive pressure on rental rates due in large part to the recession in the U.S. and our major international markets. During fiscal 2012, we experienced a modest improvement in our T&M and DP rental rates and a significant increase in our equipment on rent, in part due to our recent acquisition of EMT in fiscal 2012, while maintaining a high utilization rate, in particular in our North American and European operations. In addition, our rental revenues have benefited from our expanded sales force and integration and cross training of our new resale organization and existing T&M sales force. As a result of these continued improvements, and sales of T&M equipment in connection with our resale channel, we experienced strong growth in revenues for fiscal 2012. During fiscal 2012, our operating profit modestly declined reflecting our significant investment in broadening and strengthening our sales and sales support organizations, as well as our administrative infrastructure, necessary to support our increased sales and rental demand and to better focus on future growth opportunities. During the three months ended August 31, 2012, our revenues were essentially unchanged compared to the three months ended August 31, 2011, as we continue to experience strong rental growth, while our sales revenue has declined. Changes in the U.S. national budgetary policy and continuing uncertainty in the economy, including the telecommunications and national defense sectors, caused delays in our customers’ procurement decisions. As a result, many customers have chosen to rent equipment or delay all procurement decisions as they contemplate how to operate going forward. Our operating profit declined modestly for the three months ended August 31, 2012, as compared to the three months ended August 31, 2011, as our infrastructure investment, which began in fiscal 2011 and continued throughout fiscal 2012, resulted in an increase in our selling, general and administrative expenses.

Economic uncertainty continues to impact our customers and competitors, resulting in more stringent credit requirements and reduced access to capital. We will continue to focus on remaining profitable in the current conditions, as well as being prepared for the possibility that recessionary trends may return in future periods.

For the three months ended August 31, 2012, 88% of our rental and lease revenues were derived from T&M equipment, compared to 85% for the prior year period. We have experienced growth in our T&M rental and lease revenues, due to increased demand, our acquisition of EMT, and the integration of our new resale organization and existing T&M sales force, while our DP rental and lease revenues declined.

 

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For the first three months of fiscal 2013, rental revenues were 90% of our rental and lease revenues, compared to 91% for the first three months of fiscal 2012. The decrease is the result of an increase in T&M lease revenues, primarily due to the lease revenues acquired from EMT. Rental and lease revenues declined in our DP segment.

To maximize our overall profit from the rental, leasing, and sales of equipment, we manage our equipment pool on an on-going basis by controlling the timing, pricing and mix of our purchases and sales of equipment. We acquire new and used equipment to meet current technological standards and current and anticipated customer demand, and we sell our used equipment where we believe that is the most lucrative option. We employ a complex equipment management strategy and our proprietary PERFECT™ software to adjust our equipment pool and pricing on a dynamic basis in order to maximize equipment availability, utilization and profitability. We manage each specific equipment class based on a separate assessment of that equipment’s historical and projected life cycle and numerous other factors, including the U.S. and global economy, interest rates and new product launches. If we do not accurately predict market trends, or if demand for the equipment we supply declines, we can be left with equipment that we are unable to rent or sell for a profit. We assess the carrying value of the equipment pool on a quarterly basis or more frequently when factors indicating potential impairment are present.

Profitability and Key Business Trends

Comparing the first three months of fiscal 2013 to the first three months of fiscal 2012, our revenues decreased by 0.3% from $58.7 million to $58.5 million, our operating profit decreased 4.4% from $8.6 million to $8.2 million and our net income decreased by 40.2% from $8.5 million to $5.1 million. Our net income for the three months ended August 31, 2011 includes a bargain purchase gain, net of deferred taxes, of $3.2 million, as a result of our acquisition of EMT.

Our rental and lease revenues increased 7.5% from $31.3 million for the first three months of fiscal 2012 to $33.7 million for the first three months of fiscal 2013. Our rental and lease revenues have grown as a result of the EMT acquisition in August 2011, increased rental demand in our North American, European and Asian operations, and the integration of our new resale organization and existing T&M sales force.

Our T&M sales and other revenues decreased 9.6% from $26.7 million for the first three months of fiscal 2012 to $24.1 million for the first three months of fiscal 2013. Our sales revenues have decreased due to a decline in our new equipment sales in connection with our resale channel, as our customers delay procurement decisions due to changes in our U.S. national budgetary policy and uncertainty in the global economy, offsetting moderate increases in used equipment sales.

Some of our key profitability measurements are presented below for the three months ended August 31, 2012 and 2011:

 

     Fiscal 2013     Fiscal 2012  

Net income per diluted common share (EPS)

   $ 0.21      $ 0.35   

Net income as a percentage of average assets

     6.2     11.0

Net income as a percentage of average equity

     8.3     14.3
  

 

 

   

 

 

 

For the three months ended August 31, 2012, our operating profit modestly declined compared to the three months ended August 31, 2011, as growth in our rental revenues was offset by a decline in sales of new equipment and an increase in depreciation expense of $1.5 million, or 12.2%, as we have invested in additional rental equipment to support our rental and lease growth. In addition, our selling, general and administrative expenses increased by $0.7 million, or 4.6%, for the three months ended August 31, 2012 compared to the three months ended August 31, 2011, primarily related to the broadening and strengthening of our sales organization in support of our new and used equipment sales, higher rental demand, and future growth opportunities.

The average amount of our equipment on rent, based on acquisition cost, increased 9.2% to $242.3 million for the first three months of fiscal 2013 compared to $221.9 million for the same period in fiscal 2012. The average acquisition cost of equipment on lease increased 14.0% to $33.3 million for the first three months of fiscal 2013 from $29.2 million for first three months of fiscal 2012. The increase in our average equipment on rent and lease was due, in part, to the acquisition of EMT during the three months ended August 31, 2011 as well as strengthening demand in our worldwide operations.

 

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Average rental rates for our T&M and DP segments decreased by 4.0% from August 31, 2011 to August 31, 2012, while average lease rates declined by 3.2% for the same period. Average utilization for our T&M equipment pool, based on average acquisition cost of equipment on rent and lease compared to the average total equipment pool, decreased slightly to 66.4% at August 31, 2012 from 68.1% at August 31, 2011. The average utilization of our DP equipment pool, based on the same method of calculation, decreased to 36.8% from 43.2% over the same period.

As of August 31, 2012 and 2011, our unfilled orders for T&M equipment relating to our resale channel were $7.8 million and $14.6 million, respectively. The decline in backlog for fiscal 2013 is primarily due to shorter manufacturing lead time and a reduction in new sales orders, reflecting lower demand.

Results of Operations

Comparison of Three Months Ended August 31, 2012 and August 31, 2011

Revenues

Total revenues for the three months ended August 31, 2012 and 2011 were $58.5 million and $58.7 million, respectively. The 0.3% decrease in total revenues was due to a 7.5% increase in rental and lease revenues offset by a 9.2% decrease in sales of equipment and other revenues.

Rental and lease revenues for the three months ended August 31, 2012 were $33.7 million, compared to $31.3 million for the same period of the prior fiscal year. This increase is due to an increase in T&M rental and lease demand, in particular in North American operations, due in part to the integration of our new resale organization and T&M sales force, which began in the first quarter of fiscal 2012, providing additional rental opportunities to an expanding customer base, and higher demand from our customers in lieu of equipment purchases. This increase was offset by a decline in rental and lease revenues in our DP business, due to a decrease in demand.

Sales of equipment and other revenues decreased to $24.8 million for the first quarter of fiscal 2013 from $27.3 million in the prior year quarter. The decrease is due to a decline in our sales of new T&M equipment through our resale channel, partially offset by increased used equipment sales.

Operating Expenses

Depreciation of rental and lease equipment increased in the first quarter of fiscal 2013 to $14.1 million, or 41.8% of rental and lease revenues, from $12.5 million, or 40.0% of rental and lease revenues, in the first quarter of fiscal 2012. The increased depreciation expense in fiscal 2013 was due to a higher average rental and lease equipment pool. The depreciation ratio, as a percentage of rental and lease revenues, increased due to modest declines in our average rental, lease and utilization rates.

Costs of revenues other than depreciation, which primarily includes the cost of equipment sales, decreased to $19.6 million in the first quarter of fiscal 2013 from $21.6 million in the same period of fiscal 2012. This decrease is due to a decline in sales of new T&M equipment through our resale channel, partially offset by an increase in used equipment sales. Related to equipment sales, costs of revenues other than depreciation decreased as a percentage of equipment sales to 77.3% in the first quarter of fiscal 2013 from 77.5% of equipment sales in the first quarter of fiscal 2012. This decrease is due to a decline in sales of new T&M equipment, which generally carry a lower margin than used equipment sales, as a percentage of T&M equipment sales. Our sales margin percentage is expected to fluctuate depending on the mix of used and new equipment sales. Our sales margin is also impacted by competition, the global recession, and customer requirements and funding.

Selling, general and administrative expenses increased 4.6% to $16.6 million in the first quarter of fiscal 2013 compared to $15.9 million in the first quarter of fiscal 2012. As a percentage of total revenues, selling, general and administrative expenses increased to 28.4% in the first quarter of fiscal 2013 from 27.1% in the first quarter of fiscal 2012. Our selling, general and administrative expenses increased primarily due to the broadening and strengthening of our sales and sales support organizations, as well as our administrative infrastructure, necessary to support our sales and rental demand and to better focus on future growth opportunities.

 

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Gain on Bargain Purchase: We recorded a gain on bargain purchase, net of deferred taxes, of $3.2 million during the three months ended August 31, 2011 compared to $0 for the three months ended August 31, 2012, related to our acquisition of EMT in August 2011. The gain on bargain purchase, net of deferred taxes, resulted from the excess of the net fair value of the assets acquired and liabilities assumed in the EMT acquisition over the respective purchase price. We believe that we were able to negotiate a bargain purchase price as a result of our access to the liquidity necessary to complete the transaction, and the recurring losses and bankruptcy filing of EMT.

Income Tax Provision

Our effective tax rate was 39.4% in the first quarter of fiscal 2013, compared to 28.6% in the first quarter of fiscal 2012. The increase during the three months ended August 31, 2012 was the result of a bargain purchase gain, net of deferred taxes, of $3.2 million for the three months ended August 31, 2011, related to our purchase of EMT on August 24, 2011. Bargain purchase gains are recorded net of deferred taxes and are treated as permanent differences, resulting in a lower effective tax rate in the period recorded.

Liquidity and Capital Resources

Capital Expenditures

Our primary capital requirements have been purchases of rental and lease equipment. We generally purchase equipment throughout the year to replace equipment that has been sold and to maintain adequate levels of rental equipment to meet existing and expected customer demands. To meet T&M rental demand, support areas of potential growth for both T&M and DP equipment and to keep our equipment pool technologically up-to-date, we made payments for the purchase of $19.8 million of rental and lease equipment during the first three months of fiscal 2013 compared to $24.1 million during the first three months of fiscal 2012, a decline of 17.8%.

Dividends

During the first three months of fiscal 2013 and 2012 we paid dividends of $0.20 per common share, or $0.80 per annum, amounting to an aggregate of $4.9 million and $4.8 million, respectively. We expect to continue paying a quarterly dividend in future quarters, although the amount and timing of dividends, if any, will be made at the discretion of our board of directors in each quarter, subject to compliance with applicable law.

Cash and Cash Equivalents

The balance of our cash and cash equivalents was $11.7 million at August 31, 2012, an increase of $2.4 million from May 31, 2012. Outside our normal operations and equipment purchases, we use our cash to pay dividends to shareholders and to take advantage of strategic acquisitions and new customer opportunities. Since the beginning of fiscal 2010 we have returned $53.4 million in cash to our shareholders, increasing our annual dividend rate from $0.60 per common share to $0.80 per common share in fiscal 2012. We have also made payments of $35.4 million in connection with two acquisitions and invested heavily in new equipment to take advantage of key new customer opportunities. We expect that the level of our cash needs may increase as we pay dividends in future quarters, or if we decide to buy back our common stock, increase equipment purchases in response to demand, finance another acquisition, or pursue other opportunities, and therefore we may need to draw upon our $25 million unused line of credit with a bank. We may also need to expand our borrowing capacity in order to ensure sufficient resources to quickly respond to strategic growth opportunities. Given our growth record achieved with no debt, we believe that we have ample access to borrowing capacity, and that our cash flow from operations and ability to borrow will allow us to continue funding our current and future growth.

Cash Flows and Credit Facilities

During the first three months of fiscal 2013 and 2012, net cash provided by operating activities was $21.0 million and $16.3 million, respectively. The increase in operating cash flow for fiscal 2013 was primarily attributable to an improvement in working capital, and an increase in income, after giving effect to non-cash items, including a bargain purchase gain of $3.2 million in the first three months of fiscal 2012.

During the first three months of fiscal 2013 and 2012, net cash used in investing activities was $13.6 million and $29.5 million, respectively. The decline in cash used in investing activities for the first three months of fiscal 2013 was due, in part, to a decrease in payments for purchases of rental and lease equipment to $19.8 million for the three months

 

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ended August 31, 2012 compared to $24.1 million for the three months ended August 31, 2011, an increase in the proceeds from sale of rental and lease equipment to $6.3 million for fiscal 2013 compared to $5.5 million for the first three months of fiscal 2012, and cash paid for the acquisition of EMT of $10.7 million in fiscal 2012.

Net cash flows used in financing activities were $4.8 million for the first three months of fiscal 2013 and 2012, respectively. These funds used were primarily composed of payments for dividends of $4.9 million and $4.8 million for the first three months of fiscal 2013 and 2012, respectively.

We have a $25.0 million revolving bank line of credit, subject to certain restrictions, to meet equipment acquisition needs as well as working capital and general corporate requirements. We had no borrowings for the first three months of fiscal 2013 and 2012, respectively. There are no other bank borrowings outstanding or off balance sheet financing arrangements at August 31, 2012.

We believe that cash and cash equivalents, cash flows from operating activities, proceeds from the sale of equipment and our borrowing capacity will be sufficient to fund our operations for at least the next twelve months.

Contractual Obligations

Our contractual obligations have not changed materially from those included in our Annual Report on Form 10-K for the fiscal year ended May 31, 2012.

Critical Accounting Policies and Estimates

The preparation of condensed consolidated financial statements in conformity with accounting principles generally accepted in the United States of America (“generally accepted accounting principles”) requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. On a regular basis, we review these estimates, including those related to asset lives and depreciation methods, impairment of long-lived assets including rental and lease equipment, goodwill and definite lived intangible assets, allowance for doubtful accounts and income taxes, and adjust them as appropriate. These estimates are based on our historical experience and on various other assumptions we believe to be reasonable under the circumstances.

These determinations, even though inherently subjective and subject to change, affect the reported amounts of our assets, liabilities and expenses. While we believe that our estimates are based on reasonable assumptions and judgments at the time they are made, some of our assumptions, estimates and judgments will inevitably prove to be incorrect. As a result, actual outcomes will likely differ from our accruals, and those differences—positive or negative—could be material.

We identified certain critical accounting policies that affect certain of our more significant estimates and assumptions used in preparing our consolidated financial statements in our Annual Report on Form 10-K for the fiscal year ended May 31, 2012. We have not made any material changes to these policies as previously disclosed.

 

Item 3. Quantitative and Qualitative Disclosures About Market Risk.

During the first three months of fiscal 2013, there were no material changes in the information regarding market risk contained in our Annual Report on Form 10-K for the fiscal year ended May 31, 2012.

 

Item 4. Controls and Procedures.

As of August 31, 2012, the end of the period covered by this report, our management, with the participation of our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”)). Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures as of the end of the period covered by this report were effective.

There was no change in our internal control over financial reporting (as defined in Rule 13a-15(f) of the Exchange Act) that occurred during our most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 

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Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures or our internal controls over financial reporting will prevent all error and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within our company have been detected.

PART II—OTHER INFORMATION

 

Item 1. Legal Proceedings.

From time to time, we may be involved in litigation relating to claims arising out of our operations in the normal course of business. As of the date of this report, we are not a party to any material litigation, other than ordinary routine legal proceedings and claims incidental to our business.

 

Item 1A. Risk Factors.

In addition to the other information set forth in this report, you should carefully consider the discussion of various risks and uncertainties contained in Part I, “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the fiscal year ended May 31, 2012. We believe those risk factors are the most relevant to our business and could cause our results to differ materially from the forward-looking statements made by us. However, those are not the only risk factors that we face. Additional risks that we do not consider material, or of which we are not currently aware, may also have an adverse impact on us. Our business, financial condition, and results of operations could be seriously harmed if any of these risks or uncertainties actually occurs or materializes. In that event, the market price for our common stock could decline, and our shareholders may lose all or part of their investment.

 

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.

None.

 

Item 3. Defaults Upon Senior Securities.

None.

 

Item 4. Mine Safety Disclosures.

Not applicable.

 

Item 5. Other Information.

None.

 

Item 6. Exhibits.

 

Exhibit

No.

  

Document Description

  

Incorporation by Reference

  10.1#    Amendment No. 2 to the Executive Employment Agreement between Electro Rent Corporation and Daniel Greenberg dated August 13, 2012    Filed herewith.
  10.2#    Amendment No. 1 to the Executive Employment Agreement between Electro Rent Corporation and Steven Markheim dated August 13, 2012    Filed herewith.
  10.3#    Amendment No. 1 to the Executive Employment Agreement between Electro Rent Corporation and Craig Jones dated August 13, 2012    Filed herewith.
  10.4#    Amendment No. 1 to the 2005 Equity Incentive Plan, dated August 13, 2012    Filed herewith.
  31.1    Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer    Filed herewith.

 

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  31.2   Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer    Filed herewith.
  32.1*   Section 1350 Certification by Chief Executive Officer    Filed herewith.
  32.2*   Section 1350 Certification by Chief Financial Officer    Filed herewith.
101.INS**   XBRL Instance Document.   
101.SCH**   XBRL Taxonomy Extension Schema Document.   
101.CAL**   XBRL Taxonomy Extension Calculation Linkbase Document.   
101.DEF**   XBRL Taxonomy Extension Definition Linkbase Document.   
101.LAB**   XBRL Taxonomy Extension Label Linkbase Document.   
101.PRE**   XBRL Taxonomy Extension Presentation Linkbase Document.   

 

# Management contract or compensatory plan or arrangement.
* This certification is being furnished solely to accompany this report pursuant to 18 U.S.C. 1350, and is not being filed for purposes of Section 18 of the Securities Exchange Act of 1934 and is not to be incorporated by reference into any filing of the registrant, whether made before or after the date hereof, regardless of any general incorporation language in such filing.
** Pursuant to Rule 406T of Regulation S-T, the Interactive Data Files on Exhibit 101 hereto are deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, are deemed not filed for purposes of Section 18 of the Securities and Exchange Act of 1934, and otherwise are not subject to liability under those sections.

 

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereto duly authorized.

 

  ELECTRO RENT CORPORATION
Date: October 9, 2012  

/s/ Craig R. Jones

 

Craig R. Jones

Vice President and Chief Financial Officer

(Principal Financial and Accounting Officer and duly

authorized to sign this report on behalf of the company)

 

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