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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
 
 (Mark One)
ý
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended February 28, 2015
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
(Registrant's telephone number, including area code)
 
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ý    No  o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ý    No  o
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.
Large accelerated filer
 
o
  
Accelerated filer
 
ý
 
 
 
 
Non-accelerated filer
 
o (Do not check if a smaller reporting company)
  
Smaller reporting company
 
o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  o    No  ý
The number of shares outstanding of the issuer’s common stock as of April 7, 2015 was 24,105,396.




Electro Rent Corporation
Quarterly Report on Form 10-Q
For the Quarterly Period Ended February 28, 2015
TABLE OF CONTENTS
 
 
Page
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 


Page 2



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 consolidated 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. Any statements that refer to projections of our future financial or operating performance, anticipated trends in our business, our goals, strategies, focus and plans, and other characterizations of future events or circumstances, including statements expressing general optimism about future operating results, are forward-looking statements.
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, 2014 (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



Part I. - FINANCIAL INFORMATION
Item 1. Financial Statements.
ELECTRO RENT CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited) (in thousands, except per share data)
 
Three Months Ended 
 February 28,
 
Nine Months Ended 
 February 28,
 
2015
 
2014
 
2015
 
2014
Revenues:
 
 
 
 
 
 
 
Rentals and leases
$
30,252

 
$
32,485

 
$
97,610

 
$
103,347

Sales of equipment and other revenues
26,090

 
29,531

 
80,306

 
76,713

Total revenues
56,342

 
62,016

 
177,916

 
180,060

Operating expenses:
 
 
 
 
 
 
 
Depreciation of rental and lease equipment
13,844

 
14,361

 
42,429

 
42,975

Costs of rentals and leases, excluding depreciation
4,544

 
4,493

 
13,665

 
14,103

Costs of sales of equipment and other revenues
19,598

 
21,583

 
60,161

 
54,800

Selling, general and administrative expenses
14,692

 
14,394

 
44,311

 
43,299

Total operating expenses
52,678

 
54,831

 
160,566

 
155,177

Operating profit
3,664

 
7,185

 
17,350

 
24,883

Interest income, net
82

 
106

 
264

 
275

Other income

 

 
1,390

 

Income before income taxes
3,746

 
7,291

 
19,004

 
25,158

Income tax provision
1,321

 
2,754

 
7,013

 
9,343

Net income
$
2,425

 
$
4,537

 
$
11,991

 
$
15,815

Earnings per share:
 
 
 
 
 
 
 
Basic
$
0.10

 
$
0.19

 
$
0.49

 
$
0.65

Diluted
$
0.10

 
$
0.19

 
$
0.49

 
$
0.65

Shares used in per share calculation:
 
 
 
 
 
 
 
Basic
24,377

 
24,334

 
24,355

 
24,320

Diluted
24,377

 
24,367

 
24,355

 
24,349

Cash dividend declared per share
$
0.20

 
$
0.20

 
$
0.60

 
$
0.60

See accompanying notes to consolidated financial statements (unaudited).

Page 4



ELECTRO RENT CORPORATION
CONSOLIDATED BALANCE SHEETS
(Unaudited) (in thousands, except share numbers)
 
February 28, 2015
 
May 31, 2014
Assets
 
 
 
Cash
$
8,133

 
$
5,946

Accounts receivable, net of allowance for doubtful accounts of $592 and $555
32,046

 
34,970

Rental and lease equipment, net of accumulated depreciation of $241,431 and $237,151
216,841

 
221,888

Other property, net of accumulated depreciation and amortization of $19,496 and $18,983
13,317

 
13,122

Goodwill
3,109

 
3,109

Intangibles, net of accumulated amortization of $1,732 and $1,632
773

 
873

Other assets
27,508

 
22,150

 
$
301,727

 
$
302,058

Liabilities and Shareholders' Equity
 
 
 
Liabilities:
 
 
 
Bank borrowings
$

 
$

Accounts payable
7,563

 
7,279

Accrued expenses
14,625

 
14,472

Deferred revenue
6,159

 
7,537

Deferred tax liability
44,259

 
41,812

Total liabilities
72,606

 
71,100

Commitments and contingencies (Note 11)

 

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 February 28, 2015 - 24,104,834; May 31, 2014 - 24,007,709
40,123

 
39,252

Retained earnings
188,998

 
191,706

Total shareholders’ equity
229,121

 
230,958

 
$
301,727

 
$
302,058

See accompanying notes to consolidated financial statements (unaudited).

Page 5



ELECTRO RENT CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited) (in thousands)
 
Nine Months Ended February 28,
 
2015
 
2014
Cash flows from operating activities:
 
 
 
Net income
$
11,991

 
$
15,815

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization
43,233

 
43,922

Remeasurement (gain)/loss on foreign currency
(65
)
 
71

Provision for losses on accounts receivable
394

 
490

Gain on sale of rental and lease equipment
(10,108
)
 
(10,837
)
Stock compensation expense
968

 
1,036

Excess tax benefit for share-based compensation
(348
)
 
(156
)
Deferred income taxes
2,447

 
(6,506
)
Change in operating assets and liabilities:
 
 
 
Accounts receivable
908

 
197

Other assets
(9,770
)
 
(2,969
)
Accounts payable
406

 
285

Accrued expenses
735

 
(2,893
)
Deferred revenue
(1,295
)
 
(121
)
Net cash provided by operating activities
39,496

 
38,334

Cash flows from investing activities:
 
 
 
Proceeds from sale of rental and lease equipment
26,610

 
24,459

Payments for purchase of rental and lease equipment
(48,674
)
 
(44,723
)
Payments for purchase of other property
(899
)
 
(352
)
Net cash used in investing activities
(22,963
)
 
(20,616
)
Cash flows from financing activities:
 
 
 
Borrowings under bank lines of credit
35,823

 
43,758

Payments under bank lines of credit
(35,823
)
 
(51,733
)
Minimum tax withholdings on share-based compensation
(445
)
 
(11
)
Excess tax benefit for share-based compensation
348

 
156

Payment of dividends
(14,782
)
 
(14,791
)
Net cash used in financing activities
(14,879
)
 
(22,621
)
Effect of exchange rate changes on cash
533

 
(285
)
Net increase (decrease) in cash
2,187

 
(5,188
)
Cash at beginning of period
5,946

 
10,402

Cash at end of period
$
8,133

 
$
5,214

 
 
 
 
Interest paid, during the period
$
20

 
$
95

Income taxes paid, during the period
$
7,999

 
$
18,048

Dividends accrued during the period, not yet paid
$
128

 
$
211

Rental equipment acquisitions, not yet paid
$
4,564

 
$
2,978

Used equipment sales in accounts receivable and other assets, not yet collected
$
6,936

 
$
11,184

Transfers from other assets to rental and lease equipment
$
3,011

 
$
2,428

See accompanying notes to consolidated financial statements (unaudited).

Page 6


ELECTRO RENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(dollar and share amounts in thousands, except per share amounts)


Note 1: Basis of Presentation
The unaudited 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 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. and Electro Rent (Beijing) Test and Measurement Equipment 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 omitted pursuant to such SEC rules and regulations. These 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 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 11, 2014.
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 to be expected for the full year.
Revenue Recognition
We generate revenues primarily through the rental and leasing of test and measurement equipment (“T&M”) and personal computer-related data products equipment (“DP”) and through the sale of new and used equipment. Rental revenues comprise short term agreements that can be daily, weekly or monthly. Rental revenues are recognized in the month they are due on the accrual basis of accounting. We lease equipment under both operating and finance lease agreements.
Our operating lease agreements have varying terms, typically one to three years. Upon lease termination, customers have the option to renew the lease term, purchase the equipment at fair market value, or continue to rent on a month-to-month basis. Our operating leases do not provide for contingent rentals. Revenues related to operating leases are recognized on a straight-line basis over the term of the lease. Negotiated lease early-termination charges are recognized upon receipt. Rentals and leases are primarily billed to customers in advance, and unearned billings are recorded as deferred revenue.
Our finance lease agreements contain bargain purchase options and are accounted for as sale-type leases. Revenues from finance leases, which are recorded at the present value of the aggregate future lease payments, net of unearned interest, are included in sales of equipment and other revenues in our consolidated statements of operations. Unearned interest is recognized over the life of the finance lease term using the effective interest method. Our finance lease terms vary, and are typically one to three years. The net investment in finance leases, which represents the receivables due from lessees, net of unearned interest, is included in other assets in our consolidated balance sheets. Historically, we have not required security deposits based on our assessed credit risk within our customer bases.
Initial direct costs for operating and finance leases are insignificant.
Sales of new equipment through our resale channel are recognized in the period in which the equipment is delivered and risk of loss passes to the customer, while sales of used equipment from our rental and lease equipment pool are recognized in the period in which the equipment is shipped and risk of loss is passed to the customer. In the case of equipment sold to customers that is already on rent or lease to the same party, revenue is recognized at the agreed-upon date when the rent or lease term ends and the risk of loss passes to the customer.
In fiscal 2010, we became a reseller of Agilent Technologies, Inc.’s (now Keysight Technologies, Inc. or "Keysight") new T&M equipment in the U.S. and Canada. In accordance with accounting guidance, we are acting as the principal with respect to sales of new equipment through our resale agreement with Keysight, based on several factors, including:
(1) We act as the primary obligor by working directly with our customers to define their needs, providing them with options to satisfy such needs, contracting directly with the customer, and, to the extent required, providing customers with instruction on the use of the product and additional technical support once the product is received by the customer. The product manufacturer

Page 7


ELECTRO RENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(dollar and share amounts in thousands, except per share amounts)

is not a party to our customer sales agreements, nor is it referenced in the agreements, and therefore has no obligation to our customers with the exception of the manufacturer’s standard warranty on the product;
(2) We bear back-end risk of inventory loss with respect to any product return from the customer as the original manufacturer is not required to accept returns of equipment from us. We also bear front-end risk of inventory loss in those cases where we acquire products for resale into our equipment pool prior to shipment to customers;
(3) We have full discretion in setting pricing terms with our customers and negotiate all such terms ourselves; and
(4) We assume all credit risk.
Accordingly, sales of new equipment through our resale channel are recorded in sales of equipment and other revenues and the related equipment costs are recorded in costs of sales of equipment and other revenues in our consolidated statements of operations.
On March 3, 2015, we announced that our reseller agreement with Keysight will not be renewed after its May 31, 2015 expiration date.
Other revenues, consisting primarily of billings to customers for delivery, are recognized in the period in which the respective services are performed.
Operating Expenses
Costs of rentals and leases, excluding depreciation, primarily include labor related costs of our operations personnel, supplies, repairs, insurance and warehousing costs associated with our rental and lease revenues.
Costs of sales of equipment and other revenues primarily include the cost of new equipment and the carrying value of used equipment sold.
Selling, general and administrative (“SG&A”) expenses include sales and advertising costs, payroll and related benefit costs, insurance expenses, property taxes on our property and rental and lease equipment, legal and professional fees, and administrative overhead. Advertising costs are expensed as incurred. Total advertising expenses were $301 and $720, respectively, for the three and nine months ended February 28, 2015 and $233 and $665, respectively, for the three and nine months ended February 28, 2014. SG&A expenses also include shipping and handling costs of $847 and $2,968, respectively, for the three and nine months ended February 28, 2015 and $915 and $2,997 for the three and nine months ended February 28, 2014.
Foreign Currency
The U.S. dollar has been determined to be the functional currency of all foreign subsidiaries. The assets and liabilities of our foreign subsidiaries are remeasured from their local 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 SG&A 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. Remeasurement gains and losses have not been significant.
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. To qualify for hedge accounting, contracts must reduce the foreign currency exchange rate and interest rate risk otherwise inherent in the amount and duration of the hedged exposures and comply with established risk management policies. Our 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 consolidated statements of operations. We do not use derivative financial instruments for speculative trading purposes.

Page 8


ELECTRO RENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(dollar and share amounts in thousands, except per share amounts)

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
 
February 28, 2015
 
May 31, 2014
Foreign exchange forward contracts
 
Other assets
 
$
(4
)
 
$
9


The table below provides data about the amount of gains and losses recognized in income for derivative instruments not designated as hedging instruments:
Derivatives Not Designated as Hedging Instruments
 
Location of Gain/(Loss) Recognized in Income on Derivatives
 
Three Months Ended February 28, 2015
 
Three Months Ended February 28, 2014
Foreign exchange forward contracts
 
SG&A expenses
 
$
149

 
$
(32
)
Derivatives Not Designated as Hedging Instruments
 
Location of Gain/(Loss) Recognized in Income on Derivatives
 
Nine Months Ended February 28, 2015
 
Nine Months Ended February 28, 2014
Foreign exchange forward contracts
 
SG&A expenses
 
$
659

 
$
(266
)
Other Assets
We include demonstration equipment used in connection with our resale activity of $9,581 and $6,659 as of February 28, 2015 and May 31, 2014, 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. We also have a Supplemental Executive Retirement Plan (“SERP”) that provides for automatic deferral of contributions in excess of the maximum amount permitted under the 401(k) for our executives who choose to participate. The SERP is a non-qualified deferred compensation program. We have the option to match contributions of participants at a rate we determine each year.
Other assets consisted of the following:
 
February 28, 2015
 
May 31, 2014
Demonstration equipment
$
9,581

 
$
6,659

Net investment in sales-type leases
5,498

 
7,264

Prepaid expenses and other
2,945

 
2,978

SERP
3,500

 
3,418

Income taxes receivable
5,984

 
1,831

 
$
27,508

 
$
22,150

Recent Accounting Pronouncements
In May 2014, the Financial Accounting Standards Board ("FASB") and the International Accounting Standards Board ("IASB") issued guidance to establish a new, more robust framework for the recognition of revenue related to the transfer of goods and services to customers. This guidance is effective for reporting periods beginning after December 15, 2016, including interim reporting periods thereafter. The impact this guidance will have on the consolidated financial statements has not been determined at this time.
In August 2014, the FASB issued guidance that requires management to evaluate whether there is substantial doubt about the entity's ability to continue as a going concern and, if so, disclose that fact. This guidance is effective for annual periods ending after December 15, 2016, including interim reporting periods thereafter. The new guidance affects disclosures only and will not have a material impact on our consolidated financial position, results of operations or cash flows.
Other Comprehensive Income
Comprehensive income is equivalent to net income for all periods presented.

Page 9


ELECTRO RENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(dollar and share amounts in thousands, except per share amounts)

Out-of-period Adjustment
During the second quarter of fiscal 2015, we identified $1.3 million of previously recognized revenue which the Company was not entitled to recognize. We determined this adjustment to be immaterial to our current and previously filed financial statements. We have recorded this out-of-period adjustment as a reduction to sales of equipment and other revenues and an increase to accrued expenses for the quarter ended November 30, 2014.
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. We held no cash equivalents at February 28, 2015 and May 31, 2014 except for the money market funds that are part of our SERP assets.
Note 3: Fair Value Measurements
We measure certain financial assets and liabilities at fair value on a recurring basis, including SERP assets and foreign currency derivatives. The fair value of financial assets 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;
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, such as those that may be used with internally-developed valuation models.
Our assets measured at fair value on a recurring basis were determined as follows:
 
  
February 28, 2015
 
Quoted
Prices in
Active
Markets for
Identical
Instruments
(Level 1)
 
Significant
Other
Observable
Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
 
Total
Balance
Assets
 
 
 
 
 
 
 
SERP
 
 
 
 
 
 
 
Money market fund
$
166

 
$

 
$

 
$
166

Mutual funds
3,334

 

 

 
3,334

Total assets measured at fair value
$
3,500

 
$

 
$

 
$
3,500

 
 
 
 
 
 
 
 
Liabilities
 
 
 
 
 
 
 
Foreign exchange forward contracts
$

 
$
4

 
$

 
$
4

Total liabilities measured at fair value
$

 
$
4

 
$

 
$
4



Page 10


ELECTRO RENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(dollar and share amounts in thousands, except per share amounts)

  
May 31, 2014
 
Quoted
Prices in
Active
Markets for
Identical
Instruments
(Level 1)
 
Significant
Other
Observable
Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
 
Total
Balance
Assets
 
 
 
 
 
 
 
SERP
 
 
 
 
 
 
 
Money market fund
$
323

 
$

 
$

 
$
323

Mutual funds
3,095

 

 

 
3,095

Foreign exchange forward contracts

 
9

 

 
9

Total assets measured at fair value
$
3,418

 
$
9

 
$

 
$
3,427

The fair value measures for our SERP assets, which include money market and mutual funds, 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.
Note 4: 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. Pursuant to the Equity Incentive Plan, we have granted restricted stock units to directors, officers and key employees.
Restricted Stock Units
Each vested restricted stock unit entitles the holder to be issued one share of common stock. The vested restricted stock units settle into common stock on the earliest of (i) the first January 1st after the fifth anniversary of the grant, (ii) a change of control, or (iii) termination of the holder’s employment or membership on our Board of Directors. Restricted stock units vest according to a vesting schedule determined by the Compensation Committee of our Board of Directors, generally over a one to three year period.
The following table represents restricted stock unit activity for the nine months ended February 28, 2015:
 
Restricted
Stock
Units
 
Weighted –
Average
Grant
Date
Fair Value
Nonvested at June 1, 2014
122

 
$
17.57

Granted
87

 
15.64

Vested
(75
)
 
16.95

Nonvested at February 28, 2015
134

 
$
16.66

We granted 0 and 87 restricted stock units during the three and nine months, respectively, ended February 28, 2015 and 0 and 65 restricted stock units during the three and nine months, respectively, ended February 28, 2014.
Under the terms of our restricted stock unit agreements, nonvested restricted stock unit awards contain forfeitable rights to dividends. Because the dividends are forfeitable, the restricted stock units are defined as non-participating securities. As of February 28, 2015, we have unrecognized share-based compensation cost of approximately $1,529 associated with restricted stock unit awards. This cost is expected to be recognized over a weighted-average period of approximately 1.8 years.
We had 401 and 328 vested restricted stock units as of February 28, 2015 and 2014, respectively, which receive dividends following vesting and are convertible to common shares five years after the grant date.

Page 11


ELECTRO RENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(dollar and share amounts in thousands, except per share amounts)

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, which is approximately three 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 units.
We recorded $319 and $968, respectively, of share-based compensation as part of SG&A expenses for the three and nine months ended February 28, 2015 and $312 and $1,036, respectively, of share-based compensation as part of SG&A expenses for the three and nine months ended February 28, 2014.
We receive a tax deduction for certain restricted stock units on the date the related shares are issued, generally for the excess of the fair value of our common stock at the date of issuance over the fair value of restricted stock units on the date of grant, and dividends paid on vested restricted stock units where the underlying shares have not been issued. Excess tax benefits are realized tax benefits from tax deductions for such dividends and restricted stock units issued. The total excess tax benefit realized for the nine months ended February 28, 2015 and 2014 was $348 and $156, respectively.
Note 5: 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.
The changes in carrying amount of goodwill and other intangible assets for the nine months ended February 28, 2015 were as follows:
 
Balance as of
June 1, 2014
(net of amortization)
 
Additions
 
Amortization
 
Balance as of February 28, 2015
Goodwill
$
3,109

 
$

 
$

 
$
3,109

Trade name
411

 

 

 
411

Customer relationships
462

 

 
(100
)
 
362

 
$
3,982

 
$

 
$
(100
)
 
$
3,882

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 February 28, 2015 and May 31, 2014.

Page 12


ELECTRO RENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(dollar and share amounts in thousands, except per share amounts)

Intangible assets with finite useful lives are amortized over their respective estimated useful lives. The following tables provide a summary of our intangible assets:
 
February 28, 2015
 
Estimated
Useful Life
 
Gross Carrying
Amount
 
Accumulated
Amortization
 
Net Carrying
Amount
Trade name

 
$
411

 
$

 
$
411

Customer relationships
3-8 years

 
2,094

 
(1,732
)
 
362

 
 
 
$
2,505

 
$
(1,732
)
 
$
773

 
 
 
 
 
 
 
 
 
May 31, 2014
 
Estimated
Useful Life
 
Gross Carrying
Amount
 
Accumulated
Amortization
 
Net Carrying
Amount
Trade name

 
$
411

 
$

 
$
411

Customer relationships
3-8 years

 
2,094

 
(1,632
)
 
462

 
 
 
$
2,505

 
$
(1,632
)
 
$
873

Amortization expense related to intangible assets was $30 and $41 for the three months ended February 28, 2015 and 2014, respectively, and $100 and $129 for the nine months ended February 28, 2015 and 2014, respectively.
Amortization expense for customer relationships is included in SG&A expenses. The following table provides estimated future amortization expense related to intangible assets as of February 28, 2015:
Year ending May 31,
 
Future
Amortization
2015 (remaining)
 
$
29

2016
 
118

2017
 
118

2018
 
97

2019
 

 
 
$
362

Note 6: Borrowings
On November 19, 2013, we entered into a credit agreement (the “Credit Agreement”) with J.P. Morgan Chase Bank, National Association (“JPM”), as administrative agent, J.P. Morgan Securities LLC, as sole bookrunner and sole lead arranger, and a syndicate of lenders. The Credit Agreement provides for a $25,000 revolving credit facility, including swingline loans and letters of credit, and has a term of three years. We have an option to increase the commitments under the Credit Agreement by up to an additional $25,000, upon our request and subject to the lenders electing to increase their commitments or by means of the addition of new lenders. Borrowings under the Credit Agreement bear interest at a rate equal to, at our election, the applicable rate for a “Eurodollar Loan” or a “CB Floating Rate Loan.” Eurodollar Loan advances accrue interest at a per annum interest rate equal to (i) the quotient (rounded upwards to the next 1/16th of 1%) of (a) the applicable LIBO Rate, divided by (b) one minus the maximum aggregate reserve requirement (expressed as a decimal) imposed under Federal Reserve Board Regulation D (the “Adjusted LIBO Rate”), plus (ii) 0.75%. CB Floating Rate Loan advances accrue interest at a per annum interest rate equal to (i) the higher of (a) JPM’s Prime Rate or (b) the Adjusted LIBO Rate for a one month interest period plus 2.5%, minus (ii) 2.0%. In addition, we pay a commitment fee of 0.10% of the unused amount if the average borrowing under the Credit Agreement is less than or equal to $8,000 on a quarterly basis.
The Credit Agreement contains customary affirmative and negative covenants (which are in some cases subject to certain exceptions), including, but not limited to, restrictions on the ability to incur additional indebtedness, create liens, make certain investments, make restricted payments, enter into or undertake certain liquidations, mergers, consolidations or acquisitions and dispose of assets or subsidiaries. In addition, the Credit Agreement requires us to maintain minimum earnings and tangible net worth. We were in compliance with all financial covenants at February 28, 2015.
We had no borrowings outstanding under the Credit Agreement at February 28, 2015 and May 31, 2014.

Page 13


ELECTRO RENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(dollar and share amounts in thousands, except per share amounts)

Note 7: 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.
The minimum lease payments receivable and the net investment included in other assets for such leases were as follows:
 
February 28, 2015
 
May 31, 2014
Gross minimum lease payments receivable
$
5,725

 
$
7,543

Less – unearned interest
(227
)
 
(279
)
Net investment in sales-type lease receivables
$
5,498

 
$
7,264

The following table provides estimated future minimum lease payments receivable related to sales-type leases:
Year ending May 31,
 
Future
Payments
2015 (remaining)
 
$
1,103

2016
 
3,527

2017
 
957

2018
 
138

2019
 

 
 
$
5,725

Note 8: 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 in our business: our T&M and DP businesses.
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 $420,771 of T&M equipment and $37,501 of DP equipment at February 28, 2015 and $421,128 of T&M equipment and $37,911 of DP equipment at May 31, 2014.

Page 14


ELECTRO RENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(dollar and share amounts in thousands, except per share amounts)

Revenues for these operating segments were as follows for the three months ended February 28, 2015 and 2014:
 
T&M
 
DP
 
Total
2015
 
 
 
 
 
Rentals and leases
$
26,372

 
$
3,880

 
$
30,252

Sales of equipment and other revenues
25,799

 
291

 
26,090

 
$
52,171

 
$
4,171

 
$
56,342

2014
 
 
 
 
 
Rentals and leases
$
28,793

 
$
3,692

 
$
32,485

Sales of equipment and other revenues
29,221

 
310

 
29,531

 
$
58,014

 
$
4,002

 
$
62,016

Revenues for these operating segments were as follows for the nine months ended February 28, 2015 and 2014:
 
T&M
 
DP
 
Total
2015
 
 
 
 
 
Rentals and leases
$
84,410

 
$
13,200

 
$
97,610

Sales of equipment and other revenues
79,033

 
1,273

 
80,306

 
$
163,443

 
$
14,473

 
$
177,916

2014
 
 
 
 
 
Rentals and leases
$
90,673

 
$
12,674

 
$
103,347

Sales of equipment and other revenues
75,334

 
1,379

 
76,713

 
$
166,007

 
$
14,053

 
$
180,060

No single customer accounted for more than 10% of total revenues during the nine months ended February 28, 2015 and 2014.
Selected country information is presented below:
 
Three Months Ended February 28,
 
Nine Months Ended February 28,
 
2015
 
2014
 
2015
 
2014
Revenues: 1
 
 
 
 
 
 
 
U.S.
$
47,922

 
$
52,638

 
$
149,320

 
$
151,775

Other 2
8,420

 
9,378

 
28,596

 
28,285

Total
$
56,342

 
$
62,016

 
$
177,916

 
$
180,060

 
As of
 
February 28, 2015
 
May 31, 2014
Net Long-Lived Assets: 3
 
 
 
U.S.
$
185,283

 
$
188,343

Other 2
44,875

 
46,667

Total
$
230,158

 
$
235,010


1    Revenues by country are based on the shipping destination.
2    Other consists of countries other than the U.S. Each foreign country individually accounts for less than 10% of the total revenues and long-lived assets.
3    Net long-lived assets include rental and lease equipment and other property, net of accumulated depreciation and amortization.

Page 15


ELECTRO RENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(dollar and share amounts in thousands, except per share amounts)

Note 9: 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 and nine months ended February 28, 2015 and 2014:
 
Three Months Ended 
 February 28,
 
Nine Months Ended 
 February 28,
 
2015
 
2014
 
2015
 
2014
Denominator:
 
 
 
 
 
 
 
Denominator for basic earnings per share - weighted average common shares outstanding (including shares issuable for vested restricted stock units)
24,377

 
24,334

 
24,355

 
24,320

Effect of unvested restricted stock units

 
33

 

 
29

Diluted shares used in per share calculation
24,377


24,367


24,355


24,349

Net income
$
2,425

 
$
4,537

 
$
11,991

 
$
15,815

Earnings per share:
 
 
 
 
 
 
 
Basic
$
0.10

 
$
0.19


$
0.49


$
0.65

Diluted
$
0.10

 
$
0.19


$
0.49


$
0.65

We did not include 78 shares in the calculation of diluted earnings per share for the three and nine months ended February 28, 2015, respectively, and 5 shares in the calculation of diluted earnings per share for the three and nine months ended February 28, 2014, respectively, as to do so would be antidilutive.

Note 10: 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. There were no uncertain tax positions in fiscal 2015 and 2014.
We are subject to taxation in the U.S., as well as various state and foreign jurisdictions. We have substantially settled all income tax matters for the United States federal jurisdiction for years through fiscal 2011. Major state jurisdictions have been examined through fiscal years 2004 and 2005, and certain foreign jurisdictions are under audit for fiscal 2009 and 2010, which began in the first quarter of fiscal 2015.
Note 11: 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 or awards against us. 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 that we believe would reasonably be expected to have a material adverse effect on our financial condition, results of operations or cash flows.

Page 16



Agreement with Keysight Technologies, Inc.
In fiscal 2010, we became a reseller of Agilent Technologies, Inc.’s ("Agilent") new T&M equipment in the U.S. and Canada. As of November 1, 2014, Agilent spun off Keysight Technologies, Inc., its wholly-owned subsidiary that manufactures T&M equipment, into a separate publicly traded company. Sales of new T&M equipment represent approximately 66.8% and 63.1% of our sales of equipment and other revenues for the nine months ended February 28, 2015 and 2014, respectively. Nearly all of our sales of new T&M equipment are in connection with our reseller agreement with Keysight. On March 3, 2015, we announced that our reseller agreement with Keysight will not be renewed after its May 31, 2015 expiration date. The expiration of the Keysight reseller agreement has negatively impacted our stock price, and is expected to significantly and negatively impact our revenue and net profits.
Note 12: Other Income
In the second quarter of fiscal 2015, we recognized other income from a $1.4 million settlement received as one of the plaintiffs in a class action lawsuit involving the purchase of certain computer products.
Note 13: Subsequent Events
On March 4, 2015, our Board of Directors declared a quarterly cash dividend of $0.20 per common share. The dividend will be paid on April 10, 2015 to shareholders of record as of March 20, 2015.
On March 3, 2015, we issued a press release announcing that our Authorized Technology Partner agreement with Keysight Technologies, Inc., formerly a unit of Agilent Technologies Inc., will not be renewed after its May 31, 2015 expiration date. See Note 11: Commitments and Contingencies.


Page 17



Item 2.        Management’s Discussion and Analysis of Financial Condition and Results of Operations.
The following discussion addresses our (a) financial condition as of February 28, 2015 and May 31, 2014, (b) the results of our operations for the three and nine months ended February 28, 2015 and 2014, and (c) cash flows for the nine months ended February 28, 2015 and 2014. 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, 2014, 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 T&M equipment from leading manufacturers such as Keysight Technologies, Inc. (formerly Agilent Technologies, Inc., “Keysight”), Anritsu, Inc., Rohde & Schwarz Gmbh & Co. KG and Tektronix Inc. Our customers rent, lease and buy our T&M equipment, and use that equipment primarily in the aerospace, defense, telecommunications, and semiconductor industries.
In addition, although it represented only approximately 7.6% of our revenues for the first nine months of fiscal 2015, we believe our Data Products ("DP") division is one of the largest rental companies in the United States for personal computers and servers from manufacturers including Dell, HP/Compaq, IBM, Toshiba and Apple.
Our Businesses
Our businesses are as follows:
Rental and Lease Business. We rent and lease state-of-the-art electronic equipment. We maintain an equipment portfolio comprising T&M and DP equipment purchased from leading manufacturers, which we warehouse in various locations around the world to enable us to serve rental and lease customers.
Used Equipment Sales. We sell used T&M and DP equipment that we previously held for rent and lease. Used equipment is sold at substantial discounts compared to new equipment, and provides an economic advantage for customers seeking ownership of used equipment. All of our used equipment has been maintained and serviced by our professional maintenance team, and our customers have confidence in the quality of the used equipment purchased from us.
New Equipment Sales. We sell new T&M equipment. We are, through May 31, 2015, an authorized reseller of certain new Keysight (formerly Agilent) T&M products and services to small and medium size customers in the United States and Canada. Substantially all of our new equipment sales were through our Keysight reseller agreement.
On March 3, 2015, we announced that our reseller agreement with Keysight will not be renewed after its May 31, 2015 expiration date. The expiration of the Keysight reseller agreement is expected to materially affect our revenues and net profits. Please see the risk factor in PART II-Section 1A, below, for further discussion about the risks related to the expiration of the Keysight reseller agreement. We are attempting to enter into agreements with other manufacturers of equipment. We do not currently have reseller agreements with any other manufacturers for equipment similar to that included in our Keysight reseller agreement.
Our Sales Strategy
We have a focused sales strategy, using a direct sales force to meet our customers’ needs in our T&M equipment rental, lease and sales business. We have an experienced, highly technical sales force that specializes in all the products and services offered by our company. Our sales force identifies potential customers through coordinated efforts with our marketing organization, which is staffed by professionals with many years of industry-related experience. As our customers have a wide range of requirements for equipment, our sales force is able to leverage our extensive knowledge of the T&M and DP equipment environment to determine the right product to rent, lease or sell to the customer to meet the customer’s specific needs.
Our Equipment Management Strategy
To maximize our overall profitability 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 for our rental pool to meet current technological standards and current and anticipated customer demand, and we sell

Page 18



our used equipment where we believe that is the most lucrative option. We employ a complex equipment management strategy utilizing 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 an annual basis or more frequently when factors indicating potential impairment are present.
Foreign Operations and Hedging
Due to our foreign operations, we have revenue, expenses, assets and liabilities in foreign currencies, primarily the euro, Canadian dollar and Chinese yuan. We only enter into forward contracts to hedge against unfavorable currency fluctuations in our monetary assets and liabilities in our European and Canadian operations. Fluctuations in the Chinese yuan have not been significant. As a result of these forward contracts, we were able to reduce the impact of foreign currency fluctuations flowing through our operating results during the nine months ended February 28, 2015.
Profitability and Key Business Trends
Following is a summary of certain financial metrics comparing the first nine months of fiscal 2015 to the first nine months of fiscal 2014 that our management deem important indicators of the performance of the Company:
our rental and lease revenues decreased by 5.6% to $97.6 million from $103.3 million primarily due to decreases in average T&M equipment on rent and lease and decreases in rates due to competition and the negative effect of a decline in foreign exchange rates;
our sales of equipment and other revenues increased by 4.7% to $80.3 million from $76.7 million primarily due to an increase in new equipment sales as a result of increased demand;
our operating profit decreased 30.3% to $17.4 million from $24.9 million primarily due to the decrease in rental and lease revenues;
our net income decreased 24.2% to $12.0 million from $15.8 million;
our net income per diluted common share (EPS) decreased 25% to $0.49 from $0.65;
our net income (annualized) as a percentage of average assets declined to 5.3% from 7.0%; and
our net income (annualized) as a percentage of average equity declined to 7.0% from 9.6%.
Comparison of Three Months Ended February 28, 2015 and February 28, 2014
Revenues
Total revenues for the three months ended February 28, 2015 and 2014 were $56.3 million and $62.0 million, respectively. The 9.1% decrease in total revenues was due to a 6.9% decrease in rental and lease revenues and a 11.7% decrease in sales of equipment and other revenues.
Rental and Lease Revenues
Rental and lease revenues for the three months ended February 28, 2015 were $30.3 million, compared to $32.5 million for the same period of the prior fiscal year as follows:
 
Three Months Ended February 28,
2015
 
2014
T&M rental and lease revenue
$
26,372

 
$
28,793

DP rental and lease revenue
3,880

 
3,692

 
$
30,252

 
$
32,485


Page 19



Our T&M rental and lease revenues decreased by $2.4 million due to a decrease in rates of $2.4 million primarily driven by competition and a change in product mix and included the effect of a decrease in foreign exchange rates of $0.6 million affecting our European and Canadian operations. We also experienced reduced demand in several industries we serve, including telecommunications, semiconductor, and aerospace and defense, the latter having been impacted by sequestration and lower budgets, while our industrial business remained stable.
The decrease in T&M rental and lease business was partially offset by a $0.2 million increase in DP rental and lease revenues primarily due to increase in demand while rates remained consistent to fiscal 2014.
Sales and Other Revenues
Sales of equipment and other revenues decreased from $29.5 million for the third quarter of fiscal 2014 to $26.1 million for the third quarter of fiscal 2015 as follows:
 
Three Months Ended February 28,
2015
 
2014
Sales of new equipment
$
17,273

 
$
17,609

Sales of used equipment and other revenues
8,817

 
11,922

 
$
26,090

 
$
29,531

The decrease in sales of equipment and other revenues in third quarter of fiscal 2015 is primarily a result of a weaker demand for sales of used equipment and other revenues as compared to the third quarter of fiscal 2014 and a slight decrease in sales of new equipment. The decrease in sales revenues for used equipment and other revenues is primarily a result of fewer buyouts of equipment on rent and lease during the three months ended February 28, 2015 as compared to the same period in fiscal 2014.
Operating Expenses
Depreciation expense in the third quarter of fiscal 2015 remained relatively consistent to the third quarter of fiscal 2014 at $13.8 million and $14.4 million for the three months ended February 28, 2015 and 2014, respectively. However, the depreciation ratio, as a percentage of rental and lease revenues, increased to 45.8% in the third quarter of fiscal 2015 from 44.2% in the third quarter of fiscal 2014 as T&M rental and lease revenues decreased.
Costs of rentals and leases, excluding depreciation, which primarily includes labor related costs of our operations personnel, supplies, repairs, equipment subrentals and insurance and warehousing costs associated with our rental and lease equipment, remained flat at $4.5 million for the three months ended February 28, 2015 and 2014. Generally, this expense remains consistent as our existing infrastructure is capable of handling moderate changes in rental and lease activity.
Costs of sales of equipment and other revenues, which primarily include the cost of equipment sales, decreased to $19.6 million in the third quarter of fiscal 2015 from $21.6 million in the same period of fiscal 2014, which is in line with the decrease in sales revenues. Costs of sales of equipment and other revenues, as a percentage of sales of equipment and other revenues, increased to 75.1% in the third quarter of fiscal 2015 from 73.1% in the third quarter of fiscal 2014. This increase is primarily due to a shift in sales mix favoring new T&M equipment sales, which generally result in lower margins than used equipment sales. Our sales margin percentage is expected to fluctuate depending on the mix of used and new equipment sales and is impacted by competition.
SG&A expenses remained relatively consistent at $14.7 million and $14.4 million in the third quarter of fiscal 2015 and 2014, respectively. As a percentage of total revenues, SG&A expenses increased to 26.1% in the third quarter of fiscal 2015 from 23.2% in the third quarter of fiscal 2014, due to a decrease in our revenue without a commensurate decrease in SG&A expenses.
Operating Profit
Our operating profit decreased 49.0%, or $3.5 million, from $7.2 million for the three months ended February 28, 2014 to $3.7 million for the three months ended February 28, 2015. As compared to the same period in the prior fiscal year, our rental and lease business contributed $1.8 million less to operating profit, resulting from a $2.2 million, or 6.9%, decrease in rental and lease revenues and an increase in our costs of rentals and leases, excluding depreciation of $0.1 million, or 1.1%, offset by $0.5 million, or 3.6%, decrease in depreciation expense. Operating profit from sales of equipment and other revenues decreased by

Page 20



$1.4 million as compared to fiscal 2014 as our sales of equipment and other revenues decreased by $3.4 million, or 11.7%, while our related costs decreased by $2.0 million, or 9.2%. The greater decrease in revenues as compared to decrease in costs is due to a decrease in used equipment and other revenues, which generally result in higher margins, while our lower margin new equipment sales declined slightly. Our SG&A expenses increased $0.3 million, or 2.1%, from $14.4 million for the three months ended February 28, 2014 to $14.7 million the three months ended February 28, 2015.
Average Acquisition Cost of Equipment
The following table sets forth the average acquisition cost of our equipment on rent and lease:
Average acquisition cost of equipment on rent and lease (in millions)
Three Months Ended February 28,
2015
 
2014
 
Change
T&M
$
256.9

 
$
256.3

 
0.2
%
DP
$
11.9

 
$
10.7

 
11.9
%
Average T&M acquisition cost of equipment on rent and lease for the three months ended February 28, 2015 remained relatively consistent as compared to fiscal 2014 level. Average DP acquisition cost of equipment increased due to increased demand for DP products.
Average Rental and Lease Rates
Average T&M rental and lease rates decreased by 8.3% while the average DP rental and lease rates decreased by 2.8% for the three months ending February 28, 2015 as compared to the prior fiscal year. The decrease in T&M rates is due to competition in the marketplace, the negative effect of exchange rates on our European and Canadian operations and a change in product mix. The decrease in DP rates is the result of our efforts to stay competitive in the marketplace.
Average Utilization
Average utilization for our T&M equipment pool, calculated based on average acquisition cost of equipment on rent and lease compared to the average total equipment pool, increased from 62.9% for the three months ended February 28, 2014 to 64.9% for the three months ended February 28, 2015. The average utilization of our DP equipment pool, based on the same method of calculation, increased from 32.7% to 35.8% for the three months ended February 28, 2014 and 2015. Our utilization rate is impacted by new equipment purchases in support of existing and potential business, and sales of used equipment.
Income Tax Provision
Our effective tax rate decreased to 35.3% in the third quarter of fiscal 2015 from 37.8% in the third quarter of fiscal 2014. The decrease is due to a decline in pretax income relative to the levels of permanent tax differences during the third quarter of fiscal 2015.

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Comparison of Nine Months Ended February 28, 2015 and February 28, 2014
Revenues
Total revenues for the nine months ended February 28, 2015 and 2014 were $177.9 million and $180.1 million, respectively. The 1.2% decrease in total revenues was due to a 5.6% decrease in rental and lease revenues offset by a 4.7% increase in sales of equipment and other revenues.
Rental and Lease Revenues
Rental and lease revenues for the nine months ended February 28, 2015 were $97.6 million, compared to $103.3 million for the same period of the prior fiscal year as follows:
 
Nine Months Ended February 28,
2015
 
2014
T&M rental and lease revenue
$
84,410

 
$
90,673

DP rental and lease revenue
13,200

 
12,674

 
$
97,610

 
$
103,347

Our T&M rental and lease revenues decreased by $6.3 million primarily due to a decrease in rental rates of $3.9 million and a decrease in average equipment on rent and lease of $2.4 million, particularly in our North American operations. The decrease in rates was primarily driven by competition and a change in product mix and included the effect of a decrease in foreign exchange rates of $1.1 million affecting our European and Canadian operations. We also experienced reduced demand in several industries we serve, including telecommunications, semiconductor, and aerospace and defense, the latter having been impacted by sequestration and lower budgets, while our industrial business remained stable.
The decrease in T&M rental and lease business was partially offset by a $0.5 million increase in DP rental and lease revenues primarily due to increase in demand.
Sales and Other Revenues
Sales of equipment and other revenues increased to $80.3 million for the first nine months of fiscal 2015 from $76.7 million in the prior fiscal year as follows:
 
Nine Months Ended February 28,
2015
 
2014
Sales of new equipment
$
53,613

 
$
48,345

Sales of used equipment and other revenues
26,693

 
28,368

 
$
80,306

 
$
76,713

The increase in sales of equipment and other revenues for the nine months ended February 28, 2015 as compared to fiscal 2014 was primarily the result of an increase in sales of new equipment, while sales of used equipment remained relatively consistent. Other revenues decreased primarily as a result of a $1.3 million non-recurring, out-of-period adjustment to other revenues recognized in the second quarter of fiscal 2015.
Operating Expenses
Depreciation of rental and lease equipment for the first nine months of fiscal 2015 and 2014 remained relatively consistent at $42.4 million and $43.0 million, respectively. While the depreciation expense was flat, depreciation as a percentage of rental and lease revenues increased from 41.6% to 43.5% for the nine months ended February 28, 2014 and 2015, respectively, due to an increase in rental equipment purchases and a decrease in rental and lease revenues.
Costs of rentals and leases, excluding depreciation, which primarily include labor related costs of our operations personnel, supplies, repairs, equipment subrentals and insurance and warehousing costs associated with our rental and lease equipment, remained relatively consistent at $13.7 million for the nine months ended February 28, 2015 compared to $14.1 million for the

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nine months ended February 28, 2014. Generally, this expense remains consistent as our existing infrastructure is capable of handling moderate changes in rental and lease activity.
Costs of sales of equipment and other revenues, which primarily include the cost of equipment sales, increased to $60.2 million in the first nine months of fiscal 2015 from $54.8 million in the same period of fiscal 2014. Costs of sales of equipment and other revenues as a percentage of sales of equipment and other revenues increased to 74.9% in the first nine months of fiscal 2015 from 71.4% in fiscal 2014. This increase was primarily due a decline in margins of used equipment sales and a significant increase in new equipment sales, which generally result in lower margins. Our sales margin percentage is expected to fluctuate depending on the mix of used and new equipment sales and is also impacted by competition.
SG&A expenses increased to $44.3 million in the first nine months of fiscal 2015 from $43.3 million in the same period of fiscal 2014 in part due to costs associated with the implementation of the Committee of Sponsoring Organizations of the Treadway Commission (COSO) 2013 Framework. As a percentage of total revenues, SG&A expenses increased to 24.9% for the first nine months of fiscal 2015 compared to 24.0% for the first nine months of fiscal 2014.
Operating Profit
Our operating profit decreased 30.3%, or $7.5 million, from $24.9 million for the first nine months of fiscal 2014 to $17.4 million for the first nine months of fiscal 2015. As compared to the same period in the prior fiscal year, our rental and lease business contributed $4.8 million less to operating profit, resulting from a $5.7 million, or 5.6%, decrease in rental and lease revenues, offset by a decrease in our costs of rentals and leases, excluding depreciation of $0.4 million, or 3.1%, and a $0.5 million, or 1.3%, decrease in depreciation expense. Operating profit from sales of equipment and other revenues decreased by $1.8 million as compared to fiscal 2014 as our sales of equipment and other revenues increased by $3.6 million, or 4.7%, while our related costs increased by $5.4 million, or 9.8%. The greater increase in costs as compared to revenues is primarily due to an increase in new equipment sales, which generally result in lower margins, while our higher margin used equipment and other revenues decreased slightly. Our SG&A expenses increased $1.0 million, or 2.3%, from $43.3 million for the first nine months of 2014 to $44.3 million for the first nine months of fiscal 2015.
Average Acquisition Cost of Equipment
The following table sets forth the average acquisition cost of our equipment on rent and lease:
Average acquisition cost of equipment on rent and lease (in millions)
Nine Months Ended February 28,
2015
 
2014
 
Change
T&M
$
258.2

 
$
264.6

 
(2.4
)%
DP
$
12.7

 
$
11.7

 
8.4
 %
Average T&M acquisition cost of equipment on rent and lease for the nine months ended February 28, 2015 decreased as compared to fiscal 2014 due to a decline in demand in our T&M North American operations, partially offset by an increase in demand in our T&M European operations. Our average DP equipment on rent and lease for the nine months ended February 28, 2015 increased as compared to fiscal 2014 due to an increase in demand for DP products.
Average Rental and Lease Rates
Average T&M rates decreased by 4.4% for the nine months ending February 28, 2015 while average DP rates decreased by 2.5% for the nine months ended February 28, 2015 as compared to the prior fiscal year. The decrease in T&M rental rates is due to competition in the marketplace, the negative effect of exchange rates on our European and Canadian operations and a change in product mix. The decrease in DP rates is the result of our efforts to stay competitive in the marketplace.
Average Utilization
Average utilization for our T&M equipment pool, calculated based on average acquisition cost of equipment on rent and lease compared to the average total equipment pool, remained flat at 64.8% and 64.7% for the nine months ended February 28, 2014 and 2015, respectively. The average utilization of our DP equipment pool, based on the same method of calculation, increased from 35.9% to 37.5% for the nine months ended February 28, 2014 and 2015, respectively. Our utilization rate is impacted by new equipment purchases in support of existing and potential business, and sales of used equipment.

Page 23



Other Income
In the second quarter of fiscal 2015, we recognized other income from a $1.4 million settlement received as one of the plaintiffs in a class action lawsuit involving the purchase of certain computer products.
Income Tax Provision
Our effective tax rate remained relatively consistent at 36.9% in the first nine months of fiscal 2015, compared to 37.1% in the first nine months of fiscal 2014.
Liquidity and Capital Resources
Capital Expenditures
Our primary capital expenditures have been for 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. Our equipment purchases will fluctuate based on changes in our utilization, used equipment sales activity and technology trends. To meet current 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 paid for $48.7 million of rental and lease equipment purchases during the first nine months of fiscal 2015 compared to $44.7 million during the first nine months of fiscal 2014, an increase of 8.8%.
Dividends Paid
We declared dividends of $0.60 per common share amounting to an aggregate of $14.8 million during the first nine months of fiscal 2015 and 2014. Payment of future dividends is in the discretion of our Board of Directors and depends on sales, profitability and other performance metrics of the Company, subject to compliance with applicable law.
Cash
The balance of our cash was $8.1 million at February 28, 2015, an increase of $2.2 million from May 31, 2014, due to cash provided by operating activities of $39.5 million partially offset by cash used in financing activities of $23.0 million and cash used in investing activities of $14.9 million. 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. No strategic acquisitions are currently planned.
Cash Flows and Credit Facility
During the first nine months of fiscal 2015 and 2014, net cash provided by operating activities was $39.5 million and $38.3 million, respectively. The increase of $1.2 million in net cash provided by operating activities for the first nine months of fiscal 2015 was primarily due to a decrease in cash paid for income taxes in fiscal 2015 as compared to fiscal 2014 offset by a decrease in net income and changes in working capital.
During the first nine months of fiscal 2015 and 2014, net cash used in investing activities was $23.0 million and $20.6 million, respectively. The increase in cash used in investing activities for the first nine months of fiscal 2015 was primarily due to an increase in payments for purchases of rental and lease equipment of $4.0 million partially offset by a decrease in proceeds from sale of rental and lease equipment of $2.2 million.
Net cash used in financing activities was $14.9 million and $22.6 million for the first nine months of fiscal 2015 and 2014, respectively. Borrowings under our bank lines of credit were $35.8 million for the first nine months of fiscal 2015 compared to $43.8 million for the first nine months of fiscal 2014. Payments under our bank lines of credit were $35.8 million for the nine months ended February 28, 2015 compared to $51.7 million for the nine months ended February 28, 2014.
We believe that cash, 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, 2014.

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Critical Accounting Policies and Estimates
The preparation of 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, 2014. We have not made any material changes to these policies as previously disclosed.

Page 25



Item 3.
Quantitative and Qualitative Disclosures About Market Risk.
During the first nine months of fiscal 2015, 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, 2014.

Item 4.
Controls and Procedures.
We maintain disclosure controls and procedures that are designed to provide reasonable assurance that information required to be disclosed in this report is: (1) accumulated and communicated to our management, including our principal executive and principal financial officers, to allow timely decisions regarding required disclosure; and (2) recorded, processed, summarized and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission.
As of February 28, 2015, 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 for their intended purpose described above.
There was no change in our internal control over financial reporting (as defined in Rule 13a-15(f) of the Exchange Act), known to our Chief Executive Officer or our Chief Financial Officer, that occurred during the fiscal quarter covered by this report that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
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.

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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, 2014. 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.
The expiration of the Keysight reseller agreement on May 31, 2015 will significantly and negatively impact our revenue and net profits. There is no assurance that we will be able to replace the Keysight reseller arrangement with other reseller arrangements or that we will retain our key sales employees.
In fiscal 2010, we became a reseller of Agilent Technologies, Inc.’s (“Agilent”) new T&M equipment in the U.S. and Canada. As of November 1, 2014, Agilent spun off Keysight Technologies, Inc. ("Keysight"), its wholly-owned subsidiary that manufactures T&M equipment, into a separate publicly traded company. Sales of new Keysight equipment represented approximately 29.8%, 26.5% and 29.0% of our gross revenue for the nine months ended February 28, 2015 and fiscal 2014 and 2013, respectively. On March 3, 2015, we announced that our reseller agreement with Keysight will not be renewed after its May 31, 2015 expiration date. The expiration of the Keysight reseller agreement has negatively impacted our stock price, and is expected to significantly and negatively impact our revenue and net profits. In a risk factor titled, “If we are unable to renew our reseller agreement with Keysight when it expires on May 31, 2015 on acceptable terms, it could have a material adverse effect on our operating results and stock price” in our Annual Report on Form 10-K for the fiscal year ended May 31, 2014, we identified the risks to our operating results and business if the reseller agreement with Keysight was not renewed upon its expiration on May 31, 2015. We are attempting to enter into agreements with other manufacturers of equipment so that we can replace some of the revenue associated with our Keysight reseller agreement. There can be no assurance that we will be able to enter into arrangements with other equipment manufacturers, or if we are able to do so that we will replace all or any portion of the revenue from the Keysight reseller agreement with relationships with the other manufacturers. There is also no assurance that we will be able to retain our key sales personnel, the loss of which may impact our ability to support agreements with other equipment manufacturers. If we are unable to effectively manage the expiration of the Keysight reseller agreement, enter into arrangements with other equipment manufacturers or retain our key sales employees, our operating results and stock price may be further materially and adversely affected.
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.

Page 27



Item 5.
Other Information.
None.
Item 6.
Exhibits.
Exhibit No.
 
Document Description
 
Incorporation by Reference
 
 
 
 
 
 
 
 
10.1#
 
Amendment No. 7 to EMG Authorized Technology Partner Program Agreement / Agreement No. ANT76 effective as of November 1, 2014

 
Filed herewith.
 
 
 
 
 
10.2#
 
Amendment No. 8 to EMG Authorized Technology Partner Program Agreement / Agreement No. ANT76 effective as of March 30, 2015

 
Filed herewith.
 
 
 
 
 
31.1
 
Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer
 
Filed herewith.
 
 
 
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.
 
 
*
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.
#
The Company has requested confidential treatment for portions of this agreement. Accordingly, certain portions of this agreement have been omitted in the version filed with this report and such confidential portions have been filed with the Securities and Exchange Commission.

Page 28



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:
April 9, 2015
 
 
 
/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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