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MEDICAL ACTION INDUSTRIES INC - 10-K - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

June 16, 2014

OVERVIEW

We manufacture and market single-use medical products used principally by acute care facilities within the U.S. We divide our product lines into two markets, Clinical Care and Patient Care. Our Clinical Care market includes custom procedure trays, minor procedure kits and trays, operating room disposables and sterilization products, and dressings and surgical sponges. Our Patient Care market includes patient bedside products, containment systems for medical waste and laboratory products. On March 12, 2014, the Company entered into a purchase agreement with an affiliate of Inteplast Group, Ltd. for the sale of the Company's wholly owned subsidiary, Medegen Medical Products, LLC, and certain other assets which comprised the Company's Patient Care business unit. The Company retained the cash, accounts receivable and all liabilities associated with the business unit except for an environmental liability. On June 2, 2014, the Company completed the sale of its Patient Care business unit for gross proceeds of $78,628, subject to customary post-closing adjustments (see Footnote 15 - Subsequent Events). As of March 31, 2014, the Company has classified the assets and liabilities subject to the purchase agreement as held for sale and presented the results of operations of the Patient Care business unit for fiscal years 2014, 2013 and 2012 as discontinued operations in the accompanying consolidated statements of operations. Our growth strategy has included both acquisitions and expansion of existing product lines. In August 2010, we acquired AVID which markets and assembles custom procedure trays. While we had previously made both custom and standard minor procedure kits and trays, the acquisition of AVID significantly expanded our product line offerings within the Clinical Care market, increased our sales team and provided opportunities to cross sell our existing product lines. We have supply agreements with substantially every major GPO and IDN in the country including Novation, Premier and MedAssets. A majority of the acute care facilities that we sell to belong to at least one GPO. The supply agreements awarded to us through these GPOs designate us as a sole-source or multi-source provider for substantially all of our product offerings. The supply agreements with GPOs and IDNs typically have no minimum purchase requirements and terms of one to three years that can be terminated on 90 days' advance notice. While the acute care facilities associated with the GPOs and IDNs are not obligated to purchase our product offerings, many of these supply agreements have resulted in unit sales growth. Acute care facility orders purchased through our supply agreements with the three largest GPOs in the healthcare industry, Novation, Premier and MedAssets, accounted for $157,416 or 55% of our total net sales for the fiscal year ended March 31, 2014.



Although over time we have increased revenues both organically and via acquisition, at this time we are focusing our resources on increasing sales within existing product lines and continuing synergy initiatives associated with the AVID acquisition to drive organic sales growth.

We source our products from our four production facilities in the U.S. and from foreign suppliers, principally based in China. The principal raw material used in the production of our product lines is cotton. Cotton is purchased by our foreign suppliers and converted into finished products, principally operating room towels and laparotomy sponges. We purchase finished goods that contain approximately 11 million pounds of cotton per year. The challenging economic environment of the past three years has negatively impacted hospital utilization, placed adverse economic pressure on acute care facilities and fostered volatility in commodity prices. These factors have impacted our revenues, average selling prices and gross profits. We have addressed these conditions by expanding our product lines, investing in our sales and marketing teams, managing our operating costs and differentiating ourselves in the market by emphasizing our ability to add value to our customers by improving their patient outcomes. We remain committed to being a trusted strategic partner to our customers, known for delivering innovative solutions to the healthcare community to improve the quality of care and enhancing patient experiences. During fiscal 2014, 2013, and 2012 we reported net sales of $287,849, $284,763, and $272,734, respectively. Our net income (loss) and earnings (loss) per diluted share during fiscal 2014, 2013, and 2012 were $4,192 and $0.25 per share, ($54,856) and ($3.35) per share, $181 and $0.01 per share, respectively. Our profitability during fiscal 2013 was adversely affected by a $77,780 goodwill impairment charge and certain expenses associated with the renegotiation of our Second Amended and Restated Credit Agreement (the "Prior Credit Agreement"). 18

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The following table sets forth certain operational data (in dollars and as a percentage of net sales) for fiscal years 2014, 2013 and 2012:

Percent of Percent of Percent of Fiscal 2014 Net Sales Fiscal 2013 Net Sales Fiscal 2012 Net Sales Net sales $ 287,849 100.0 % $ 284,763 100.0 % $ 272,734 100.0 % Cost of sales 232,833 80.9 % 233,866 82.1 % 228,609 83.8 % Gross profit 55,016 19.1 % 50,897 17.9 % 44,125 16.2 % Goodwill impairment charge - 0.0 % 77,780 27.3 % - 0.0 % Selling, general and administrative expenses 48,744 16.9 % 48,155 16.9 % 41,188 15.1 % Operating income (loss) 6,272 2.2 % (75,038 ) -26.4 % 2,937 1.1 % Interest expense, net 4,003 1.4 % 4,767 1.7 % 4,571 1.7 % Income (loss) from continuing operations before income taxes and extraordinary gain 2,269 0.8 % (79,805 ) -28.0 % (1,634 ) -0.6 % Income tax expense (benefit) 1,162 0.4 % (21,751 ) -7.6 % 283 0.1 % Income (loss) from continuing operations before extraordinary gain 1,107 0.4 % (58,054 ) -20.4 % (1,917 ) -0.7 % Income from discontinued operations, net of income taxes 3,085 1.1 % 3,198 1.1 % 1,643 0.6 % Extraordinary gain, net of income taxes - 0.0 % - 0.0 % 455 0.2 % Net income (loss) $ 4,192 1.5 % $ (54,856 ) -19.3 % $ 181 0.1 %



FISCAL 2014 COMPARED TO FISCAL 2013

Net sales during fiscal 2014 and fiscal 2013 amounted to $287,849 and $284,763, respectively, representing an increase of $3,086 or 1%. The increase is primarily attributable to greater domestic market share associated with our minor procedure kits and trays category and an increase in the average selling price of products sold within our custom procedure trays product category. These increases were partially offset by lower domestic market share associated with our operating room products category. Gross profit was $55,016 during fiscal 2014 and $50,897 during fiscal 2013, representing an increase of $4,119 or 8%. Gross profit as a percentage of net sales was 19.1% during fiscal 2014 and 17.9% during fiscal 2013. The increase in gross profit compared to the prior fiscal year was due to; (i) a decrease in the cost of products sourced from China, (ii) an increase in average selling prices and the mix of products sold and (iii) an increase in overall sales volume. During fiscal 2014, we imported approximately $50,092 of finished goods and certain raw materials from overseas vendors, principally China. Our main imports are operating room products, which include operating room towels and laparotomy sponges, minor procedure kits and trays and surgical instruments used in our minor procedure kits and trays that we do not produce domestically. The products we procure from China-based vendors include cotton as a raw material. The costs within the global market for cotton, while still volatile, have declined from their peak in March 2011. We do not directly purchase unfinished cotton and convert the material into finished goods; however, cotton is the primary raw material utilized by our vendors in the production of our operating room towels and laparotomy sponges. The volume of cotton included in our products is estimated to be approximately 11 million pounds per annum. Our gross profit during fiscal 2014 increased by $2,530 due to lower costs of products sourced from overseas vendors. Selling, general and administrative expenses amounted to $48,744 and $48,155 in fiscal 2014 and 2013, respectively. The increase was primarily due to higher compensation-related expenses. The increase was partially offset by declines of $2,077 in consulting services associated with our Prior Credit Agreement. The goodwill impairment charge of $77,780 recorded during fiscal 2013 represents our impairment analysis that was performed in connection with our annual assessment of goodwill. The initial goodwill impairment charge of $78,609, reported during the three and nine months ended December 31, 2012, was reduced by $829 during the fourth quarter of fiscal 2013 to properly reflect the book value of certain inventories.



Interest expense amounted to $4,003 and $4,767 in fiscal 2014 and 2013, respectively. The decrease in interest expense was attributable to a decrease in average principal loan balances and a decline in interest rates.

Income tax expense (benefit) amounted to $1,162 and ($21,751) for fiscal 2014 and 2013, respectively. Income tax expense (benefit) as a percentage of income before income taxes was 51.2% and (27.3%) for fiscal 2014 and 2013, respectively. The tax expense for fiscal 2014 was greater than the federal statutory rate of 35.0% primarily due to incremental state and local tax expense. The tax benefit for fiscal 2013 was less than the federal statutory rate of 35.0% primarily due to a portion of the goodwill impairment that was not tax deductible for income tax purposes. 19 -------------------------------------------------------------------------------- Income from discontinued operations, net of taxes during fiscal 2014 and 2013 amounted to $3,085 and $3,198, respectively. The decline is primarily attributable to increases of $2,785 in resin cost, which is the primary raw material utilized in the manufacture of the products associated with the Patient Care business unit. The increase in resin costs were partially offset by an increase in average selling prices and a decline in selling, general and administrative expenses. Fiscal 2013 was also negatively impacted by a write-down of $829 relating to an overstatement of inventories at the West Virginia facility.



FISCAL 2013 COMPARED TO FISCAL 2012

Net sales were $284,763 during fiscal 2013 and $272,734 during fiscal 2012, representing an increase of $12,029 or 4%. The increase is primarily attributable to greater domestic market share associated with our minor procedure kits and trays category and our custom procedure trays category and an increase in the average selling price of products sold within our custom procedure trays product category. These increases were partially offset by lower domestic market share associated with our operating room products category and a decline in the average selling price of products sold within our minor procedure kits and trays product category. Gross profit was $50,897 during fiscal 2013 and $44,125 during fiscal 2012, representing an increase of $6,772 or 15%. Gross profit as a percentage of net sales was 17.9% during fiscal 2013 and 16.2% during fiscal 2012. The increase in gross profit compared to the prior fiscal year was due to; (i) an increase in overall sales volume, (ii) an increase in the average selling prices and the mix of products sold and (iii) a decrease in the cost of products sourced from China. During fiscal 2013, we imported approximately $64,689 of finished goods and certain raw materials from overseas vendors, principally China. Our main imports are operating room products, which include operating room towels and laparotomy sponges, minor procedure kits and trays and surgical instruments used in our minor procedure kits and trays that we do not produce domestically. The products we procure from China-based vendors include cotton as raw material. The costs within the global market for cotton, while still volatile, have declined from their peak in March 2011. We do not directly purchase unfinished cotton and convert the material into finished goods; however, cotton is the primary raw material utilized by our vendors in the production of our operating room towels and laparotomy sponges. The volume of cotton included in our products is estimated to be approximately 11 million pounds per annum. Our gross profit during fiscal 2013 increased by $780 due to lower costs of products sourced from overseas vendors. Selling, general and administrative expenses amounted to $48,155 and $41,188 in fiscal 2013 and 2012, respectively. The increase is primarily attributable to higher compensation-related expenses, consulting services associated with our Prior Credit Agreement and higher GPO administration fees resulting from a change in the mix of sales and a new GPO agreement. The goodwill impairment charge of $77,780 recorded during fiscal 2013 represents our impairment analysis that was performed in connection with our annual assessment of goodwill. The initial goodwill impairment charge of $78,609, reported during the three and nine months ended December 31, 2012, was reduced by $829 during the fourth quarter of fiscal 2013 to properly reflect the book value of certain inventories.



Interest expense amounted to $4,767 and $4,571 in fiscal 2013 and 2012, respectively. The increase in interest expense was attributable to an increase in interest rates under our Prior Credit Agreement.

During fiscal 2012, we negotiated a $700 settlement with our insurance broker for reimbursement of inventories damaged as a result of weather-related water damage. This reimbursement was categorized as an extraordinary gain in our consolidated statement of operations. Income tax expense (benefit) amounted to ($21,751) and $528 (inclusive of the applicable taxes resulting from the extraordinary gain) for fiscal 2013 and 2012, respectively. Income tax expense (benefit) as a percentage of income before income taxes was (27.3%) and 56.5% for fiscal 2013 and 2012, respectively. The tax benefit for fiscal 2013 was less than the federal statutory rate of 35.0% primarily due to a portion of the goodwill impairment that was not deductible for income tax purposes. The tax expense for fiscal 2012 was greater than the federal statutory rate of 35.0% primarily due to the recording of a valuation allowance against certain state net operating loss carryforwards. Income from discontinued operations, net of taxes during fiscal 2013 and 2012 amount to $3,198 and $1,643, respectively. The increase is primarily attributable to decreases of $2,999 in resin costs, which is the primary raw material utilized in the manufacture of the products associated with the Patient Care business unit. The increase was partially offset by lower domestic market share in the protective apparel with containment systems for medical waste product categories. Fiscal 2013 was also negatively impacted by a write-down of $829 relating to an overstatement of inventories at the West Virginia facility. 20 --------------------------------------------------------------------------------



LIQUIDITY AND CAPITAL RESOURCES

Cash Flows

Cash and cash equivalents changed as follows for the fiscal years ended March 31: 2014 2013 2012 Cash provided by operating activities $ 16,681$ 19,748$ 4,013 Cash used in investing activities $ (3,237 )$ (1,468 )$ (779 ) Cash provided by (used in) financing activities $ (13,905 )$ (23,106 )$ 459 Increase (decrease) in cash and cash equivalents $ (461 )$ (4,826 )$ 3,693 Historically, our primary sources of liquidity and capital resources have included cash provided by operations and the use of available borrowing under our credit facilities while the primary uses of liquidity and capital resources have included acquisitions, capital expenditures and payments on debt. Cash provided by operating activities during fiscal 2014 was primarily comprised of net income from operations of $4,192, depreciation of $4,729, amortization of $4,160, an increase in accounts payable of $2,933, a decrease in other assets of $3,871 and a decrease in inventories of $1,927. This was partially offset by a decrease in accrued expenses and other of $6,843. Cash used in investing activities during fiscal 2014 consisted primarily of $3,405 in capital expenditures. The majority of the capital expenditures related to machinery and equipment for our former injection molding facility located in Gallaway, Tennessee. During fiscal 2014, 2013, and 2012, we spent $3,405, $1,472, and $907, respectively, on capital expenditures.



On an annual basis, management expects to make capital expenditures on machinery and equipment to improve efficiencies at our manufacturing facilities.

Cash used in financing activities during fiscal 2014 consisted primarily of $12,588 in net payments under our New Credit Agreement. During the fiscal year ended March 31, 2014, our borrowings under our term loan decreased $1,370 while borrowings under our revolving credit facility decreased $11,218.



Financial Position

The following table sets forth certain liquidity and capital resources data for the periods indicated: March 31, 2014 March 31, 2013 Cash and Cash Equivalents $ 97 $ 558 Accounts Receivables, net $ 32,890 $ 32,615 Days Sales Outstanding 28.1 26.9 Inventories, net $ 32,718 $ 53,014 Inventory Turnover 6.1 6.4 Current Assets $ 131,990$ 92,338 Goodwill $ 19,144 $ 30,021 Working Capital $ 49,072 $ 52,163 Current Ratio 1.6 2.3 Total Borrowings $ 53,583 $ 66,351 Stockholders' Equity $ 100,287$ 94,909 Debt to Equity Ratio 0.53 0.70 21

-------------------------------------------------------------------------------- Total borrowings outstanding were $53,583 with a debt to equity ratio of 0.53 to 1.0 at March 31, 2014 as compared to $66,351 with a debt to equity ratio of 0.70 to 1.0 at March 31, 2013. Cash and cash equivalents at March 31, 2014 were $97 and we had $21,874 available for borrowing under our credit agreement. In addition, as of March 31, 2014, we were in compliance with all covenants and financial ratios under the New Credit Agreement. Working capital at March 31, 2014 was $49,072 compared to $52,163 at March 31, 2013 and the current ratio at March 31, 2014 was 1.6 to 1.0 compared to 2.3 to 1.0 at March 31, 2013. The decrease in working capital was primarily due to our repayment in full of the outstanding balance owed on our New Credit Agreement. This repayment took place on June 2, 2014 commensurate with the completion of the divesture of the Patient Care business unit. Consequently, the entire outstanding balance has been classified as current on our balance sheet as of March 31, 2014. On May 17, 2013, we entered into our New Credit Agreement. A portion of the proceeds of our New Credit Agreement was used to repay all amounts due under the Prior Credit Agreement. Upon such repayment, the Prior Credit Agreement was terminated. The New Credit Agreement provides for a maximum borrowing capacity of $65,000, consisting of the following loans; (1) a $11,505 secured term loan fully drawn by us on May 17, 2013, (2) $5,000 in unsecured delayed draw term loans and (3) up to $53,495 in secured revolving loans, which may be reduced by the amount of any outstanding delayed draw term loans drawn by us. The revolving loans are used to finance the working capital needs and general corporate purposes of our Company and our subsidiaries and for permitted acquisitions. If our Excess Availability (as defined in the New Credit Agreement) falls below a specified amount, we will be required to comply with specified financial covenants relating to a minimum fixed charge coverage ratio of 1.00 to 1.00, measured on a month-end basis. If we draw a delayed draw term loan, we will be required to comply with a maximum leverage ratio covenant ranging from 3:00 to 1.00 to 3.25 to 1.00, measured on a month-end basis. In addition, we had committed to certain post-closing conditions, including providing monthly financial statements, annual updates of financial projections and the filing of a mortgage on our Brentwood, New York corporate headquarters. As of March 31, 2014, we were in compliance with all applicable covenants and financial ratios under the New Credit Agreement. Borrowings under our credit agreement are collateralized by substantially all of our assets and are fully guaranteed by us and our subsidiaries. The credit agreement contains certain restrictive covenants, including, among others, covenants limiting our ability to incur indebtedness, grant liens, guarantee obligations, sell assets, make loans and investments, enter into merger and acquisition transactions and declare or make dividends. Please see Footnote 8 - Long-Term Debt to our consolidated financial statements for additional information regarding the New Credit Agreement. We are committed to maintaining a strong financial position through maintaining sufficient levels of available liquidity, managing working capital and generating cash flows necessary to meet operating requirements. We believe that anticipated future cash flow from operations, coupled with our cash on hand and available funds under our credit agreement will be sufficient to meet working capital requirements for the next twelve months. Although we have borrowing capacity under our credit agreement, have cash on hand and anticipate future cash flow from operations, we may be limited in our ability to allocate funds for purposes such as potential acquisitions, capital expenditures, marketing, development and other general corporate purposes. In addition, we may be limited in our flexibility in planning for or responding to changing conditions in our business and our industry, making us more vulnerable to general economic downturns and adverse developments in our business.



CONTRACTUAL OBLIGATIONS

The following table represents our future material, long-term contractual obligations as of March 31, 2014:

Less than 1 Contractual Obligations Total year 1- 3 years 3-5 years After 5 years Principal payment of long-term debt $ 40,112$ 40,112 $ - $ - $ - Capital lease obligation 26,781 1,549 3,191 3,319 18,722 Purchase obligations 6,070 6,070 - - - Operating leases 1,989 1,030 866 93 - Defined benefit pension payments 876 60 138 151 527 Total Contractual Obligations $ 75,828$ 48,821$ 4,195$ 3,563$ 19,249



There are approximately $1,012 of estimated liabilities related to unrecognized tax benefits that have been excluded from the contractual obligations table because we could not make a reasonable estimate of when those amounts would become payable.

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RELATED PARTY TRANSACTIONS

As part of the assets and liabilities acquired from the AVID acquisition, we assumed a capital lease obligation for the AVID facility located in Toano, Virginia. The facility, which includes a 185,000 square foot manufacturing and warehouse building and approximately 12 acres of land, is owned by Micpar Realty, LLC ("Micpar"). AVID's founder and former CEO, is a part owner of Micpar and subsequent to the acquisition of AVID, he was elected to our board of directors. As of August 2012, he no longer serves on our board of directors. As of March 31, 2014, the capital lease requires monthly payments of $129 with increases of 2% per annum. The lease contains provisions for an option to buy in January of 2016 and expires in March 2029. The effective rate on the capital lease obligation is 9.9%. Total lease payments required under the capital lease for the five-year period ending March 31, 2019 is $8,059. During the twelve months ended March 31, 2014, we recorded interest expense of $1,338 under the lease agreement. The gross amount and net book value of the assets under the capital lease are as follows: March 31, 2014 2013 Capital lease, gross $ 11,409$ 11,409



Less: Accumulated amortization (2,200 ) (1,586 ) Capital lease, net

$ 9,209$ 9,823 A current member of our board of directors is currently a minority shareholder of Custom Healthcare Systems ("CHS"), an assembler and packager of Class 1 medical products. CHS is a supplier to our AVID facility located in Toano, Virginia for small kits and trays. They also purchase sterile instruments from our facility located in Arden, North Carolina.



During the twelve months ended March 31, 2014 and 2013, the amounts sold to and purchased from CHS are as follows:

March 31, 2014 2013 Sold to CHS $ 1,074$ 964 Purchased from CHS 1,729 1,861



The following table represents the amounts due from and due to CHS:

March 31, 2014 2013 Due from CHS $ 330$ 265 Due to CHS 14 45



OFF-BALANCE SHEET ARRANGEMENTS

We do not maintain any off-balance sheet arrangements, transactions, obligations or other relationships with unconsolidated entities that would be expected to have a material current or future effect upon our financial condition or results of operations. CRITICAL ACCOUNTING POLICIES Our significant accounting policies are summarized in Note 1 of our consolidated financial statements. While all these significant accounting policies impact our financial condition and results of operations, we view certain of these policies as critical. Policies determined to be critical are those policies that have the most significant impact on our financial statements and require management to use a greater degree of judgment and/or estimates. Actual results may differ from those estimates.



The accounting policies identified as critical are as follows:

Revenue Recognition - Revenue from the sale of products is recognized when we meet all of the criteria specified in Accounting Standards Codification ("ASC") 605, Revenue Recognition. These criteria include: ? Persuasive evidence of an arrangement exists, ? Delivery has occurred or services have been rendered, ? The seller's price to the buyer is fixed or determinable and ? Collection of the resulting receivable is reasonably assured. Customer purchase orders and/or sales agreements evidence our sales arrangements. These purchase orders and sales agreements specify both selling prices and quantities, which are the basis for recording sales revenue. Any deviation from this policy requires management review and approval. Trade terms are negotiated on a customer by customer basis and for the majority of our sales include that title and risk of loss pass from us to the customer when we ship products from our facilities, which is when revenue is recognized. In instances of shipments made on consignment, revenue is deferred until a customer indicates to us that it has used our products. We conduct ongoing credit evaluations of our customers and ship products only to customers that satisfy our credit evaluations. Products are shipped primarily to distributors at an agreed upon list price. Distributors then resell the products primarily to hospitals and depending on agreements between us, the distributors and the hospitals, the distributors may be entitled to a rebate. We deduct all rebates from sales and have a provision for allowances based on historical information for all rebates that have not yet been processed. 23 -------------------------------------------------------------------------------- Income Taxes - We account for income taxes under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carry forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities from a change in tax rates is recognized in income in the period that includes the enactment date. We must also assess the likelihood that deferred tax assets will be realized and, based on this assessment establish a valuation allowance, if required. The determination of our valuation allowance involves assumptions, judgments, and estimates, including forecasted earnings, future taxable income, and the relative proportions of revenue and income before taxes in the various state and local jurisdictions in which we operate. To the extent we establish a valuation allowance or change the valuation allowance in a period, we reflect the change with a corresponding increase or decrease to our tax provision in our consolidated statement of operations. We are also required to compute our current income tax expense in each federal, state, and local jurisdiction in which we operate. Our judgments, assumptions, and estimates relative to the current provision for income tax take into account current tax laws, our interpretation of current tax laws, and possible outcomes of current and future audits. Changes in tax laws or our interpretation of tax laws and the resolution of current and future tax audits could significantly impact the amounts provided for income taxes in our consolidated balance sheet and consolidated statement of operations. In accordance with the provisions of ASC 740, Income Taxes, we recognize in our financial statements only those tax positions that meet the more-likely-than-not-recognition threshold. For those tax positions where it is more-likely-than-not that a tax benefit will be sustained, we have recorded the largest amount of tax benefit with a greater than 50% likelihood of being realized upon settlement. For those tax positions where it is not more-likely-than-not that a tax benefit will be sustained, no tax benefit has been recognized in the consolidated financial statements. Interest and penalties associated with income tax matters are included in the provision for income taxes in our consolidated statements of operations. The provisions of ASC 740 did not have a material impact on our consolidated financial position. Inventories - We value our inventory at the lower of the actual cost to purchase and/or manufacture or the current estimated market value of the inventory. On an ongoing basis, inventory quantities on hand are viewed and an analysis of the provision for excess and obsolete inventory is performed based primarily on our estimated sales forecast of product demand, which is based on sales history and anticipated future demand. A significant increase in the demand for our products could result in a short-term increase in the cost of inventory purchases while a significant decrease in demand could result in an increase in the amount of excess inventory quantities on hand. Additionally, our estimates of future product demand may prove to be inaccurate in which case we may have understated or overstated the provision required for excess and obsolete inventory. Accordingly, future adjustments to the provision may be required. Although every effort is made to ensure the accuracy of our forecasts of future product demand, any significant unanticipated changes in demand could have a significant impact on the value of our inventory and reported operating results. Historically, we have not experienced any significant inventory write-downs due to excess, slow moving and obsolete inventory. Goodwill and Other Intangibles - Acquisition accounting requires extensive use of accounting estimates and judgments to allocate the purchase price to the fair value of the assets and liabilities purchased, with the excess value, if any, being classified as goodwill. As a result of our acquisitions, values were assigned to intangible assets principally for trademarks, trade names and customer relationships. Finite useful lives were assigned to these intangibles, if appropriate, and they will be amortized over their remaining life. As with any intangible asset, future write-downs may be required if the value of these assets becomes impaired. Our goodwill is tested for impairment on an annual basis. Application of the goodwill impairment test requires judgment. The fair value is estimated using a discounted cash flow methodology. This requires significant judgments including estimation of future cash flows, which is dependent on internal forecasts, estimation of the long-term rate of growth for our business, the useful life over which cash flows will occur, and determination of our weighted average cost of capital. Changes in these estimates and assumptions could materially affect the determination of fair value and/or goodwill impairment. Property, Plant and Equipment - Property, plant and equipment are depreciated over their useful lives. Useful lives are based on management's estimates of the period that the asset will provide economic benefit. Any change in conditions that would cause management to change its estimate as to the useful lives of a group or class of assets may significantly impact our depreciation expense on a prospective basis. Allowance for Doubtful Accounts - We perform ongoing credit evaluations on our customers and adjust credit limits based upon payment history and the customer's current credit worthiness, as determined by a review of their current credit information. We continuously monitor collections and payments from customers and a provision for estimated credit losses is maintained based upon our historical experience and on specific customer collection issues that have been identified. While such credit losses have historically been within our expectations and the provisions established, we cannot guarantee that the same credit loss rates will be experienced in the future. Concentration risk exists relative to our accounts receivable, as 60% of our total accounts receivable balance as of March 31, 2014 is concentrated in two distributors. While the accounts receivable related to these distributors may be significant, we do not believe the credit loss risk to be significant given the consistent payment history of these distributors.



IMPACT OF RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

Please see Footnote 1 - Organization and Summary of Significant Accounting Policies to our consolidated financial statements.

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