UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

 

FORM 10-Q

 

(mark one)

 

☒

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

 

For the Quarterly Period Ended September 30, 2016

 

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 001–34529

 

STR Holdings, Inc.

(Exact name of registrant as specified in its charter)

 

Delaware		27–1023344
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)
10 Water Street, Enfield, Connecticut		06082
(Address of principal executive offices)		(Zip Code)

 

(860) 272–4235

(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 ☒ NO ☐

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, 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 ☒ NO ☐

 

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

 

Large accelerated filer ☐		Accelerated filer ☐
Non–accelerated filer ☐		Smaller reporting company ☒
(Do not check if a smaller reporting company)

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b–2 of the Exchange Act). YES ☐ NO ☒

 

At October 31, 2016, there were 18,669,927 shares of Common Stock, par value $0.01 per share, outstanding.

 

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INDEX TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

STR Holdings, Inc. and Subsidiaries

Three and Nine Months Ended September 30, 2016

 

	PAGE NUMBER
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Balance Sheets as of September 30, 2016 (unaudited) and December 31, 2015	2
Condensed Consolidated Statements of Comprehensive Loss for the Three and Nine Months Ended September 30, 2016 and 2015 (unaudited)	3
Condensed Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2016 and 2015 (unaudited)	4
Notes to Condensed Consolidated Financial Statements	5
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations	19
Item 3. Quantitative and Qualitative Disclosures About Market Risk	29
Item 4. Controls and Procedures	29
PART II. OTHER INFORMATION
Item 1. Legal Proceedings	29
Item 1A. Risk Factors	29
Item 5. Other Information	29
Item 6. Exhibits	30
SIGNATURE	31

 

PART I. FINANCIAL INFORMATION

 

Item 1. Financial Statements

 

STR Holdings, Inc. and Subsidiaries

CONDENSED CONSOLIDATED BALANCE SHEETS

(unaudited)

All amounts in thousands except share and per share amounts

 

 

See accompanying notes to these condensed consolidated financial statements.

 

STR Holdings, Inc. and Subsidiaries

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

(unaudited)

All amounts in thousands except share and per share amounts

 

 

See accompanying notes to these condensed consolidated financial statements.

 

STR Holdings, Inc. and Subsidiaries

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(unaudited)

All amounts in thousands

 

 

See accompanying notes to these condensed consolidated financial statements.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Solaria Lawsuit

 

In October 2016, a complaint was filed by Solaria Energie y Medio Ambiente S.A. (“Solaria”) against the Company and its Spanish subsidiary, Specialized Technology Resources España S.A. (“STR Spain”), in the Court of the First Instance No. 8 in Oviedo, Spain, relating to a product quality claim in connection with a non-encapsulant product that STR Spain purchased from a vendor in 2005 and 2006 and resold to Solaria. The Company stopped selling this product in 2006. Solaria is seeking approximately €3,303, plus interest, in damages. The Company believes it has meritorious defenses and plans to vigorously defend the matter.

 

 

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

 

The following discussion and analysis of the financial condition and results of our operations should be read together with our Condensed Consolidated Financial Statements and the related Notes to the Condensed Consolidated Financial Statements included in this Quarterly Report on Form 10-Q. This discussion contains forward-looking statements, based on current expectations and related to future events and our future financial performance, that involve risks and uncertainties. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of many factors, including those set forth under the caption “Forward-Looking Statements” below and Item 1A,—Risk Factors in our Annual Report on Form 10-K for the year ended December 31, 2015, as amended by Form 10-K/A on April 29, 2016.

 

Explanatory Note: All share amounts and per share amounts below have been adjusted to reflect the one-for-three reverse stock split effected as of January 30, 2015.

 

Forward-Looking Statements

 

This Quarterly Report contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such statements are subject to inherent risks and uncertainties. These forward-looking statements present our current expectations and projections relating to our financial condition, results of operations, plans, objectives, future performance and business and are based on assumptions that we have made in light of our industry experience and perceptions of historical trends, current conditions, expected future developments and other factors management believes are appropriate under the circumstances. However, these forward-looking statements are not guarantees of future performance or financial or operating results. Forward-looking statements and uncertainties associated herewith include, but are not limited to, the statements regarding the following: (1) incurring substantial losses for the foreseeable future and our inability to achieve or sustain profitability in the future; (2) the potential impact of pursuing strategic alternatives, including dissolution and liquidation of our Company; (3) our reliance on a single product line; (4) our securing sales to new customers, growing net sales to existing key customers and increasing our market share, particularly in China, considering the potential adverse impact of the recent fire at our manufacturing facility in China; (5) customer concentration in our business and our relationships with and dependence on key customers; (6) the outsourcing arrangements and reliance on third parties for the manufacture of a portion of our encapsulants; (7) technological changes in the solar energy industry or our failure to develop and introduce or integrate new technologies that could render our encapsulants uncompetitive or obsolete; (8) competition; (9) our failure to manufacture product in China negatively affecting our ability to sell to Chinese solar module manufacturers; (10) excess capacity in the solar supply chain; (11) demand for solar energy in general and solar modules in particular; (12) our operations and assets in China being subject to significant political and economic uncertainties; (13) limited legal recourse under the laws of China if disputes arise; (14) our ability to adequately protect our intellectual property, particularly during the outsource manufacturing of our products in China; (15) our lack of credit facility and our inability to obtain credit; (16) a significant reduction or elimination of government subsidies and economic incentives or a change in government policies that promote the use of solar energy, particularly in China and the United States; (17) volatility in commodity costs; (18) our customers’ financial profile causing additional credit risk on our accounts receivable; (19) our dependence on a limited number of third-party suppliers for raw materials for our encapsulants and other significant materials used in our process; (20) potential product performance matters and product liability; (21) our substantial international operations and shift of business focus to emerging markets; (22) the impact of changes in foreign currency exchange rates on financial results and the geographic distribution of revenues; (23) losses of financial incentives from government bodies in certain foreign jurisdictions; (24) compliance with the Qualifications of the OTCQX; (25) the ability to realize synergies from the transaction with Zhenfa (as described herein); and (26) the other risks and uncertainties described under “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and in subsequent periodic reports on Form 10-K, 10-Q and 8-K. You are urged to carefully review and consider the disclosure found in our filings which are available on http://www.sec.gov or http://www.strsolar.com. Should one or more of these risks or uncertainties materialize, or should any of these assumptions prove to be incorrect, actual results may vary materially from those projected in these forward-looking statements. We undertake no obligation to publicly update any forward-looking statement contained in this Quarterly Report, whether as a result of new information, future developments or otherwise, except as may be required by law.

 

Overview

 

STR Holdings, Inc. and its subsidiaries (“we”, “us”, “our” or the “Company”) commenced operations in 1944 as a plastics and industrial materials research and development company. Based upon our expertise in polymer science, we evolved into a global provider of encapsulants to the solar industry. Encapsulant is a critical component used to protect and hold solar modules together.

 

We were the first to develop ethylene-vinyl acetate (“EVA”) based encapsulants for use in commercial solar module manufacturing. Our initial development effort was conducted while under contract to the predecessor of the U.S. Department of Energy in the 1970s. Since that time, we have expanded our solar encapsulant business by investing in research and development and global production capacity.

In September 2011, we sold our Quality Assurance (“QA”) business, which provided consumer product development, inspection, testing and audit services that enabled our retail and manufacturing clients to determine whether products met applicable safety, regulatory, quality, performance and social standards, to Underwriters Laboratories, Inc. (“UL”) for $275.0 million in cash, plus assumed cash. The historical results of operations of our former QA business have been recast and presented as discontinued operations in this Quarterly Report on Form 10-Q. Further information about our divestiture of the QA business is included in Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations, and Note 4, Discontinued Operations, of the Notes to Consolidated Financial Statements, included in Item 8, Financial Statements and Supplementary Data, of our Annual Report on Form 10-K for the year ended December 31, 2015, as amended by Form 10-K/A on April 29, 2016.

 

Recent Developments

 

Manufacturing Facility Fire

 

During October 2016, our manufacturing plant located in Shajiabang, Jiangsu, China suffered a fire that damaged a portion of its production facility. No employee injuries have been reported. As of the date of this report, the China facility’s production is shut down while we assess and repair the damage. The damage was mainly to one production line, which is at least temporarily inoperable, as well as to certain ancillary equipment and related systems. Through the date of this report, we have been able to continue to fulfill customer orders utilizing our alternative capacity. We carry both casualty and property insurance for our facilities and equipment, as well as business interruption insurance, and is reviewing the extent and scope of this coverage with its insurance carriers. We cannot guarantee that our insurance coverage, subject to applicable deductibles, will be adequate to cover damage to the facility or other loss that we may suffer as a result of the fire. At this time the extent of the loss is not estimable.

 

Zhenfa Module-for-Encapsulant Swap Transaction

 

During the second quarter of 2015, the Company entered into a module-for-encapsulant swap transaction with Zhenfa and Zhejiang ReneSola Jiangsu Co., Ltd. (“ReneSola”) to settle outstanding accounts receivable due from ReneSola. As part of this three-party transaction, the Company agreed to accept solar modules as settlement of approximately $7,487 of outstanding receivables from ReneSola, and Zhenfa agreed to purchase these modules from the Company for $7,487. During the third quarter of 2016, the Company increased the amount due by approximately $1,165 million to reflect an inadvertent overpayment of modules made to Zhenfa by ReneSola. In October 2016, the Company received a bank acceptance note from Zhenfa for approximately $3,181 in full payment of the balance due under these arrangements.

 

2014 Transaction with Zhenfa

 

We entered into certain definitive agreements with Zhenfa and its indirect wholly-owned subsidiary, Zhen Fa New Energy (U.S.) Co., Ltd., a Nevada corporation (“Zhenfa U.S.”).

 

Purchase Agreement and Special Dividend

 

On August 11, 2014, we entered into a Stock Purchase Agreement (the “Purchase Agreement”) with Zhenfa U.S., pursuant to which we agreed to issue and sell to Zhenfa U.S., and Zhenfa U.S. agreed to purchase from us, an aggregate of approximately 9.2 million shares (the “Purchased Shares”) of our common stock for an aggregate purchase price (“Purchased Price”) of approximately $21.7 million, or $2.35 per share (the “Transaction”). The Purchased Shares represented approximately 51% of our outstanding shares of common stock upon the closing of the Transaction (the “Closing”), which occurred on December 15, 2014.

 

In connection with the Closing, we declared a special dividend (the “Special Dividend”) on December 11, 2014 to be paid to all of our stockholders of record (other than Zhenfa U.S.) in an amount equal to $2.55 per common share on January 2, 2015. The cash used to pay the Special Dividend was paid to our transfer agent as of December 31, 2014.

 

Sales Service Agreement

 

In connection with the execution of the Purchase Agreement, Specialized Technology Resources, Inc., our wholly owned subsidiary, entered into a sales service agreement (the "Sales Service Agreement") with Zhenfa, whereby Zhenfa agreed, among other things, to assist us in a number of endeavors, including, without limitation, marketing and selling our products in China, acquiring local raw materials, hiring and training personnel in China, and complying with Chinese law. The Sales Service Agreement also provides us an option to lease a Zhenfa-owned manufacturing facility rent free for a period of five years, extendable by an additional five years at 50% of the then-current market rental rate. The Sales Service Agreement became effective on the date of Closing, has an initial term of two years following the date of Closing and is automatically extended for one year periods unless terminated earlier. The Sales Service Agreement may also be terminated by either party at such time as Zhenfa and its affiliates own less than 10% of our outstanding Common Stock.

 

CRITICAL ACCOUNTING POLICIES

 

Our discussion and analysis of our financial condition and results of operations are based upon our interim condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”). The preparation of these condensed consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, net sales and expenses, and related disclosures of contingent assets and liabilities. We continually evaluate our estimates, including those related to bad debts, valuation of inventory, long-lived assets, product performance matters, income taxes, stock–based compensation and deferred tax assets and liabilities. We base our estimates on historical experience and various other assumptions that we believe to be reasonable under the circumstances. Actual results may differ from these estimates. The accounting policies we believe to be most critical to understand our financial results and condition and that require complex and subjective management judgments are discussed in “Management’s Discussion and Analysis of Financial Condition and Results of Operations-Critical Accounting Policies” in our Annual Report on Form 10–K filed with the Securities and Exchange Commission on March 22, 2016, as amended by Form 10-K/A on April 29, 2016.

 

There have been no changes in our critical accounting policies during the quarter ended September 30, 2016.

 

RESULTS OF OPERATIONS

 

Condensed Consolidated Results of Operations

 

The following tables set forth our condensed consolidated results of operations for the three and nine months ended September 30, 2016 and 2015:

 

		Three Months Ended September 30,								Nine Months Ended September 30,
		2016				2015				2016				2015
Net sales		$	4,030			$	6,594			$	17,144			$	21,972
Cost of sales			4,929				8,088				18,384				23,678
Gross profit (loss)			(899	)			(1,494	)			(1,240	)			(1,706	)
Selling, general and administrative expenses			1,798				3,155				5,489				8,545
Research and development expense			308				334				949				1,046
Provision (recovery) for bad debt expense			651				225				2,010				(7	)
Operating loss			(3,656	)			(5,208	)			(9,688	)			(11,290	)
Interest income (expense), net			(2	)			13				39				(35	)
Other expense, net (Note 9)			9				(722	)			(1,690	)			(722	)
Gain on disposal of fixed assets			—				—				2				—
Foreign currency transaction (loss) gain			(64	)			(256	)			(351	)			61
Loss from continuing operations before income tax expense (benefit)			(3,713	)			(6,173	)			(11,688	)			(11,986	)
Income tax expense (benefit) from continuing operations			(35	)			(422	)			(50	)			(316	)
Net loss from continuing operations		$	(3,678	)		$	(5,751	)		$	(11,638	)		$	(11,670	)

 

Net Sales

 

		Three Months Ended September 30,																								Nine Months Ended September 30,
		2016								2015								Change								2016								2015								Change
		Amount				% of Total Net Sales				Amount				% of Total Net Sales				Amount				%				Amount				% of Total Net Sales				Amount				% of Total Net Sales				Amount				%
Net sales		$	4,030				100.0	%		$	6,594				100.0	%		$	(2,564	)			(38.9	)%		$	17,144				100.0	%		$	21,972				100.0	%		$	(4,828	)			(22.0	)%

 

The decrease in net sales for the three months ended September 30, 2016 compared to the corresponding period in 2015 was driven by an approximately 11% decrease in our average selling price (“ASP”) and an approximately 31% decrease in sales volume. Net sales to two of our major customers that exceeded 10% of the Company’s consolidated net sales for the three months ended September 30, 2016 were $2.0 million. Net sales to two of our major customers that exceeded 10% of the Company’s consolidated net sales for the three months ended September 30, 2015 were $1.4 million.

The price decline was primarily the result of decreased sales to customers located in Europe, China and India. The volume decline was primarily driven by a decline with European customers.

 

The decrease in net sales for the nine months ended September 30, 2016 compared to the corresponding period in 2015 was driven by an approximately 9% decrease in our average selling price (“ASP”) and an approximately 14% decrease in sales volume. The volume decline was primarily driven by a reduction of net sales with our largest customer, who modified its OEM manufacturing partner footprint in the latter part of 2014 and announced the significant reduction of its OEM module business by the end of 2015, as described in Note 12, and an increase in its in-house module production in China. Excluding this customer, with whom we are trying to re-engage business in China, volume increased by approximately 3% with our remaining customers, primarily driven by a 71% volume increase in China mainly in the first half of 2016, as well as growth in India, which more than offset a decline with European customers.

 

On a sequential basis, net sales decreased by $2.7 million, or 40%, compared to the three months ended June 30, 2016. This decrease was primarily driven by a 39% decrease in sales volume and a 1% decrease in ASP. The sales volume decrease occurred principally in China, which we attributed primarily to a roughly 11% cut to Feed-in-Tariffs (FIT) taking effect for systems connected after June 30, 2016. We believe that the rush to connect systems prior to the FIT step down resulted in increased demand for deliveries in the quarter ended June 30, 2016, at the expense of demand thereafter.

 

We are currently in the qualification process with potential additional customers. The qualification process must occur with each prospective customer. The internal qualification process and timing are managed and customized by each module manufacturer. In addition, we may also experience ramp delays after module manufacturers complete the internal certification process and introduce our encapsulants in their mass-production process for the first time. If our encapsulants do not perform similarly during initial module production as they did during certification and internal testing, we may have to perform additional engineering and laboratory testing, and in some cases may have to change our encapsulant formulation, which would require re-qualification testing. Any production ramp issues we may experience with potential customers will require additional costs to resolve and would reduce our net sales, both of which would negatively impact the results of our operations and financial condition. Moreover, even if we successfully complete a qualification process for a customer, we cannot assure if or when we may receive any orders from such customer on acceptable terms, if at all.

 

Cost of Sales

 

		Three Months Ended September 30,																								Nine Months Ended September 30,
		2016								2015								Change								2016								2015								Change
		Amount				% of Total Net Sales				Amount				% of Total Net Sales				Amount				%				Amount				% of Total Net Sales				Amount				% of Total Net Sales				Amount				%
Cost of sales		$	4,929				122.3	%		$	8,088				122.7	%		$	(3,159	)			(39.1	)%		$	18,384				107.2	%		$	23,678				107.8	%		$	(5,294	)			(22.4	)%

 

The decrease in our cost of sales for the three months ended September 30, 2016 compared to the corresponding period in 2015 was primarily driven by a 31% decrease in sales volume, combined with an approximately 13% decrease in raw material cost per unit. The lower raw material cost per unit was primarily driven by a 7% increase in paperless sales mix, which carries lower raw material costs, as well as improved efficiencies at our China factory for the three months ended September 30, 2016 versus the corresponding 2015 period. Direct labor decreased by $0.4 million, associated with the sales volume decrease. Overhead costs decreased by $0.7 million primarily due to continued cost-reduction actions.

 

The decrease in our cost of sales for the nine months ended September 30, 2016 compared to the corresponding period in 2015 was primarily driven by a 14% decrease in sales volume combined with an approximately 8% decrease in raw material cost per unit. The lower raw material cost per unit was primarily driven by a 18% increase in paperless sales mix and slightly lower resin costs, as well as improved efficiencies at our China factory for the nine months ended September 30, 2016 versus the corresponding 2015 period. Direct labor decreased by $0.6 million, associated with the sales volume decrease. Overhead costs decreased by $1.4 million primarily due to continued cost-reduction actions.

 

Gross Profit (Loss)

 

		Three Months Ended September 30,																								Nine Months Ended September 30,
		2016								2015								Change								2016								2015								Change
		Amount				% of Total Net Sales				Amount				% of Total Net Sales				Amount				%				Amount				% of Total Net Sales				Amount				% of Total Net Sales				Amount				%
Gross profit (loss)		$	(899	)			(22.3	)%		$	(1,494	)			(22.7	)%		$	595				39.8	%		$	(1,240	)			(7.2	)%		$	(1,706	)			(7.8	)%		$	466				27.3	%

 

Gross loss, as a percentage of net sales, improved slightly for the three months ended September 30, 2016 compared to the corresponding period in 2015 mainly as a result of a decrease in raw material cost per unit as described above.

 

Gross loss, as a percentage of net sales, improved for the nine months ended September 30, 2016 compared to the corresponding period in 2015 mainly as a result of a lower raw material cost per unit, as described above.

 

Selling, General and Administrative Expenses (“SG&A”)

 

		Three Months Ended September 30,																								Nine Months Ended September 30,
		2016								2015								Change								2016								2015								Change
		Amount				% of Total Net Sales				Amount				% of Total Net Sales				Amount				%				Amount				% of Total Net Sales				Amount				% of Total Net Sales				Amount				%
SG&A		$	1,798				46.6	%		$	3,155				47.8	%		$	(1,357	)			(43.0	)%		$	5,489				32.0	%		$	8,545				38.9	%		$	(3,056	)			(35.8	)%

 

SG&A decreased by $1.4 million for the three months ended September 30, 2016 compared to 2015. This decrease was primarily driven by $0.7 million in reduced restructuring expenses, a $0.2 million decrease in both labor and benefits, a $0.1 million decrease in stock-based compensation, a $0.1 million reduction in travel expenses and dues and fees and $0.1 million of reduced professional fees.

 

SG&A decreased by $3.1 million for the nine months ended September 30, 2016 compared to 2015. This decrease was primarily driven by $0.7 million lower labor and benefits, $0.6 million of reduced restructuring expense, a $0.5 million reduction in professional fees, $0.3 million of reduced annual incentive compensation expense, a $0.3 million decrease in travel expenses, a $0.2 million decrease in stock-based compensation, a $0.2 million reduction of other SGA expenses including a non-recurring settlement of a state sales tax audit in 2015 and a $0.1 million decrease in dues and fees.

 

Research and Development Expense (“R&D”)

 

		Three Months Ended September 30,																								Nine Months Ended September 30,
		2016								2015								Change								2016								2015								Change
		Amount				% of Total Net Sales				Amount				% of Total Net Sales				Amount				%				Amount				% of Total Net Sales				Amount				% of Total Net Sales				Amount				%
R&D		$	308				7.6	%		$	334				5.1	%		$	(26	)			(7.8	)%		$	949				5.6	%		$	1,046				4.8	%		$	(97	)			(9.3	)%

 

Research and development expense decreased modestly by less than $0.1 million for the three and nine months ended September 30, 2016 compared to the corresponding periods in the prior year, as our research and development staffing and activity has remained relatively consistent during these periods.

 

Provision (Recovery) for Bad Debt Expense

 

		Three Months Ended September 30,																								Nine Months Ended September 30,
		2016								2015								Change								2016								2015								Change
		Amount				% of Total Net Sales				Amount				% of Total Net Sales				Amount				%				Amount				% of Total Net Sales				Amount				% of Total Net Sales				Amount				%
Provision (recovery) for bad debt expense		$	651				16.2	%		$	225				3.4	%		$	426				189.3	%		$	2,010				11.7	%		$	(7	)			—	%		$	2,017				28,814.3	%

 

The provision (recovery) for bad debt expense recorded during the three and nine months ended September 30, 2016 primarily related to certain Chinese customers’ balances, partially offset by receiving payment related to aged accounts receivable that were previously reserved for.

 

Other (Expense) Income, net

 

		Three Months Ended September 30,																								Nine Months Ended September 30,
		2016								2015								Change								2016								2015								Change
		Amount				% of Total Net Sales				Amount				% of Total Net Sales				Amount				%				Amount				% of Total Net Sales				Amount				% of Total Net Sales				Amount				%
Other (expense) income, net		$	9				0.2	%		$	(722	)			(10.9	)%		$	731				101.2	%		$	(1,690	)			(9.9	)%		$	(722	)			(3.3	)%		$	(968	)			(134.1	)%

 

In July 2015, the Company announced a restructuring plan that included the closure of its Malaysia facility, effective August 2, 2015. Subsequent to the announcement, the Company engaged advisors and is actively trying to sell its land-use right, building and other fixed assets located at the facility. In the six months of 2016, the Company received and accepted an offer of RM25.0 million ($6.3 million) for the land-use right and building, subject to completion of definitive documentation. As a result, an analysis of the asset group was performed and an impairment of assets held for sale of $1.7 million was recorded during the second quarter of 2016 and a loss on reclassification of $0.7 million was recorded during the third quarter of 2015.

 

Foreign Currency Transaction (Loss) Gain

 

		Three Months Ended September 30,																								Nine Months Ended September 30,
		2016								2015								Change								2016								2015								Change
		Amount				% of Total Net Sales				Amount				% of Total Net Sales				Amount				%				Amount				% of Total Net Sales				Amount				% of Total Net Sales				Amount				%
Foreign currency transaction (loss) gain		$	(64	)			(1.6	)%		$	(256	)			(3.9	)%		$	192				75.0	%		$	(351	)			(2.0	)%		$	61				0.3	%		$	(412	)			(675.4	)%

 

The foreign currency transaction impact was a loss of $0.1 million and $0.3 million for the three months ended September 30, 2016 and 2015, respectively. This impact was primarily the result of volatility in the Euro spot exchange rate versus the U.S. dollar, which improved by less than 1% for the three months ended September 30, 2016 compared to a 12% decrease during the corresponding 2015 period.

 

The foreign currency transaction loss for the nine months ended September 30, 2016 was $0.4 million and the foreign currency gain for the nine months ended September 30, 2015 was less than $0.1 million. This change was primarily the result of volatility in the Euro spot exchange rate versus the U.S. dollar, which increased by less than 1% for the nine months ended September 30, 2016 compared to a 12% decrease during the corresponding 2015 period.

 

Our primary foreign currency exposures are intercompany loans, U.S. dollar cash balances in foreign locations and some U.S. dollar denominated accounts receivable at our Spanish facility.

 

Income Tax Expense (Benefit) from Continuing Operations

 

		Three Months Ended September 30,																								Nine Months Ended September 30,
		2016								2015								Change								2016								2015								Change
		Amount				% of Total Net Sales				Amount				% of Total Net Sales				Amount				%				Amount				% of Total Net Sales				Amount				% of Total Net Sales				Amount				%
Income tax expense (benefit) from continuing operations		$	(35	)			(0.9	)%		$	(422	)			(6.4	)%		$	387				91.7	%		$	(50	)			(0.3	)%		$	(316	)			(1.4	)%		$	266				84.2	%

 

 

During the three and nine months ended September 30, 2016, we recorded an income tax benefit of less than $0.1 million and $0.1 million, respectively, resulting in an effective tax rate of 0.9% and 0.4%, respectively. The income tax benefit was primarily related to the allocation of tax expense between continuing operations and other comprehensive income when applying the exception to the ASC 740 intra-period allocation rule. The projected annual effective tax rate, excluding the intra-period allocation, is 0.0% as compared to the U.S. federal statutory rate of 35.0%. The annual effective tax rate is principally driven by changes in valuation allowances.

 

During the three and nine months ended September 30, 2015, we recorded an income tax benefit of $0.4 million and $0.3 million, respectively, resulting in an effective tax rate of 6.8% and 2.6%, respectively. The tax provision reflected discrete items in the periods primarily related to reversal of uncertain tax positions due to statute expiration resulting in a $0.4 million benefit in the quarter. The projected annual effective tax rate excluding these discrete items was 0.0% as compared to the U.S. federal statutory rate of 35.0%. The annual effective tax rate was principally driven by changes in valuation allowances.

 

During the second quarter of 2016, we received an income tax refund of $8.3 million from the Internal Revenue Service resulting from a 2014 federal net operating loss carryback.

 

Net Loss from Continuing Operations

 

		Three Months Ended September 30,																								Nine Months Ended September 30,
		2016								2015								Change								2016								2015								Change
		Amount				% of Total Net Sales				Amount				% of Total Net Sales				Amount				%				Amount				% of Total Net Sales				Amount				% of Total Net Sales				Amount				%
Net loss from continuing operations		$	(3,678	)			(91.3	)%		$	(5,751	)			(87.2	)%		$	2,073				36.0	%		$	(11,638	)			(67.9	)%		$	(11,670	)			(53.1	)%		$	32				0.3	%

 

Net loss from continuing operations for the three months ended September 30, 2016 decreased compared to the corresponding 2015 period driven by improved gross loss, improved SG&A, favorable impact from foreign currency and the non-recurrence of the $0.7 million loss on reclassification recorded in the third quarter of 2015. These items more than offset increased bad debt and lower income tax benefit in the third quarter of 2016.

 

Net loss from continuing operations for the nine months ended September 30, 2016 decreased by less than $0.1 million compared to the corresponding 2015 period driven by improved gross loss, improved SG&A and improved R&D. These items more than offset increased bad debt, unfavorable impact from foreign currency and $1.0 million of increased impairment of assets held for sale and lower income tax benefit in the third quarter of 2016.

 

On a sequential basis, net loss from continuing operations for the third quarter of 2016 was $3.7 million compared to a net loss from continuing operations of $5.0 million for the second quarter of 2016. The sequentially lower net loss of $1.3 million was primarily due to reduced bad debt expense, favorable impact from foreign currency, reduced income tax expense and the non-recurring $1.7 million impairment of assets held for sale recorded in the second quarter of 2016. These items more than offset increased gross loss in the third quarter of 2016 compared to the second quarter of 2016.

 

Net Earnings from Discontinued Operations

 

		Three Months Ended September 30,																								Nine Months Ended September 30,
		2016								2015								Change								2016								2015								Change
		Amount				% of Total Net Sales				Amount				% of Total Net Sales				Amount				%				Amount				% of Total Net Sales				Amount				% of Total Net Sales				Amount				%
Net earnings from discontinued operations		$	—				—	%		$	4,036				61.2	%		$	(4,036	)			(100.0	)%		$	—				—	%		$	4,036				18.4	%		$	(4,036	)			(100.0	)%

 

Net earnings from discontinued operations for the three and nine months ended September 30, 2015 relates to the reversal of $4.0 million of uncertain tax positions of the Company’s former QA business due to the expiration of the statute of limitations.

 

Segment Results of Operations

 

We report our business in one reported segment. We measure segment performance based on net sales, Adjusted EBITDA and non-GAAP loss per share from continuing operations (“non-GAAP EPS”). See Note 18-Reportable Segment and Geographical Information located in the Notes to the Condensed Consolidated Financial Statements for a definition of Adjusted EBITDA and further information. Net sales for our segment is described in further detail above and non-GAAP EPS is described in further detail below. The discussion that follows is a summary analysis of net sales and the primary changes in Adjusted EBITDA.

 

The following tables set forth information about our continuing operations by reportable segment:

 

		Three Months Ended September 30,								Nine Months Ended September 30,
		2016				2015				2016				2015
Reconciliation of Adjusted EBITDA to Net Loss from Continuing Operations
Adjusted EBITDA		$	(3,099	)		$	(3,341	)		$	(7,985	)		$	(7,590	)
Depreciation			(468	)			(421	)			(1,418	)			(1,423	)
Interest income (expense), net			(2	)			13				39				(35	)
Income tax (expense) benefit			35				422				50				316
Restructuring			(25	)			(1,524	)			(219	)			(1,663	)
Stock–based compensation			(119	)			(178	)			(399	)			(553	)
Loss on reclassification on assets held for sale			—				(722	)			—				(722	)
Impairment of assets held for sale			—				—				(1,708	)			—
Gain on disposal of fixed assets			—				—				2				—
Net Loss from Continuing Operations		$	(3,678	)		$	(5,751	)		$	(11,638	)		$	(11,670	)

 

		Three Months Ended September 30,																Nine Months Ended September 30,
		2016				2015				Change								2016				2015				Change
		Amount				Amount				Amount				%				Amount				Amount				Amount				%
Net Sales		$	4,030			$	6,594			$	(2,564	)			(38.9	)%		$	17,144			$	21,972			$	(4,828	)			(22.0	)%
Adjusted EBITDA		$	(3,099	)		$	(3,341	)		$	242				7.2	%		$	(7,985	)		$	(7,590	)		$	(395	)			(5.2	)%
Adjusted EBITDA as % of Segment Net Sales			(76.9	)%			(50.7	)%											(46.6	)%			(34.5	)%

 

Adjusted EBITDA as a percentage of net sales declined for the three months ended September 30, 2016 compared to 2015 driven by improved gross loss, SG&A and favorable foreign currency, more than offset by increased bad debt expense.

 

Adjusted EBITDA as a percentage of net sales declined for the nine months ended September 30, 2016 compared to 2015 driven by improved gross loss, SG&A and R&D, more than offset by increased bad debt expense and unfavorable foreign currency impact.

 

Adjusted EBITDA for the third quarter of 2016 was $(3.1) million compared to $(2.4) million from the second quarter of 2016. The sequential decline was primarily due to a decline in gross loss partially offset by reduced bad debt expense and favorable foreign currency impact.

 

Cost-Reduction Actions

 

In July 2015, following a decision by our largest customer to exit its OEM module production in Malaysia, we decided to close our Malaysia facility, effective August 2, 2015. During 2015, we recognized $0.3 million of severance and benefits as well as a $0.5 million inventory write down in cost of sales and $0.5 million of severance and benefits in selling, general and administrative expenses related to the Malaysia facility closure.

 

In June 2016, we eliminated certain positions at our Spain facility effective July 5, 2016. We recorded $0.1 million of severance and benefits in cost of sales and $0.1 million of severance and benefits in selling, general and administrative expenses during the second quarter of 2016.

 

A roll-forward of the severance and other exit cost accrual activity was as follows:

 

		September 30, 2016				September  30, 2015
Balance as of beginning of year		$	0.3			$	0.1
Additions			0.2				1.6
Reductions			(0.2	)			(1.1	)
Balance as of end of period		$	0.3			$	0.6

 

The restructuring accrual consisted of $0.3 million and $0.6 million for severance and benefits as of September 30, 2016 and 2015, respectively.

 

Financial Condition, Liquidity and Capital Resources

 

We have funded our operations primarily through our existing cash balance. As of September 30, 2016, our principal source of liquidity was $13.8 million of cash, $0.9 million of Chinese bank acceptance notes and $3.2 million due from Zhenfa. In October 2016, we received the $3.2 million due from Zhenfa in the form of Chinese bank acceptance notes. Our principal needs for liquidity have been, and for the foreseeable future we expect will continue to be, for working capital and capital investments. Payment terms are currently longer in China than in many other locations, which results in delayed cash receipts from certain of our customers. Although we believe that our available cash will be sufficient to meet our liquidity needs, including capital investments (mainly equipment upgrades and information technology needs), through at least the next 12 months, if we are unable to collect our accounts receivable, or fail to receive payment of these in a timely fashion, or obtain bank acceptance notes from our customers, our financial condition and results of operations will be negatively affected. In order to mitigate this risk, we are attempting to obtain bank acceptance notes with respect to the accounts receivable from certain of our Chinese customers and actively pursuing the collection of the balance from Zhenfa.

 

In October 2015, our wholly owned Spanish subsidiary, Specialized Technology Resources España S.A., entered into a factoring agreement to sell, with recourse, certain European, U.S. and other foreign company-based receivables to Eurofactor Hispania S.A.U. Under the current terms of the factoring agreement, the maximum amount of outstanding advances at any one time is €1.5 million ($1.7 million as of September 30, 2016), which is subject to adjustment based on the level of eligible receivables, restrictions on concentrations of receivables and the historical performance of the receivables sold. The annual discount rate is 2% plus EURIBOR for Euro-denominated receivables and 2% plus LIBOR for all other currencies. The term of the agreement is for one year, which will be automatically extended unless terminated by either party with 90 days prior written notice. As of September 30, 2016, €1.2 million ($1.4 million as of September 30, 2016) was available under the factoring agreement based upon receivables outstanding.

 

In connection with our continued efforts to return our encapsulant business to profitability, on July 24, 2015 our Board approved a restructuring of our encapsulant business, which included the shut-down of our Malaysia manufacturing facility, effective August 2, 2015. We are in the process of selling the Malaysia facility and its production and ancillary equipment. In connection with the shut-down and sale of the Malaysia facility, we incurred approximately $1.3 million of associated non-recurring costs during the second half of 2015. In the first nine months of 2016, we accepted an offer of RM25.0 million ($6.3 million) for the land-use right and building, subject to completion of definitive documentation. As a result, an analysis of the asset group was performed and an impairment of assets held for sale of $1.7 million was recorded. On November 7, 2016, we executed the formal purchase and sale agreement. We cannot assure that we will be able to close the sale of our Malaysian real estate on a timely basis or on favorable terms or that the costs of closure of that facility will not be higher than anticipated.

 

We remain open to exploring possible business opportunities in potentially more profitable parts of the solar supply chain, as well as other strategic alternatives. We cannot assure that we will be able to successfully pursue any such potential opportunities. If we are successful in pursuing any such opportunities, we may be required to expend significant funds, incur debt or other obligations or issue additional securities, any of which could significantly dilute our current stockholders and may negatively affect our operating results and financial condition. We cannot assure that any such strategic opportunities or related transactions, or any financing in connection therewith, would be available on favorable terms, if at all, or that we will realize any anticipated benefits from any such transactions that we complete. In the event that we are not successful in restructuring our encapsulant business or pursuing opportunities in the downstream solar market or other strategic transactions, we also intend to consider alternatives, including, without limitation, the acquisition of another business, the divestiture of all or certain of our assets, joint ventures and other transactions outside the ordinary course of business.

 

If we are not able to fund our working capital needs, we will have to slow our projected growth, which may further impede or delay our attempt to return to profitability. We expect to fund our cash requirements with our existing cash and bank acceptance notes, leveraging our European factoring facility and other potential working capital financing arrangements that we are currently seeking.

 

Our cash and cash equivalents balance is located in the following geographies:

 

 

		September 30, 2016
United States		$	8,622
Spain			2,175
Malaysia			87
China			2,846
Hong Kong			81
Consolidated		$	13,811

 

Due, among other things, to the difficulty repatriating cash to the U.S., the $2.8 million of cash and cash equivalents located in China is expected to remain in China for working capital needs.

 

We do not permanently re-invest our Malaysia subsidiary’s earnings. Based upon the Malaysia subsidiary’s liabilities to us, we expect the undistributed earnings of our Malaysia subsidiary will be repatriated to the U.S. in a tax-free manner. We do not permanently re-invest our Spain earnings, so this cash balance is available for dividend repatriation. We have accrued for this tax liability. We have not elected to permanently re-invest our Hong Kong and China earnings and plan to utilize our cash located in Hong Kong and China to fund a portion of our working capital requirements and capital investment in China. Our goal is to achieve and maintain self-sufficiency in each of our manufacturing locations to meet their cash requirements. We cannot assure that we will continue to fund the manufacturing operations in any location, if such operations would require investment of additional cash from other jurisdictions.

 

Cash Flows

 

Cash Flow from Operating Activities from Continuing Operations

 

Net cash provided by operating activities from continuing operations was $6.1 million for the nine months ended September 30, 2016 compared to net cash used in operating activities of $4.5 million for the nine months ended September 30, 2015. Net loss plus and minus non-cash adjustments (“cash loss”) improved by approximately $2.8 million for the nine months ended September 30, 2016 compared to the same period in 2015. This improvement was driven by the receipt of an $8.3 million income tax refund as well as consumption of excess Malaysia inventory and the continued impact of cost-reduction efforts. These positive impacts were partially offset by the $5.4 million received from Zhenfa during the first nine months of 2015, which did not recur in 2016.

 

Cash Flow from Operating Activities from Discontinued Operations

 

Net cash provided by operating activities from discontinued operations was less than $0.1 million for the nine months ended September 30, 2015 due to receiving cash refunds for a prior state tax receivable.

 

Cash Flow from Investing Activities from Continuing Operations

 

Net cash used in investing activities was $0.2 million and $2.4 million for the nine months ended September 30, 2016 and 2015, respectively. The 2015 capital investments related to the building improvements at our Enfield, Connecticut location and the continued build out of our leased facility in China. We expect remaining 2016 consolidated capital expenditures to be less than $0.5 million.

 

Cash Flow from Financing Activities from Continuing Operations

 

Net cash used in financing activities was $0.1 million for the nine months ended September 30, 2016 primarily due to our Spanish subsidiary receiving funds related to the factoring agreement. Net cash used in financing activities was less than $0.1 million for the nine months ended September 30, 2015 primarily due to trailing payments related to the Special Dividend.

 

Off-Balance Sheet Arrangements

 

We have no off-balance sheet financing arrangements.

 

Effects of Inflation

 

Inflation generally affects us by increasing costs of raw materials, labor and equipment. During the first nine months of 2016, we were not negatively materially affected by inflation.

 

Recently Issued Accounting Standards

 

In May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2014-09, “Revenue from Contracts with Customers” (Topic 606). This ASU is intended to clarify the principles for recognizing revenue by removing inconsistencies and weaknesses in revenue requirements; providing a more robust framework for addressing revenue issues; improving comparability of revenue recognition practices across entities, industries, jurisdictions and capital markets; and providing more useful information to users of financial statements through improved revenue disclosure requirements. The provisions of this ASU are effective for interim and annual periods beginning after December 15, 2016. On August 12, 2015, the FASB issued ASU 2015-14, "Revenue from Contracts with Customers (Topic 606): Deferral of the Effective Date," which delays the effective date of ASU 2014-09 by one year. The new standard is effective for reporting periods beginning after December 15, 2017. Early application is permitted for reporting periods beginning after December 15, 2016. The standard shall be applied retrospectively to each period presented or as a cumulative-effect adjustment as of the date of adoption. In March, April and May 2016, the FASB clarified the implementation guidance on principal versus agent, identifying performance obligations, licensing, and collectability. We are currently evaluating the new guidance to determine the impact it may have on our consolidated financial statements.

 

In January 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update ("ASU") 2016-01, “Financial Instruments - Overall: Recognition and Measurement of Financial Assets and Financial Liabilities.” The main objective of this update is to enhance the reporting model for financial instruments to provide users of financial statements with more decision-useful information. The new guidance addresses certain aspects of recognition, measurement, presentation, and disclosure of financial instruments. This ASU is effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. We are currently evaluating the new guidance to determine the impact it may have on our consolidated financial statements.

 

In March 2016, the FASB issued ASU 2016-09, "Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting." The objective of this update is to simplify several aspects of the accounting for employee share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities, and classification on the statement of cash flows. This ASU is effective for fiscal years beginning after December 15, 2016, including interim periods within those fiscal years. Early adoption is permitted. We are currently evaluating the new guidance to determine the impact it may have on our consolidated financial statements.

 

In August 2016, the FASB issued ASU 2016-15, "Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments." This ASU is intended to reduce diversity in practice in presentation and classification of certain cash receipts and cash payments by providing guidance on eight specific cash flow issues. The provisions of this ASU are effective for years beginning after December 15, 2017, with early adoption permitted. We do not expect this ASU to have a significant impact on our financial statements or disclosures.

 

Item 3. Quantitative and Qualitative Disclosures About Market Risk

 

We are not required to provide this Item 3 because we are a smaller reporting company.

 

Item 4. Controls and Procedures

 

Disclosure Controls and Procedures

 

We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in our reports according to the Securities Exchange Act of 1934, as amended (“Exchange Act”), is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our Chairman, President and Chief Executive Officer and our Vice President, Chief Financial Officer and Chief Accounting Officer, as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives.

 

As of September 30, 2016, we carried out an evaluation, under the supervision and with the participation of our management, including our Chairman, President and Chief Executive Officer and our Vice President, Chief Financial Officer and Chief Accounting Officer, of the effectiveness of the design and operation of our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act. Based upon that evaluation, our Chairman, President and Chief Executive Officer and our Vice President, Chief Financial Officer and Chief Accounting Officer concluded that our disclosure controls and procedures are effective.

 

Changes in Internal Control Over Financial Reporting

 

There have not been any changes in our internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the third fiscal quarter of our fiscal year ended December 31, 2016 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

PART II. OTHER INFORMATION

 

Item 1. Legal Proceedings

 

From time to time, we are and have been a party to litigation that arises in the ordinary course of our business. There were no material legal proceedings pending during the quarter ended September 30, 2016.

 

In October 2016, a complaint was filed by Solaria Energie y Medio Ambiente S.A. (“Solaria”) against the Company and its Spanish subsidiary, Specialized Technology Resources España S.A. (“STR Spain”), in the Court of the First Instance No. 8 in Oviedo, Spain, relating to a product quality claim in connection with a non-encapsulant product that STR Spain purchased from a vendor in 2005 and 2006 and resold to Solaria. The Company stopped selling this product in 2006. Solaria is seeking approximately €3.3 million, plus interest, in damages. The Company believes it has meritorious defenses and plans to vigorously defend the matter.

 

Item 1A. Risk Factors

 

In addition to the other information set forth in this report, you should carefully consider the factors discussed in Part I, “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2015, which could materially affect our business, financial position and results of operations. There have been no material changes to the risk factors as disclosed in Part I, “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2015.

 

Item 5. Other Information

 

None.

 

Item 6. Exhibits

31.1		Certification of Chief Executive Officer pursuant to Rule 13a-14 Securities Exchange Act Rules 13a-14(a) and 15d-14(a), pursuant to section 302 of the Sarbanes-Oxley Act of 2002.
31.2		Certification of Chief Financial Officer pursuant to Rule 13a-14 Securities Exchange Act Rules 13a-14(a) and 15d-14(a), pursuant to section 302 of the Sarbanes-Oxley Act of 2002.
32.1		Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted by Section 906 of the Sarbanes-Oxley Act of 2002.
32.2		Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted by Section 906 of the Sarbanes-Oxley Act of 2002.
101.INS		XBRL Instance Document
101.SCH*		XBRL Taxonomy Extension Schema Document
101.CAL		XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF		XBRL Definition Linkbase Document
101.LAB		XBRL Taxonomy Extension Label Linkbase Document
101.PRE		XBRL Taxonomy Extension Presentation Linkbase Document

 

 

 

 

 

 

 

 

 

 

 

 

 

SIGNATURE

 

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 thereunto duly authorized.

 

 

 

 

 

 

	STR HOLDINGS, INC.
	(Registrant)
Date: November 9, 2016	/s/ Thomas D. Vitro
	Name:	Thomas D. Vitro
	Title:	Vice President, Chief Financial Officer and Chief Accounting Officer
		(Duly Authorized Officer and Principal Financial Officer)

 

 

 

 

 

 

 

 

 

31