Indicate by a check mark if the registrant is a well-known
seasoned issuer (as defined in Rule 405 of the Securities Exchange Act of 1934). Yes
o
No
x
Indicate by a check mark if the registrant is not
required to file reports pursuant to Section 13 or Section 15(d) of the Securities Exchange Act of 1934). Yes
o
No
x
Indicate by check mark whether the registrant (1)
has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12
months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes
x
No
o
Indicate by check mark whether the registrant has
submitted electronically and posted on its corporate web site, if any, every Interactive Data File required to be submitted and
posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was
required to submit and post such files.) Yes
x
No
o
Indicate by check mark if disclosure of delinquent
filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein, and will not be contained,
to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III
of this Form 10-K or any amendment to this Form 10-K.
x
Indicate by check mark whether the registrant is
a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or emerging growth company.
See definitions of “accelerated filer”, “large accelerated filer”, “non-accelerated filer”,
“smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Securities Exchange Act
of 1934.
If an emerging growth company, indicate by check mark
if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting
standards provided pursuant to Section 13(a) of the Exchange Act.
o
Indicate by a check mark whether the registrant is
a shell company (as defined in Rule 12b-2 of the Securities and Exchange Act of 1934). Yes
o
No
x
As of June 30, 2017, there were 5,489,053 shares of
Common Stock of the Registrant outstanding. The aggregate market value of the Common Stock of the Registrant held by non-affiliates
(assuming for these purposes, but not conceding, that all executive officers, directors and 5% shareholders are “affiliates”
of the Registrant) as of June 30, 2017 was approximately $107 million, computed based upon the closing price of $24.95 per share
on June 30, 2017.
As of March 16, 2018, there were 5,492,053 shares
of Common Stock of the Registrant outstanding.
Part III of this Annual Report on Form 10-K incorporates
by reference portions of the Registrant’s definitive proxy statement, to be filed with the Securities and Exchange Commission
no later than 120 days after the close of its fiscal year; provided that if such proxy statement is not filed with the Commission
in such 120-day period, an amendment to this Form 10-K shall be filed no later than the end of the 120-day period.
Some of the statements under “Business,”
“Risk Factors,” “Legal Proceedings,” “Market for Registrant’s Common Stock and Related Stockholder
Matters” and “Management Discussion and Analysis of Financial Condition and Results of Operations” and elsewhere
in this Annual Report on Form 10-K (this “Form 10-K”) constitute forward-looking statements under Section 27A of the
Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, including statements made
with respect to future earnings, earnings per share, revenues, operating income, cash flows, competitive and strategic initiatives,
potential stock repurchases, liquidity needs, dividends, future business, growth opportunities, profitability, pricing, new accounts,
customer base, market share, test volume, sales volume, sales and marketing strategies, U.S. and foreign drug testing laws and
regulations and the enforcement of such laws and regulations, required investments in plant, equipment and people, new test development,
and contingencies, including litigation results. These statements involve known and unknown risks, uncertainties and other factors
that may cause results, levels of activity, growth, performance, earnings per share or achievements to be materially different
from any future results, levels of activity, growth, performance, earnings per share or achievements expressed or implied by such
forward-looking statements.
The forward-looking statements included in this Form
10-K and referred to elsewhere are related to future events or our strategies or future financial performance. In some cases, you
can identify forward-looking statements by terminology such as “may,” “should,” “believe,”
“anticipate,” “future,” “potential,” “estimate,” “encourage,” “opportunity,”
“growth,” “leader,” “could”, “expect,” “intend,” “plan,”
“expand,” “focus,” “through,” “strategy,” “provide,” “offer,”
“allow,” “commitment,” “implement,” “result,” “increase,” “establish,”
“perform,” “make,” “continue,” “can,” “ongoing,” “include”
or the negative of such terms or comparable terminology. All forward-looking statements included in this Form 10-K are based on
information available to us as of the filing date of this report, and the Company assumes no obligation to update any such forward-looking
statements. Our actual results could differ materially from the forward-looking statements.
Factors that may cause such differences include but are
not limited to: (1) intense competition in the drug testing industry, particularly among companies that test utilizing hair
samples; (2) risks associated with the development of markets for new products and services offered; (3) pricing policies;
(4) risks associated with capacity expansion; (5) risks associated with U.S. government regulations, including, but not limited
to, FDA regulations, (6) risks associated with our international operations, including, but not limited to, Brazilian laws, proposed
laws and regulations, market development and currency risks; (7) Psychemedics' ability to maintain its reputation and brand image;
(8) the ability of Psychemedics to achieve its business plans, productivity improvements, cost controls, leveraging of its global
operating platform, and acceleration of the rate of innovation; (9) information technology system failures and data security breaches;
(10) the uncertain global economy; (11) our ability to attract, develop and retain executives and other qualified employees and
independent contractors, including distributors; (12) Psychemedics' ability to obtain and protect intellectual property rights;
(13) litigation risks; and (14) changes in economic conditions which affect demand for our products and services.
Additional important factors that could cause actual
results to differ materially from expectations reflected in our forward-looking statements include those described in Item 1A,
“Risk Factors.”
PART I
Available Information; Background
Psychemedics Corporation (together with its subsidiaries,
“the Company” or “Psychemedics”) maintains executive offices located at 289 Great Road, Acton, MA 01720.
Our telephone number is (978) 206-8220. Our stock is traded on the NASDAQ Stock Market under the symbol “PMD”. Our
Internet address is
www.psychemedics.com
. The Company makes available, free of charge, on the Investor Information
section of its website, its Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and all amendments
to those reports as soon as reasonably practicable after such material is electronically filed with the Securities and Exchange
Commission (the “SEC”). Copies are also available, without charge, from Psychemedics Corporation, Attn: Investor Relations,
289 Great Road, Acton, MA 01720. Alternatively, reports filed with the SEC may be viewed or obtained at the SEC Public Reference
Room in Washington, D.C., or the SEC’s Internet site at
www.sec.gov
. We do not intend for information contained in
our website to be part of this Annual Report on Form 10-K.
Item 1. Business
General
Psychemedics Corporation is a Delaware corporation
organized on September 24, 1986. The consolidated financial statements of the Company include the accounts and results of operations
of Psychemedics Corporation and its wholly-owned subsidiary Psychemedics International, LLC (Delaware) and their jointly-owned
subsidiary Psychemedics Laboratórios Ltda (Brazil). All significant inter-company balances and transactions have been eliminated
in consolidation. A majority of the Company’s assets are located within the United States. The Company provides testing services
for the detection of drugs of abuse through the analysis of hair samples. The Company’s testing methods utilize a patented
technology that digests the hair and releases drugs trapped in the hair without destroying the drugs. This is fundamental to the
entire process because the patented method gets virtually 100% of the drug out of the hair, and if you cannot get the drug out
of the hair, you cannot measure it. The Company then performs a proprietary custom-designed enzyme immunoassay (EIA) on the liquid
supernatant, with confirmation testing by mass spectrometry.
The Company’s primary application of its patented
technology is as a testing service that analyzes hair samples for the presence of certain drugs of abuse. The Company’s customized
proprietary EIA procedures to drug test hair samples differ from the more commonly used immunoassay procedures employed to test
urine samples. The Company’s tests provide quantitative information that can indicate the approximate amount of drug ingested
as well as historical data, which can show a pattern of individual drug use over a longer period of time, thereby providing superior
detection compared to other types of drug testing. This information is useful to employers for both applicant and employee testing,
as well as treatment professionals, law enforcement agencies, school administrators, and parents concerned about their children’s
drug use. The Company provides screening and confirmation by mass spectrometry using industry-accepted practices for cocaine, marijuana,
PCP, amphetamines (including ecstasy, eve and Adderall), opiates (including heroin, hydrocodone, hydromorphone, oxycodone, oxymorphone
and codeine), synthetic cannabinoids (including K2, Spice, Blaze) and benzodiazepines (Xanax®, Valium®, and Ativan®).
In addition, in 2013, the Company launched a hair test for alcohol which also looks back on use over a 90 day period, as our hair
drug tests do.
Testing services are currently performed at the Company’s
Culver City, California campus located at 5832 Uplander Way and 6100 Bristol Parkway.
Background on Drug Testing with Hair
When certain chemical substances enter the bloodstream,
the blood carries these substances to the hair where they become “entrapped” in the protein matrix in amounts approximately
proportional to the amount ingested. The Company utilizes a patented drug extraction method followed by a unique enzyme immunoassay
(EIA) procedure to identify drugs in the hair. The patented drug extraction method effectively releases drugs from the hair without
destroying the drugs, getting virtually 100% of the drug out of the hair. The patented method can be used with a broad range of
immunoassay screen techniques and mass spectrometry methods.
The immunoassays produced by the Psychemedics R&D
team were uniquely designed specifically to meet and even exceed the standards of radioimmunoassay (“RIAH”), the original
testing method created and utilized by the Company prior to 2013. Because Psychemedics is the only hair testing laboratory that
manufactures its own screening assays, it has full control over all aspects of its technology, and that powerful advantage facilitated
the Company's creation of its EIA assays with equivalence to its own previously FDA-cleared radioimmunoassays.
The EIA screened positive results are then confirmed
by mass spectrometry. Depending upon the length of hair, the Company is able to provide historical information on drug use by the
person from whom the sample was obtained. Because head hair grows approximately 1.3 centimeters per month, a 3.9 centimeter head
hair sample can reflect drug ingestion over the approximate three months prior to the collection of the sample. Another option
is sectional analysis of the head hair sample, in which the hair is sectioned lengthwise to approximately correspond to certain
time periods, thereby providing information on patterns of drug use.
Validation of the Company’s Proprietary Testing Methods
The process of analyzing human hair for the presence
of drugs has been the subject of numerous peer-reviewed, scientific field studies. Some of these studies were performed with the
following organizations: Boston University School of Public Health; Citizens for a Better Community Court, Columbia University;
Connecticut Department of Mental Health and Addictive Services; Koba Associates-DC Initiative, Harvard Cocaine Recovery Project;
Hutzel Hospital, ISA Associates (Interscience America)-NIDA Workplace Study; University of California-Sleep State Organization;
Maternal/Child Substance Abuse Project, Matrix Center, National Public Services Research Institute, Narcotic and Drug Research
Institute, San Diego State University-Chemical Dependency Center, Spectrum Inc.; Stapleford Centre (London); Task Force on Violent
Crime (Cleveland, Ohio); University of Miami-Department of Psychiatry, University of Miami-Division of Neonatology; University
of South Florida-Operation Par Inc.; University of Washington, VA Medical Center-Georgia; U.S. Probation Parole-Santa Ana; and
Wayne State University. The above studies included research in the following areas: effects of prenatal drug use, treatment evaluation,
workplace drug use, the criminal justice system and epidemiology. Many of the studies have been funded by the National Institute
of Justice or the National Institute on Drug Abuse (“NIDA”). Several hundred research articles written by independent
researchers have been published supporting the general validity and usefulness of hair analysis.
Some of the Company’s customers have also completed
their own testing to validate the Company’s hair test results compared to other companies’ urine test results. These
studies consistently confirmed the Company’s superior detection rate compared to urinalysis testing. When results from the
Company’s hair testing methods were compared to urine results in side-by-side evaluations, 5 to 10 times as many drug abusers
were accurately identified by the Company’s proprietary methods.
In 1998, the National Institute of Justice, utilizing
Psychemedics’ previously utilized RIAH hair testing assay, completed a Pennsylvania Prison study where hair analysis revealed
an average prison drug use level of approximately 7.9% in 1996. Comparatively, urinalysis revealed virtually no positives. After
measures to curtail drug use were instituted (drug-sniffing dogs, searches and scanners), the use level fell to approximately 2%
according to the results of hair analysis in 1998. Again, the urine tests showed virtually no positives. The study illustrates
the usefulness of hair analysis to monitor populations and the weakness of urinalysis.
The Company has received 510k clearance from the Food
and Drug Administration (FDA) on eight EIA assays used to test head and body hair for drugs of abuse.
The Company’s decontamination wash protocol
and the effects in eliminating surface contamination were analyzed in a study conducted by scientists at the Laboratory of the
Federal Bureau of Investigation and published in August 2014 in the Journal of Analytical Toxicology. The FBI concluded that the
use of an extended wash protocol of the type used by the Company will exclude false positive results from environmental contact
with cocaine. In the study, the FBI cited Psychemedics’ studies published in 1993, 2002, 2004, and 2005, and named our lab
director, Dr. Michael Schaffer, and our lab, in its acknowledgments. The FBI study also supported the use of metabolites known
as hydroxycocaines as evidence of ingestion. These metabolites were first identified in hair by Psychemedics.
Advantages of Using the Company’s Patented Method
The Company asserts that hair testing using its patented
method confers substantive advantages over detection through urinalysis. Although urinalysis testing can provide accurate drug
use information, the scope of the information is short-term and is generally limited to the type of drug ingested within a few
days of the test. Studies published in many scientific publications have indicated that most drugs disappear from urine within
a few days.
In contrast to urinalysis testing, hair testing using
the Company’s patented method can provide long-term historical drug use information resulting in a significantly wider window
of detection. This window may be several months or longer depending on the length of the hair sample. The Company’s standard
test offering, however, uses a 3.9 centimeter length head hair sample cut close to the scalp, which measures use for approximately
three months prior to collection of the sample.
This wider window enhances the detection efficiency
of hair analysis, making it particularly useful in pre-employment and random testing. Hair testing not only identifies more drug
users, but it may also uncover patterns and severity of drug use (information most helpful in determining the scope of an individual’s
involvement with drugs), while serving as a deterrent against drug use. Hair testing employing the Company’s patented method
greatly reduces the incidence of “false negatives” associated with evasive measures typically encountered with urinalysis
testing. For example, urinalysis test results are adversely impacted by excessive fluid intake prior to testing and by adulteration
or substitution of the urine sample. Moreover, a drug user who abstains from use for a few days prior to urinalysis testing can
usually escape detection. Hair testing is effectively free of these problems, as it cannot be thwarted by evasive measures typically
encountered with urinalysis testing. Hair testing is also attractive to customers since sample collection is typically performed
under close supervision yet is less intrusive and less embarrassing for test subjects.
Hair testing using the Company’s patented method
(with mass spectrometry confirmation) further reduces the prospects of error in conducting drug detection tests. Urinalysis testing
is more susceptible to problems such as “evidentiary false positives” resulting from passive drug exposure or poppy
seeds. To combat this problem, in federally mandated testing, the opiate cutoff levels for urine testing were raised 667% (from
300 to 2,000 ng/ml) on December 1, 1998, and testing for the presence of a heroin metabolite, 6-MAM, was required. These requirements,
however, effectively reduced the detection time frame for confirmed heroin use, such that 6-MAM in urine can typically only be
detected for several hours post drug use. In contrast, the metabolite 6-MAM is stable in hair and can be detected for months.
In the event a positive urinalysis test result is
challenged, a test on a newly collected urine sample is not a viable remedy. Unless the forewarned individual continues to use
drugs prior to the date of the newly collected sample, a re-test may yield a negative result when using urinalysis testing because
of temporary abstinence. In contrast, when the Company’s hair testing method is offered on a repeat hair sample, the individual
suspected of drug use cannot as easily affect the results because historical drug use data remains locked in the hair fiber.
When compared to other hair testing methods, not only
are the Company’s assays cleared by the FDA for head and body hair, they also employ a unique patented method of digesting
hair that the Company believes allows for the most efficient release of drugs from the hair without destroying the drugs. The Company’s
method of releasing drugs from hair is a key advantage and results in superior detection rates.
Disadvantages of Hair Testing
There are some disadvantages of hair testing as compared
to drug detection through urinalysis. Because hair starts growing below the skin surface, drug ingestion evidence does not appear
in hair above the scalp until approximately five to seven days after use.
Thus, hair testing is not suitable for determining
drug presence in “for cause” testing as is done in connection with an accident investigation. It does, however, provide
a drug history which can complement urinalysis information in “for cause” testing.
The Company’s prices for its tests are generally
somewhat higher than prices for tests using urinalysis, but the Company believes that its superior detection rates provide more
value to the customer. This pricing policy could, however, adversely impact the growth of the Company’s sales volume.
Hair Alcohol Testing
In 2013, the Company launched a test for alcohol using
hair. This test measures average alcohol consumption over a period of approximately three months, indicates the approximate level
of alcohol use during that time period, and can provide a behavioral indication of excessive use. The test measures the amount
of ethyl glucuronide (EtG) in the hair – a trace metabolite of ethanol and a direct alcohol biomarker.
Intellectual Property
Certain aspects of the hair analysis method currently
used by the Company are covered by US and foreign patents owned by the Company. The Company has been granted a total of ten US
patents, including a patent issued to the Company in 2011 that focuses on digesting hair and releasing drugs trapped in the hair
without destroying the drugs. This patent can be used with a broad range of immunoassay screen techniques, mass spectrometry methods,
and chromatographic procedures. In 2012, the Company received an additional patent that extended the range of the patent received
in 2011. Additional patent applications are currently pending in the U.S. and internationally.
The Company also relies on trade secrets to protect
certain aspects of its proprietary technology. The Company’s ability to protect the confidentiality of its trade secrets
is dependent upon the Company’s internal safeguards and upon the laws protecting trade secrets and unfair competition.
In the event that patent protection or protection
under the laws of trade secrets is not sufficient and the Company’s competitors succeed in duplicating the Company’s
products, the Company’s business could be materially adversely affected.
Target Markets
Workplace
The Company focuses its primary marketing efforts on
the private sector, with particular emphasis on job applicant and employee testing.
Most businesses use drug testing to screen job applicants
and employees. The Hazeldon Foundation survey from 2007 indicated that 85 percent of human resource (“HR”) professionals
believe that drug testing is an effective way to identify substance abuse. The prevalence of drug screening programs reflects a
concern that drug use contributes to employee health problems and costs (as the same study found that 62 percent of HR professionals
believe that absenteeism is the most significant problem caused by substance abuse and addiction, followed at 49 percent by reduced
productivity, a lack of trustworthiness at 39 percent, a negative impact on the company’s external image at 32 percent, missed
deadlines at 31 percent, and in certain industries, safety hazards.) It has been estimated that the cost to American businesses
is more than $100 billion annually.
The principal criticism of employee drug testing programs
centers on the effectiveness of the testing program. Most private sector testing programs use urinalysis. Such programs are susceptible
to evasive maneuvers and the inability to obtain confirmation through repeat samples in the event of a challenged result. An industry
has developed over the Internet, and through direct mail, marketing a wide variety of adulterants, dilutants, clean urine and devices
to assist drug users in falsifying urine test results.
Moreover, scheduled tests such as pre-employment testing
and some random testing programs provide an opportunity for many drug users to simply abstain for a few days in order to escape
detection by urinalysis.
The Company presents its patented hair analysis method
to potential clients as a better technology well suited to employer needs. Field studies and actual client results support the
accuracy and superior effectiveness of the Company’s patented technology and its ability to detect varying levels of drug
use.
The Company performs a confirmation test of all screened
positive results through mass spectrometry. The use of mass spectrometry is an industry accepted practice used to confirm a positive
test result from the screening process. The Company offers its clients an expanded drug screen with mass spectrometry confirmation
of cocaine, PCP, marijuana, amphetamines, opiates, synthetic cannabinoids and benzodiazepines. In addition, the Company offers
a hair test for alcohol which also looks back on use over a 90 day period, as our hair drug tests do.
Professional Drivers
The company has a couple of opportunities related to
professional drivers. In 2016, Brazil started drugs of abuse testing for all professional drivers in the country using a hair test.
This is a mandated program from a law passed in 2015. In the United States, a similar requirement exists for professional drivers,
however, a urine test is currently required. The U.S. government is currently evaluating alternative mediums for testing of drugs
of abuse for professional drivers, including hair.
Schools
The Company currently serves hundreds of schools throughout
the United States and in several foreign countries. The Company offers its school clients the same five-drug screen with mass spectrometry
confirmation that is used with the Company’s workplace testing service. In addition, the Company offers a hair test for alcohol
which also looks back on use over a 90 day period, as our hair drug tests do.
Parents
The Company also offers a personal drug testing service,
known as “PDT-90”®, for parents concerned about drug use by their children. It allows parents to collect a small
sample of hair from their child in the privacy of the home, send it to the Company’s laboratory and have it tested for drugs
of abuse by the Company. The PDT-90 testing service uses the same patented method that is used with the Company’s workplace
testing service.
Research
The Company is involved in the following ongoing studies
involving use of drugs of abuse in various populations: Mclean Hospital, Wayne State University and University of California -
San Diego. In 2017, the Company partnered with an NIH-funded study titled “Adolescent Brain Cognitive Development”
(ABCD) which expects to enroll 12,000 youth age 9-10 over a 2-2.5 year recruitment period. The objective of the ABCD consortium
is to establish a national, multisite, longitudinal cohort and database by studying youth prospectively in order to examine brain
and cognitive development in children and adolescents through a period (10 years) when significant development of intellectual
and emotional functions occurs. Psychemedics’ role in this study is to test hair to detect use of drugs over the time period.
Revenues
Revenues outside the United States were 34%
of consolidated revenues for 2017, 34% for 2016 and 4% percent for 2015.
Distribution
The Company markets its corporate drug testing services
primarily through its own sales force and through distributors. The Company markets its home drug testing service, PDT-90, through
the internet.
The business in Brazil is sold exclusively through
one independently owned and operated distributor which is only engaged in the sale of the Psychemedics tests.
In 2016, the Company was certified as a Center of
Excellence by BenchmarkPortal for its customer service function. Customer service is a key component to the sales and support function
and this certification validates the efforts by the Company to support our customers. The Company was recertified in 2017.
Significant Customers
The Company had one customer, Psychemedics Brasil (an independent distributor in Brazil) that represented
33% of total revenue for the year ended December 31, 2017 and 34% of total revenue for the year ended 2016. There were no customers
that exceeded 10% of revenue for the year ended December 31, 2015. Psychemedics Brasil also accounted for 23%, 34% and 11% of the
total accounts receivable balance as of December 31, 2017, 2016 and 2015, respectively.
Competition
The Company competes directly with numerous commercial
laboratories that test for drugs primarily through urinalysis testing. Most of these laboratories, such as Quest Diagnostics, have
substantially greater financial resources, market identity, marketing organizations, facilities, and more personnel than the Company.
The Company has been steadily increasing its base of corporate customers and believes that future success with new customers is
dependent on the Company’s ability to communicate the advantages of implementing a drug program utilizing the Company’s
patented hair analysis method.
The Company’s ability to compete is also a function
of pricing. The Company’s prices for its tests are generally somewhat higher than prices for tests using urinalysis. However,
the Company believes that its superior detection rates, coupled with the customer’s ability to test less frequently due to
hair testing’s wider window of detection (several months versus approximately three days with urinalysis), provide more value
to the customer. This pricing policy could, however, lead to slower sales growth for the Company.
The Company also competes with other hair testing
laboratories. The Company distinguishes itself from hair testing competitors by emphasizing the superior results the Company obtains
through use of its unique patented extraction method (getting drug out of the hair), in combination with the Company’s FDA
cleared immunoassay screen.
Government Regulation
The Company is licensed as a clinical laboratory by
the State of California as well as certain other states. All tests are performed according to the laboratory standards established
by the Department of Health and Human Services, through the Clinical Laboratories Improvement Amendments (“CLIA”),
and various state licensing statutes.
A substantial number of states regulate drug testing.
The scope and nature of such regulations varies greatly from state to state and is subject to change from time to time. The Company
addresses state law issues on an ongoing basis.
The Federal Food, Drug and Cosmetic Act, as amended
(the “FDC Act”) requires companies engaged in the business of testing for drugs of abuse using a test (screening assay)
not previously recognized by the FDA to submit their assay to the FDA for recognition prior to marketing. In addition, the laboratory
performing the tests is required to be certified by a recognized agency. In 2002, the Company received 510k clearance to market
all five of its assays utilizing RIAH technology.
In 2008, the Company received the first CAP (College
of American Pathologists) certification specifically including hair testing.
In 2011, the Company received ISO/IEC 17025 International
Accreditation for a broad spectrum of laboratory testing including drugs of abuse and forensics in hair and urine specimens. ISO/IEC
17025 accreditation provides formal recognition to laboratories that demonstrate technical competency, and maintains this recognition
through periodic evaluations to ensure continued compliance.
In 2012, the Company received 510k clearance from
the FDA to market five of its assays utilizing the Company’s custom developed EIA technology.
In 2013, the Company received 510k clearance from
the FDA to market two additional assays utilizing the Company’s custom developed EIA technology.
In 2015, the Brazilian government signed into law
a requirement for professional drivers to take a hair drug test when obtaining or renewing their driver's license. The law also
provides the requirement for professional drivers to be tested when they are hired or fired.
In 2016, the Company received accreditation from the
Standards Council of Canada as an accredited testing laboratory.
In 2017, the Company received 510k clearance from
the FDA to market one additional assay utilizing the Company’s custom developed EIA technology.
Research and Development
The Company is continuously engaged in research and
development activities. During the years ended December 31, 2017, 2016 and 2015, $1.4 million, $1.4 million and $1.6 million, respectively,
were expended for research and development. The Company continues to perform research activities to develop new products and services
and to improve existing products and services utilizing the Company’s proprietary technology. The Company also continues
to evaluate methodologies to enhance its drug screening capabilities. Additional research using the Company’s proprietary
technology is being conducted by outside research organizations through government-funded studies.
Employees
As of December 31, 2017, the Company had 231 employees,
6 of whom are in R&D and one in Brazil. None of the Company’s employees are subject to a collective bargaining agreement.
Item 1A. Risk Factors
In addition to other information contained in this
Form 10-K, the following risk factors should be carefully considered in evaluating Psychemedics Corporation and its business because
such factors could have a significant impact on our business, operating results and financial condition. These risk factors could
cause actual results to materially differ from those projected in any forward-looking statements.
Companies may develop products that compete with our products and
some of these companies may be larger and better capitalized than we are.
Many of our competitors and potential competitors are larger
and have greater financial resources than we do and offer a range of products broader than our products. Some of the companies
with which we now compete or may compete in the future may develop more extensive research and marketing capabilities and greater
technical and personnel resources than we do, and may become better positioned to compete in an evolving industry. Inability to
compete successfully could harm our business and prospects.
Increased competition, including price competition, could have
a material impact on the Company’s net revenues and profitability.
Our business is intensely competitive, both in terms of price and service. Pricing of drug testing services
is a significant factor often considered by customers in selecting a drug testing laboratory. As a result of the clinical laboratory
industry undergoing significant consolidation, larger clinical laboratory providers are able to increase cost efficiencies afforded
by large-scale automated testing. This consolidation results in greater price competition. The Company may be unable to increase
cost efficiencies sufficiently, if at all, and as a result, its net earnings and cash flows could be negatively impacted by such
price competition. The Company may also face increased competition from companies that do not comply with existing laws or regulations
or otherwise disregard compliance standards in the industry. Additional competition, including price competition, could have a
material adverse impact on the Company’s net revenues and profitability. The Company’s opportunity in Brazil is subject
to price pressures as this is a new market with new competitors entering the market. Additionally, the Company is currently relying
on one distributor for its Brazilian sales. The Company may also face changes in fee schedules, competitive bidding for laboratory
services or other actions or pressures reducing payment schedules as a result of increased or additional competition.
Our results of operations are subject in part to variation in our
customers’ hiring practices and other factors beyond our control.
Our results of operations have been and may continue
to be subject to variation in our customers’ hiring practices, which in turn is dependent, to a large extent, on the general
condition of the economy. Results for a particular quarter may vary due to a number of factors, including:
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economic conditions in our markets in general;
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economic conditions affecting our customers and their particular industries;
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the introduction of new products and product enhancements by us or our competitors; and
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pricing and other competitive conditions.
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A failure to obtain and retain new customers, or a loss of existing
customers, or a reduction in tests ordered, could impact the Company’s ability to successfully grow its business.
The Company needs to obtain and retain new customers.
In addition, a reduction in tests ordered, without offsetting growth in its customer base, could impact the Company’s ability
to successfully grow its business and could have a material adverse impact on the Company’s net revenues and profitability.
We compete primarily on the basis of the quality of testing, reputation in the industry, the pricing of services and ability to
employ qualified personnel. The Company’s failure to successfully compete on any of these factors could result in the loss
of customers and a reduction in the Company’s ability to expand its customer base.
Our business could be harmed if we are unable to protect our technology.
We rely primarily on a combination of trade secrets,
patents and trademark laws and confidentiality procedures to protect our technology. Despite these precautions, unauthorized third
parties may infringe or copy portions of our technology. In addition, because patent applications in the United States are not
publicly disclosed until either (1) 18 months after the application filing date or (2) the publication date of an issued patent
wherein applicant(s) seek only US patent protection, applications not yet disclosed may have been filed which relate to our technology.
Moreover, there is a risk that foreign intellectual property laws will not protect our intellectual property rights to the same
extent as United States intellectual property laws. In the absence of the foregoing protections, we may be vulnerable to competitors
who attempt to copy our products, processes or technology.
Our business could be affected by IT system failures or Cybersecurity
breaches.
A computer or IT system failure could affect our ability
to perform tests, report test results or properly bill customers. Failures could occur as a result of the standardization of our
IT systems and other system conversions, telecommunications failures, malicious human acts (such as electronic break-ins or computer
viruses) or natural disasters. Sustained system failures or interruption of the Company’s systems in one or more of its operations
could disrupt the Company’s ability to process and provide test results in a timely manner and/or bill the appropriate party.
Failure of the Company’s information systems could adversely affect the Company’s business, profitability and financial
condition.
Our technologies, systems and networks may be subject
to cybersecurity breaches. Although we have experienced occasional, actual or attempted breaches of our cybersecurity, none of
these breaches has had a material effect on our business, operations or reputation. If our systems for protecting against cybersecurity
risks prove to be insufficient, we could be adversely affected by having our business systems compromised, our proprietary information
altered, lost or stolen, or our business operations disrupted. As cyber attacks continue to evolve, we may be required to expend
significant additional resources to continue to modify or enhance our protective measures or to investigate and remediate any information
systems and related infrastructure security vulnerabilities.
Failure to maintain confidential information could result in a
significant financial impact.
The Company maintains confidential information regarding
the results of drug tests and other information including credit card and payment information from our customers. The failure
to protect this information could result in lawsuits, fines or penalties. Any loss of data or breach of confidentiality, such
as through a computer security breach, could expose the Company to a financial liability.
Our future success will depend on the continued services of our
key personnel.
The loss of any of our key personnel could harm our
business and prospects. We may not be able to attract and retain personnel necessary for the development of our business. We do
not have key personnel under contract other than 2 officers who have agreements providing for severance and non-compete covenants
in the event of termination of employment following a change of control. Further, we do not have any key man life insurance for
any of our officers or other key personnel.
There is a risk that our insurance will not be sufficient to protect
us from errors and omissions liability or other claims, or that in the future errors and omissions insurance will not be available
to us at a reasonable cost, if at all.
Our business involves the risk of claims of errors
and omissions and other claims inherent to our business. We maintain errors and omissions and general liability insurance subject
to deductibles and exclusions. There is a risk that our insurance will not be sufficient to protect us from all such possible claims.
An under-insured or uninsured claim could harm our operating results or financial condition.
Our research and development capabilities may not produce viable
new services or products.
In order to remain competitive, we need to continually
improve our products, develop new technologies to replace older technologies that have either become obsolete or for which patent
protection is no longer available. It is uncertain whether we will continually be able to develop services that are more efficient,
effective or that are suitable for our customers. Our ability to create viable products or services depends on many factors, including
the implementation of appropriate technologies, the development of effective new research tools, the complexity of the chemistry
and biology, the lack of predictability in the scientific process and the performance and decision-making capabilities of our scientists.
There is no guarantee that our research and development teams will be successful in developing improvements to our technology.
Improved testing technologies, or the Company’s customers
using new technologies to perform their own tests, could adversely affect the Company’s business.
Advances in technology may lead to the development
of more cost-effective technologies that can be operated by third parties or customers themselves in their own offices, without
requiring the services of a freestanding laboratory. Development of such technology and its use by the Company’s customers
could reduce the demand for its testing services and negatively impact our revenues.
We may not be able to recruit and retain the experienced scientists
and management we need to compete in our industry.
Our future success depends upon our ability to attract,
retain and motivate highly skilled scientists and management. Our ability to achieve our business strategies depends on our ability
to hire and retain high caliber scientists and other qualified experts. We compete with other testing companies, research companies
and academic and research institutions to recruit personnel and face significant competition for qualified personnel. We may incur
greater costs than anticipated, or may not be successful, in attracting new scientists or management or in retaining or motivating
our existing personnel.
Our future success also depends on the personal efforts
and abilities of the principal members of our senior management and scientific staff to provide strategic direction, to manage
our operations and maintain a cohesive and stable environment.
Our facilities and practices may fail to comply with government
regulations.
Our testing facilities and processes must be operated
in conformity with current government regulations. These requirements include, among other things, quality control, quality assurance
and the maintenance of records and documentation. If we fail to comply with these requirements, we may not be able to continue
our services to certain customers, or we could be subject to fines and penalties, suspension of production, or withdrawal of our
certifications. We operate a facility that we believe conforms to all applicable requirements. This facility and our testing practices
are subject to periodic regulatory inspections to ensure compliance.
Our business could be harmed from the loss or suspension of any
licenses.
The forensic laboratory testing industry is subject to
significant regulation and many of these statutes and regulations are subject to change. The Company cannot assure that applicable
statutes and regulations will not be interpreted or applied by a regulatory authority in a manner that would adversely affect
its business. Potential sanctions for violation of these regulations could include the suspension or loss of various licenses,
certificates and authorizations, which could have a material adverse effect on the Company’s business. In addition, potential
delays in renewals of licenses could also harm the Company.
If our use of chemical and hazardous materials violates applicable
laws or regulations or causes personal injury we may be liable for damages.
Our drug testing activities, including the analysis
and synthesis of chemicals, involve the controlled use of chemicals, including flammable, combustible, and toxic materials that
are potentially hazardous. Our use, storage, handling and disposal of these materials is subject to federal, state and local laws
and regulations, including the Resource Conservation and Recovery Act, the Occupational Safety and Health Act and local fire codes,
and regulations promulgated by the Department of Transportation, the Drug Enforcement Agency, the Department of Energy, and the
California Department of Public Health and Environment. We may incur significant costs to comply with these laws and regulations
in the future. In addition, we cannot completely eliminate the risk of accidental contamination or injury from these materials,
which could result in material unanticipated expenses, such as substantial fines or penalties, remediation costs or damages, or
the loss of a permit or other authorization to operate or engage in our business. Those expenses could exceed our net worth and
limit our ability to raise additional capital.
Our operations could be interrupted by damage to our laboratory
facilities.
Our operations are dependent upon the continued use
of our laboratories and equipment in Culver City, California. Catastrophic events, including earthquakes, fires or explosions,
could damage our laboratories, equipment, scientific data, work in progress or inventories of chemicals and may materially interrupt
our business. We employ safety precautions in our laboratory activities in order to reduce the likelihood of the occurrence of
certain catastrophic events; however, we cannot eliminate the chance that such events will occur. Rebuilding our facilities could
be time consuming and result in substantial delays in fulfilling our agreements with our customers. We maintain business interruption
insurance to cover continuing expenses and lost revenue caused by such occurrences. However, this insurance does not compensate
us for the loss of opportunity and potential harm to customer relations that our inability to meet our customers’ needs in
a timely manner could create.
Agreements we have with our employees, consultants and customers
may not afford adequate protection for our trade secrets, confidential information and other proprietary information.
In addition to patent protection, we also rely on
copyright and trademark protection, trade secrets, know-how, continuing technological innovation and licensing opportunities. In
an effort to maintain the confidentiality and ownership of our trade secrets and proprietary information, we require our employees,
consultants and advisors to execute confidentiality and proprietary information agreements. However, these agreements may not provide
us with adequate protection against improper use or disclosure of confidential information and there may not be adequate remedies
in the event of unauthorized use or disclosure. Furthermore, we may from time to time hire scientific personnel formerly employed
by other companies involved in one or more areas similar to the activities we conduct. In some situations, our confidentiality
and proprietary information agreements may conflict with, or be subject to, the rights of third parties with whom our employees,
consultants or advisors have prior employment or consulting relationships. Although we require our employees and consultants to
maintain the confidentiality of all proprietary information of their previous employers, these individuals, or we, may be subject
to allegations of trade secret misappropriation or other similar claims as a result of their prior affiliations. Finally, others
may independently develop substantially equivalent proprietary information and techniques or otherwise gain access to our trade
secrets. Our failure or inability to protect our proprietary information and techniques may inhibit or limit our ability to compete
effectively, or exclude certain competitors from the market.
We are subject to numerous political, legal, operational and other
risks as a result of our international operations which could impact our business in many ways.
Although we conduct most of our business in the United
States, our international operations increase our exposure to the inherent risks of doing business in international markets. Depending
on the market, these risks include without limitation:
|
•
|
changes in the local economic environment or local laws or regulations;
|
|
•
|
political instability, social changes, local market practices and changes;
|
|
•
|
intellectual property legal protections and remedies;
|
|
•
|
attracting and retaining qualified employees and independent contractors including distributors;
|
|
•
|
export and import and exchange controls;
|
|
•
|
weak legal systems which may affect our ability to enforce contractual rights;
|
International operations also require us to devote
significant management resources to implement our controls and systems in new markets, to comply with the U.S. Foreign Corrupt
Practices Act and similar anti-corruption laws in non-U.S. jurisdictions and to overcome challenges based on differing languages
and cultures.
International trade policies may impact demand for our products
and our competitive position.
Government policies on international trade and investment
such as import quotas, capital controls or tariffs, whether adopted by individual governments or addressed by regional trade blocs,
can affect the demand for our services, impact the competitive position of our products or prevent us from being able to sell products
in certain countries. The implementation of more restrictive trade policies, such as more detailed inspections, higher tariffs
or new barriers to entry, could negatively impact our business, results of operations and financial condition. For example, a government’s
adoption of “buy national” policies or retaliation by another government against such policies could have a negative
impact on our results of operations.
Global operations are subject to extensive trade and anti-corruption
laws and regulations.
The U.S. Foreign Corrupt Practices Act and similar
foreign anti-corruption laws generally prohibit companies and their intermediaries from making improper payments or providing anything
of value to improperly influence foreign government officials for the purpose of obtaining or retaining business, or obtaining
an unfair advantage. Recent years have seen a substantial increase in the global enforcement of anti-corruption laws. Our operations
outside the United States could increase the risk of such violations. Violations of anti-corruption laws or regulations by our
employees or by intermediaries acting on our behalf may result in severe criminal or civil sanctions, could disrupt our business,
and result in an adverse effect on our business and results of operations or financial condition.
We may incur additional tax expense or become subject to additional
tax exposure.
We are subject to income taxes in the United States
and Brazil. Our future results of operations could be adversely affected by changes in the effective tax rate as a result of a
change in the mix of earnings in countries with differing statutory tax rates, changes in our overall profitability, changes in
tax laws or treaties or in their application or interpretation, changes in tax rates, changes in generally accepted accounting
principles, changes in the valuation of deferred tax assets and liabilities, changes in the amount of earnings indefinitely reinvested
offshore, the results of audits and examinations of previously filed tax returns and continuing assessments of our tax exposures.
We may be subject to examination of our income tax returns by the U.S. Internal Revenue Service and other tax authorities. If our
effective tax rates were to increase, or if the ultimate determination of our taxes owed is for an amount in excess of amounts
previously accrued, our operating results, cash flows and financial condition could be adversely affected. For information regarding
additional matters related to our taxes, please see Note 5 — "Income taxes" in this Annual Report on Form 10-K.
Currency exchange rate fluctuations affect our results of operations,
as reported in our financial statements.
We currently have revenues from many countries, however, we are only subject to currency exchange risk
related to the Brazilian Real, as all other countries are invoiced in U.S. dollars and contain no operations. We are subject to
currency exchange rate risk to the extent that our costs are denominated in currencies other than those in which we earn revenues.
In addition, changes in currency exchange rates have had, and will continue to have, an impact on our revenues and results of operations.
There can be no assurance that currency exchange rate fluctuations will not adversely affect our results of operations, financial
condition and cash flows.
We also face risks arising from the imposition of
exchange controls and currency devaluations. Exchange controls may limit our ability to convert foreign currencies into U.S. dollars
or to remit dividends and other payments by our foreign subsidiaries or businesses located in or conducted within a country imposing
controls. Currency devaluations result in a diminished value of funds denominated in the currency of the country instituting the
devaluation.
Risks Related to Our Stock
Our quarterly operating results could fluctuate significantly,
which could cause our stock price to decline.
Our quarterly operating results have fluctuated in
the past and are likely to fluctuate in the future. Our results are impacted by the extent to which we are able to gain new customers,
both domestically and internationally, and on the hiring practices of our existing customers, which are, in turn, impacted by changes
in government requirements regarding testing for drugs of abuse, delays in implementation of such requirements, as well as general
economic conditions. Entering into new customer contracts can involve a long lead time. Accordingly, negotiation can be lengthy
and is subject to a number of significant risks, including customers’ budgetary constraints and internal reviews. Due to
these and other market factors, our operating results could fluctuate significantly from quarter to quarter. In addition, we may
experience significant fluctuations in quarterly operating results due to factors such as general and industry-specific economic
conditions that may affect the budgets and the hiring practices of our customers.
Due to the possibility of fluctuations in our revenue
and expenses, we believe that quarter-to-quarter comparisons of our operating results are not necessarily a good indication of
our future performance. Our operating results in some quarters may not meet the expectations of stock market analysts and investors.
If we do not meet analysts’ and/or investors’ expectations, our stock price could decline.
Our stock price could experience substantial volatility.
The market price of our common stock has historically
experienced and may continue to experience extensive volatility. Our quarterly operating results, the success or failure of future
development efforts, changes in general conditions in the economy or the financial markets and other developments affecting our
customers, our distributors, our competitors or us could cause the market price of our common stock to fluctuate substantially.
This volatility may adversely affect the price of our common stock. In the past, securities class action litigation has often been
instituted following periods of volatility in the market price of a company’s securities. A securities class action suit
against us could result in potential liabilities, substantial costs and the diversion of management’s attention and resources,
regardless of whether we win or lose.
Payment of a dividend could decline or cease.
Because the Company has historically paid dividends,
any cessation of our program or reduction in our quarterly dividend could affect our stock price. As of December 31, 2017, the
Company has paid dividends on our common stock for eighty-five consecutive quarters. It is our intent to continue this practice
as long as we are able. However, if we are forced to cease this practice or reduce the amount of the regular dividend, due to operating
or economic conditions, our stock price could suffer. Further, if the Company ceases its future dividends, a return on investment
in our common stock would depend entirely upon future appreciation. There is no guarantee that our common stock will appreciate
in value or even maintain the price at which stockholders have purchased their shares.
The general economic condition could deteriorate.
Our business is dependent upon new hiring and the
supply of new jobs created by overall economic conditions. If the economy deteriorates, leading to a downturn in new job creation,
our business and stock price could be adversely affected.
Item 1B. Unresolved Staff Comments
Not applicable.
Item 2. Properties
The Company maintains its corporate office and northeast
sales office at 289 Great Road, Acton, Massachusetts; the office consists of 5,521 square feet and is leased through February 2023.
The Company leases two facilities for laboratory purposes
in Culver City, California. The first is 13,900 square feet of space with an additional 9,600 feet of storage space. This facility
is leased through December 31, 2020 with an option to renew for an additional two years. The second facility of 16,000 square feet
is leased through March 14, 2019.
Item 3. Legal Proceedings
The Company is involved in various suits and claims
in the ordinary course of business. The Company does not believe that the disposition of any such suits or claims will have a material
adverse effect on the continuing operations or financial condition of the Company.
As reported in our 2016 10K, two putative shareholder
class action lawsuits were filed against the Company and certain of the Company’s executive officers in federal district
court for the District of Massachusetts. These cases were subsequently consolidated into a single case. On November 7, 2017, in
response to the Company’s motion to dismiss, the court ruled in favor of the Company and officers, dismissing all claims
against them.
Item 4. Mine Safety Disclosures
Not applicable.
PART II
Item 5. Market for Registrant’s Common Equity, Related Shareholder
Matters and Issuer Purchases of Equity Securities
The Company’s common stock is traded on the
NASDAQ Stock Market under the symbol “PMD”. As of February 27, 2018, there were 165 record holders of the Company’s
common stock. The number of record owners was determined from the Company’s stockholder records maintained by the Company’s
transfer agent and does not include beneficial owners of the Company’s common stock whose shares are held in the names of
various security holders, dealers and clearing agencies. The Company believes that the number of beneficial owners of the Company’s
common stock held by others as or in nominee names exceeds 3,000.
The following table sets forth for the periods indicated
the range of prices for the Company’s common stock as reported by the NASDAQ Stock Market and dividends declared by the Company.
|
|
High
|
|
Low
|
|
Dividends
|
Fiscal 2017:
|
|
|
|
|
|
|
First Quarter
|
|
$
|
27.46
|
|
|
$
|
13.81
|
|
|
$
|
0.15
|
|
Second Quarter
|
|
|
25.00
|
|
|
|
18.30
|
|
|
|
0.15
|
|
Third Quarter
|
|
|
27.99
|
|
|
|
17.40
|
|
|
|
0.15
|
|
Fourth Quarter
|
|
|
21.74
|
|
|
|
15.99
|
|
|
|
0.15
|
|
Fiscal 2016:
|
|
|
|
|
|
|
|
|
|
|
|
|
First Quarter
|
|
$
|
14.37
|
|
|
$
|
7.76
|
|
|
$
|
0.15
|
|
Second Quarter
|
|
|
14.97
|
|
|
|
10.81
|
|
|
|
0.15
|
|
Third Quarter
|
|
|
22.00
|
|
|
|
13.49
|
|
|
|
0.15
|
|
Fourth Quarter
|
|
|
26.00
|
|
|
|
18.06
|
|
|
|
0.15
|
|
The Company has paid dividends over the past twenty
years. It most recently declared a dividend on March 7, 2018, which will be paid on March 29, 2018. The Company’s current
intention is to continue to declare dividends to the extent funds are available and not required for operating purposes or capital
requirements, and only then, upon approval by the Board of Directors.
Issuer Purchases of Equity Securities
During 2017, the Company did not repurchase any common
shares for treasury.
Unregistered Sales of Equity Securities and Use of Proceeds
There were no unregistered sales of common stock of
the Company during 2017.
Performance Graph
Calculated by the Company
using
www.yahoo.com/finance
historical prices
|
2012
|
2013
|
2014
|
2015
|
2016
|
2017
|
PSYCHEMEDICS CORPORATION
|
100.00
|
142.10
|
151.95
|
110.97
|
251.67
|
218.96
|
RUSSELL 2000 INDEX
|
100.00
|
137.00
|
141.84
|
133.74
|
159.78
|
180.79
|
NASDAQ COMPOSITE INDEX
|
100.00
|
138.32
|
156.85
|
165.84
|
178.28
|
228.63
|
(1)
|
The above graph assumes a $100 investment on December 31, 2012, through the end of the 5-year period ended December 31, 2017 in the Company’s Common Stock, the Russell 2000 Index and the NASDAQ Composite Index. The prices all assume the reinvestment of dividends.
|
(2)
|
The Russell 2000 Index is composed of the smallest 2,000 companies in the Russell 3,000 Index. The Company has been unable to identify a peer group of companies that engage in testing of drugs of abuse, except for large pharmaceutical companies where such business is insignificant to such companies’ other lines of businesses. The Company therefore uses in its proxy statements a peer index based on market capitalization.
|
(3)
|
The NASDAQ Composite Index includes companies whose shares are traded on the NASDAQ Stock Market.
|
Item 6. Selected Financial Data
The selected financial data presented below is derived
from our financial statements and should be read in connection with those statements.
|
|
Year Ended December 31,
|
|
|
2017
|
|
2016
|
|
2015
|
|
2014
|
|
2013
|
|
|
(In thousands, except for per share
data)
|
Revenue
|
|
$
|
39,701
|
|
|
$
|
38,980
|
|
|
$
|
26,975
|
|
|
$
|
29,205
|
|
|
$
|
26,870
|
|
Gross profit
|
|
|
19,822
|
|
|
|
21,450
|
|
|
|
12,717
|
|
|
|
15,138
|
|
|
|
15,394
|
|
Income from operations
|
|
|
8,157
|
|
|
|
10,110
|
|
|
|
1,471
|
|
|
|
4,690
|
|
|
|
5,706
|
|
Net income
|
|
|
6,121
|
|
|
|
6,678
|
|
|
|
1,511
|
|
|
|
3,206
|
|
|
|
3,805
|
|
Total assets
|
|
|
26,508
|
|
|
|
25,032
|
|
|
|
22,036
|
|
|
|
23,701
|
|
|
|
16,257
|
|
Working capital
|
|
|
9,640
|
|
|
|
6,359
|
|
|
|
4,564
|
|
|
|
6,604
|
|
|
|
6,705
|
|
Shareholders’ equity
|
|
|
18,620
|
|
|
|
15,607
|
|
|
|
11,674
|
|
|
|
12,837
|
|
|
|
12,277
|
|
Basic net income per share
|
|
$
|
1.12
|
|
|
$
|
1.23
|
|
|
$
|
0.28
|
|
|
$
|
0.60
|
|
|
$
|
0.72
|
|
Diluted net income per share
|
|
$
|
1.10
|
|
|
$
|
1.22
|
|
|
$
|
0.28
|
|
|
$
|
0.60
|
|
|
$
|
0.72
|
|
Cash dividends declared per common share
|
|
$
|
0.60
|
|
|
$
|
0.60
|
|
|
$
|
0.60
|
|
|
$
|
0.60
|
|
|
$
|
0.60
|
|
Item 7. Management’s Discussion and Analysis of Financial Condition
and Results of Operations
The Management’s Discussion and Analysis
of Financial Condition and Results of Operations should be read together with the more detailed business information and financial
statements and related notes that appear elsewhere in this annual report on Form 10-K. This annual report may contain certain “forward-looking”
information within the meaning of the Private Securities Litigation Reform Act of 1995. This information involves risks and uncertainties.
Actual results may differ materially from the results discussed in the forward-looking statements. Factors that might cause such
a difference include, but are not limited to, those discussed in “Item 1A — Risk Factors.”
Overview
Psychemedics Corporation is the world’s largest
provider of hair testing for drugs of abuse, utilizing a patented hair analysis method involving digestion of hair, enzyme immunoassay
technology and confirmation by mass spectrometry to analyze human hair to detect abused substances. The Company’s customers
include Fortune 500 companies, as well as small to mid-size corporations, schools and governmental entities, located in the United
States and internationally. In 2017, the Company enhanced its presence in Brazil by establishing a wholly owned subsidiary with
the goal of potentially opening a laboratory in the country. During the year ended December 31, 2017, the Company produced $39.7
million in revenue, while generating a gross margin of 50% and pre-tax margins of 21%. The Company had net income of $6.1 million
and diluted earnings per share of $1.10 for the year ended December 31, 2017, a decrease of $0.6 million, or 8% from the prior
year.
At December 31, 2017, the Company had $8.2 million
of cash and cash equivalents. During 2017, the Company had operating cash flow of $9.1 million and it distributed approximately
$3.3 million or $0.60 per share of cash dividends to its shareholders. In addition, the Company spent approximately $1.2 million
on equipment, leasehold improvements and software development. As of December 31, 2017, the Company has paid eighty-five consecutive
quarterly cash dividends.
The following table sets forth, for the periods indicated,
the selected statements of operations data as a percentage of total revenue:
|
|
Year Ended December 31,
|
|
|
2017
|
|
2016
|
|
2015
|
Revenue
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
Cost of revenue
|
|
|
50.1
|
%
|
|
|
45.0
|
%
|
|
|
52.9
|
%
|
Gross profit
|
|
|
49.9
|
%
|
|
|
55.0
|
%
|
|
|
47.1
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
General and administrative
|
|
|
14.2
|
%
|
|
|
12.8
|
%
|
|
|
16.9
|
%
|
Marketing and selling
|
|
|
11.8
|
%
|
|
|
12.7
|
%
|
|
|
18.7
|
%
|
Research and development
|
|
|
3.4
|
%
|
|
|
3.6
|
%
|
|
|
6.0
|
%
|
Total operating expenses
|
|
|
29.4
|
%
|
|
|
29.1
|
%
|
|
|
41.6
|
%
|
Operating income
|
|
|
20.5
|
%
|
|
|
25.9
|
%
|
|
|
5.5
|
%
|
Other income (expense)
|
|
|
0.1
|
%
|
|
|
-0.3
|
%
|
|
|
-0.5
|
%
|
Income before taxes
|
|
|
20.6
|
%
|
|
|
25.6
|
%
|
|
|
5.0
|
%
|
Provision for (benefit from) income taxes
|
|
|
5.2
|
%
|
|
|
8.5
|
%
|
|
|
-0.6
|
%
|
Net income
|
|
|
15.4
|
%
|
|
|
17.1
|
%
|
|
|
5.6
|
%
|
Revenue by Geographic Region
|
|
Year Ended December 31,
|
|
|
2017
|
|
2016
|
|
2015
|
Consolidated Revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
United States
|
|
$
|
26,327
|
|
|
$
|
25,608
|
|
|
$
|
25,836
|
|
Brazil
|
|
|
13,069
|
|
|
|
13,083
|
|
|
|
746
|
|
Other Foreign Countries
|
|
|
305
|
|
|
|
289
|
|
|
|
393
|
|
Total Revenue
|
|
$
|
39,701
|
|
|
$
|
38,980
|
|
|
$
|
26,975
|
|
Results for the Year Ended December 31, 2017 Compared to Results for
the Year Ended December 31, 2016
|
|
2017
|
|
2016
|
|
Change
|
|
%
|
Revenue
|
|
|
39,701
|
|
|
|
38,980
|
|
|
|
721
|
|
|
|
2
|
%
|
Cost of revenue
|
|
|
19,879
|
|
|
|
17,530
|
|
|
|
2,349
|
|
|
|
13
|
%
|
Gross profit
|
|
|
19,822
|
|
|
|
21,450
|
|
|
|
(1,628
|
)
|
|
|
-8
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
General and administrative
|
|
|
5,642
|
|
|
|
4,965
|
|
|
|
677
|
|
|
|
14
|
%
|
Marketing and selling
|
|
|
4,666
|
|
|
|
4,960
|
|
|
|
(294
|
)
|
|
|
-6
|
%
|
Research and development
|
|
|
1,357
|
|
|
|
1,415
|
|
|
|
(58
|
)
|
|
|
-4
|
%
|
Total operating expenses
|
|
|
11,665
|
|
|
|
11,340
|
|
|
|
325
|
|
|
|
3
|
%
|
Operating income
|
|
|
8,157
|
|
|
|
10,110
|
|
|
|
(1,953
|
)
|
|
|
-19
|
%
|
Other income (expense)
|
|
|
20
|
|
|
|
(134
|
)
|
|
|
154
|
|
|
|
N/A
|
|
Income before taxes
|
|
|
8,177
|
|
|
|
9,976
|
|
|
|
(1,799
|
)
|
|
|
-18
|
%
|
Provision for (benefit from) income taxes
|
|
|
2,056
|
|
|
|
3,298
|
|
|
|
(1,242
|
)
|
|
|
-38
|
%
|
Net income
|
|
|
6,121
|
|
|
|
6,678
|
|
|
|
(557
|
)
|
|
|
-8
|
%
|
Revenue:
Domestic
revenue was up 3% and the international revenue was flat from 2016 to 2017. See geographic breakdown of revenue above. In 2017,
we implemented strategic initiatives, including certain pricing considerations, to defend and increase our market share in Brazil.
We expect Brazil revenue to increase in future periods as a result of the current law requiring professional drivers to be tested
every 2.5 years as opposed to every five years, beginning in September 2018.
Gross profit:
The increase in costs of revenue
and decrease in gross profit was primarily due to higher costs associated with higher volume. In 2017, gross profit was adversely
impacted by our Brazil business with certain strategic pricing initiatives which we, in conjunction with our Brazilian distributor,
implemented to maintain and increase market share. In addition, gross profit was also negatively impacted by increased costs from
Brazilian sales taxes, which the Company incurred as a result of the establishment of a Brazilian subsidiary in 2017. Gross profit
was also impacted by an increase in depreciation expense.
General and administrative (“G&A”)
expenses:
The increase in G&A expenses related to additional costs associated with the Brazil
operations and higher legal and audit fees. As a percentage of revenue, G&A expenses went up to 14.2% in 2017 from 12.7% in
2016.
Marketing and selling expenses:
The decrease
in marketing and selling expenses was primarily a result of a temporary decrease in personnel and personnel related costs in 2017.
Total marketing and selling expenses represented 11.8% and 12.7% of revenue for 2017 and 2016, respectively.
Research and development (“R&D”):
R&D expenses represented 3.4% and 3.6% of revenue for 2017 and 2016, respectively.
Other income:
Other income primarily consists
of interest earned on CD’s which was partially offset by interest expense related to debt. The increase in income came from
a reduction of interest expense from a lower loan balance and an increase in interest income from CD’s which did not exist
in 2016.
Income Taxes:
During the year ended December
31, 2017, the Company recorded a tax provision of $2.1 million representing a tax rate of 25%. There were two significant items
impacting the rate in 2017. The larger item was the passing of the “Tax Cuts and Jobs Act” (the “Tax Act”)
in December. While this law changes tax rates effect in 2018, the lower tax rate has required a remeasurement of the Company’s
deferred tax liability. The law also allowed for additional depreciation for assets purchased and placed in service in the fourth
quarter of 2017. The impact of this (primarily from the remeasurement of the deferred tax liability) was a reduction of tax liability
and income tax benefit of $1.2 million, or $0.22 diluted EPS. This benefit was offset in part by the imposition of income taxes
in Brazil incurred as a result of the Company’s formation of a subsidiary in Brazil. The impact of this was an increase in
the tax provision of $0.6 million, or $0.10 diluted EPS. In 2016, the Company had an effective tax rate of 33%. We expect the effective
tax rate in 2018 to range from 29% to 31%, depending on the mix of business.
On December 22, 2017, the Securities and Exchange
Commission issued guidance under Staff Accounting Bulletin No. 118, Income Tax Accounting Implications of the Tax Cuts and Jobs
Act (“SAB 118”) directing taxpayers to consider the impact of the U.S. legislation as “provisional” when
it does not have the necessary information available, prepared or analyzed (including computations) in reasonable detail to complete
its accounting for the change in tax law.
At December 31, 2017, we have not completed our accounting for the tax effects of enactment of the Tax Act;
however, we have made a reasonable estimate of the effects on our existing deferred tax balances and the one-time transition tax.
For the year ended December 31, 2017, we recognized no transition tax because the Company’s Brazil entity is a disregarded
entity for U.S. income tax purposes. In all cases, we will continue to make and refine our calculations as additional analysis
is completed. In addition, our estimates may also be affected as we gain a more thorough understanding of the tax law.
Results for the Year Ended December 31, 2016 Compared to Results for
the Year Ended December 31, 2015
|
|
2016
|
|
2015
|
|
Change
|
|
%
|
Revenue
|
|
|
38,980
|
|
|
|
26,975
|
|
|
|
12,005
|
|
|
|
45
|
%
|
Cost of revenue
|
|
|
17,530
|
|
|
|
14,258
|
|
|
|
3,272
|
|
|
|
23
|
%
|
Gross profit
|
|
|
21,450
|
|
|
|
12,717
|
|
|
|
8,733
|
|
|
|
69
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
General and administrative
|
|
|
4,965
|
|
|
|
4,561
|
|
|
|
404
|
|
|
|
9
|
%
|
Marketing and selling
|
|
|
4,960
|
|
|
|
5,053
|
|
|
|
(93
|
)
|
|
|
-2
|
%
|
Research and development
|
|
|
1,415
|
|
|
|
1,632
|
|
|
|
(217
|
)
|
|
|
-13
|
%
|
Total operating expenses
|
|
|
11,340
|
|
|
|
11,246
|
|
|
|
94
|
|
|
|
1
|
%
|
Operating income
|
|
|
10,110
|
|
|
|
1,471
|
|
|
|
8,639
|
|
|
|
587
|
%
|
Other expense
|
|
|
(134
|
)
|
|
|
(124
|
)
|
|
|
(10
|
)
|
|
|
8
|
%
|
Income before taxes
|
|
|
9,976
|
|
|
|
1,347
|
|
|
|
8,629
|
|
|
|
641
|
%
|
Provision for (benefit from) income taxes
|
|
|
3,298
|
|
|
|
(164
|
)
|
|
|
3,462
|
|
|
|
N/A
|
|
Net income
|
|
|
6,678
|
|
|
|
1,511
|
|
|
|
5,167
|
|
|
|
342
|
%
|
Revenue:
The increase was driven entirely from
new business in Brazil. The volume and average revenue per sample for the domestic business was essentially flat from 2015 to 2016.
See note 12 for geographic breakdown of revenue.
Gross profit:
The gross profit margin increased
from 47% in 2015 to 55% in 2016. The increase in margin was primarily driven from increased sales. Also, the gross profit margin
in 2015 was lower than normal due to $1.4 million of expenditures related to capacity expansion.
General and administrative (“G&A”)
expenses:
The increase in expenses related to additional costs associated with the new Brazil opportunity and higher audit
fees. As a percentage of revenue, G&A expenses went down to 12.8% in 2016 from 16.9% in 2015.
Marketing and selling expenses:
Total marketing
and selling expenses represented 12.7% and 18.7% of revenue for 2016 and 2015, respectively.
Research and development (“R&D”)
expenses:
decreased primarily from one less headcount. R&D expenses represented 3.6% and 6.0% of revenue for 2016 and 2015,
respectively.
Other expense:
primarily consists of interest
expense related to long term debt.
During the year ended December 31, 2016, the Company recorded a tax provision
of $3.3 million representing a tax rate of 33%. In 2015, the Company recorded a tax benefit of $164 thousand, representing an effective
tax rate of (12%). The tax rate for 2015 was affected by additional R&D tax credits related to information technology development
projects.
Liquidity and Capital Resources
At December 31, 2017, the Company had $8.2 million
of cash and cash equivalents, compared to $3.9 million at December 31, 2016. The Company’s operating activities generated
net cash of $9.1 million in 2017, $9.3 million in 2016 and $4.6 million in 2015. Investing activities used $1.2 million in 2017,
$2.1 million in 2016 and $1.8 million in 2015. Financing activities used $3.5 million in 2017, used $5.9 million in 2016 and generated
$3.7 million in 2015.
Operating cash flow of $9.1 million in 2017 primarily
reflected net income of $6.1 million adjusted for depreciation and amortization of $2.8 million, stock compensation expense of
$0.6 million, and a decrease in net deferred tax liabilities of $1.5 million. The net deferred tax liability was significantly
different than in prior years due to change in the tax law. See income tax discussion above. Operating cash flow was affected by
the following changes in assets and liabilities: a decrease in accounts receivable of $1.3 million, a decrease in accounts payable
of $1.0 million, an increase in accrued expenses of $0.9 million, and an increase in prepaid expenses (and other current assets)
of $0.1 million. The operating cash flow was $0.1 million less than in 2016.
Operating cash flow of $9.3 million in 2016 primarily
reflected net income of $6.7 million adjusted for depreciation and amortization of $2.3 million, stock compensation expense of
$0.7 million, and an increase in net deferred tax liabilities of $0.2 million. This was affected by the following changes in assets
and liabilities: an increase in accounts receivable of $2.3 million, an increase in accounts payable of $0.1 million, an increase
in accrued expenses of $0.8 million, and a decrease in prepaid expenses (and other current assets) of $0.8 million. The operating
cash flow was $4.7 million greater than in 2015, primarily driven by an increase in income from the Brazilian opportunity.
Operating cash flow of $4.6 million in 2015 primarily
reflected net income of $1.5 million adjusted for depreciation and amortization of $1.7 million, stock compensation expense of
$0.7 million, and an increase in net deferred tax liabilities of $0.1 million. This was affected by the following changes in assets
and liabilities: a decrease in accounts receivable of $0.5 million, a decrease in accounts payable of $0.1 million, a decrease
in accrued expenses of $0.5 million, and a decrease in prepaid expenses (and other current assets) of $0.6 million. While the operating
cash flow was $0.1 million greater than in 2014, the net income was down $1.7 million. This was offset by a decrease in income
tax receivable of $1.0 million which reduced the current tax due and an increase in depreciation and amortization of $0.7 million
due to new equipment and leasehold improvements.
Investing cash flow principally reflected the purchase
of capital expenditures. Capital expenditures were $1.2 million, $2.0 million, and $1.8 million in 2017, 2016 and 2015, respectively.
In 2017, the expenditures related principally to computer software and equipment. Capitalized patent costs were $32 thousand, $82
thousand, and $46 thousand in 2017, 2016, and 2015, respectively.
During 2017, 2016 and 2015, the Company did not repurchase
any shares of common stock for treasury. The Company has authorized 750,000 shares for repurchase since June of 1998, of which
250,000 shares of common stock were authorized in March of 2008 for repurchase. Since 1998, a total of 550,684 shares have been
repurchased. The Company also distributed cash dividends to its shareholders of $3.3 million in 2017 and 2016 and $3.2 million
in 2015.
At December 31, 2017, the Company’s principal
sources of liquidity included approximately $8.2 million of cash and cash equivalents and equipment financing line of credit availability
of $1.9 million. Management currently believes that such funds, together with future operating profits, should be adequate to fund
anticipated working capital requirements, including debt obligations, and capital expenditures in the near term. Depending upon
the Company’s results of operations, its future capital needs and available marketing opportunities, the Company may use
various financing sources to raise additional funds. Such sources could include, issuance of common stock or debt financing, lines
of credit, or equipment leasing, although there is no assurance that such financings will be available to the Company on terms
it deems acceptable, if at all.
At December 31, 2017, the Company has paid dividends
over the past eighty-five quarters. It most recently declared a dividend on March 7, 2018 with a payment date of March 29, 2018
in the amount of $824 thousand. The Company’s current intention is to continue to declare dividends to the extent funds are
available and not required for operating purposes or capital requirements, and only then, upon approval by the Board of Directors.
There can be no assurance that in the future the Company will declare dividends.
Contractual obligations as of December 31, 2017 were
as follows (in thousands):
|
|
Payments Due by Period
|
|
|
|
Less Than
|
|
|
|
1 – 3
|
|
|
|
4 – 5
|
|
|
|
Greater Than
|
|
|
|
|
|
Contractual Obligation
|
|
|
1 Year
|
|
|
|
Years
|
|
|
|
Years
|
|
|
|
5 Years
|
|
|
|
Total
|
|
Operating leases
|
|
$
|
928
|
|
|
$
|
1,059
|
|
|
$
|
216
|
|
|
$
|
18
|
|
|
$
|
2,221
|
|
Loan Obligations
|
|
$
|
957
|
|
|
$
|
1,593
|
|
|
$
|
827
|
|
|
$
|
0
|
|
|
$
|
3,377
|
|
Total
|
|
$
|
1,885
|
|
|
$
|
2,652
|
|
|
$
|
1,043
|
|
|
$
|
18
|
|
|
$
|
5,598
|
|
Purchase Commitment
Operating leases consist of rent obligations for the
company’s facilities. The Company has no significant contractual obligation for supply agreements as of December 31, 2017.
Critical Accounting Policies
The Company’s significant accounting policies
are described in Note 2 to the financial statements included in Item 8 of this Form 10-K. Management believes the most critical
accounting policies are as follows:
Revenue Recognition
The Company is in the business of performing drug testing
services and reporting the results thereof. The Company’s services are primarily drug and alcohol testing for its customers
for an agreed-upon fee per unit tested. The revenues are recognized when the drug test is performed and reported to the customer.
The Company records revenue for the shipping of samples from the customer or independent hair collection facility
to the laboratory for customers that choose to use the Company’s shipping account. The Company also records revenue for the
collection of the hair sample for customers that choose to have the Company manage this process at the same time the sample test
is completed and results reported to the customer. The associated costs incurred in connection with these services is recorded
as costs of revenue. The Company records revenue for these services on a gross basis as it has determined it is the principal under
these arrangements.
The Company also provides expert testimony, when and
if necessary, to support the results of the tests, which is generally billed separately and recognized as the services are provided.
Estimates
The preparation of financial statements in conformity
with accounting principles generally accepted in the United States requires management to make estimates, including bad debts,
long-lived asset lives, income tax valuation, stock based compensation and assumptions that affect the reported amounts of assets
and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts
of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Capitalized Development Costs
We capitalize costs related to significant software
projects developed or obtained for internal use in accordance with U.S. generally accepted accounting standards. Costs incurred
during the preliminary project work stage or conceptual stage, such as determining the performance requirements, system requirements
and data conversion, are expensed as incurred. Costs incurred in the application development phase, such as coding, testing for
new software and upgrades that result in additional functionality, are capitalized and are amortized using the straight-line method
over the useful life of the software for 5 years. Costs incurred during the post-implementation/operation stage, including training
costs and maintenance costs, are expensed as incurred. We capitalized internally developed software costs of approximately $511
thousand, $315 thousand and $364 thousand during the years ended December 31, 2017, 2016 and 2015, respectively. The software development
is for primarily for two projects. Determining whether particular costs incurred are more properly attributable to the preliminary
or conceptual stage, and thus expensed, or to the application development phase, and thus capitalized and amortized, depends on
subjective judgments about the nature of the development work, and our judgments in this regard may differ from those made by other
companies. General and administrative costs related to developing or obtaining such software are expensed as incurred.
Allowance for Doubtful Accounts
The allowance for doubtful accounts is based on management’s
assessment of the ability to collect amounts owed to it by its customers. Management reviews its accounts receivable aging for
doubtful accounts and uses a methodology based on calculating the allowance using a combination of factors including the age of
the receivable along with management’s judgment to identify accounts that may not be collectible. The Company routinely assesses
the financial strength of its customers and, as a consequence, believes that its accounts receivable credit risk exposure is limited.
The Company maintains an allowance for potential credit losses but historically has not experienced any significant losses related
to individual customers or groups of customers in any particular industry or geographic area. Bad debt expense has been within
management’s expectations.
Income Taxes
The Company accounts for income taxes using the liability
method, which requires the Company to recognize a current tax liability or asset for current taxes payable or refundable and a
net deferred tax liability for the estimated future tax effects of temporary differences between the financial statement and tax
reporting bases of assets and liabilities to the extent that they are realizable. Deferred tax expense (benefit) results from the
net change in deferred tax assets and liabilities during the year. A deferred tax valuation allowance is required if it is more
likely than not that all or a portion of the recorded deferred tax assets will not be realized.
On December 22, 2017, the U.S. government enacted
comprehensive tax legislation commonly referred to as the Tax Cut and Jobs Act (the “Tax Act”). The Tax Act made broad
and complex changes to the U.S. tax code that affected 2017, including, but not limited to, accelerated depreciation that allowed
for full expensing of qualified property. The Tax Act also establishes new tax laws that affects 2018 and future years, including
a reduction in the U.S. federal corporate income tax rate from 35% to 21%. As a result of the Tax Act, we remeasured certain deferred
tax assets and liabilities based on the rates at which they are anticipated to reverse in the future, which is generally 21%. This
resulted in a decrease to our deferred tax liabilities of $1.2 million and a corresponding decrease in our income tax expense.
The Company had net deferred tax liabilities in the amount of $1.2 million at December 31, 2017, which were primarily comprised
of depreciation and amortization, representing a decrease of $1.5 million from the prior year end balance.
The Company operates within multiple taxing jurisdictions
and could be subject to audit in these jurisdictions. These audits may involve complex issues, which may require an extended period
of time to resolve. The Company has provided for its estimated taxes payable in the accompanying financial statements. The Company
did not have any interest or penalties accrued as of December 31, 2017 or 2016. The Company does not expect the unrecognized tax
benefits to change significantly over the next twelve months.
In 2017, the Company commenced distributing its services
though a wholly owned subsidiary in Brazil which caused the Company to become subject to Brazil income taxes. These taxes are included
in the income tax rate in the financial statements. While the Company can include these taxes as an expense in calculating U.S.
income taxes, a tax credit cannot be taken, as the testing for the Company’s services is performed in the United States.
The above listing is not intended to be a comprehensive
list of all of the Company’s accounting policies. In many cases, the accounting treatment of a particular transaction is
specifically dictated by accounting principles generally accepted in the United States, with no need for management’s judgment
in their application. There are also areas in which management’s judgment in selecting any available alternative would not
produce a materially different result.
Recent Accounting Pronouncements
See Note 2 – Accounting Policies, to the Financial
Statements for further detail on applicable accounting pronouncements recently adopted.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Not required
Item 8. Financial Statements and Supplementary Data
|
(a)
|
Financial Statements:
|
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING
FIRM
Shareholders and Board of Directors
Psychemedics Corporation
Acton, Massachusetts
Opinion on the Consolidated Financial Statements
We have audited the accompanying consolidated balance sheets of Psychemedics
Corporation (the “Company”) and subsidiaries as of December 31, 2017 and 2016, the related consolidated statements
of income and comprehensive income, shareholders’ equity, and cash flows for each of the three years in the period ended
December 31, 2017, and the related notes (collectively referred to as the “consolidated financial statements”). In
our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company
and subsidiaries at December 31, 2017 and 2016, and the results of their operations and their cash flows for each of the three
years in the period ended December 31, 2017, in conformity with accounting principles generally accepted in the United States of
America.
We also have audited, in accordance with the standards of the Public
Company Accounting Oversight Board (United States) (“PCAOB”), the Company's internal control over financial reporting
as of December 31, 2017, based on criteria established in Internal Control – Integrated Framework (2013) issued by the Committee
of Sponsoring Organizations of the Treadway Commission (“COSO”) and our report dated March 16, 2018, expressed an adverse
opinion on the effectiveness of the Company's internal control over financial reporting.
Basis for Opinion
These consolidated financial statements are the responsibility of the Company’s management. Our responsibility
is to express an opinion on the Company’s consolidated financial statements based on our audits. We are a public accounting
firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal
securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB.
Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial
statements are free of material misstatement, whether due to error or fraud.
Our audits included performing procedures to assess the risks of material
misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to
those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated
financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management,
as well as evaluating the overall presentation of the consolidated financial statements. We believe that our audits provide a reasonable
basis for our opinion.
/s/ BDO USA, LLP
We have served as the Company's auditor since 2004.
Boston, Massachusetts
March 16, 2018
PSYCHEMEDICS CORPORATION
CONSOLIDATED BALANCE SHEETS
(in thousands,
except par value)
|
|
December 31,
2017
|
|
December 31,
2016
|
ASSETS
|
|
|
|
|
|
|
|
|
Current Assets:
|
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
|
$
|
8,165
|
|
|
$
|
3,938
|
|
Accounts receivable, net of allowance for doubtful accounts of $64 in 2017 and $50 in 2016
|
|
|
4,488
|
|
|
|
5,837
|
|
Prepaid expenses and other current assets
|
|
|
1,212
|
|
|
|
1,079
|
|
Total Current Assets
|
|
|
13,865
|
|
|
|
10,854
|
|
Property and equipment:
|
|
|
|
|
|
|
|
|
Computer software
|
|
|
3,614
|
|
|
|
3,085
|
|
Office furniture and equipment
|
|
|
1,961
|
|
|
|
1,680
|
|
Laboratory equipment
|
|
|
15,504
|
|
|
|
15,182
|
|
Leasehold improvements
|
|
|
2,402
|
|
|
|
2,311
|
|
|
|
|
23,481
|
|
|
|
22,258
|
|
Less–accumulated depreciation and amortization
|
|
|
(11,670
|
)
|
|
|
(8,900
|
)
|
|
|
|
11,811
|
|
|
|
13,358
|
|
Other assets
|
|
|
832
|
|
|
|
820
|
|
|
|
|
|
|
|
|
|
|
Total Assets
|
|
$
|
26,508
|
|
|
$
|
25,032
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES AND SHAREHOLDERS' EQUITY
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current Liabilities:
|
|
|
|
|
|
|
|
|
Accounts payable
|
|
$
|
398
|
|
|
$
|
1,363
|
|
Accrued expenses
|
|
|
2,870
|
|
|
|
1,988
|
|
Current portion of long-term debt
|
|
|
957
|
|
|
|
1,144
|
|
|
|
|
|
|
|
|
|
|
Total Current Liabilities
|
|
|
4,225
|
|
|
|
4,495
|
|
|
|
|
|
|
|
|
|
|
Long-term debt
|
|
|
2,420
|
|
|
|
2,237
|
|
Deferred tax liabilities, long-term
|
|
|
1,243
|
|
|
|
2,693
|
|
Total Liabilities
|
|
|
7,888
|
|
|
|
9,425
|
|
|
|
|
|
|
|
|
|
|
Commitments and Contingencies (Note 9)
|
|
|
|
|
|
|
|
|
Shareholders' Equity:
|
|
|
|
|
|
|
|
|
Preferred stock, $0.005 par value, 873 shares authorized, no shares issued or outstanding
|
|
|
--
|
|
|
|
--
|
|
Common stock, $0.005 par value; 50,000 shares authorized 6,160 shares issued in 2017 and 6,128 shares issued 2016, 5,492 shares outstanding in 2017 and 5,460 shares outstanding in 2016
|
|
|
31
|
|
|
|
31
|
|
Accumulated other comprehensive loss
|
|
|
(238
|
)
|
|
|
--
|
|
Additional paid-in capital
|
|
|
31,022
|
|
|
|
30,603
|
|
Less - Treasury stock, at cost, 668 shares
|
|
|
(10,082
|
)
|
|
|
(10,082
|
)
|
Accumulated deficit
|
|
|
(2,113
|
)
|
|
|
(4,945
|
)
|
|
|
|
|
|
|
|
|
|
Total Shareholders' Equity
|
|
|
18,620
|
|
|
|
15,607
|
|
|
|
|
|
|
|
|
|
|
Total Liabilities and Shareholders' Equity
|
|
$
|
26,508
|
|
|
$
|
25,032
|
|
The accompanying notes are an integral part of
these financial statements.
PSYCHEMEDICS CORPORATION
CONSOLIDATED STATEMENTS OF
INCOME AND COMPREHENSIVE INCOME
(in thousands,
except per share amounts)
|
|
Year Ended December 31,
|
|
|
2017
|
|
2016
|
|
2015
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues
|
|
$
|
39,701
|
|
|
$
|
38,980
|
|
|
$
|
26,975
|
|
Cost of revenues
|
|
|
19,879
|
|
|
|
17,530
|
|
|
|
14,258
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit
|
|
|
19,822
|
|
|
|
21,450
|
|
|
|
12,717
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating Expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
General & administrative
|
|
|
5,642
|
|
|
|
4,965
|
|
|
|
4,561
|
|
Marketing & selling
|
|
|
4,666
|
|
|
|
4,960
|
|
|
|
5,053
|
|
Research & development
|
|
|
1,357
|
|
|
|
1,415
|
|
|
|
1,632
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Operating Expenses
|
|
|
11,665
|
|
|
|
11,340
|
|
|
|
11,246
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income
|
|
|
8,157
|
|
|
|
10,110
|
|
|
|
1,471
|
|
Other income (expense)
|
|
|
20
|
|
|
|
(134
|
)
|
|
|
(124
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income before provision for income taxes
|
|
|
8,177
|
|
|
|
9,976
|
|
|
|
1,347
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Provision for / (benefit from) income taxes
|
|
|
2,056
|
|
|
|
3,298
|
|
|
|
(164
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
6,121
|
|
|
$
|
6,678
|
|
|
$
|
1,511
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other Comprehensive Income (Loss):
|
|
|
|
|
|
|
|
|
|
|
|
|
Foreign currency translation
|
|
$
|
(238
|
)
|
|
|
-
|
|
|
|
-
|
|
Total Comprehensive Income (Loss)
|
|
$
|
5,883
|
|
|
$
|
6,678
|
|
|
$
|
1,511
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic net income per share
|
|
$
|
1.12
|
|
|
$
|
1.23
|
|
|
$
|
0.28
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted net income per share
|
|
$
|
1.10
|
|
|
$
|
1.22
|
|
|
$
|
0.28
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Dividends declared per share
|
|
$
|
0.60
|
|
|
$
|
0.60
|
|
|
$
|
0.60
|
|
The accompanying notes are an integral part of these financial statements.
PSYCHEMEDICS CORPORATION
CONSOLIDATED STATEMENTS OF
SHAREHOLDERS’ EQUITY
(in thousands,
except per share amounts)
|
|
Common
Stock
|
|
|
|
Treasury
Stock
|
|
|
|
|
|
|
|
|
|
|
$0.005
|
|
Paid-In
|
|
|
|
|
|
Accumulated
|
|
Accumulated
Other
|
|
|
|
|
Shares
|
|
par
Value
|
|
Capital
|
|
Shares
|
|
Cost
|
|
Deficit
|
|
Comprehensive
Loss
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
BALANCE,
December 31, 2014
|
|
|
6,043
|
|
|
$
|
30
|
|
|
$
|
29,454
|
|
|
|
668
|
|
|
$
|
(10,082
|
)
|
|
$
|
(6,566
|
)
|
|
$
|
-
|
|
|
$
|
12,836
|
|
Shares
issued – vested
|
|
|
40
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Exercise
of stock options
|
|
|
8
|
|
|
|
-
|
|
|
|
61
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
61
|
|
Tax withholding
related to vested shares from employee stock plans
|
|
|
-
|
|
|
|
-
|
|
|
|
(227
|
)
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
(227
|
)
|
Stock compensation
expense
|
|
|
-
|
|
|
|
-
|
|
|
|
674
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
674
|
|
Excess
tax benefit from stock-based compensation plans
|
|
|
-
|
|
|
|
-
|
|
|
|
60
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
60
|
|
Cash dividends
declared ($0.60 per share)
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
(3,241
|
)
|
|
|
-
|
|
|
|
(3,241
|
)
|
Net
income
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
1,511
|
|
|
|
-
|
|
|
|
1,511
|
|
BALANCE,
December 31, 2015
|
|
|
6,091
|
|
|
$
|
30
|
|
|
$
|
30,022
|
|
|
|
668
|
|
|
$
|
(10,082
|
)
|
|
$
|
(8,296
|
)
|
|
$
|
-
|
|
|
$
|
11,674
|
|
Shares
issued – vested
|
|
|
37
|
|
|
|
1
|
|
|
|
(1
|
)
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Exercise
of stock options
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Tax withholding
related to vested shares from employee stock plans
|
|
|
-
|
|
|
|
-
|
|
|
|
(202
|
)
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
(202
|
)
|
Stock compensation
expense
|
|
|
-
|
|
|
|
-
|
|
|
|
671
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
671
|
|
Excess
tax benefit from stock-based compensation plans
|
|
|
-
|
|
|
|
-
|
|
|
|
113
|
|
|
|
-
|
|
|
|
-
|
|
|
|
(60
|
)
|
|
|
-
|
|
|
|
53
|
|
Cash dividends
declared ($0.60 per share)
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
(3,267
|
)
|
|
|
-
|
|
|
|
(3,267
|
)
|
Net
income
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
6,678
|
|
|
|
-
|
|
|
|
6,678
|
|
BALANCE,
December 31, 2016
|
|
|
6,128
|
|
|
$
|
31
|
|
|
$
|
30,603
|
|
|
|
668
|
|
|
$
|
(10,082
|
)
|
|
$
|
(4,945
|
)
|
|
$
|
-
|
|
|
$
|
15,607
|
|
Shares
issued – vested
|
|
|
32
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Exercise
of stock options
|
|
|
-
|
|
|
|
-
|
|
|
|
35
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
35
|
|
Tax withholding
related to vested shares from employee stock plans
|
|
|
-
|
|
|
|
-
|
|
|
|
(198
|
)
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
(198
|
)
|
Stock compensation
expense
|
|
|
-
|
|
|
|
-
|
|
|
|
582
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
582
|
|
Excess
tax benefit from stock-based compensation plans
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Cash dividends
declared ($0.60 per share)
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
(3,289
|
)
|
|
|
-
|
|
|
|
(3,289
|
)
|
Net
income
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
6,121
|
|
|
|
-
|
|
|
|
6,121
|
|
Other
comprehensive loss
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
(238
|
)
|
|
|
(238
|
)
|
BALANCE,
December 31, 2017
|
|
|
6,160
|
|
|
$
|
31
|
|
|
$
|
31,022
|
|
|
|
668
|
|
|
$
|
(10,082
|
)
|
|
$
|
(2,113
|
)
|
|
$
|
(238
|
)
|
|
$
|
18,620
|
|
The accompanying notes are an integral part of
these financial statements.
PSYCHEMEDICS CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
|
|
Year Ended December 31,
|
|
|
2017
|
|
2016
|
|
2015
|
|
|
|
|
|
|
|
Cash flows from operating activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
6,121
|
|
|
$
|
6,678
|
|
|
$
|
1,511
|
|
Adjustments to reconcile net income to net cash provided by operating activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation and amortization
|
|
|
2,807
|
|
|
|
2,294
|
|
|
|
1,731
|
|
Deferred income taxes
|
|
|
(1,450
|
)
|
|
|
168
|
|
|
|
105
|
|
Stock compensation expense
|
|
|
582
|
|
|
|
671
|
|
|
|
674
|
|
Changes in operating assets and liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Accounts receivable
|
|
|
1,316
|
|
|
|
(2,298
|
)
|
|
|
539
|
|
Prepaid expenses, other current assets and income tax receivable
|
|
|
(133
|
)
|
|
|
822
|
|
|
|
609
|
|
Accounts payable
|
|
|
(990
|
)
|
|
|
144
|
|
|
|
(98
|
)
|
Accrued expenses
|
|
|
893
|
|
|
|
790
|
|
|
|
(491
|
)
|
Net cash provided by operating activities
|
|
|
9,146
|
|
|
|
9,269
|
|
|
|
4,580
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from investing activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Increase in long-term assets; capitalized patent costs
|
|
|
(49
|
)
|
|
|
(82
|
)
|
|
|
(46
|
)
|
Purchases of property and equipment and capitalized software development costs
|
|
|
(1,197
|
)
|
|
|
(2,012
|
)
|
|
|
(1,752
|
)
|
Net cash used in investing activities
|
|
|
(1,246
|
)
|
|
|
(2,094
|
)
|
|
|
(1,798
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from financing activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Dividends paid
|
|
|
(3,289
|
)
|
|
|
(3,267
|
)
|
|
|
(3,241
|
)
|
Proceeds from stock options and tax withholding related to vested shares from employee stock plans
|
|
|
(163
|
)
|
|
|
(149
|
)
|
|
|
(106
|
)
|
Proceeds from equipment financing
|
|
|
2,078
|
|
|
|
610
|
|
|
|
1,097
|
|
Payments of equipment financing
|
|
|
(2,082
|
)
|
|
|
(3,120
|
)
|
|
|
(1,455
|
)
|
Net cash used in financing activities
|
|
|
(3,456
|
)
|
|
|
(5,926
|
)
|
|
|
(3,705
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Effect of exchange rate changes on cash and cash equivalents
|
|
|
(217
|
)
|
|
|
-
|
|
|
|
-
|
|
Net increase (decrease) in cash and cash equivalents
|
|
|
4,227
|
|
|
|
1,249
|
|
|
|
(923
|
)
|
Cash and cash equivalents, beginning of year
|
|
|
3,938
|
|
|
|
2,689
|
|
|
|
3,612
|
|
Cash and cash equivalents, end of year
|
|
$
|
8,165
|
|
|
$
|
3,938
|
|
|
$
|
2,689
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Supplemental disclosures of cash flow information:
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash paid for income taxes
|
|
$
|
2,824
|
|
|
$
|
1,814
|
|
|
$
|
40
|
|
Cash paid for interest
|
|
$
|
70
|
|
|
$
|
134
|
|
|
$
|
128
|
|
Non-cash investing and financing activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Purchases of equipment through accounts payable and accrued liabilities
|
|
$
|
25
|
|
|
$
|
472
|
|
|
$
|
338
|
|
The accompanying notes are an integral part of
these financial statements.
PSYCHEMEDICS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS
(dollar and share
amounts (except per share) in thousands, unless otherwise indicated)
December 31, 2017
1. Nature of Business
Psychemedics Corporation (the “Company”) provides hair testing for drugs of abuse, utilizing
a patented hair analysis method involving digestion of hair, enzyme immunoassay and mass spectrometry to analyze hair to detect
abused substances. The Company’s customers include Fortune 500 companies, as well as small to mid-size corporations, schools
and governmental entities located in the United States and internationally, as well as professional drivers in Brazil.
2. Summary of Significant Accounting Policies
Risks and Uncertainties
The Company is subject to a number of risks and uncertainties
similar to those of other companies, such as those associated with the continued expansion of the Company’s sales and marketing
network, technological developments, intellectual property protection, development of markets for new products and services offered
by the Company, the economic health of principal customers of the Company, financial and operational risks associated with expansion
of testing facilities used by the Company, government regulation (including, but not limited to, Food and Drug Administration regulations,
Brazilian laws, proposed laws and regulations, and delays in implementation of laws and regulations), competition and general economic
conditions.
Estimates
The preparation of financial statements in conformity
with accounting principles generally accepted in the United States requires management to make estimates, including those related
to bad debts, long-lived asset lives, income tax valuation and share based compensation, and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Changes
in estimates are recorded in the period in which they become known.
Cash Equivalents
All highly liquid investments with original maturities
of 90 days or less are considered cash equivalents. These consist of cash savings and certificates of deposits (CD’s). As
of December 31, 2017, there were $4.6 million of CD’s. As of December 31, 2016 and 2015, there were no investments classified
as cash equivalents.
Fair Value Measurements
The Company follows the provisions of Accounting Standards
Codification (ASC) 820,
Fair Value Measurements and Disclosures
(“ASC 820”), which defines fair value, establishes
guidelines for measuring fair value and expands disclosures regarding fair value measurements and expands disclosures regarding
fair value measurements. Fair value is defined under ASC 820 as the exchange price that would be received for an asset or paid
to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction
between market participants on the measurement date. Valuation techniques used to measure fair value under ASC 820 must maximize
the use of observable inputs and minimize the use of unobservable inputs. The standard describes a fair value hierarchy based on
three levels of inputs, of which the first two are considered observable and the last unobservable, that may be used to measure
fair value which are the following:
Level 1 – Quoted prices in active markets
for identical assets or liabilities.
Level 2 – Inputs other than Level 1 that are
observable, either directly or indirectly, such as quoted prices for similar assets or liabilities or other inputs that are observable
or can be corroborated by observable market data
Level 3 – Unobservable inputs that are supported
by little or no market activity and that are significant to the fair value
A financial instrument’s level is based on the
lowest level of any input that is significant to the fair value measurement.
Inventory
Some materials used in the provision of services to our customers are included in prepaid expenses and recorded
to cost of revenues upon use. Most consumables such as chemicals, antibodies and tubes are expensed as purchased.
Property and Equipment
Property and equipment are stated at cost. Depreciation
and amortization are provided over the estimated useful lives of the assets, using the straight-line method. Repair and maintenance
costs are expensed as incurred. The estimated useful lives of the assets are:
Computer software (in years)
|
|
3
|
to
|
5
|
Office furniture and equipment (in years)
|
|
3
|
to
|
7
|
Laboratory equipment (in years)
|
|
5
|
to
|
7
|
Leasehold improvements (in years)
|
|
|
Lesser of estimated useful life or lease term
|
|
PSYCHEMEDICS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(dollar and share
amounts (except per share) in thousands, unless otherwise indicated)
December 31, 2017
2. Summary of Significant Accounting Policies (continued)
Property and Equipment (continued)
The Company recorded depreciation and amortization
related to property and equipment and capitalized software of $2.8 million, $2.3 million, and $1.7 million in 2017, 2016 and 2015
respectively. As of December 31, 2017 and 2016, there was approximately $0.5 million and $1.2 million of new equipment not placed
in service, respectively.
Capitalized Software Development Costs
We capitalize costs related to significant software
projects developed or obtained for internal use. Costs incurred during the preliminary project work stage or conceptual stage,
such as determining the performance requirements, system requirements and data conversion, are expensed as incurred. Costs incurred
in the application development phase, such as coding, testing for new software and upgrades that result in additional functionality,
are capitalized and are amortized using the straight-line method over the useful life of the software for 5 years. Costs incurred
during the post-implementation/operation stage, including training costs and maintenance costs, are expensed as incurred. In accordance
with Company policy, during the years ended December 31, 2017, 2016 and 2015, we capitalized internally developed software costs
of $511, $315 and $364, respectively. Amortization expense related to software development costs was $418, $435 and $422 in 2017,
2016, and 2015, respectively. Determining whether particular costs incurred are more properly attributable to the preliminary or
conceptual stage, and thus expensed, or to the application development phase, and thus capitalized and amortized, depends on subjective
judgments about the nature of the development work, and our judgments in this regard may differ from those made by other companies.
General and administrative costs related to developing or obtaining such software is expensed as incurred.
Other Assets
Other assets primarily consist of capitalized legal
costs relating to patent applications. The Company amortizes these costs over the lesser of the legal life or estimated useful
life of the patent from the date of grant of the applicable patent. The typical life is twenty years. As of December 31, 2017,
2016, and 2015 the Company had capitalized legal costs relating to outstanding patent applications of $711, $715 and $670, respectively.
Amortization expense was $37, $36, and $32 in 2017, 2016 and 2015, respectively. The amount of amortization related to patent applications
is expected to remain below $50 per year for the next five years.
Revenue Recognition
The Company is in the business of performing drug testing
services and reporting the results thereof. The Company’s services are primarily drug and alcohol testing for its customers
for an agreed-upon fee per unit tested. The revenues are recognized when the drug test is performed and reported to the customer.
The Company records revenue for the shipping of samples
from the customer or independent hair collection facility to the laboratory for customers that choose to use the Company’s
shipping account. The Company also records revenue for the collection of the hair sample for customers that choose to have the
Company manage this process at the same time the sample test is completed and results reported to the customer. The associated
costs incurred in connection with these services is recorded as costs of revenue. The Company records revenue for these services
on a gross basis as it has determined it is the principal under these arrangements.
The Company also provides expert testimony, when and
if necessary, to support the results of the tests, which is generally billed separately and recognized as the services are provided.
Research and Development Expenses
The Company expenses all research and development costs
as incurred.
PSYCHEMEDICS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(dollar and share
amounts (except per share) in thousands, unless otherwise indicated)
December 31, 2017
2. Summary of Significant Accounting Policies (continued)
Income Taxes
The Company accounts for income taxes using the liability method pursuant to ASC 740,
“Income Taxes”
.
Under this method, the Company recognizes deferred tax assets and liabilities for the expected tax consequences of temporary differences
between the tax bases of assets and liabilities and their reported amounts using enacted tax rates in effect for the year the differences
are expected to reverse. The Company evaluates uncertain tax positions annually and considers whether the amounts recorded for
income taxes are adequate to address the Company’s tax risk profile. The Company analyzes the potential tax liabilities of
specific transactions and tax positions based on management’s judgment as to the expected outcome. As of December 31, 2016,
the Company early adopted ASU 2015-17,
Income Taxes - Balance Sheet Classification of Deferred Taxes
.
Concentration of Credit Risk and Off-Balance Sheet Risk
The Company has no significant off-balance-sheet risk
such as foreign exchange contracts, option contracts, or other foreign hedging arrangements. Financial instruments that potentially
subject the Company to concentrations of credit risk are principally cash and accounts receivable. The Company’s policy is
to place its cash in high quality financial institutions. At time, these deposits may exceed federally insured limits. The Company
does not believe significant credit risk exists with respect to these institutions. Concentration of credit risk with respect to
accounts receivable is limited to certain customers to whom the Company makes substantial sales. To reduce risk, the Company routinely
assesses the financial strength of its customers and, as a consequence, believes that its accounts receivable credit risk exposure
is limited. The Company maintains an allowance for potential credit losses but historically has not experienced any significant
losses related to individual customers or groups of customers in any particular industry or geographic area. The Company does not
require collateral.
Significant Customers
The Company had one customer that exceeded 10% of
revenue for the years ended December 31, 2017 and 2016. There were no customers that exceeded 10% of revenue for the year ended
December 31, 2015. The Company had one customer that accounted for 23%, 34% and 11% of the total accounts receivable balance as
of December 31, 2017, 2016 and 2015 respectively.
Comprehensive Income
The Company’s comprehensive income was $5.9
million for the year ended December 31, 2017 and includes the effect of foreign currency translation. Comprehensive income was
the same as net income for the years ended December 31, 2016 and 2015.
Stock-Based Compensation
The Company accounts for equity awards in accordance
with ASC 718, “
Compensation — Stock Compensation”
(”ASC 718”). ASC 718 requires
employee equity awards to be accounted for under the fair value method. It also requires the measurement of compensation cost at
fair value on the date of grant and recognition of compensation expense over the service period for awards expected to vest. Accordingly,
share-based compensation is measured at the grant date based on the fair value of the award. The Company uses the straight-line
method to recognize share-based compensation over the service period of the award, which is generally equal to the vesting period.
The Company uses the simplified approach to calculate the expected exercise date of options, which is one of the components used
to determine the fair value of the options. This approach is used due to the small number of recipients receiving stock options
not providing a reasonable basis for estimating expected term. In 2016, the Company adopted ASU 2016-09,
Improvements to Employee
Share-Based Payment Accounting
, which simplifies several aspects of the accounting for employee share-based payment transactions
including the accounting for income taxes, forfeitures, and statutory tax withholding requirements, as well as classification of
related amounts within the statement of cash flows. As a result, we recognize the impact of forfeitures when they occur with no
adjustment for estimated forfeitures and recognize excess tax benefits as a reduction of income tax expense regardless of whether
the benefit reduces income taxes payable.
Stock compensation expense by income statement account
is as follows:
|
|
Year Ended December 31,
|
|
|
2017
|
|
2016
|
|
2015
|
Cost of revenues
|
|
$
|
71
|
|
|
$
|
88
|
|
|
$
|
101
|
|
General & administrative
|
|
|
398
|
|
|
|
420
|
|
|
|
433
|
|
Marketing and selling
|
|
|
55
|
|
|
|
116
|
|
|
|
108
|
|
Research and development
|
|
|
58
|
|
|
|
47
|
|
|
|
32
|
|
Total stock compensation
|
|
$
|
582
|
|
|
$
|
671
|
|
|
$
|
674
|
|
See Note 7 for additional
information relating to the Company’s stock plan.
PSYCHEMEDICS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(dollar and share
amounts (except per share) in thousands, unless otherwise indicated)
December 31, 2017
2. Summary of Significant Accounting Policies (continued)
Basic and Diluted Net Income per Share
Basic net income per share is computed by dividing
net income available to common shareholders by the weighted average number of common shares outstanding during the period. Diluted
net income per share is computed by dividing net income available to common shareholders by the weighted average number of common
shares and dilutive common stock equivalents outstanding during the period. The number of dilutive common stock equivalents outstanding
during the period has been determined in accordance with the treasury-stock method. Common equivalent shares consist of common
stock issuable upon the exercise of outstanding options and the unvested portion of stock unit awards (“SUAs”).
Basic and diluted weighted average common shares outstanding
are as follows:
|
|
|
2017
|
|
|
|
2016
|
|
|
|
2015
|
|
Weighted average common shares outstanding, basic
|
|
|
5,480
|
|
|
|
5,447
|
|
|
|
5,405
|
|
Dilutive common equivalent shares
|
|
|
60
|
|
|
|
28
|
|
|
|
7
|
|
Weighted average common shares outstanding, assuming dilution
|
|
|
5,540
|
|
|
|
5,475
|
|
|
|
5,412
|
|
There were no options to purchase shares that were
anti-dilutive for the years ended December 31, 2017 and 2016. For the year ended December 31, 2015, options to purchase 81 thousand
common shares were outstanding but not included in the dilutive common equivalent share calculation as their effect would have
been anti-dilutive.
Financial Instruments
Financial instruments include cash and accounts receivable
and accounts payable. Estimated fair values of these financial instruments approximate carrying values due to their short-term
nature. The Company has three outstanding equipment loans which have an interest rate of the 30-day LIBOR rate + 2.00%, and one
equipment loan with an interest rate of the 30-day LIBOR rate + 1.75%. As there is a market interest rate, the carrying amount
is fair value.
Basis of Preparation and Consolidation
The consolidated financial statements, include the financial statements
of the Company and its subsidiaries have been prepared using accounting principles generally accepted in the United States (“U.S.
GAAP”). The financial statements of the Company and its subsidiary companies have been consolidated on a line-by-line basis
by adding together like items of assets, liabilities, income and expenses. All intercompany transactions and balances have been
eliminated.
Foreign Currency Translation
The functional currency of our Brazil subsidiary is the Brazilian Real. Foreign currency denominated assets
and liabilities are translated into U.S. dollars using the exchange rates in effect at the consolidated balance sheet date. Results
of operations and cash flows are translated using the average exchange rates throughout the period. The effect of exchange rate
fluctuations on translation of assets and liabilities that are in the functional currency is included as a component of shareholders’
equity in accumulated other comprehensive income (loss). The total change in foreign currency translation adjustment for the year
ended December 31, 2017 was ($238) thousand, or ($157) thousand net of taxes.
Segment Reporting
The Company manages its operations as one segment,
drug testing services. As a result, the financial information disclosed herein materially represents all of the financial information
related to the Company’s principal operating segment. See Note 12 for geographic breakdown of revenue.
Subsequent Events
On March 7, 2018, the Company declared a quarterly
dividend of $0.15 per share for a total of $824, with a payment date of March 29, 2018 to shareholders of record on March 19, 2018.
PSYCHEMEDICS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(dollar and share
amounts (except per share) in thousands, unless otherwise indicated)
December 31, 2017
2. Summary of Significant Accounting Policies (continued)
Recent Accounting Pronouncements
In February 2016, the FASB issued ASU 2016-02,
Leases
,
which introduces the recognition of lease assets and lease liabilities by lessees for those leases classified as operating leases
under previous guidance. The new standard establishes a right-of-use ("ROU") model that requires a lessee to record an
ROU asset and a lease liability on the balance sheet for all leases with terms longer than 12 months. The new standard will become
effective for fiscal years beginning after December 15, 2018 and interim periods within those fiscal years, with early adoption
permitted. The Company is currently evaluating the impacts the adoption of this accounting guidance will have on its financial
statements.
In May 2014, the FASB issued ASU 2014-09,
Revenue
from Contracts with Customers
, which supersedes nearly all existing revenue recognition guidance under U.S. GAAP. The core
principle of ASU 2014-09 is to recognize revenues when promised goods or services are transferred to customers in an amount that
reflects the consideration to which an entity expects to be entitled for those goods or services. ASU 2014-09 defines a five step
process to achieve this core principle and, in doing so, more judgment and estimates may be required within the revenue recognition
process than are required under existing U.S. GAAP.
The standard’s implementation date, as amended by ASU 2015-14, is effective for annual periods beginning
after December 15, 2017, and interim periods therein, using either of the following transition methods: (i) a full retrospective
approach reflecting the application of the standard in each prior reporting period with the option to elect certain practical expedients,
or (ii) a retrospective approach with the cumulative effect of initially adopting ASU 2014-09 recognized at the date of adoption
(which includes additional footnote disclosures). We have done an analysis of the impact of our pending adoption of ASU 2014-09
on our financial statements and have determined the implementation of this standard will not have a material impact on the timing
and measurement of revenue recognition. The Company intends to adopt the standard at the date required for public companies.
3. Accounts Receivable
The Company maintains an allowance for uncollectible
accounts receivable based on management’s assessment of the collectability of its customer accounts by reviewing customer
payment patterns and other relevant factors. The Company reviews the adequacy of the allowance for uncollectible accounts on a
quarterly basis and adjusts the balance as determined necessary. Write-offs are recorded at the time a customer account is deemed
uncollectable. The following is a rollforward of the Company’s allowance for doubtful accounts:
|
|
As of December 31,
|
|
|
|
2017
|
|
|
2016
|
|
Balance, beginning of period
|
|
$
|
50
|
|
|
$
|
59
|
|
Provision for (recoveries of) doubtful accounts
|
|
|
30
|
|
|
|
16
|
|
Write-offs
|
|
|
(16
|
)
|
|
|
(25
|
)
|
Balance, end of period
|
|
$
|
64
|
|
|
$
|
50
|
|
Accrued expenses consist of the following:
|
|
As of December 31,
|
|
|
|
2017
|
|
|
2016
|
|
Accrued payroll and employee benefits
|
|
$
|
291
|
|
|
$
|
311
|
|
Accrued bonus expense
|
|
|
290
|
|
|
|
407
|
|
Accrued vacation expense
|
|
|
481
|
|
|
|
431
|
|
Accrued taxes
|
|
|
1,086
|
|
|
|
288
|
|
Accrued shipping expense
|
|
|
364
|
|
|
|
-
|
|
Deferred revenue
|
|
|
78
|
|
|
|
125
|
|
Other accrued expenses
|
|
|
280
|
|
|
|
426
|
|
Total Accrued Expenses
|
|
$
|
2,870
|
|
|
$
|
1,988
|
|
PSYCHEMEDICS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(dollar and share
amounts (except per share) in thousands, unless otherwise indicated)
December 31, 2017
5. Income Taxes
The income tax provision consists of the following:
|
|
As of December 31,
|
|
|
|
2017
|
|
|
2016
|
|
|
2015
|
|
Current –
|
|
|
|
|
|
|
|
|
|
|
|
|
Federal
|
|
$
|
2,507
|
|
|
$
|
3,016
|
|
|
$
|
(214
|
)
|
State
|
|
|
101
|
|
|
|
114
|
|
|
|
(55
|
)
|
Foreign
|
|
|
898
|
|
|
|
-
|
|
|
|
-
|
|
|
|
|
3,506
|
|
|
|
3,130
|
|
|
|
(269
|
)
|
Deferred –
|
|
|
|
|
|
|
|
|
|
|
|
|
Federal
|
|
|
(1,326
|
)
|
|
|
279
|
|
|
|
544
|
|
State
|
|
|
(124
|
)
|
|
|
(111
|
)
|
|
|
(439
|
)
|
Foreign
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
|
(1,450
|
)
|
|
|
168
|
|
|
|
105
|
|
Income Tax Provision
|
|
$
|
2,056
|
|
|
$
|
3,298
|
|
|
$
|
(164
|
)
|
A reconciliation of the effective rate with the federal
statutory rate is as follows:
|
|
2017
|
|
|
2016
|
|
|
2015
|
|
Federal statutory rate
|
|
|
34.0
|
%
|
|
|
34.0
|
%
|
|
|
34.0
|
%
|
State income taxes, net of federal benefit
|
|
|
-0.2
|
%
|
|
|
0.1
|
%
|
|
|
-22.0
|
%
|
Permanent differences
|
|
|
0.4
|
%
|
|
|
0.1
|
%
|
|
|
1.3
|
%
|
Stock based compensation
|
|
|
-0.7
|
%
|
|
|
0.0
|
%
|
|
|
3.9
|
%
|
Federal R&D Credits
|
|
|
-1.3
|
%
|
|
|
-1.1
|
%
|
|
|
-29.4
|
%
|
Foreign Taxes
|
|
|
7.1
|
%
|
|
|
0.0
|
%
|
|
|
0.0
|
%
|
Federal Deferred Rate Decrease
|
|
|
-14.2
|
%
|
|
|
0.0
|
%
|
|
|
0.0
|
%
|
Effective tax rate
|
|
|
25.1
|
%
|
|
|
33.1
|
%
|
|
|
-12.2
|
%
|
On December 22, 2017, the U.S. government enacted comprehensive tax legislation commonly referred to as the
Tax Cut and Jobs Act (the “Tax Act”). The Tax Act made broad and complex changes to the U.S. tax code that affected
2017, including, but not limited to, accelerated depreciation that allowed for full expensing of qualified property. The Tax Act
also establishes new tax laws that affects 2018 and future years, including a reduction in the U.S. federal corporate income tax
rate from 35% to 21%. As a result of the Tax Act, we provisionally remeasured certain deferred tax assets and liabilities based
on the rates at which they are anticipated to change to in the future, which is generally 21%. This resulted in a reduction of
the deferred tax liability of $1.2 million, or a 14.2 percentage point reduction. This was offset in part by the impact of foreign
income taxes owed (impact of 7.1% on the rate) with the establishment of a subsidiary in Brazil. For the year ended December 31,
2015, the Company’s -12.2% effective income tax rate was primarily due to Federal and California research and development
(R&D) tax credits. As of December 31, 2017, there were no Federal tax credit carryforwards from 2016. As of December 31, 2017,
there were $731 of California tax credit carryforwards relating to 2012 to 2017 which have an unlimited carryforward period.
On December 22, 2017, the Securities and Exchange
Commission issued guidance under Staff Accounting Bulletin No. 118, Income Tax Accounting Implications of the Tax Cuts and Jobs
Act (“SAB 118”) directing taxpayers to consider the impact of the U.S. legislation as “provisional” when
it does not have the necessary information available, prepared or analyzed (including computations) in reasonable detail to complete
its accounting for the change in tax law.
At December 31, 2017, we have not completed our accounting
for the tax effects of enactment of the Tax Act; however, we have made a reasonable estimate of the effects on our existing deferred
tax balances and the one-time transition tax. For the year ended December 31, 2017, we recognized no transition tax because the
Company’s Brazil entity is a disregarded entity for U.S. income tax purposes. In all cases, we will continue to make and
refine our calculations as additional analysis is completed. In addition, our estimates may also be affected as we gain a more
thorough understanding of the tax law.
PSYCHEMEDICS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(dollar and share
amounts (except per share) in thousands, unless otherwise indicated)
December 31, 2017
5. Income Taxes (continued)
The components of the net deferred tax liabilities
included in the accompanying balance sheets are as follows:
|
|
Year Ended
December 31,
|
|
|
|
2017
|
|
|
2016
|
|
Net deferred tax liability:
|
|
|
|
|
|
|
|
|
Excess of tax over book depreciation and amortization
|
|
$
|
(1,980
|
)
|
|
$
|
(3,321
|
)
|
Prepaid expenses
|
|
|
(39
|
)
|
|
|
(55
|
)
|
Allowance for doubtful accounts
|
|
|
14
|
|
|
|
18
|
|
Accrued expenses
|
|
|
105
|
|
|
|
133
|
|
Stock-based compensation
|
|
|
79
|
|
|
|
135
|
|
R&D tax credits
|
|
|
578
|
|
|
|
397
|
|
Net deferred tax liabilities
|
|
$
|
(1,243
|
)
|
|
$
|
(2,693
|
)
|
ASC 740 contains a two-step approach to recognizing
and measuring uncertain tax positions (tax contingencies). The first step is to evaluate the tax position for recognition by determining
if the weight of available evidence indicates it is more likely than not that the position will be sustained on an audit, including
resolution of related appeals or litigation processes, if any. The second step is to measure the tax benefit as the largest amount
which is more than 50% likely of being realized upon ultimate settlement. The Company considers many factors when evaluating and
estimating the Company’s tax positions and tax benefits, which may require periodic adjustments and which may not accurately
forecast actual outcomes. In 2016, the Company elected to adopt ASU No 2015-17,
Income Taxes - Balance Sheet Classification
of Deferred Taxes
, that simplifies the presentation of deferred taxes by requiring deferred tax assets and liabilities be classified
as noncurrent on the balance sheet.
The Company operates within multiple taxing jurisdictions
and could be subject to audit in these jurisdictions. These audits may involve complex issues, which may require an extended period
of time to resolve. The Company has provided for its estimated taxes payable in the accompanying financial statements. Interest
and penalties related to income tax matters are recognized as a general and administrative expense. The Company did not have any
interest or penalties accrued as of December 31, 2017 and 2016. The tax years ended December 31, 2014 through December 31, 2017
remain subject to examination by all major taxing authorities.
6. Preferred Stock
The Board of Directors has the authority to designate
authorized preferred shares in one or more series and to fix the relative rights and preferences without vote or action by the
stockholders. The Board of Directors has no present plans to designate or issue any shares of preferred stock.
7. Stock-Based Awards
The 2006 Incentive Plan initially adopted in 2006,
and amended and restated in 2011, provides for grants of options with terms of up to ten years, grants of restricted stock or stock
unit awards (SUAs), issuances of stock bonuses or grants other stock-based awards plus cash based awards, to officers, directors,
employees, and consultants. Such shares are issuable out of the Company’s authorized but unissued common stock. In 2016,
the 2006 Incentive Plan was amended to increase the total number of shares issuable there under from 500 thousand to 850 thousand
shares. As of December 31, 2017, 199 thousand shares remained available for future grant under the 2006 Incentive Plan.
The fair value of the SUAs is determined by the closing
price on the date of grant. The fair value of options is determined using a Black-Scholes model. The SUAs vest over a period of
two to four years and are convertible into an equivalent number of shares of the Company’s common stock provided that the
employee receiving the award remains continuously employed throughout the vesting period. The Company records compensation expense
related to the SUAs and options on a straight-line basis over the vesting term. Employees are issued shares upon vesting, net of
tax withholdings. As a result of our adoption of ASU 2016-09 in 2016, we recognize the impact of forfeitures when they occur with
no adjustment for estimated forfeitures and recognize excess tax benefits as a reduction of income tax expense regardless of whether
the benefit reduces income taxes payable.
On May 4, 2017, the Company granted SUAs covering 12.5
thousand shares of common stock and options to acquire up to 121 thousand shares of common stock. The SUAs vest over a period of
two years for non-employee board members and four years for employees and are convertible into an equivalent number of shares of
the Company’s common stock provided that the director or employee receiving the award remains employed throughout the vesting
period. The stock options become exercisable over two years for non-employee board members and four years for employees (the September
15, 2015 options become exercisable over five years) and have a term of 10 years. The Company records compensation expense related
to the SUAs and options on a straight-line basis over the vesting term. Employees are issued shares upon vesting, in the case of
SUA’s or upon exercise of options, net of tax withholdings, unless the employee chooses to receive all shares and pay for
the associated employment taxes. No other types of equity-based awards have been granted or issued under the 2006 Incentive Plan.
PSYCHEMEDICS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(dollar and share
amounts (except per share) in thousands, unless otherwise indicated)
December 31, 2017
7. Stock-Based Awards (continued)
The following table represents all shares granted by the Company under the
2006 Incentive Plan for the last three years:
Grant Date
|
|
|
Type
|
|
|
|
Shares
|
|
|
|
Fair
Value
Per Share
(1)
|
|
May 4, 2017
|
|
|
Options
|
|
|
|
121
|
|
|
$
|
4.46
|
|
May 4, 2017
|
|
|
SUA
|
|
|
|
13
|
|
|
$
|
18.87
|
|
May 12, 2016
|
|
|
Options
|
|
|
|
121
|
|
|
$
|
2.34
|
|
May 12, 2016
|
|
|
SUA
|
|
|
|
17
|
|
|
$
|
13.82
|
|
September 15, 2015
|
|
|
Options
|
|
|
|
47
|
|
|
$
|
1.91
|
|
September 15, 2015
|
|
|
SUA
|
|
|
|
1
|
|
|
$
|
10.21
|
|
April 29, 2015
|
|
|
SUA
|
|
|
|
44
|
|
|
$
|
16.10
|
|
|
(1)
|
The fair value for the SUA’s
is the closing price of the Company’s stock on that date. The fair value for options represents
the fair value calculated using the Black-Scholes model. Options have contractual lives of 10
years and the fair value calculated using a Black-Scholes model. The options granted on September
15, 2015 have a fair value of $1.91 per share based on the $10.21 grant date and exercise prices
and assuming a 6.5 year estimated term, 36% volatility, 2.2% interest rate and a 6.0% dividend
yield rate. The options granted on May 12, 2016 have a fair value of $2.34 per share based on
the $13.82 grant date and exercise prices and assuming a 6.25 year estimated term, 33% volatility,
1.75% interest rate and a 5.6% dividend yield rate. The options granted on May 4, 2017 have a
fair value of $4.46 per share based on the $18.87 grant date and exercise prices and assuming
a 6.25 year estimated term, 37% volatility, 2.75% interest rate and a 4.7% dividend yield rate.
|
A summary of the Company’s stock option activity
is as follows:
|
|
Number of
Shares
|
|
Weighted Ave.
Exercise Price
per Share
|
|
Aggregate
Intrinsic
Value
(2)
|
Outstanding, December 31, 2016
|
|
|
160
|
|
|
$
|
12.76
|
|
|
$
|
1,907
|
|
Granted
|
|
|
121
|
|
|
$
|
18.87
|
|
|
|
|
|
Exercised
|
|
|
(2
|
)
|
|
$
|
13.82
|
|
|
|
|
|
Forfeited
|
|
|
-
|
|
|
$
|
-
|
|
|
|
|
|
Outstanding, December 31, 2017
|
|
|
279
|
|
|
$
|
15.40
|
|
|
$
|
1,436
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercisable, December 31, 2017
|
|
|
56
|
|
|
|
|
|
|
$
|
446
|
|
(2)
|
The aggregate intrinsic value on
this table was calculated based on the amount, if any, by which the closing market price of the
Company’s stock on December 31 of the applicable year exceeded the exercise price of any
of the underlying options, multiplied by the number of shares subject to each such option. The
closing stock price as of December 31, 2017 and 2016 was $20.56 and $24.68, respectively.
|
There were 2.5 thousand options exercised under the 2006 Incentive Plan
during the year ended December 31, 2017. There were no options exercised under the 2006 Incentive Plan during the years ended December
31, 2016 or 2015. The Company had options exercised under our expired stock option plan of 134 thousand and 41 thousand for the
years ended December 31, 2016 and 2015, respectively. There were 56 thousand options exercisable as of December 31, 2017 and 9
thousand options exercisable as of December 31, 2016.
A summary of the Company’s stock unit award
activity is as follows:
|
|
|
|
Weighted
|
|
Weighted
|
|
|
Number of
|
|
Average Price
|
|
Average Fair
|
|
|
Shares
|
|
per Share
(3)
|
|
Value
(3)
|
Outstanding & Unvested, December 31, 2016
|
|
|
74
|
|
|
$
|
14.62
|
|
|
$
|
1,077
|
|
Granted
|
|
|
13
|
|
|
$
|
18.87
|
|
|
$
|
236
|
|
Converted to common stock
|
|
|
(10
|
)
|
|
$
|
13.84
|
|
|
$
|
(138
|
)
|
Cancelled
|
|
|
(15
|
)
|
|
$
|
16.15
|
|
|
$
|
(241
|
)
|
Forfeited
|
|
|
(29
|
)
|
|
$
|
14.25
|
|
|
$
|
(418
|
)
|
Outstanding & Unvested, December 31, 2017
|
|
|
33
|
|
|
$
|
16.08
|
|
|
$
|
516
|
|
|
(3)
|
Weighted
average price per share is the weighted grant price based on the closing market price
of each of the stock grants related to each transaction type. The Weighted average fair
value is the weighted average share price times the number of shares.
|
The fair value of stock unit award vesting was $677 thousand, $691 thousand
and $641 thousand for the years ended December 31, 2017, 2016 and 2015, respectively. The intrinsic value of stock unit awards
converted to common stock was based on the stock price on the vesting date and amounted to $776 thousand, $727 thousand and $824
thousand for the years ended December 31, 2017, 2016 and 2015, respectively.
As of December 31, 2017, a total of 508 thousand shares
of common stock were reserved for issuance under 2006 Incentive Plan. As of December 31, 2017, the unamortized fair value of outstanding
options and awards was $938 thousand to be amortized over a weighted average period of approximately 2.8 years.
PSYCHEMEDICS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(dollar and share
amounts (except per share) in thousands, unless otherwise indicated)
December 31, 2017
8. Employee Benefit Plan
The Psychemedics Corporation 401(k) Savings and Retirement
Plan (the 401(k) Plan) is a qualified defined contribution plan in accordance with Section 401(k) of the Internal Revenue Code.
All employees over the age of 21 are eligible to make pre-tax contributions up to a specified percentage of their compensation.
Under the 401(k) Plan, the Company may, but is not obligated to, match a portion of the employees’ contributions up to a
defined maximum. Matching contributions of $246 thousand, $246 thousand and $242 thousand were made in the years ended December
31, 2017, 2016 and 2015, respectively.
9. Commitments and Contingencies
Commitments
The Company leases certain of its facilities and equipment
under operating lease agreements expiring on various dates through February 2023. Total minimum lease payments, including scheduled
increases, are charged to operations on the straight-line basis over the life of the respective lease. Rent expense was approximately
$0.9 million, $0.9 million and $1.0 million in 2017, 2016 and 2015, respectively.
At December 31, 2017, minimum commitments remaining
under lease agreements were approximately as follows:
Years Ending December 31:
|
|
|
2018
|
|
$
|
928
|
|
2019
|
|
|
574
|
|
2020
|
|
|
485
|
|
2021
|
|
|
108
|
|
2022
|
|
|
108
|
|
2023
|
|
|
18
|
|
Total
|
|
$
|
2,221
|
|
Contingencies
The Company is subject legal proceedings and claims
in the ordinary course of its business. The Company believes that although there can be no assurance as to the disposition of these
proceedings, based upon information available to the Company as of the timing of filing of this report, the expected outcome of
these matters would not have a material impact on the Company’s results of operations or financial condition.
10. Debt and Other Financing Arrangements
On March 20, 2014, the Company entered into an
equipment financing arrangement with Banc of America Leasing & Capital, LLC (the “Lender”), which it amended on
August 8, 2014, September 15, 2015 and October 30, 2017, including a Master Loan and Security Agreement and related documentation
(collectively the “Equipment Loan Arrangement”) which provided the Company with the ability to finance, at its option,
up to $12.8 million of new and used equipment purchases. Each such purchase financed under the Equipment Loan Arrangement is documented
by the execution of an equipment note. Each note has a maturity date of 60 months from the applicable loan date, and bears interest
at the then current 30-day LIBOR rate + 2.00% for loans made prior to October 2017 and the 30-day LIBOR rate + 1.75% for loans
made after October 2017. Principal and interest are payable over the 60-month repayment period and principal is repayable without
premium or penalty. Borrowings under the Equipment Loan Arrangement are secured by a first priority security interest in the equipment
acquired with the proceeds of the equipment notes. Under the Equipment Loan Arrangement, the Company is subject to a maximum quarterly
funded debt to EBITDA ratio and a minimum fixed charge coverage ratio. The Company was in compliance with all loan covenants as
of December 31, 2017. The total book value pledged as collateral for these loans as of December 31, 2017 was $6.9 Million.
PSYCHEMEDICS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(dollar and share
amounts (except per share) in thousands, unless otherwise indicated)
December 31, 2017
10. Debt and Other Financing
Arrangements (continued)
Under the Equipment Loan Arrangement, the Company executed notes on March 24, 2014, May 22, 2014, June 13, 2014,
August 8, 2014, September 15, 2015, March 23, 2016 and November 10, 2017 in the amounts of $1.1 million, $1.9 million, $3.0 million,
$1.0 million, $1.1 million, $610 thousand and $2.1 million, respectively, for total borrowings of $10.8 million, of which $2.1
million and $3.1 million was repaid in 2017 and 2016, respectively. As of December 31, 2017, the Company had equipment financing
line of credit availability of $1.9 million. The weighted average interest rate for these notes for the year ended December 31,
2017 was 3.0% and represented $72 thousand of interest expense. As of December 31, 2017, weighted average interest rate was 3.3%.
The annual principal repayment requirements for debt
obligations as of December 31, 2017 are as follows:
2018
|
|
$
|
957
|
|
2019
|
|
|
891
|
|
2020
|
|
|
702
|
|
2021
|
|
|
446
|
|
2022
|
|
|
381
|
|
Total long-term debt
|
|
|
3,377
|
|
Less current portion of long-term debt
|
|
|
(957
|
)
|
Total long-term debt, net of current portion
|
|
$
|
2,420
|
|
11. Selected Quarterly Financial Data (Unaudited)
The following are selected quarterly financial
data for the years ended December 31, 2017 and 2016:
|
|
Quarter Ended - 2017
|
|
|
MAR 31
|
|
JUN 30
|
|
SEP 30
|
|
DEC 31
|
Revenues
|
|
$
|
10,209
|
|
|
$
|
9,684
|
|
|
$
|
10,049
|
|
|
$
|
9,760
|
|
Gross profit
|
|
|
5,316
|
|
|
|
4,609
|
|
|
|
5,121
|
|
|
|
4,777
|
|
Income from operations
|
|
|
2,268
|
|
|
|
1,710
|
|
|
|
2,232
|
|
|
|
1,947
|
|
Net income
|
|
|
1,500
|
|
|
|
907
|
|
|
|
1,364
|
|
|
|
2,350
|
|
Basic net income per share
|
|
$
|
0.27
|
|
|
$
|
0.17
|
|
|
$
|
0.25
|
|
|
$
|
0.43
|
|
Diluted net income per share
|
|
$
|
0.27
|
|
|
$
|
0.16
|
|
|
$
|
0.25
|
|
|
$
|
0.42
|
|
|
|
Quarter Ended - 2016
|
|
|
MAR 31
|
|
JUN 30
|
|
SEP 30
|
|
DEC 31
|
Revenues
|
|
$
|
6,667
|
|
|
$
|
9,700
|
|
|
$
|
11,849
|
|
|
$
|
10,764
|
|
Gross profit
|
|
|
2,738
|
|
|
|
5,209
|
|
|
|
7,105
|
|
|
|
6,398
|
|
Income (loss) from operations
|
|
|
(2
|
)
|
|
|
2,371
|
|
|
|
4,104
|
|
|
|
3,637
|
|
Net income (loss)
|
|
|
(23
|
)
|
|
|
1,633
|
|
|
|
2,708
|
|
|
|
2,360
|
|
Basic net income per share
|
|
$
|
0.00
|
|
|
$
|
0.30
|
|
|
$
|
0.49
|
|
|
$
|
0.44
|
|
Diluted net income per share
|
|
$
|
0.00
|
|
|
$
|
0.30
|
|
|
$
|
0.49
|
|
|
$
|
0.43
|
|
12. Business Segment Reporting
The Company manages its operations as one segment,
drug testing services. As a result, the financial information disclosed herein materially represents all of the financial information
related to the Company’s principal operating segment. All Brazil sales are though one independent distributor, which is the
only customer greater than 10% of sales. The Company’s revenues by geographic region are as follows:
|
|
Year Ended December 31,
|
|
|
2017
|
|
2016
|
|
2015
|
Consolidated Revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
United States
|
|
$
|
26,327
|
|
|
$
|
25,608
|
|
|
$
|
25,836
|
|
Brazil
|
|
|
13,069
|
|
|
|
13,083
|
|
|
|
746
|
|
Other Foreign Countries
|
|
|
305
|
|
|
|
289
|
|
|
|
393
|
|
Total Revenue
|
|
$
|
39,701
|
|
|
$
|
38,980
|
|
|
$
|
26,975
|
|
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure
None.
Item 9A. Controls and Procedures
Explanatory Note
On June 30, 2017, the Company’s
status as an accelerated filer commenced with respect to its 2017 annual report on the 10-K. This is the first year that the Company’s
internal controls as an accelerated filer were attested to by the Company’s registered public accounting firm.
|
a)
|
Evaluation of Disclosure Controls and Procedures
|
The Company carried out
an evaluation as of December 31, 2017, under the supervision and with the participation of our management, including our Chief
Executive Officer and Vice President of Finance, as well as a third party internal control firm, 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 Securities Exchange
Act. Based upon that evaluation, our Chief Executive Officer and Vice President of Finance have concluded that our disclosure controls
and procedures were not effective as of December 31, 2017, based upon the definition of material weaknesses.
Notwithstanding the foregoing,
the Company's management, including the CEO and Vice President of Finance, has concluded that the company's financial statements
included in this Form 10-K present fairly, in all material respects, the company's financial position, results of operations and
cash flows for the periods presented in conformity with U.S. generally accepted accounting principles.
|
b)
|
Management’s Report on Internal Control over Financial Reporting
|
Procedures were undertaken
in order that management could conclude that reasonable assurance exists regarding the reliability of financial reporting and the
preparation of the consolidated financial statements contained in this filing.
As of December 31, 2017, management including the
CEO and VP of Finance, assessed the effectiveness of the Company’s internal control over financial reporting based on the
criteria established in “Internal Control-Integrated Framework 2013” issued by the Committee of Sponsoring Organizations
of the Treadway Commission (“COSO”) in 2013. Our management determined that, as of December 31, 2017, a material weakness
existed in our internal control over financial reporting. Specifically, a failure to perform a timely and effective risk assessment
over the financial reporting process and a failure to maintain adequate documentation of how control activities address the financial
statement risks, including the identification of key reports and design of controls in validating the completeness and accuracy
of reports utilized in the revenue controls cycle.
The material weakness did not result in any material misstatement in the financial statements included in
this Annual Report on Form 10-K or previously issued financial statements.
The effectiveness of internal control over financial
reporting as of December 31, 2017, has been audited by BDO USA, LLP, an independent registered public accounting firm, as stated
in its attestation report, which is included on the following page.
|
c)
|
Plan for Remediation of Material Weakness that Existed as of December 31, 2017
|
Management will remediate
this material weakness by evaluating our control environment and our risk assessment process, including the implementation and
documentation of the control process and identification and testing of key revenue reports.
|
d)
|
Changes in Internal Control over Financial Reporting
|
Except as relating to the
material weaknesses identified in the current period noted above, there have been no changes in our internal control over financial
reporting identified in connection with the evaluation of our controls performed during the year ended December 31, 2017 that have
materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING
FIRM
Shareholders and Board of Directors
Psychemedics Corporation
Acton, Massachusetts
Opinion on Internal Control over Financial Reporting
We have audited Psychemedics Corporation and its subsidiaries’
(the “Company’s”) internal control over financial reporting as of December 31, 2017, based on criteria established
in Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission
(the “COSO criteria”). In our opinion, the Company did not maintain, in all material respects, effective internal control
over financial reporting as of December 31, 2017, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United
States) (“PCAOB”), the consolidated balance sheets of the Company as of December 31, 2017 and 2016, the related consolidated
statements of income and comprehensive income, stockholders’ equity, and cash flows for each of the three years in the period
ended December 31, 2017, and the related notes (collectively referred to as “the financial statements”) and our report
dated March 16, 2018 expressed an unqualified opinion thereon.
Basis for Opinion
The Company’s management is responsible for maintaining effective
internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting,
included in the accompanying Item 9A, Management’s Report on Internal Control over Financial Reporting. Our responsibility
is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting
firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with U.S. federal securities
laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit of internal control over financial reporting in
accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance
about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining
an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing
and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing
such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for
our opinion.
A material weakness is a deficiency, or a combination of deficiencies,
in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the company’s
annual or interim financial statements will not be prevented or detected on a timely basis. The following material weakness has
been identified and included in management’s assessment: failure to perform a timely and effective risk assessment over the
financial reporting process and a failure to maintain adequate documentation of how control activities address the financial statement
risks, including the identification of key reports and design of controls in validating the completeness and accuracy of reports
utilized in the revenue controls cycle. This material weakness was considered in determining the nature, timing, and extent of
audit tests applied in our audit of the 2017 consolidated financial statements, and this report does not affect our report dated
March 16, 2018 on those consolidated financial statements.
Definition and Limitations of Internal Control over Financial Reporting
A company’s internal control over financial reporting is a process
designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements
for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial
reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately
and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions
are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles,
and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors
of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use,
or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial
reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject
to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies
or procedures may deteriorate.
/s/ BDO USA, LLP
Boston, Massachusetts
March 16, 2018
Item 9B. Other Information
None