We have audited the accompanying consolidated balance sheet
of Deep Down, Inc. and subsidiaries (collectively the “Company”) as of December 31, 2016, and the related consolidated
statements of operations, changes in stockholders’ equity, and cash flows for the year then ended. These consolidated financial
statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audit.
We conducted our audit in accordance with the standards of the
Public Company Accounting Oversight Board (United States). 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. The Company is not
required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included
consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the
circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over
financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting
the amounts and disclosures in the consolidated financial statements, assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides
a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred
to above present fairly, in all material respects, the consolidated financial position of Deep Down, Inc. and subsidiaries as of
December 31, 2016, and the results of their operations and their cash flows for the year then ended, in conformity with U.S. generally
accepted accounting principles.
The accompanying notes are an integral part
of the consolidated financial statements.
The accompanying notes are an integral part
of the consolidated financial statements.
The accompanying notes are an integral part
of the consolidated financial statements.
The accompanying notes are an integral part
of the consolidated financial statements.
NOTE 1: DESCRIPTION OF BUSINESS
AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND ESTIMATES
Description of Business
Deep Down, Inc., a Nevada corporation (“Deep
Down Nevada”), and its directly and indirectly wholly-owned subsidiaries, Deep Down, Inc., a Delaware corporation (“Deep
Down Delaware”); Deep Down International Holdings, LLC, a Nevada limited liability company; and Deep Down Brasil - Solucoes
em Petroleo e Gas, Ltda, a Brazilian limited liability company (“Deep Down Brasil”) (collectively referred to as “Deep
Down”, “we”, “us” or the “Company”), is an oilfield services company specializing in
complex deepwater and ultra-deepwater oil production distribution system support services, serving the worldwide offshore exploration
and production industry. Our services and technological solutions include distribution system installation support and engineering
services, umbilical terminations, loose-tube steel flying leads, flotation and Remote Operated Vehicles (“ROVs”) and
related services. We support subsea engineering, installation, commissioning, and maintenance projects through specialized, highly
experienced service teams and engineered technological solutions. Deep Down’s primary focus is on more complex deepwater
and ultra-deepwater oil production distribution system support services and technologies, used between the platform and the wellhead.
Liquidity
As a deepwater service provider, our revenues,
profitability, cash flows, and future rate of growth are generally dependent on the condition of the global oil and gas industry,
and our customers’ ability to invest capital for offshore exploration, drilling and production and maintain or increase levels
of expenditures for maintenance of offshore drilling and production facilities. Oil and gas prices and the level of offshore drilling
and production activity have historically been characterized by significant volatility. At times we enter into large, fixed-price
contracts which may require significant lead time and investment. A decline in offshore drilling and production activity could
result in lower contract volume or delays in significant contracts which could negatively impact our earnings and cash flows. Our
earnings and cash flows could also be negatively affected by delays in payments by significant customers or delays in completion
of our contracts for any reason. While our objective is to enter into contracts with our customers that are cash flow positive,
we may not always be able to achieve this objective. We are dependent on our cash flows from operations to fund our working capital
requirements and the uncertainties noted above create risks that we may not achieve our planned earnings or cash flow from operations,
which may require us to raise additional debt or equity capital. There can be no assurance that we could raise additional capital.
During the fiscal years ended
December 31, 2017 and 2016, we financed our capital needs through cash on hand and operating cash flow. As of December
31, 2017, our working capital was $8.2 million, compared to $12 million as of December 31, 2016. Between 2008 and June 2016,
we maintained a credit facility with Whitney Bank, a state chartered bank (“Whitney”); see additional discussion
in Note 5, “Long-Term Debt”, of the Notes to Consolidated Financial Statements.
Summary of Significant Accounting Policies
and Estimates
Principles of Consolidation
The consolidated financial statements include
the accounts of Deep Down and its wholly-owned subsidiaries for the years ended December 31, 2017 and 2016. All intercompany transactions
and balances have been eliminated.
Reclassifications
Certain prior period amounts have been
reclassified to conform to the current period presentation. These reclassifications have not resulted in any changes to previously
reported net income (loss) or cash flows.
Use of Estimates
The preparation of these financial statements
in accordance with US GAAP requires us to make estimates and judgments that may affect assets and liabilities. On an on-going basis,
we evaluate our estimates, including those related to revenue recognition and related allowances, costs incurred and estimated
earnings incurred in excess of billings on uncompleted contracts, impairments of long-lived assets, including intangibles, income
taxes including the valuation allowance for deferred tax assets, billings in excess of costs incurred and estimated earnings on
uncompleted contracts, contingencies and litigation, and share-based payments. We base our estimates on historical experience and
on various other assumptions that are believed to be reasonable, the results of which form the basis for making judgments about
the carrying values of assets and liabilities. Actual results may differ from these estimates under different assumptions or conditions.
Notes to Consolidated Financial Statements
for the Years Ended December 31, 2017 and 2016
(Amounts in thousands, except per share
amounts)
Segments
For the years ended December 31, 2017 and
2016, we only had one operating and reporting segment, Deep Down Delaware.
Cash and Cash Equivalents
We consider all highly liquid investments
with maturities from date of purchase of three months or less to be cash equivalents. Cash and cash equivalents consist of cash
on deposit with domestic banks and, at times, may exceed federally insured limits.
Fair Value of Financial Instruments
Fair value is defined 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. We utilize
a fair value hierarchy, which maximizes the use of observable inputs and minimizes the use of unobservable inputs when measuring
fair value. The fair value hierarchy has three levels of inputs that may be used to measure fair value:
Level 1 - Unadjusted quoted prices in active markets
that are accessible at the measurement date for identical, unrestricted assets or liabilities.
Level 2 - Quoted prices in markets that are not active;
or other inputs that are observable, either directly or indirectly, for substantially the full term of the asset or liability.
Level 3 - Prices or valuation techniques that require
inputs that are both significant to the fair value measurement and unobservable.
Our financial instruments consist primarily
of cash, trade receivables and payables, and notes receivable. The carrying values of cash, trade receivables and payables
approximated their fair values at December 31, 2017 and 2016 due to their short-term maturities. The carrying values of our notes
receivable approximate their fair values at December 31, 2017 and 2016 because the interest rates approximate current market rates.
Accounts Receivable
Trade receivables are uncollateralized
customer obligations due under normal trade terms. We provide an allowance for doubtful trade receivables based on a specific review
of each customer’s trade receivable balance with respect to their ability to make payments. Generally, we do not charge interest
on past due accounts. When specific accounts are determined to require an allowance, they are expensed by a provision for bad debts
in that period. At December 31, 2017 and 2016, we estimated the allowance for doubtful accounts requirement to be $10 and
$10, respectively. Bad debt expense (credit) totaled $(22) and $167 for the years ended December 31, 2017 and 2016, respectively.
Concentration of Credit Risk
As of December 31, 2017, three of our customers
accounted for 37 percent, 17 percent and 12 percent of total trade accounts receivable. As of December 31, 2016, three of our customers
accounted for 66 percent, 7 percent and 5 percent of total trade accounts receivable.
For the year ended December 31, 2017, our
five largest customers accounted for 61 percent, 11 percent, 10 percent, 3 percent and 3 percent of total revenues. For
the year ended December 31, 2016, our five largest customers accounted for 60 percent, 10 percent, 7 percent, 3 percent and 3 percent
of total revenues.
The loss of one or more of these customers could have a material
impact on our results of operations and cash flows.
Notes to Consolidated Financial Statements
for the Years Ended December 31, 2017 and 2016
(Amounts in thousands, except per share
amounts)
Long-Lived Assets
Property, plant and equipment is stated
at cost, net of accumulated depreciation and amortization. Depreciation and amortization is computed using the straight-line method
over the estimated useful lives of the respective assets. Replacements and betterments are capitalized, while maintenance and repairs
are expensed as incurred. It is our policy to include amortization expense on assets acquired under capital leases with depreciation
expense on owned assets. Additionally, we record depreciation and amortization expense related to revenue-generating assets as
a component of cost of sales in the accompanying consolidated statements of operations.
Equity Method Investments
Equity method investments in joint ventures
are reported as investments in joint venture on the consolidated balance sheets, and our share of earnings or losses in the joint
venture is reported as equity in net income or loss of joint venture in the consolidated statements of operations. We currently
have no remaining investment.
Lease Obligations
We lease land, buildings, vehicles and
certain equipment under non-cancellable operating leases. Since February 2009, we have leased our corporate headquarters
in Houston, Texas, under a non-cancellable operating lease. As of August 1, 2016, we transferred our lease to our subtenant and
no longer have monthly lease costs. Deep Down Delaware leases indoor manufacturing space and leases office, warehouse and operating
space in Houston, Texas, under non-cancellable operating leases. Additionally, we lease space in Mobile, Alabama to house our 3.4
ton carousel system. We also lease certain office and other operating equipment under capital leases; the related assets are included
with property, plant and equipment on the consolidated balance sheets.
At the inception of a lease, we evaluate
the agreement to determine whether the lease will be accounted for as an operating or capital lease. The term of the lease used
for such an evaluation includes renewal option periods only in instances in which the exercise of the renewal option can be reasonably
assured and failure to exercise such option would result in an economic penalty.
Revenue Recognition
We recognize revenue once the following
four criteria are met: (i) persuasive evidence of an arrangement exists, (ii) delivery of the equipment has occurred or services
have been rendered, (iii) the price of the equipment or service is fixed or determinable and (iv) collectability of the related
receivable is reasonably assured. Service revenue is recognized as the service is provided, and time and materials contracts are
billed on a bi-weekly or monthly basis as costs are incurred. Customer billings for shipping and handling charges are included
in revenue. Revenues are recorded net of sales taxes.
From time to time, we enter into fixed-price
contracts. The percentage-of-completion method is used as a basis for recognizing revenue on these contracts. We recognize revenue
as costs are incurred because we believe the incurrence of cost reasonably reflects progress made toward project completion.
Provisions for estimated losses on uncompleted
large fixed-price contracts (if any) are recorded in the period in which it is determined it is more likely than not a loss will
be incurred. Changes in job performance, job conditions, and total contract values may result in revisions to costs and income
and are recognized in the period in which the revisions are determined. Unapproved change orders are accounted for in revenue
and cost when it is probable that the costs will be recovered through a change in the contract price. In circumstances where recovery
is considered probable but the revenues cannot be reliably estimated, costs attributable to change orders are deferred pending
determination of contract price.
Costs and estimated earnings in excess
of billings on uncompleted contracts arise when revenues are recorded on a percentage-of-completion basis but cannot be invoiced
under the terms of the contract. Such amounts are invoiced upon completion of contractual milestones. Billings in excess of costs
and estimated earnings on uncompleted contracts arise when milestone billings are permissible under the contract, but the related
costs have not yet been incurred. All contract costs are recognized currently on jobs formally approved by the customer and contracts
are not shown as complete until virtually all anticipated costs have been incurred and the risk of loss has passed to the customer.
Assets related to costs and estimated earnings
in excess of billings on uncompleted contracts, as well as liabilities related to billings in excess of costs and estimated earnings
on uncompleted contracts, have been classified as current. The contract cycle for certain long-term contracts may extend beyond
one year, thus complete collection of amounts related to these contracts may extend beyond one year, though such long-term contracts
include contractual milestone billings as discussed above.
Notes to Consolidated Financial Statements
for the Years Ended December 31, 2017 and 2016
(Amounts in thousands, except per share
amounts)
Income Taxes
We follow the asset and liability method
of accounting for income taxes. This method takes into account the differences between financial statement treatment and tax treatment
of certain transactions. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences
between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax
assets and liabilities are measured using tax rates expected to apply to taxable income in the years in which those temporary differences
are expected to be recovered or settled. The effect of a change in tax rates is recognized as income or expense in the period that
includes the enactment date.
We record a valuation allowance to reduce
the carrying value of our deferred tax assets when it is more likely than not that some or all of the deferred tax assets will
expire before realization of the benefit or that future deductibility is not probable. The ultimate realization of the deferred
tax assets depends upon our ability to generate sufficient taxable income of the appropriate character in the future. This requires
management to use estimates and make assumptions regarding significant future events such as the taxability of entities operating
in the various taxing jurisdictions. In evaluating our ability to recover our deferred tax assets, we consider all reasonably available
positive and negative evidence, including our past operating results, the existence of cumulative losses in the most recent years
and our forecast of future taxable income. In estimating future taxable income, we develop assumptions, including the amount of
future state, and federal pre-tax operating income, the reversal of temporary differences and the implementation of feasible and
prudent tax planning strategies. These assumptions require significant judgment. When the likelihood of the realization of existing
deferred tax assets changes, adjustments to the valuation allowance are charged in the period in which the determination is made,
either to income or goodwill, depending upon when that portion of the valuation allowance was originally created.
We record an estimated tax liability or
tax benefit for income and other taxes based on what we determine will likely be paid in the various tax jurisdictions in which
we operate. We use our best judgment in the determination of these amounts. However, the liabilities ultimately realized and paid
are dependent upon various matters, including resolution of tax audits, and may differ from amounts recorded. An adjustment to
the estimated liability would be recorded as a provision or benefit to income tax expense in the period in which it becomes probable
that the amount of the actual liability or benefit differs from the recorded amount.
Our future effective tax rates could be
adversely affected by changes in the valuation of our deferred tax assets or liabilities or changes in tax laws or interpretations
thereof. If and when our deferred tax assets are no longer fully reserved, we will begin to provide for taxes at the full statutory
rate. In addition, we are subject to the examination of our income tax returns by the Internal Revenue Service and other tax authorities.
We regularly assess the likelihood of adverse outcomes resulting from these examinations to determine the adequacy of our provision
for income taxes.
Share-Based Compensation
We record share-based awards exchanged
for employee service at fair value on the date of grant and expense the awards in the consolidated statements of operations over
the requisite employee service period. Share-based compensation expense includes an estimate for forfeitures and is
generally recognized over the expected term of the award on a straight-line basis. At December 31, 2017, we had one
type of share-based employee compensation: restricted stock.
Key assumptions used in the Black-Scholes
model for stock option valuations include (1) expected volatility, (2) expected term, (3) discount rate and (4) expected dividend
yield. Volumes are low and small trades can have a major impact on prices, so we based our estimates of volatility on a representative
peer group consisting of companies in the same industry, with similar market capitalizations and similar stage of development.
Additionally, we continue to use the simplified method related to employee option grants.
Earnings or Loss per Common Share
Basic earnings or loss per common share
(“EPS”) is calculated by dividing net earnings or loss by the weighted average number of common shares outstanding
for the period. Diluted EPS is calculated by dividing net earnings or loss by the weighted average number of common shares and
dilutive common stock equivalents (stock options) outstanding during the period. Diluted EPS reflects the potential dilution that
could occur if stock options and warrants to purchase common stock were exercised for shares of common stock. In periods where
losses are reported, the weighted-average number of common shares outstanding excludes common stock equivalents, because their
inclusion would be anti-dilutive.
Notes to Consolidated Financial Statements
for the Years Ended December 31, 2017 and 2016
(Amounts in thousands, except per share
amounts)
Recently Issued Accounting Standards
In May 2014, the Financial Accounting Standards
Board (“FASB”) issued ASU No. 2014-09, “Revenue from Contracts with Customers” (“ASU 2014-09”).
This update provides a five-step approach to be applied to all contracts with customers and requires expanded disclosures about
the nature, amount, timing and uncertainty of revenue (and the related cash flows) arising from customer contracts, significant
judgments and changes in judgments used in applying the revenue model and the assets recognized from costs incurred to obtain or
fulfill a contract. The effective date for this standard was deferred in July 2015 and is effective for us beginning January 1,
2018. The standard provides for different application methods during adoption. We evaluated the potential impact this new pronouncement
will have on our financial statements, and reviewed our existing contracts to identify any that may be impacted by this standard.
We are also evaluating new contracts we are negotiating to ensure compliance with this standard.
We formed a project team to implement the
new revenue recognition standard and the team has scoped, identified the relevant revenue streams and documented the procedures
and control changes required to address the impacts that ASU 2014-09 may have on our business. Our implementation efforts included
the identification of revenue streams with similar contract structures, performing a detailed review of key contracts by revenue
stream and comparing historical policies and practices to the new standard. From our analyses, we have identified two main revenue
streams from contracts with customers: fixed-price contracts and service contracts. The Company’s revenue recognition methodology
for fixed price contracts does not materially change by the adoption of the new standard (over time using cost to cost as an input
measure of performance) and for service contracts (over time as services are incurred), which principally charge on a day rate
basis and are primarily short-term in nature. Therefore, based on the assessment, the Company has determined the adoption of this
ASU will not have a material impact on its consolidated financial statements. We have adopted the new standard effective January
1, 2018 using the modified retrospective method of adoption.
In February 2016, the FASB issued ASU
No. 2016-02, “Leases (Topic 842)”. The amendments in this update require, among other things, that lessees recognize
the following for all leases (with the exception of short-term leases) at the commencement date: (1) a lease liability, which
is a lessee's obligation to make lease payments arising from a lease, measured on a discounted basis; and (2) a right-of-use asset,
which is an asset that represents the lessee's right to use, or control the use of, a specified asset for the lease term. Lessees
and lessors must apply a modified retrospective transition approach for leases existing at, or entered into after, the beginning
of the earliest comparative period presented in the financial statements. The amendments are effective for us beginning January
1, 2019. We do not anticipate the adoption of ASU 2016-02 will have a material effect on our results of operations. We are still
evaluating the full impact on our financial position, but currently expect to change the way we account for long-term leases.
Upon adoption of the new standard, we expect to reflect leased assets and related lease liabilities on the balance sheet.
In October 2016, the FASB issued ASU No.
2016-16, “Intra-Entity Transfers of Assets Other Than Inventory.” This update requires that income tax consequences
are recognized on an intra-entity transfer of an asset other than inventory when the transfer occurs. The amendments in this ASU
are effective for us on January 1, 2018. Early application is permitted. The adoption of ASU 2016-16 will not have a material effect
on our financial position or results of operations.
In February 2017, the FASB issued ASU No.
2017-05, “Other Income—Gains and Losses from the Derecognition of Nonfinancial Assets” (“ASU 2017-05”).
This update clarifies the scope of accounting for the derecognition or partial sale of nonfinancial assets to exclude all businesses
and nonprofit activities. ASU 2017-05 also provides a definition for in-substance nonfinancial assets and additional guidance on
partial sales of nonfinancial assets. We evaluated the effect of ASU No. 2017-05 on our consolidated financial statements and adopted
ASU 2017-05 in conjunction with ASU 2014-09 effective January 1, 2018. The adoption of ASU 2017-05 will not have a material impact
on our consolidated financial position or results of operations.
In May 2017, the FASB issued ASU No. 2017-09,
“Scope of Modification Accounting” (“ASU 2017-09”), which amends the scope of modification accounting for
share-based payment arrangements. This update clarifies when a change to the terms or conditions of a share-based payment award
should be accounted for as a modification. An entity should account for the effects of a modification unless the fair value, vesting
conditions and classification, as an entity instrument or a liability instrument, of the modified award are the same before and
after a change to the terms or conditions of the share-based payment award. The new standard is effective for us January 1, 2018.
We do not expect ASU 2017-09 to have a material impact on our consolidated financial position or results of operations.
Notes to Consolidated Financial Statements
for the Years Ended December 31, 2017 and 2016
(Amounts in thousands, except per share
amounts)
NOTE 2: LONG-TERM ASSET –
CAROUSEL
The long-term asset - Carousel balance
of $3,117 at December 31, 2016 consisted of a 3.5 MT portable umbilical carousel, which we fabricated and bought back from a customer
in November 2013 and were holding for sale or rental. In 2016, the Company reclassified the carousel from inventory into other
assets until a sale was finalized. The reclassification was made due to the uncertainty of when it will be sold.
As of December 31, 2017, a decision was made to reclassify the carousel into fixed assets, similar to other equipment in the Company’s
rental pool, which are depreciated whether on rent contract or not. This is due to current ongoing discussions with customers for
rental projects, rather than sales.
NOTE 3: COSTS, ESTIMATED EARNINGS
AND BILLINGS ON UNCOMPLETED CONTRACTS
Costs, estimated earnings and billings
on uncompleted contracts are summarized below:
|
|
|
|
|
|
|
|
|
December 31, 2017
|
|
|
December 31, 2016
|
|
Costs incurred on uncompleted contracts
|
|
$
|
9,564
|
|
|
$
|
8,858
|
|
Estimated earnings on uncompleted contracts
|
|
|
10,741
|
|
|
|
6,777
|
|
|
|
|
20,305
|
|
|
|
15,635
|
|
Less: Billings to date on uncompleted contracts
|
|
|
(19,992
|
)
|
|
|
(17,907
|
)
|
|
|
$
|
313
|
|
|
$
|
(2,272
|
)
|
|
|
|
|
|
|
|
|
|
Included in the accompanying consolidated balance sheets under the following captions:
|
|
|
|
|
|
|
|
|
Costs and estimated earnings in excess of billings on uncompleted contracts
|
|
$
|
925
|
|
|
$
|
1,077
|
|
Billings in excess of costs and estimated earnings on uncompleted
contracts
|
|
|
(612
|
)
|
|
|
(3,349
|
)
|
|
|
$
|
313
|
|
|
$
|
(2,272
|
)
|
The balance in costs and estimated earnings
in excess of billings on uncompleted contracts at December 31, 2017 and 2016 consisted primarily of earned but unbilled revenues
related to fixed-price projects.
The balance in billings in excess of costs
and estimated earnings on uncompleted contracts at December 31, 2017 and 2016 consisted primarily of unearned billings related
to fixed-price projects.
NOTE 4: PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consisted of the following:
|
|
December 31, 2017
|
|
|
December 31, 2016
|
|
|
Range of
Asset Lives
|
|
Buildings and improvements
|
|
$
|
285
|
|
|
$
|
5
|
|
|
|
7 - 36 years
|
|
Leasehold improvements
|
|
|
908
|
|
|
|
908
|
|
|
|
2 - 5 years
|
|
Equipment
|
|
|
18,933
|
|
|
|
16,360
|
|
|
|
2 - 30 years
|
|
Furniture, computers and office equipment
|
|
|
1,245
|
|
|
|
1,274
|
|
|
|
2 - 8 years
|
|
Construction in progress
|
|
|
2,127
|
|
|
|
586
|
|
|
|
–
|
|
Total property, plant and equipment
|
|
|
23,498
|
|
|
|
19,133
|
|
|
|
|
|
Less: Accumulated depreciation and amortization
|
|
|
(11,146
|
)
|
|
|
(11,195
|
)
|
|
|
|
|
Property, plant and equipment, net
|
|
$
|
12,352
|
|
|
$
|
7,938
|
|
|
|
|
|
Notes to Consolidated Financial Statements
for the Years Ended December 31, 2017 and 2016
(Amounts in thousands, except per share
amounts)
Depreciation expense excluded from cost
of sales in the accompanying consolidated statements of operations was $234 and $134 for the years ended December 31, 2017 and
2016, respectively. Depreciation expense included in cost of sales in the accompanying consolidated statements of operations was
$1,077 and $1,335 for the years ended December 31, 2017 and 2016, respectively.
Construction in progress represents assets
that are not ready for service or are in the construction stage. Assets begin being depreciated once they are placed in service.
NOTE 5: LONG-TERM DEBT
From 2008 through June 30, 2016, we maintained
a credit facility (the “Facility”) with Whitney Bank. In March 2016, we paid all borrowings under the Facility
with proceeds received from the sale of our Channelview location. Following the expiration of the Facility on June 30, 2016, we
no longer have any credit facilities available to us.
NOTE 6: INCOME OR LOSS PER COMMON SHARE
The following is a reconciliation of the
number of shares used in the basic and diluted net income or loss per common share calculation:
|
|
Year Ended
|
|
|
|
December 31,
|
|
|
|
2017
|
|
|
2016
|
|
Numerator:
|
|
|
|
|
|
|
Net (loss) income
|
|
$
|
(116
|
)
|
|
$
|
164
|
|
|
|
|
|
|
|
|
|
|
Denominator:
|
|
|
|
|
|
|
|
|
Weighted average number of common shares outstanding
|
|
|
14,233
|
|
|
|
15,520
|
|
Denominator for diluted income per share
|
|
|
14,233
|
|
|
|
15,520
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) per common share outstanding, basic and fully diluted
|
|
$
|
(0.01
|
)
|
|
$
|
0.01
|
|
At December 31, 2017 and 2016, there were
no outstanding stock options convertible to shares of common stock, or any other potentially dilutive securities, respectively.
NOTE 7: SHARE-BASED COMPENSATION
We have a share-based compensation plan,
the “2003 Directors, Officers and Consultants Stock Option, Stock Warrant and Stock Award Plan” (the “Plan”).
Awards of stock options and stock granted under the Plan have vesting periods of three years. Once vested, stock options may be
exercised for up to five years. Share-based compensation expense related to awards is based on the fair value at the date of grant,
and is recognized over the requisite expected service period, net of estimated forfeitures. Under the Plan, the total number of
options permitted is 15 percent of issued and outstanding common shares.
Notes to Consolidated Financial Statements
for the Years Ended December 31, 2017 and 2016
(Amounts in thousands, except per share
amounts)
Summary of Nonvested Shares of Restricted
Stock
The following table summarizes the activity
of our nonvested restricted shares for the years ended December 31, 2017 and 2016:
|
|
|
Restricted Shares
|
|
|
Weighted-Average Grant-Date Fair Value
|
|
Nonvested at December 31, 2015
|
|
|
|
864
|
|
|
$
|
0.88
|
|
Granted
|
|
|
|
30
|
|
|
|
0.91
|
|
Vested
|
|
|
|
(654
|
)
|
|
|
1.02
|
|
Nonvested at December 31, 2016
|
|
|
|
240
|
|
|
$
|
0.88
|
|
Granted
|
|
|
|
30
|
|
|
|
1.15
|
|
Vested
|
|
|
|
(20
|
)
|
|
|
1.18
|
|
Nonvested at December 31, 2017
|
|
|
|
250
|
|
|
$
|
0.50
|
|
For the years ended December 31, 2017 and
2016, we recognized a total of $134 and $344, respectively, of share-based compensation expense related to restricted stock awards,
which is included in selling, general and administrative expenses in the accompanying consolidated statements of operations. The
unamortized estimated fair value of nonvested shares of restricted stock awards was $139 at December 31, 2017. These costs are
expected to be recognized as expense over a weighted average period of 1.87 years.
Summary of Stock Options
Based on the shares of common stock
outstanding at December 31, 2017, there were approximately 2,311 options available for grant under the Plan as of that date. We
determine the fair value of stock options on the date of the grant using the Black-Scholes option pricing model. As of December
31, 2017, there were no unvested stock options.
NOTE 8: TREASURY STOCK
On March 26, 2018, our Board of Directors
authorized a repurchase program (the “Repurchase Program”) under which we can repurchase up to $1,000 of our outstanding
stock. The Repurchase Program will be funded from cash on hand and cash provided by operating activities.
The time of the purchases and amount of
stock purchased will be determined at the discretion of management subject to market conditions, business opportunities and other
appropriate factors and may include purchases through one or more broker-assisted plans and methods, including, but not limited
to, open-market purchases, privately negotiated transactions and Rule 10b5-1 trading plans. The Repurchase Program will expire
on March 31, 2019.
Notes to Consolidated Financial Statements
for the Years Ended December 31, 2017 and 2016
(Amounts in thousands, except per share
amounts)
NOTE 9: INCOME TAXES
The provision for income taxes is comprised
of the following:
|
|
Year Ended
|
|
|
|
December 31,
|
|
|
|
2017
|
|
|
2016
|
|
Federal:
|
|
|
|
|
|
|
Current
|
|
$
|
–
|
|
|
$
|
7
|
|
Deferred
|
|
|
1
|
|
|
|
(3
|
)
|
Total
|
|
$
|
1
|
|
|
$
|
4
|
|
State:
|
|
|
|
|
|
|
|
|
Current
|
|
$
|
5
|
|
|
$
|
13
|
|
Deferred
|
|
|
(1
|
)
|
|
|
3
|
|
Total
|
|
$
|
4
|
|
|
$
|
16
|
|
Total income tax expense
|
|
$
|
5
|
|
|
$
|
20
|
|
The provision for income taxes differs from the amount computed
by applying the U.S. statutory income tax rate to income (loss) before taxes for the reasons set forth below
|
|
Year Ended
December 31,
|
|
|
|
2017
|
|
|
2016
|
|
Income tax benefit (expense) at federal statutory rate
|
|
|
34.00%
|
|
|
|
(34.00)%
|
|
State taxes, net of federal expense
|
|
|
2.52%
|
|
|
|
(6.36)%
|
|
Valuation allowance
|
|
|
1662.43%
|
|
|
|
29.12%
|
|
Remeasurment of deferred taxes from 34% to 21%
|
|
|
(1,710.52)%
|
|
|
|
0.00%
|
|
Research and development (“R&D”) credits
|
|
|
2.21%
|
|
|
|
6.01%
|
|
Other permanent differences
|
|
|
(15.63)%
|
|
|
|
(4.88)%
|
|
Other, net
|
|
|
20.84%
|
|
|
|
(0.76)%
|
|
Total effective rate
|
|
|
(4.15)%
|
|
|
|
(10.87)%
|
|
Comprehensive tax reform legislation enacted
in December 2017, commonly referred to as the Tax Cuts and Jobs Acts (“2017 Tax Act”), has significantly changed U.S.
federal income tax laws. The 2017 Tax Act, among other things, reduced the corporate income tax rate from 34% to 21%, limits the
deductibility of business interest expense and net operating losses, provides additional limitations on the deductibility of executive
compensation, imposes a one-time tax on unrepatriated earnings from certain foreign subsidiaries, taxes offshore earnings at reduced
rates regardless of whether they are repatriated, and allows the immediate deduction of certain new investments instead of deductions
for depreciation expense over time. As a result of the 2017 Tax Act, the Company recorded deferred tax expense of $1.9 million
(1,710.52%) related to the remeasurement of its net deferred tax assets from 34% to 21%, which was substantially offset by a corresponding
$1.9 million (1,662.43%) reduction in its deferred tax valuation allowance. The Company does not believe that the 2017 Tax Act
will further impact its consolidated financial statements, however, its consolidated financial statements may change due to changes
in interpretation of the 2017 Tax Act and additional regulatory guidance that may be issued.
Notes to Consolidated Financial Statements
for the Years Ended December 31, 2017 and 2016
(Amounts in thousands, except per share
amounts)
Deferred income taxes reflect the net tax
effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the
amounts used for income tax purposes, as well as operating loss and tax credit carry forwards. The tax effects of the temporary
differences and carry forwards are as follows:
|
|
As of
|
|
|
|
December 31,
|
|
|
|
2017
|
|
|
2016
|
|
Deferred tax assets:
|
|
|
|
|
|
|
|
|
Net operating loss (“NOL”) carryfowards
|
|
$
|
3,255
|
|
|
$
|
5,439
|
|
R&D & other credit carryfowards
|
|
|
501
|
|
|
|
531
|
|
Share-based compensation
|
|
|
741
|
|
|
|
1,137
|
|
Intangible amortization
|
|
|
21
|
|
|
|
68
|
|
Allowance for bad debt
|
|
|
2
|
|
|
|
–
|
|
Other
|
|
|
8
|
|
|
|
43
|
|
Total deferred tax assets
|
|
$
|
4,528
|
|
|
$
|
7,218
|
|
Less: valuation allowance
|
|
|
(3,649
|
)
|
|
|
(5,499
|
)
|
Net deferred tax assets
|
|
$
|
879
|
|
|
$
|
1,719
|
|
Deferred tax liabilities:
|
|
|
|
|
|
|
|
|
Depreciation on property and equipment
|
|
$
|
(879
|
)
|
|
$
|
(1,664
|
)
|
Amortization of intangibles
|
|
|
–
|
|
|
|
(55
|
)
|
Total deferred tax liabilities
|
|
$
|
(879
|
)
|
|
$
|
(1,719
|
)
|
|
|
|
|
|
|
|
|
|
Net deferred tax position
|
|
$
|
–
|
|
|
$
|
–
|
|
We have $15,107 of federal and $1,049 state
NOL carry forwards and $501 in R&D and other credits available to offset future taxable income. These federal and state NOL’s
will expire at various dates through 2035. Management analyzed its current operating results and future projections and determined
that a full valuation allowance was needed due to our cumulative losses in recent years. We have no uncertain tax positions at
December 31, 2017. Accordingly, we do not have any accruals for penalties or interest related to our tax returns. Should an examination
or audit arise, we would evaluate the need for an accrual and record one, if necessary. Our tax returns from the tax years ended
December 31, 2011 through December 31, 2016 are open to examination by the IRS.
NOTE 10: COMMITMENTS AND CONTINGENCIES
Operating Leases
We lease certain offices, facilities, equipment
and vehicles under non-cancellable operating and capital leases expiring at various dates through 2023.
At December 31, 2017, future minimum contractual lease obligations
were as follows:
Years ending December 31
|
|
|
Operating Leases
|
|
|
2018
|
|
|
|
1,455
|
|
|
2019
|
|
|
|
1,455
|
|
|
2020
|
|
|
|
1,455
|
|
|
2021
|
|
|
|
1,395
|
|
|
2022
|
|
|
|
1,174
|
|
|
Thereafter
|
|
|
|
1,663
|
|
|
Total minimum lease payments
|
|
|
$
|
8,597
|
|
Rent expense for the years ended December
31, 2017 and 2016 was $1,445 and $1,440, respectively.
Notes to Consolidated Financial Statements
for the Years Ended December 31, 2017 and 2016
(Amounts in thousands, except per share
amounts)
Letters of Credit
Certain customers could require us to issue
standby letters of credit in the normal course of business to ensure performance under terms of contracts or as a form of product
warranty. The beneficiary of a letter of credit could demand payment from the issuing bank for the amount of the outstanding letter
of credit. We had no outstanding letters of credit at December 31, 2017 or 2016.
Employment Agreements
One of our executives is employed under
an employment agreement containing severance provisions. In the event of termination of the executive’s employment for any
reason, the executive will be entitled to receive all accrued, unpaid salary and vacation time through the date of termination
and all benefits to which the executive is entitled or vested under the terms of all employee benefit and compensation plans, agreements
and arrangements in which the executive is a participant as of the date of termination.
In addition, subject to executing a general
release in favor of the Company, the executive will be entitled to receive certain severance payments in the event his employment
is terminated by the Company “other than for cause” or by the executive with “good reason.” These severance
payments include: (i) a lump sum in cash equal to one to three times the executive’s annual base salary; (ii) a lump sum
in cash equal to one to two times the average annual bonus paid to the executive for the prior two full fiscal years preceding
the date of termination; (iii) a lump sum in cash equal to a pro rata portion of the annual bonus payable for the period in which
the date of termination occurs based on the actual performance under the Company’s annual incentive bonus arrangement, but
no less than fifty percent of executive’s annual base salary; and (iv) if the executive’s termination occurs prior
to the date that is twelve months following a change of control, then each and every share option, restricted share award and other
equity-based award that is outstanding and held by the executive shall immediately vest and become exercisable.
Litigation
From time to time we are involved in legal
proceedings arising from the normal course of business. As of the date of this report, we are not engaged in any material legal
dispute.
NOTE 11: SUBSEQUENT EVENTS
We have evaluated subsequent events through
the date the consolidated financial statements were filed with the Securities and Exchange Commission.
On March 26, 2018, our Board of Directors
authorized the repurchase of up to $1 million in shares of the Company's outstanding stock. The repurchase program will be funded
from cash on hand and cash provided by operating activities.
The time of the purchases and amount of
stock purchased will be determined at the discretion of management subject to market conditions, business opportunities and other
appropriate factors and may include purchases through one or more broker-assisted plans and methods, including, but not limited
to, open-market purchases, privately negotiated transactions and Rule 10b5-1 trading plans. The share repurchase program will expire
on March 31, 2019.