NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Organization
and Nature of Operations
Superior
Drilling Products, Inc. (the “Company”, “SDPI”, “we”, “our” or “us”)
is an innovative drilling and completion tool technology company providing cost saving solutions that drive production efficiencies
for the oil and natural gas drilling industry. Our headquarters and manufacturing operations are located in Vernal, Utah. Our
drilling solutions include the patented Drill-N-Ream® well bore conditioning tool (“Drill-N-Ream tool”) and the
patented Strider™ Drill String Oscillation System technology (“Strider technology” or “Strider”).
In addition, the Company is a manufacturer and refurbisher of PDC (polycrystalline diamond compact) drill bits for a leading oil
field services company. We operate a state-of-the-art drill tool fabrication facility, where we manufacture solutions for the
drilling industry, as well as customers’ custom products.
Our
subsidiaries include (a) Superior Drilling Solutions, LLC (previously known as Superior Drilling Products, LLC), a Utah limited
liability company (“SDS”), together with its wholly owned subsidiary Superior Design and Fabrication, LLC, a Utah
limited liability company (“SDF”), (b) Extreme Technologies, LLC, a Utah limited liability company (“ET”),
(c) Meier Properties Series, LLC, a Utah limited liability company (“MPS”), (d) Meier Leasing, LLC, a Utah limited
liability company (“ML”), and (e) Hard Rock Solutions, LLC (“HR” or “Hard Rock”).
Basis
of Presentation
The
Company’s consolidated financial statements have been prepared in accordance with accounting principles generally accepted
in the United States of America (“GAAP”). The consolidated financial statements include the accounts of Superior Drilling
Products Inc. and all of its wholly-owned subsidiaries. All significant intercompany accounts have been eliminated in consolidation.
The Company does not have investments in any unconsolidated subsidiaries.
Segment
Reporting
We
operate as a single operating segment, which reflects how we manage our business. We operate in North America and the Middle East.
See Note 14 – Geographical Operations Information.
Use
of Estimates
The
preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect
the reported amounts in the financial statements and accompanying notes. Actual results could differ from those estimates. Significant
items subject to estimates and assumptions include the carrying amount and useful lives of property and equipment and intangible
assets, impairment assessments, share-based compensation expense, and valuation allowances for accounts receivable, inventories,
and deferred tax assets.
Revenue
Recognition
We
account for revenue in accordance with Topic 606, which we adopted on January 1, 2019, using the full retrospective method. The
adoption of Topic 606 did not have a material impact on the timing or amounts of revenue recognized in our unaudited condensed
consolidated financial statements and therefore did not have a material impact on our financial position, results of operations,
equity or cash flows as of the adoption date for the year ended December 31, 2019. The Company did not record any adjustments
to opening retained earnings as of December 31, 2017 or for any periods previously presented. Furthermore, the impact of the adoption
of the new standard is immaterial to our revenue and gross profit on an ongoing basis.
Tool
sales, rentals and other related revenue
Tool
and Product Sales: Revenue is recognized upon shipment of tools or products to the customer. Shipping and handling costs related
to tool and product sales are recorded gross as a component of both the sales price and cost of the product sold.
Tool
Rental: Rental revenue is recognized upon completion of the customer’s job for which the tool was rented. While the
duration of the rents vary by job and number of runs, these rents are generally less than one month. The rental agreements are
typically based on the price per run or footage drilled and do not have any minimum rental payments or term.
Other
Related Revenue: We receive revenue from the repair of tools and recognize revenue upon delivery of the repaired tool to the
customer. We earn royalty commission revenue when our customer invoices their customer for the use of our tools.
Contract
Services
Drill
Bit Manufacturing and Refurbishment: We recognize revenue for our PDC drill bit services upon transfer of control, which we
determined to be the shipping point. Shipping and handling costs related to refurbishing services are paid directly by the customer
at the time of shipment. By contract, we can only refurbish and manufacture oil or gas drill bits for Baker Hughes, but we are
not contractually prohibited from manufacturing drill bits for the mining industry.
See
Note 3 – Revenue.
Cash
and cash equivalents
Cash
and cash equivalents consist of cash on deposit. We maintain cash deposits with financial institutions that may exceed federally
insured limits at times. We have chosen credible institutions and believe our risk of loss is negligible.
Fair
Value of Financial Instruments
The
Company’s financial instruments consist of cash and cash equivalents, receivables, payables, and bank debt. The Company
believes that the carrying values of these instruments on the accompanying consolidated balance sheets approximate their fair
values.
Accounts
Receivable and Allowance for Doubtful Accounts
Accounts
receivable are generally due within 60 days of the invoice date. No interest is charged on past-due balances. We grant credit
to our customers based upon an evaluation of each customer’s financial condition. We periodically monitor the payment history
and ongoing creditworthiness of our customers. An allowance for doubtful accounts is established at a level estimated by management
to be adequate based upon various factors including historical experience, aging status of customer accounts, payment history
and financial condition of our customers. The allowance for doubtful accounts was $0 and $9,288 as of December 31, 2020 and 2019,
respectively.
Inventories
Inventories
consist of raw materials, work-in-process and finished goods and are stated at the lower of cost, determined using the weighted-average
cost method, or net realizable value. Finished goods inventories include raw materials, direct labor and production overhead.
The Company regularly reviews inventories on hand and current market conditions to determine if the cost of finished goods inventories
exceed current market prices and impairs the cost basis of the inventory accordingly.
Assets
and Liabilities Held for Sale
The
Company classifies disposal groups as held for sale in the period in which all of the following criteria are met: (1) management,
having the authority to approve the action, commits to a plan to sell the disposal group; (2) the disposal group is available
for immediate sale in its present condition subject only to terms that are usual and customary for sales of such disposal groups;
(3) an active program to locate a buyer or buyers and other actions required to complete the plan to sell the disposal group have
been initiated; (4) the sale of the disposal group is probable, and transfer of the disposal group is expected to qualify for
recognition as a completed sale, within one year, except if events of circumstances beyond the Company’s control extend
the period of time required to sell the disposal group beyond one year; (5) the disposal group is being actively marketed for
sale at a price that is reasonable in relation to its current fair value; and (6) actions required to complete the plan indicate
that it is unlikely that significant changes to the plan will be made or that the plan will be withdrawn.
A
disposal group that is classified as held for sale is initially measured at the lower of its carrying amount or fair value less
any costs to sell. Any loss resulting from this measurement is recognized in the period in which the held for sale criteria are
met.
Subsequent
changes in the fair value of a disposal group less any costs to sell are reported as an adjustment to the carrying amount of the
disposal group, as long as the new carrying amount does not exceed the carrying amount of the asset at the time it was initially
classified as held for sale. Upon determining that a disposal group meets the criteria to be classified as held for sale, the
Company reports the assets and liabilities of the disposal group for all periods presented in the line items assets held for sale
and liabilities held for sale, respectively, in the consolidated balance sheets.
Property,
Plant and Equipment
Property,
plant and equipment is stated at cost. The cost of ordinary maintenance and repair is charged to operating expense, while replacement
of critical components and major improvements are capitalized. Depreciation or amortization of property and equipment, is calculated
using the straight-line method over the asset’s estimated useful life as follows:
Buildings
and leasehold Improvements
|
|
2-39
years
|
Machinery,
equipment and rental tools
|
|
18
months -10 years
|
Office
equipment, fixtures and software
|
|
3-7
years
|
Transportation
equipment
|
|
5
- 30 years
|
Property,
plant and equipment is reviewed for impairment on an annual basis or whenever events or changes in circumstances indicate the
carrying value of an asset or asset group may not be recoverable. Indicative events or circumstances include, but are not limited
to, matters such as a significant decline in market value or a significant change in business climate. An impairment loss is recognized
when the carrying value of an asset exceeds the estimated undiscounted future cash flows from the use of the asset and its eventual
disposition. The amount of impairment loss recognized is the excess of the asset’s carrying value over its fair value. Assets
to be disposed of are reported at the lower of the carrying value or the fair value less cost to sell. Upon sale or other disposition
of an asset, the Company recognizes a gain or loss on disposal measured as the difference between the net carrying value of the
asset and the net proceeds received.
Impairment
of Long-Lived Assets
We
review the recoverability of long-lived assets, such as property and equipment, when events or changes in circumstances occur
that indicate the carrying value of the asset or asset group may not be recoverable. The assessment of possible impairment is
based on our ability to recover the carrying value of the asset or asset group from the expected future pre-tax cash flows (undiscounted)
of the related operations. If these cash flows are less than the carrying value of such asset, an impairment loss is recognized
for the difference between estimated fair value and the carrying value. We concluded there were no indicators evident or other
circumstances present that these assets were not recoverable and accordingly, no impairment charges of long-lived assets were
recognized for 2020 and 2019.
Intangible
Assets
The
Company’s intangible assets with finite lives consist of developed technology, customer contracts and relationships, and
trade names and trademarks.
The
cost of intangible assets with finite lives is amortized using the straight-line method over the estimated period of economic
benefit, ranging from 5 to 9 years. Asset lives are adjusted whenever there is a change in the estimated period of economic benefit.
No residual value has been assigned to these intangible assets.
Intangible
assets with finite lives are tested for impairment whenever events or changes in circumstances indicate the carrying value may
not be recoverable. These conditions may include a change in the extent or manner in which the asset is being used or a change
in future operations. The Company assesses the recoverability of the carrying amount by preparing estimates of future revenue,
margins, and cash flows. If the sum of expected future cash flows (undiscounted and without interest charges) is less than the
carrying amount, an impairment loss is recognized. The impairment loss recognized is the amount by which the carrying amount exceeds
the fair value. Fair value of these assets may be determined by a variety of methodologies, including discounted cash flow models.
Leases
In
February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842), which requires assets and liabilities that arise from all
leases to be recognized on the balance sheet for lessees and expanded financial statement disclosures for both lessees and lessors.
We adopted the new standard effective January 1, 2020 and elected the modified retrospective transition method and as such, the
comparative financial information will not be restated and will continue to be reported under the lease standard in effect during
those periods. The adoption of this standard resulted in approximately $270,000 of additional assets and liabilities on our consolidated
balance sheet representing the recognition of operating lease right-of-use assets and operating lease liabilities. Right-of-use
assets represent the Company’s right to use an underlying asset for the lease term and lease liability represents the Company’s
obligation to make lease payments arising from the lease, both of which are recognized based on the present value of the future
minimum lease payments over the lease term at the commencement date. Leases with a lease term of 12 months or less at inception
are not recorded on the condensed consolidated balance sheet and are expensed on a straight-line basis over the lease term in
the condensed consolidated statement of operations. The interest rate implicit in lease contracts is typically not readily determinable.
As a result, the Company utilizes an estimate of its incremental borrowing rate to discount lease payments, which reflects the
fixed rate at which the Company believes it could borrow on a collateralized basis the amount of the lease payments in the same
currency, for a similar term, in a similar economic environment. See Note 8 – Leases.
Research
and Development
We
expense research and development costs as they are incurred. For the years ended December 31, 2020 and 2019, these expenses were
approximately $790,000 and $1,427,000, respectively, and are included in the selling, general, and administrative expenses in
the statement of operations.
Earnings
(Loss) Per Share
Basic
earnings (loss) per common share is calculated by dividing net income (loss) available to common shareholders by the weighted
average number of common shares outstanding for the period. Diluted earnings (loss) per share is calculated by dividing net income
(loss) attributable to common shareholders by the weighted average number of common shares outstanding, including potentially
dilutive common share equivalents, if the effect is dilutive. Potentially dilutive common shares equivalents include stock options
and warrants.
Income
Taxes
The
Company recognizes an asset or liability for the deferred tax consequences of all temporary differences between the tax basis
of assets or liabilities and their reported amounts in the financial statements that will result in taxable or deductible amounts
in future years when the reported amounts of the asset or liabilities are recovered or settled and for operating loss carry forwards.
These deferred tax assets and liabilities are measured using the enacted tax rates that will be in effect when the differences
are expected to reverse and the carry forwards are expected to be realized. Deferred tax assets are reviewed periodically for
recoverability and a valuation allowance is provided as necessary.
Debt
Issuance Costs
Costs
related to debt issuance are capitalized and amortized as interest expense over the term of the related debt using the straight-line
method, which approximates the effective interest method. Upon the repayment of debt, the Company accelerates the recognition
of an appropriate amount of the costs as interest expense. Debt issuance are presented as a direct reduction from the carrying
amount of the note payable. As of December 31, 2020 and 2019, the amortized debt issuance costs were $18,524 and $14,942, respectively.
Share
Based Compensation
Share
based compensation expense for share based payments, related to stock option and restricted stock awards, is recognized based
on their grant-date fair values. The Company recognizes compensation expense on a straight-line basis over the requisite service
period of the award.
Concentrations
and Credit Risk
The
Company has two significant customers that represented 80% and 92% of our revenue for the years ended December 31, 2020 and 2019,
respectively. These customers had approximately $436,000 and $2,920,000 in accounts receivable at December 31, 2020 and 2019,
respectively.
The
Company had one vendor that represented 13% of our purchases for the year ended December 31, 2020. This vendor had approximately
$61,000 in accounts payable at December 31, 2020. We had one significant vendor that represented 12% of our purchases for the
year ended December 31, 2019, and had approximately $252,000 in accounts payable at December 31, 2019.
Reclassifications
Certain
prior year amounts have been reclassified to the balance sheet to conform to the current year presentation. The reclassifications
were within accounts payable and accrued expenses and did not impact net income.
Recent
Accounting Pronouncements
There
are no recently issued accounting pronouncements that we have not yet adopted that we believe will have a material effect on our
financial statements.
NOTE
2. LIQUIDITY
The
significant decline in oil demand due to COVID-19, the instability of oil prices caused by geopolitical issues and production
levels, and the limited availability of storage capacity, have together resulted in our customers announcing significant reductions
to their capital expenditure budgets for 2020 and 2021. Demand for our products and services has been severely impacted as a result,
and management expects this to continue into 2021 and potentially beyond; however, we are currently unable to estimate the full
impact to our business, how long this significant drop in demand will last or the depth of the decline.
In
an effort to offset the reduction in revenue resulting from the weakened macroeconomic environment, we have implemented certain
cost reduction measures during 2020. These measures included, but were not limited to, the following:
|
●
|
20%
reduction of the base salary beginning in April 2020 and a 40% salary deferral beginning in October 2020 for the Company’s
Chief Executive Officer, Chief Operating Officer, and Chief Financial Officer;
|
|
|
|
|
●
|
20%
reduction in the base salaries beginning in April 2020 and a 20% deferral of base salaries beginning in October 2020 of certain
non-executive officers of the Company;
|
|
|
|
|
●
|
20%
reduction in fees to be paid beginning in April 2020 and a 40% deferral of fees beginning in October 2020 to the independent
directors on the Board for their service as directors;
|
|
|
|
|
●
|
5%
to 10% reduction in salaries beginning in April 2020 and a 10% deferral of salaries beginning in October 2020 of other members
of the management team and salaried workforce;
|
|
|
|
|
●
|
43%
reduction of the Company’s workforce; and
|
|
|
|
|
●
|
Closure
of our West Texas repair facility in July 2020.
|
During
the year, we entered into amended agreements with certain of our customers, reduced our planned capital expenditures and deferred
further investment in new technology development, including our Strider technology, for the foreseeable future. On April 14,
2020 we entered into an unsecured promissory note under the Paycheck Protection Program (the “PPP”), with a principal
amount of $891,600. The PPP was established under the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”)
and is administered by the U.S. Small Business Administration (the “SBA”). The SBA approved our Forgiveness Application
in full in December 2020. On December 7, 2020, the Company closed a sale-leaseback agreement for its headquarters and manufacturing
facilities. Under the terms of the transaction, the Company sold the property for $4.5 million and simultaneously entered into
a 15-year lease. See Note 10 – Financing Obligation.
We
believe that our borrowing capacity, cash generated from operations will be sufficient to fund our operations for the next 12
months. To enhance liquidity, our operational and financial strategies include managing our operating costs, accelerating collections
of international receivables, and reducing working capital requirements and restructuring our debt. If we are unable to do this,
we may not be able to, among other things, (i) maintain our revised general and administrative spending levels; (ii) fund certain
obligations as they become due; and (iii) respond to competitive pressures or unanticipated capital requirements. COVID-19
has also led to a significant disruption in the equity and debt capital markets, which could hinder our ability to raise new capital
or obtain financing on acceptable terms. We cannot provide any assurance that financing will be available to us in the
future on acceptable terms, if at all.
Additionally,
in July 2020, the Company filed a Form S-3 Shelf Registration that will allow the Company to offer and sell, from time to time,
up to $20,000,000 of securities.
On
November 18, 2020, the Company received notification from the NYSE American to the Company indicating that, as a result of the
Company’s stockholders’ equity of $4.7 million as of September 30, 2020, and reported losses for each of the last
five fiscal years, the Company is not in compliance with the stockholders’ equity standards for continued listing on the
NYSE American. On January 28, 2021, the Company received notice that the NYSE American had accepted the Company’s plan that
was submitted on December 18, 2020, to regain compliance with the continued listing standards of the NYSE American. The Company
has been granted a plan period through May 18, 2022 to regain compliance.
NYSE
American Regulations staff will review the Company periodically for compliance with the initiatives outlined in the plan. If the
Company is not in compliance with the continued listing standards by May 18, 2022 or if the Company does not make progress consistent
with the plan during the plan period, NYSE Regulation staff will initiate delisting proceedings as appropriate.
NOTE
3. REVENUE
Our
revenue is derived from short-term contracts. Revenue is recognized when we satisfy a performance obligation by transferring control
of the promised goods or services to our customers at a point in time, in an amount that reflects the consideration the Company
expects to be entitled to in exchange for those goods or services. We also assess our customer’s ability and intention to
pay, which is based on a variety of factors including our customer’s historical payment experience and financial condition.
Payment terms and conditions vary, although terms generally include a requirement of payment within 30 days.
Revenue
generally does not include right of return or other significant post-delivery obligations. Revenue is recognized net of any taxes
collected from customers, which are subsequently remitted to governmental authorities. We elected to treat shipping and handling
costs as a fulfillment cost instead of as a separate performance obligation. We recognize the cost for shipping and handling when
incurred as an expense in cost of sales.
Performance
Obligations
A
performance obligation is a promise in a contract to transfer a distinct good or service to the customer under Topic 606. A contract’s
transaction price is allocated to each distinct performance obligation and recognized as revenue when, or as, the performance
obligation is satisfied. The majority of our contracts with customers contain a single performance obligation to provide agreed-upon
products or services. For contracts with multiple performance obligations, we allocate revenue to each performance obligation
based on its relative standalone selling price. In accordance with Topic 606, we do not assess whether promised goods or services
are performance obligations if they are immaterial in the context of the contract with the customer.
All
of our contracts are less than one year in duration. We do not disclose the value of unsatisfied performance obligations for (i)
contracts with an original expected length of one year or less and (ii) contracts for which we recognize revenue at the amount
to which we have the right to invoice for services performed.
Disaggregation
of Revenue
Approximately
82% of our revenue is from the United States and approximately 18% is from the Middle East for the year ended December 31, 2020.
For the year ended December 31, 2019, approximately 93% of our revenue was from the United States and approximately 7% was from
the Middle East.
Revenue
disaggregated by revenue source are as follows:
|
|
December
31,
|
|
|
|
2020
|
|
|
2019
|
|
|
|
|
|
|
|
|
Tool Revenue:
|
|
|
|
|
|
|
|
|
Tool
and product sales
|
|
$
|
971,520
|
|
|
$
|
3,930,619
|
|
Tool rental
|
|
|
2,058,329
|
|
|
|
1,379,072
|
|
Other
related revenue
|
|
|
4,020,687
|
|
|
|
6,806,235
|
|
Total Tool Revenue
|
|
|
7,050,536
|
|
|
|
12,115,926
|
|
|
|
|
|
|
|
|
|
|
Contract Services
|
|
|
3,420,262
|
|
|
|
6,881,088
|
|
|
|
|
|
|
|
|
|
|
Total Revenue
|
|
$
|
10,470,798
|
|
|
$
|
18,997,014
|
|
Contract
Costs
We
do not incur any material costs of obtaining contracts.
Contract
Balances
Under
our sales contracts, we invoice customers after our performance obligations have been satisfied, at which point payment is unconditional.
Accordingly, our contracts do not give rise to contract assets or liabilities under Topic 606.
NOTE
4. INVENTORIES
Inventories
were comprised of the following:
|
|
December
31,
2020
|
|
|
December
31,
2019
|
|
Raw material
|
|
$
|
733,734
|
|
|
$
|
800,662
|
|
Work in progress
|
|
|
50,631
|
|
|
|
75,235
|
|
Finished goods
|
|
|
235,643
|
|
|
|
48,135
|
|
|
|
$
|
1,020,008
|
|
|
$
|
924,032
|
|
The
Company wrote off $4,800 and $79,200 related to slow moving inventory in 2020 and 2019, respectively.
NOTE
5. PROPERTY, PLANT AND EQUIPMENT
Property,
plant and equipment are comprised of the following:
|
|
December
31,
2020
|
|
|
December
31,
2019
|
|
Land
|
|
$
|
880,416
|
|
|
$
|
880,416
|
|
Buildings
|
|
|
4,764,441
|
|
|
|
4,758,832
|
|
Leasehold improvements
|
|
|
755,039
|
|
|
|
755,039
|
|
Machinery and equipment
|
|
|
11,298,642
|
|
|
|
10,343,486
|
|
Office equipment, fixtures and software
|
|
|
628,358
|
|
|
|
615,357
|
|
Transportation
assets
|
|
|
265,760
|
|
|
|
350,871
|
|
|
|
|
18,592,656
|
|
|
|
17,704,001
|
|
Accumulated depreciation
|
|
|
(11,057,558
|
)
|
|
|
(9,658,309
|
)
|
|
|
$
|
7,535,098
|
|
|
$
|
8,045,692
|
|
In
2019, the Company decided to sell the Company airplane and related hangar. Accordingly, these assets were reported as assets held
for sale on our balance sheet as of December 31, 2019 at their carrying value, which is lower than the expected fair value less
costs to sell. In February 2020, the Company sold the airplane for a gain of approximately $142,000. The Company recorded a $30,000
impairment related to the hangar in March 2020. In February 2021, the Company sold the hangar for a gain of $4,000 which will
be recorded in the first quarter of 2021.
Depreciation
expense related to property, plant and equipment for the year ended December 31, 2020 and 2019 was $1,649,729 and $1,728,403 respectively.
NOTE
6. INTANGIBLE ASSETS
Intangible
assets are comprised of the following:
|
|
December
31,
2020
|
|
|
December
31,
2019
|
|
Developed technology
|
|
$
|
7,000,000
|
|
|
$
|
7,000,000
|
|
Customer contracts
|
|
|
6,400,000
|
|
|
|
6,400,000
|
|
Trademarks
|
|
|
1,500,000
|
|
|
|
1,500,000
|
|
|
|
|
14,900,000
|
|
|
|
14,900,000
|
|
Accumulated amortization
|
|
|
(14,080,556
|
)
|
|
|
(12,913,889
|
)
|
|
|
$
|
819,444
|
|
|
$
|
1,986,111
|
|
Amortization
expense related to intangible assets for the years ended December 31, 2020 and 2019 was $1,166,667 and $1,700,000, respectively.
These
intangible assets will be amortized over their expected useful lives using the straight-line method, which is a weighted-average
amortization period of 6.3 years. As of December 31, 2020, the Company will recognize the following amortization expense for the
respective periods ending December 31 noted below:
2021
|
|
|
583,333
|
|
2022
|
|
|
166,667
|
|
2023
|
|
|
69,444
|
|
Total
|
|
$
|
819,444
|
|
During
the years ended December 31, 2020 and 2019, there were no impairments recognized related to other intangible assets.
NOTE
7. RELATED PARTY NOTE RECEIVABLE
In
January 2014, we entered into a Note Purchase and Sale Agreement under which we agreed to purchase a loan made to Tronco in order
to take over the legal position as Tronco’ s senior secured lender. Tronco is an entity owned by Troy and Annette Meier.
Effective August 2017, the Company fully reserved the related party note receivable of $6,979,043, which reduced the related
party note receivable balance to $0. The Company continues to hold the 8,267,860 shares of the Company’s common stock as
collateral. The Company will record a recovery of the loan upon receiving repayment of the note or interest in other income. On
July 7, 2020, the Company entered into an amended and restated loan agreement and note with Tronco changing the payment terms
on the note. As amended, the interest rate on the note is fixed at 2% per annum.
In
December 2019, the Board of Directors approved grants of restricted stock units to Troy and Annette Meier with an approximate
value of $587,500. The Board and the Meiers decided in lieu of making such awards, the dollar value of such awards would be used
to pay $327,238 on the Tronco Note and the remaining $260,262 was remitted for taxes on the Meiers behalf. Also in December 2019,
the Board of Directors approved a bonus to Troy and Annette Meier of $630,000, of which $350,911 was used to pay down the Tronco
Note and the remaining $279,089 was remitted for taxes on the Meiers behalf.
A
bonus was accrued but not paid to the Meiers during 2020. The Meiers did not make a Tronco interest payment in 2020 The Meiers
are to pay interest only on December 31, 2021, with a balloon payment of all unpaid interest and principal due upon maturity on
December 31, 2022.
NOTE
8. LEASES
The
Company determines whether a contract is a lease, or contains a lease, at inception of the contract and whether that lease meets
the classification criteria of a finance or operating lease. The Company discounts lease payments based on an estimate of its
incremental borrowing rate as the Company’s leases do not provide a readily determinable implicit rate.
The
Company leases certain facilities in Texas, Utah and Dubai under long-term operating leases with lease terms of one year to two
years. Effective January 1, 2020, the Company adopted the provision of ASC 842 Leases. See Note 10 – Financing Obligation
regarding the sale-leaseback of our Utah facilities.
The
table below presents the lease related assets and liabilities recorded on the Company’s consolidated balance sheet as of
December 31, 2020:
|
|
Classification
on Balance Sheet
|
|
December
31, 2020
|
|
Assets
|
|
|
|
|
|
|
Operating
lease assets
|
|
Operating
lease right of use assets
|
|
$
|
99,831
|
|
Total lease assets
|
|
|
|
$
|
99,831
|
|
|
|
|
|
|
|
|
Liabilities
|
|
|
|
|
|
|
Current liabilities
|
|
|
|
|
|
|
Operating lease
liability
|
|
Current operating lease liability
|
|
$
|
79,313
|
|
Noncurrrent liabilities
|
|
|
|
|
|
|
Operating
lease liability
|
|
Long-term operating
lease liability
|
|
|
20,518
|
|
Total lease liability
|
|
|
|
$
|
99,831
|
|
The
lease expense and the cash paid under operating leases for the year ended December 31, 2020 was $168,917. At December 31,
2020, the weighted average remaining lease terms were 0.78 years and the weighted average discount rate was 7.25%.
The
following is the aggregate future lease payments for operating leases as of December 31, 2020:
2021
|
|
$
|
81,990
|
|
2022
|
|
|
15,252
|
|
2023
|
|
|
8,052
|
|
Total undiscounted lease payments
|
|
|
105,294
|
|
Less: effects
of discounting
|
|
|
(5,463
|
)
|
Present value of lease payments
|
|
$
|
99,831
|
|
NOTE
9. LONG-TERM DEBT
Long-term
debt is comprised of the following:
|
|
December
31,
2020
|
|
|
December
31,
2019
|
|
Real estate loans
|
|
$
|
-
|
|
|
$
|
2,938,191
|
|
Hard Rock Note
|
|
|
1,500,000
|
|
|
|
3,000,000
|
|
Credit Agreement
|
|
|
825,366
|
|
|
|
1,134,626
|
|
Machinery loans
|
|
|
466,448
|
|
|
|
580,185
|
|
Transportation
loans
|
|
|
56,572
|
|
|
|
298,404
|
|
|
|
|
2,848,386
|
|
|
|
7,951,406
|
|
Current portion
of long-term debt
|
|
|
(1,397,337
|
)
|
|
|
(4,102,542
|
)
|
|
|
$
|
1,451,049
|
|
|
$
|
3,848,864
|
|
Real
Estate Loans
In
February 2019, the Company entered into a commercial bank loan for $3,129,861 related to our Vernal, Utah Campus. The loan required
monthly payments of approximately $43,000, including principal and interest at 7.25%, and was secured by the land and buildings
at our Vernal, Utah Campus. The Company repaid the outstanding mortgage on the property in December 2020 as part of the Sale-Leaseback
Transaction. See Note 10 – Financing Obligation.
Hard
Rock Note
In
2014, the Company purchased all of the interests of Hard Rock Solutions, LLC (“Hard Rock”). Consideration consisted
of $12.5 million paid in cash at closing and a $12.5 million seller’s note (the “Hard Rock Note”). The Hard
Rock Note and subsequent amendments are secured by all of the patents, patents pending, other patent rights, and trademarks transferred
to Hard Rock.
The
Hard Rock Note has a remaining balance of $1,500,000 as of December 31, 2020, accrues interest at 8.00% per annum and is fully
payable on October 5, 2022. Under the amended terms of the Hard Rock Note, we are required to make the following remaining payments:
accrued interest on January 5, April 5, July 5 and October 5 in 2021 and 2022; plus $750,000 in principal on July 5, 2021 with
the remaining balance of principal and accrued interest on the Hard Rock Note due on October 5, 2022. In January 2021, the Company
made an interest payment of $30,247.
Credit
Agreement
In
February 2019, the Company entered into a Loan and Security Agreement (the “Credit Agreement”) with Austin Financial
Services, Inc. (“AFS”). The Credit Agreement provides a $4,500,000 credit facility, which includes a $1,000,000 term
loan (the “Term Loan”) and a $3,500,000 revolver (the “Revolving Loan”). As of December 31, 2020, we had
$666,664 outstanding on the Term Loan and $198,838 outstanding on the Revolving Loan. Amounts outstanding under the Revolving
Loan at any time may not exceed the sum of: (a) up to 85% of accounts receivable or such lesser percentage as AFS in its sole
discretion may deem appropriate if it determines that there has been a material adverse effect (less a dilution reserve as determined
by AFS in its sole good faith discretion), plus (b) the lesser of (i) up to 50% of inventory or such lesser percentage as AFS
in its sole discretion may deem appropriate if it determines that there has been a material adverse effect, or (ii) the inventory
sublimit, minus (c) the borrowing base reserve as may be determined from time to time by AFS. Amounts outstanding on the Revolving
Loan as of December 31, 2020, may not exceed $314,517, which is based on a calculation applying 85% of accounts receivable and
50% of inventory. A collateral management fee is payable monthly on the used portion of the Revolving Loan and Term Loan. Even
if our borrowings are less than $1,000,000, we still pay interest as if we had borrowed $1,000,000. At December 31, 2020, we had
approximately $8,700 of accrued interest.
The
Credit Agreement contains various restrictive covenants that, among other things, limit or restrict the ability of the borrowers
to incur additional indebtedness; incur additional liens; make dividends and other restricted payments; make investments; engage
in mergers, acquisitions and dispositions; make optional prepayments of other indebtedness; engage in transactions with affiliates;
and enter into restrictive agreements. The Credit Agreement does not include any financial covenants. If an event of default occurs,
the lenders are entitled to accelerate the advances made thereunder and exercise rights against the collateral. Borrowing under
the Revolving Loan is classified as current debt as a result of the required lockbox arrangement and the subjective acceleration
clause. At December 31, 2020, we were in compliance with the covenants in the Credit Agreement.
The
interest rate for the Term Loan and the Revolving Loan is prime plus 2%. At December 31, 2020, the interest rate for the Term
Loan was 8.85%, which includes a 3.6% management fee rate. The effective interest rate for the Revolving Loan for the year
ending December 31, 2020 was 11.35%. The obligations of the Company under the Credit Agreement are secured by a security interest
in substantially all of the tangible and intangible assets of the borrowers, other than any assets owned by the Company that constitute
real property (and fixtures affixed to such real property), certain excluded equipment, intellectual property, or aircraft. The
Credit Agreement matures on February 20, 2023, subject to early termination pursuant to the terms of the agreement or extension
as may be agreed by the parties.
Equipment
Loans
The
Company purchased equipment in November 2019 and entered into a note payable with a financing company for $478,000. The note has
an interest rate of 8.06% and will mature in November 2024. The Company pays monthly payments on this note of approximately $10,000.
Transportation
Loans
Vehicles
Our
loans for Company vehicles and other transportation are with various financing parties we have engaged with in connection with
the acquisition of the vehicles. As of December 31, 2020, the loans bear interest ranging from 0% - 6.99% with maturity dates
ranging from June 2021 through June 2024 and are collateralized by the vehicles. Our cumulative monthly payment under these loans
as of December 31, 2020 was approximately $2,677, including principal and interest.
Future
annual maturities of total debt are as follows (1):
Year
|
|
|
|
2021
|
|
$
|
1,217,022
|
|
2022
|
|
|
1,213,802
|
|
2023
|
|
|
140,964
|
|
2024
|
|
|
115,207
|
|
2025 - Thereafter
|
|
|
2,689
|
|
Total
debt
|
|
$
|
2,689,684
|
|
(1)
|
Excludes
discounts for debt issuance costs and maturities related to our Revolving Loan.
|
NOTE
10. FINANCING OBLIGATION
On
December 7, 2020, the Company entered into a sale agreement (the “Sale Agreement”). Pursuant to the terms of the Sale
Agreement, the Company sold land and property related to the Company’s headquarters and manufacturing facility in Vernal,
Utah (the “Property”) for a purchase price of $4,448,500. Concurrent with the sale of the Property, the Company entered
into a fifteen-year lease agreement (the “Lease Agreement”), whereby the Company will lease back the Property at an
annual rate of $311,395 with payments made monthly, subject to annual rent increases of 1.5%. Under the Lease Agreement, the Company
has an option to extend the term of the lease and to repurchase the Property. Due to this repurchase option, the Company was unable
to account for the transfer as a sale under ASC Topic 842, Leases, and as such, the transaction is accounted for as a financing
transaction.
The
Company received cash of $1,622,106, retired real estate debt of $2,638,773 and recorded a financing obligation
liability of $4,260,879 related to the transaction. There was no gain recorded since sale accounting was precluded. The
financing obligation has an implied interest rate of 6.0%. At the conclusion of the fifteen-year lease period, the financing obligation
residual will be $2,160,242, which will correspond to the carrying value of the property. The Company paid $25,950 of principal
in 2020 that was prorated for the month of December.
The
financing obligation is summarized below:
|
|
December
31,
2020
|
|
Finance obligations for
sale-leaseback transactions
|
|
$
|
4,239,952
|
|
Current principal
portion of finance obligation
|
|
|
(61,691
|
)
|
Non-current portion
of finance obligation
|
|
$
|
4,178,261
|
|
The
following is the aggregate future lease payments that include principal and interest for the finance obligation as of December
31, 2020:
2021
|
|
$
|
311,784
|
|
2022
|
|
|
316,461
|
|
2023
|
|
|
321,208
|
|
2024
|
|
|
326,026
|
|
2025
|
|
|
330,916
|
|
Thereafter
|
|
|
3,562,389
|
|
Total undiscounted lease payments
|
|
|
5,168,784
|
|
Residual
value of the property
|
|
|
2,160,242
|
|
Less: effects
of discounting
|
|
|
(3,089,074
|
)
|
Present value
of lease payments
|
|
$
|
4,239,952
|
|
NOTE
11. COMMITMENTS AND CONTINGENCIES
We
are subject to litigation that arises from time to time in the ordinary course of our business activities. In February 2019, the
Company filed a patent infringement lawsuit in the United States District Court for the Western District of Louisiana Lafayette
Division asserting Stabil Drill Specialties, LLC (“Stabil Drill”) infringed on our patent that covers the Company’s
well bore conditioning tool, the Drill-N-Ream. The lawsuit was subsequently moved from Louisiana to the United States District
Court for the Southern District of Texas, Houston Division. The court ordered the Company to serve discovery requests upon Stabil
Drill and gave Stabil Drill deadlines to respond and produce documents and permit product inspection. Stabil Drill filed a motion
for summary judgement and the Company responded and cross-moved for patent infringement. The parties are awaiting the judge’s
decision. On October 1, 2020, Superior Energy Services, Stabil Drill’s parent company, filed for bankruptcy, which may result
in a delay in the resolution of this litigation. Superior Energy Services announced on February 2, 2021 that it has successfully
completed its financial restructuring and has emerged from Chapter 11 bankruptcy. Additionally, on May 20, 2019, Extreme Technologies,
LLC sued Short Bit & Tool Co. and Lot William Short, Jr. (“Defendants”) in the Northern District of Texas - Dallas
Division. Extreme sued for patent infringement based on the same patents discussed in the Stabil Drill litigation. On December
23, 2019, the Court stayed Extreme’s patent infringement claim against Defendants pending resolution of the Southern District
of Texas Stabil Drill case. We are not currently involved in any other litigation which management believes could have a material
effect on our financial position or results of operations.
NOTE
12. INCOME TAXES
Components
of income tax benefit are as follows:
|
|
For
the Year
Ended
December 31, 2020
|
|
|
For
the Year
Ended
December 31, 2019
|
|
Current income taxes:
|
|
|
|
|
|
|
|
|
Federal
|
|
$
|
-
|
|
|
$
|
-
|
|
State
|
|
|
10,481
|
|
|
|
18,550
|
|
International
|
|
|
104,515
|
|
|
|
-
|
|
Current provision
for income taxes
|
|
|
114,996
|
|
|
|
18,550
|
|
Deferred provision (benefit) for income taxes:
|
|
|
|
|
|
|
|
|
Federal
|
|
|
-
|
|
|
|
-
|
|
State
|
|
|
-
|
|
|
|
-
|
|
Deferred provision
(benefit) for income taxes
|
|
|
-
|
|
|
|
-
|
|
Provision for
income taxes
|
|
$
|
114,996
|
|
|
$
|
18,550
|
|
The
non-current deferred tax assets and liabilities consist of the following:
Deferred tax assets:
|
|
|
|
|
|
|
|
|
263A adjustment
|
|
$
|
12,133
|
|
|
$
|
11,103
|
|
Accrued expenses
|
|
|
183,282
|
|
|
|
-
|
|
Stock compensation
|
|
|
122,191
|
|
|
|
98,460
|
|
Stock option
|
|
|
70,201
|
|
|
|
69,463
|
|
Amortization of intangibles
|
|
|
2,839,598
|
|
|
|
2,952,425
|
|
Net operating loss
|
|
|
2,898,078
|
|
|
|
2,448,415
|
|
Allowances
|
|
|
1,686,952
|
|
|
|
1,706,320
|
|
Sale-leaseback
– lease liability
|
|
|
1,008,663
|
|
|
|
-
|
|
Others
|
|
|
20,102
|
|
|
|
28,077
|
|
Total non-current deferred tax assets
|
|
|
8,841,200
|
|
|
|
7,314,263
|
|
|
|
|
|
|
|
|
|
|
Deferred tax liabilities:
|
|
|
|
|
|
|
|
|
Prepaid expenses
|
|
|
(15,458
|
)
|
|
|
(27,152
|
)
|
Depreciation on
sale-leaseback fixed assets
|
|
|
(967,055)
|
|
|
|
|
|
Depreciation on fixed
assets
|
|
|
(251,190
|
)
|
|
|
(582,949
|
)
|
Total non-current deferred tax liabilities
|
|
|
(1,233,703
|
)
|
|
|
(610,101
|
)
|
|
|
|
|
|
|
|
|
|
Net non-current deferred tax assets/liabilities
|
|
|
7,607,497
|
|
|
|
6,704,162
|
|
Less: Valuation Allowance
|
|
|
(7,607,497
|
)
|
|
|
(6,704,162
|
)
|
Total deferred tax liabilities
|
|
$
|
-
|
|
|
$
|
-
|
|
Reconciliation
of the tax rate to the U.S. federal statutory tax rate which relate to the year ended December 31, 2020 and 2019
is as follows:
|
|
For
the Year Ended
December 31, 2020
|
|
|
For
the Year Ended
December 31, 2019
|
|
|
|
|
|
|
|
|
Tax at federal statutory
rate
|
|
$
|
(696,124
|
)
|
|
$
|
(193,803
|
)
|
State income taxes
|
|
|
8,280
|
|
|
|
14,654
|
|
Permanent differences
|
|
|
(219,880
|
)
|
|
|
66,087
|
|
Change in valuation allowance
|
|
|
903,335
|
|
|
|
(5,477
|
)
|
Other adjustment/tax expense true-up
|
|
|
79,651
|
|
|
|
-
|
|
Other - State rate effect
|
|
|
(92,760
|
)
|
|
|
(28,536
|
)
|
Change in status
|
|
|
66,835
|
|
|
|
128,002
|
|
Other
|
|
|
65,659
|
|
|
|
37,623
|
|
Provision for
income taxes
|
|
$
|
114,996
|
|
|
$
|
18,550
|
|
NOTE
13. SHARE-BASED COMPENSATION
In
2014, the Company’s Board of Directors approved that the Directors stock compensation would be included in the Employee
Stock Incentive Plan (“Stock Plan”) that reserves 1,724,128 shares of common stock for issuance. Equity and equity-based
compensation plans are intended to make available incentives that will assist us in attracting, retaining, and motivating employees,
officers, consultants, and directors by allowing them to acquire an ownership interest in our business, and, as a result, encouraging
them to contribute to our success. We may provide these incentives through the grant of stock options, stock appreciation rights,
restricted stock, restricted stock units, performance shares and units, and other cash-based or stock-based awards. As a result,
we expect to incur non-cash, stock-based compensation expenses in future periods. The Board of Directors has frozen the 2014 Incentive
Plan, such that no future grants of awards will be made and the 2014 Incentive Plan shall only remain in effect with respect to
awards under that Plan outstanding as of June 15, 2015 until they expire according to their terms.
In
2015, our stockholders approved the Superior Drilling Company, Inc. 2015 Long Term Incentive Plan (the “2015 Incentive Plan”).
The purpose of the 2015 Incentive Plan is to advance the interests of the Company and its stockholders by providing an incentive
to attract, retain and reward persons performing services for the Company and its affiliates and by motivating such persons to
contribute to the growth and profitability of the Company and our affiliates. In 2020, the Company’s board of directors
approved an additional 2,543,448 shares of the Company’s common stock to be added to the 2015 Incentive Plan. Subject to
adjustment as provided in the 2015 Incentive Plan, the maximum aggregate number of shares of the Company’s common stock
that may be issued with respect to awards under the 2015 Incentive Plan is 5,576,326. As of December 31, 2020, there were
1,578,709 shares outstanding with respect to awards granted under the Company’s 2015 Incentive Plan.
Restricted
stock units
On
August 7, 2020, the Board of Directors granted 1,544,719 restricted stock units from the 2015 Incentive Plan based on the
average price of the Company’s common stock on the date of the grant. These restricted units will vest over a three - year
period. Executive management received 863,282 restricted stock units and employees received the remaining 681,437.
On
July 30, 2019, the Board of Directors granted 359,375 restricted stock units from the 2015 Incentive Plan to executive management
and directors based on the average price of the Company’s common stock on the date of the grant. These restricted units
will vest over a three - year period.
Compensation
expense recognized for grants of restricted stock vesting under the 2015 Incentive Plan was approximately $545,000 and $577,000
for the years ending December 31, 2020 and 2019, respectively. The Company recognized compensation expense and recorded it as
share-based compensation in the consolidated statement of operations.
Total
unrecognized compensation expense related to unvested restricted stock units expected to be recognized over the remaining weighted
vesting period of 2.50 years equaled approximately $1,276,516 at December 31, 2020. These shares vest over three years.
The
following table summarizes RSU activity for the years ended December 31, 2020 and 2019:
|
|
2020
|
|
|
2019
|
|
|
|
Number
of Restricted Stock Units
|
|
|
Weighted
-
Average Grant
Date Fair Value
|
|
|
Number
of Restricted Stock Units
|
|
|
Weighted
-
Average Grant
Date Fair Value
|
|
Unvested RSU’s at
beginning of period
|
|
|
706,394
|
|
|
$
|
1.24
|
|
|
|
747,048
|
|
|
$
|
1.37
|
|
Granted
|
|
|
1,544,719
|
|
|
$
|
0.59
|
|
|
|
359,375
|
|
|
|
0.96
|
|
Forfeited
|
|
|
(110,000
|
)
|
|
|
0.59
|
|
|
|
-
|
|
|
|
-
|
|
Vested
|
|
|
(344,216
|
)
|
|
|
1.29
|
|
|
|
(400,029
|
)
|
|
|
1.25
|
|
Unvested RSU’s
at end of period
|
|
|
1,796,897
|
|
|
$
|
0.71
|
|
|
|
706,394
|
|
|
$
|
1.24
|
|
Stock
Options
On
December 11, 2019, the Board of Directors granted 75,000 stock options from the 2015 Incentive Plan to officers and employees
based on the Company’s common stock on the date of grant, which was $0.84. These options vest 33% on the grant date, 33%
on the first anniversary of the grant date, and 34% on the second anniversary of the grant date.
Compensation
expense recognized for option grants vesting under the 2015 Incentive Plan was approximately $6,000 for the year ending December
31, 2019. The Company recognized compensation expense and recorded it as share-based compensation in the consolidated condensed
statement of operations.
The
following table summarizes stock options outstanding and changes during the years ended December 31, 2020 and 2019:
|
|
2020
|
|
|
2019
|
|
|
|
Number
of Stock Options
|
|
|
Weighted
- Average Exercise Price
|
|
|
Number
of Stock Options
|
|
|
Weighted
- Average Exercise Price
|
|
Stock options outstanding
at beginning of period
|
|
|
588,133
|
|
|
$
|
1.50
|
|
|
|
531,968
|
|
|
$
|
1.56
|
|
Granted
|
|
|
-
|
|
|
|
-
|
|
|
|
75,000
|
|
|
|
0.84
|
|
Exercised
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Expired
|
|
|
(51,971
|
)
|
|
|
1.40
|
|
|
|
(9,329
|
)
|
|
|
1.62
|
|
Canceled
or forfeited
|
|
|
(37,885
|
)
|
|
|
1.19
|
|
|
|
(9,506
|
)
|
|
|
1.50
|
|
Stock options
outstanding at end of period
|
|
|
498,277
|
|
|
$
|
1.53
|
|
|
|
588,133
|
|
|
$
|
1.50
|
|
Stock options
exercisable at end of period
|
|
|
-
|
|
|
$
|
-
|
|
|
|
-
|
|
|
$
|
-
|
|
The
fair value of stock options granted to employees and directors in 2019 was estimated at the grant date using the Black-Scholes
option pricing model using the following assumptions:
Expected volatility
|
|
|
59.50
|
%
|
Discount rate
|
|
|
1.61
|
%
|
Expected life (years)
|
|
|
2
|
|
Dividend yield
|
|
|
NA
|
|
Option
pricing models require the input of highly subjective assumptions, including the expected price volatility. Expected price volatility
is based on the historical volatility of our common stock. Changes in the subjective input assumptions can materially affect the
fair value estimate. The expected term of the options granted is derived from the output of the option pricing model and represents
the period of time that the options granted are expected to be outstanding. The discount rate for the periods within the contractual
term of the option is based on the U.S. Treasury yield curve in effect at the date of grant.
NOTE
14. GEOGRAPHICAL OPERATIONS INFORMATION
The
following summarizes revenue by geographic location:
|
|
For
the Year
Ended
December
31, 2020
|
|
|
For
the Year
Ended
December
31, 2019
|
|
|
|
|
|
|
|
|
Revenue:
|
|
|
|
|
|
|
|
|
North
America
|
|
$
|
8,590,933
|
|
|
$
|
17,682,560
|
|
International
|
|
$
|
1,879,865
|
|
|
$
|
1,314,454
|
|
|
|
$
|
10,470,798
|
|
|
$
|
18,997,014
|
|
The
following summarizes net property, plant and equipment by geographic location:
|
|
December
31, 2020
|
|
|
December
31, 2019
|
|
Property, plant and equipment, net:
|
|
|
|
|
|
|
|
|
North
America
|
|
$
|
6,008,431
|
|
|
$
|
7,160,646
|
|
International
|
|
|
1,526,667
|
|
|
|
885,046
|
|
|
|
$
|
7,535,098
|
|
|
$
|
8,045,692
|
|