For
the Nine Months Ended September 30, 2020
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated
|
|
|
|
|
|
|
|
|
|
|
|
|
Additional
|
|
|
|
|
|
Other
|
|
|
|
|
|
|
Common
Stock
|
|
|
Paid-in
|
|
|
Retained
|
|
|
Comprehensive
|
|
|
|
|
|
|
Shares
|
|
|
Amount
|
|
|
Capital
|
|
|
Earnings
|
|
|
Loss
|
|
|
Total
|
|
BALANCE AT DECEMBER 31, 2019
|
|
|
9,252,749
|
|
|
$
|
462,637
|
|
|
$
|
42,977,914
|
|
|
$
|
4,649,395
|
|
|
$
|
(697,664
|
)
|
|
$
|
47,392,282
|
|
Net loss
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
(168,523
|
)
|
|
|
—
|
|
|
|
(168,523
|
)
|
Issuance of common stock under
Employee Stock Purchase Plan
|
|
|
12,968
|
|
|
|
648
|
|
|
|
66,246
|
|
|
|
—
|
|
|
|
—
|
|
|
|
66,894
|
|
Issuance of common stock to Employee
Stock Ownership Plan
|
|
|
66,059
|
|
|
|
3,303
|
|
|
|
404,281
|
|
|
|
—
|
|
|
|
—
|
|
|
|
407,584
|
|
Issuance of common stock under
Executive Stock Plan
|
|
|
64,352
|
|
|
|
3,218
|
|
|
|
20,720
|
|
|
|
—
|
|
|
|
—
|
|
|
|
23,938
|
|
Share based compensation
|
|
|
—
|
|
|
|
—
|
|
|
|
319,777
|
|
|
|
—
|
|
|
|
—
|
|
|
|
319,777
|
|
Other share retirements
|
|
|
(82,964
|
)
|
|
|
(4,148
|
)
|
|
|
(387,265
|
)
|
|
|
37,192
|
|
|
|
—
|
|
|
|
(354,221
|
)
|
Shareholder dividends ($0.04 per share)
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
(380,041
|
)
|
|
|
—
|
|
|
|
(380,041
|
)
|
Other comprehensive loss
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
(65,659
|
)
|
|
|
(65,659
|
)
|
BALANCE AT SEPTEMBER 30, 2020
|
|
|
9,313,164
|
|
|
$
|
465,658
|
|
|
$
|
43,401,673
|
|
|
$
|
4,138,023
|
|
|
$
|
(763,323
|
)
|
|
$
|
47,242,031
|
|
For
the Three Months Ended September 30, 2020
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated
|
|
|
|
|
|
|
|
|
|
|
|
|
Additional
|
|
|
|
|
|
Other
|
|
|
|
|
|
|
Common
Stock
|
|
|
Paid-in
|
|
|
Retained
|
|
|
Comprehensive
|
|
|
|
|
|
|
Shares
|
|
|
Amount
|
|
|
Capital
|
|
|
Earnings
|
|
|
Loss
|
|
|
Total
|
|
BALANCE AT JUNE 30, 2020
|
|
|
9,351,486
|
|
|
$
|
467,573
|
|
|
$
|
43,495,046
|
|
|
$
|
3,830,132
|
|
|
$
|
(828,572
|
)
|
|
$
|
46,964,179
|
|
Net income
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
262,365
|
|
|
|
—
|
|
|
|
262,365
|
|
Issuance of common stock under
Employee Stock Purchase Plan
|
|
|
4,899
|
|
|
|
245
|
|
|
|
24,593
|
|
|
|
—
|
|
|
|
—
|
|
|
|
24,838
|
|
Issuance of common stock under
Executive Stock Plan
|
|
|
15,768
|
|
|
|
789
|
|
|
|
15,540
|
|
|
|
—
|
|
|
|
—
|
|
|
|
16,329
|
|
Share based compensation
|
|
|
—
|
|
|
|
—
|
|
|
|
143,150
|
|
|
|
—
|
|
|
|
—
|
|
|
|
143,150
|
|
Other share retirements
|
|
|
(58,989
|
)
|
|
|
(2,949
|
)
|
|
|
(276,656
|
)
|
|
|
44,309
|
|
|
|
—
|
|
|
|
(235,296
|
)
|
Shareholder dividends ($0.00 per share)
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
1,217
|
|
|
|
—
|
|
|
|
1,217
|
|
Other comprehensive income
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
65,249
|
|
|
|
65,249
|
|
BALANCE AT SEPTEMBER 30, 2020
|
|
|
9,313,164
|
|
|
$
|
465,658
|
|
|
$
|
43,401,673
|
|
|
$
|
4,138,023
|
|
|
$
|
(763,323
|
)
|
|
$
|
47,242,031
|
|
The
accompanying notes are an integral part of the condensed consolidated financial statements.
|
For
the Nine Months Ended September 30, 2019
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated
|
|
|
|
|
|
|
|
|
|
|
|
|
Additional
|
|
|
|
|
|
Other
|
|
|
|
|
|
|
Common
Stock
|
|
|
Paid-in
|
|
|
Retained
|
|
|
Comprehensive
|
|
|
|
|
|
|
Shares
|
|
|
Amount
|
|
|
Capital
|
|
|
Earnings
|
|
|
Loss
|
|
|
Total
|
|
BALANCE AT DECEMBER 31, 2018
|
|
|
9,158,438
|
|
|
$
|
457,922
|
|
|
$
|
42,680,499
|
|
|
$
|
(734,001
|
)
|
|
$
|
(751,293
|
)
|
|
$
|
41,653,127
|
|
Net income
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
4,751,150
|
|
|
|
—
|
|
|
|
4,751,150
|
|
Issuance of common stock under
Employee Stock Purchase Plan
|
|
|
29,686
|
|
|
|
1,484
|
|
|
|
71,818
|
|
|
|
—
|
|
|
|
—
|
|
|
|
73,302
|
|
Issuance of common stock to Employee
Stock Ownership Plan
|
|
|
132,826
|
|
|
|
6,641
|
|
|
|
262,995
|
|
|
|
—
|
|
|
|
—
|
|
|
|
269,636
|
|
Issuance of common stock under
Executive Stock Plan
|
|
|
27,075
|
|
|
|
1,354
|
|
|
|
80,100
|
|
|
|
—
|
|
|
|
—
|
|
|
|
81,454
|
|
Share based compensation
|
|
|
—
|
|
|
|
—
|
|
|
|
276,236
|
|
|
|
—
|
|
|
|
—
|
|
|
|
276,236
|
|
Other share retirements
|
|
|
(39,205
|
)
|
|
|
(1,960
|
)
|
|
|
(182,623
|
)
|
|
|
(11,659
|
)
|
|
|
—
|
|
|
|
(196,242
|
)
|
Shareholder dividends ($0.06 per share)
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
(569,645
|
)
|
|
|
—
|
|
|
|
(569,645
|
)
|
Other comprehensive loss
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
(82,607
|
)
|
|
|
(82,607
|
)
|
BALANCE AT SEPTEMBER 30, 2019
|
|
|
9,308,820
|
|
|
$
|
465,441
|
|
|
$
|
43,189,025
|
|
|
$
|
3,435,845
|
|
|
$
|
(833,900
|
)
|
|
$
|
46,256,411
|
|
For
the Three Months Ended September 30, 2019
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated
|
|
|
|
|
|
|
|
|
|
|
|
|
Additional
|
|
|
|
|
|
Other
|
|
|
|
|
|
|
Common
Stock
|
|
|
Paid-in
|
|
|
Retained
|
|
|
Comprehensive
|
|
|
|
|
|
|
Shares
|
|
|
Amount
|
|
|
Capital
|
|
|
Earnings
|
|
|
Loss
|
|
|
Total
|
|
BALANCE AT JUNE 30, 2019
|
|
|
9,316,576
|
|
|
$
|
465,829
|
|
|
$
|
43,176,179
|
|
|
$
|
1,901,373
|
|
|
$
|
(769,938
|
)
|
|
$
|
44,773,443
|
|
Net income
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
1,737,859
|
|
|
|
—
|
|
|
|
1,737,859
|
|
Issuance of common stock under
Employee Stock Purchase Plan
|
|
|
8,209
|
|
|
|
410
|
|
|
|
24,298
|
|
|
|
—
|
|
|
|
—
|
|
|
|
24,708
|
|
Issuance of common stock under
Executive Stock Plan
|
|
|
22,500
|
|
|
|
1,125
|
|
|
|
80,100
|
|
|
|
—
|
|
|
|
—
|
|
|
|
81,225
|
|
Share based compensation
|
|
|
—
|
|
|
|
—
|
|
|
|
87,649
|
|
|
|
—
|
|
|
|
—
|
|
|
|
87,649
|
|
Other share retirements
|
|
|
(38,465
|
)
|
|
|
(1,923
|
)
|
|
|
(179,201
|
)
|
|
|
(13,153
|
)
|
|
|
—
|
|
|
|
(194,277
|
)
|
Shareholder dividends ($0.02 per share)
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
(190,234
|
)
|
|
|
—
|
|
|
|
(190,234
|
)
|
Other comprehensive loss
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
(63,962
|
)
|
|
|
(63,962
|
)
|
BALANCE AT SEPTEMBER 30, 2019
|
|
|
9,308,820
|
|
|
$
|
465,441
|
|
|
$
|
43,189,025
|
|
|
$
|
3,435,845
|
|
|
$
|
(833,900
|
)
|
|
$
|
46,256,411
|
|
The
accompanying notes are an integral part of the condensed consolidated financial statements.
|
COMMUNICATIONS
SYSTEMS, INC. AND SUBSIDIARIES
|
CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS
|
(Unaudited)
|
|
|
Nine
Months Ended September 30
|
|
|
|
2020
|
|
|
2019
|
|
CASH FLOWS FROM OPERATING ACTIVITIES:
|
|
|
|
|
|
|
|
|
Net (loss) income
|
|
$
|
(168,523
|
)
|
|
$
|
4,751,150
|
|
Net income from discontinued operations, net of tax
|
|
|
1,453,289
|
|
|
|
5,706,338
|
|
Net loss from continuing operations
|
|
|
(1,621,812
|
)
|
|
|
(955,188
|
)
|
Adjustments to reconcile net income (loss) to net
cash (used in) provided by operating activities:
|
|
|
|
|
|
|
|
|
Depreciation and amortization
|
|
|
740,531
|
|
|
|
806,169
|
|
Share based compensation
|
|
|
319,777
|
|
|
|
276,236
|
|
Deferred taxes
|
|
|
9,534
|
|
|
|
—
|
|
(Gain) loss on sale of assets
|
|
|
(303,899
|
)
|
|
|
20,152
|
|
Changes in assets and liabilities:
|
|
|
|
|
|
|
|
|
Trade accounts receivable
|
|
|
54,701
|
|
|
|
(402,333
|
)
|
Inventories
|
|
|
(1,230,228
|
)
|
|
|
2,258,386
|
|
Prepaid income taxes
|
|
|
(15,587
|
)
|
|
|
65,772
|
|
Other assets, net
|
|
|
(21,031
|
)
|
|
|
(43,385
|
)
|
Accounts payable
|
|
|
(655,111
|
)
|
|
|
(421,309
|
)
|
Accrued compensation and benefits
|
|
|
(663,272
|
)
|
|
|
404,422
|
|
Other accrued liabilities
|
|
|
(666,979
|
)
|
|
|
158,112
|
|
Income taxes payable
|
|
|
—
|
|
|
|
(28,267
|
)
|
Net cash (used in) provided by operating activities - continuing operations
|
|
|
(4,053,376
|
)
|
|
|
2,138,767
|
|
Net cash (used in) provided by operating activities - discontinued operations
|
|
|
(1,526,458
|
)
|
|
|
3,669,947
|
|
Net cash (used in) provided by operating activities
|
|
|
(5,579,834
|
)
|
|
|
5,808,714
|
|
CASH FLOWS FROM INVESTING ACTIVITIES:
|
|
|
|
|
|
|
|
|
Capital expenditures
|
|
|
(182,842
|
)
|
|
|
(326,291
|
)
|
Acquisition of business, net of cash acquired
|
|
|
(3,975,894
|
)
|
|
|
—
|
|
Purchases of investments
|
|
|
(18,415,534
|
)
|
|
|
(8,593,711
|
)
|
Proceeds from the sale of property, plant and equipment
|
|
|
420,000
|
|
|
|
—
|
|
Proceeds from the sale of investments
|
|
|
15,277,710
|
|
|
|
3,090,437
|
|
Net cash used in investing activities - continuing operations
|
|
|
(6,876,560
|
)
|
|
|
(5,829,565
|
)
|
Net cash provided by investing activities - discontinued operations
|
|
|
8,059,110
|
|
|
|
4,903,856
|
|
Net cash provided by (used in) investing activities
|
|
|
1,182,550
|
|
|
|
(925,709
|
)
|
CASH FLOWS FROM FINANCING ACTIVITIES:
|
|
|
|
|
|
|
|
|
Cash dividends paid
|
|
|
(563,766
|
)
|
|
|
(556,966
|
)
|
Proceeds from issuance of common stock, net of shares withheld
|
|
|
90,832
|
|
|
|
(41,486
|
)
|
Purchase of common stock
|
|
|
(354,221
|
)
|
|
|
—
|
|
Net cash used in financing activities
|
|
|
(827,155
|
)
|
|
|
(598,452
|
)
|
EFFECT OF FOREIGN EXCHANGE RATE CHANGES ON CASH
|
|
|
(7,725
|
)
|
|
|
(41,789
|
)
|
|
|
|
|
|
|
|
|
|
NET (DECREASE) INCREASE IN CASH, CASH EQUIVALENTS AND RESTRICTED CASH
|
|
|
(5,232,164
|
)
|
|
|
4,242,764
|
|
|
|
|
|
|
|
|
|
|
CASH, CASH EQUIVALENTS, AND RESTRICTED CASH AT BEGINNING OF PERIOD
|
|
|
14,607,510
|
|
|
|
11,056,426
|
|
CASH, CASH EQUIVALENTS, AND RESTRICTED CASH AT END OF PERIOD
|
|
$
|
9,375,346
|
|
|
$
|
15,299,190
|
|
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
|
|
|
|
|
|
|
|
|
Income taxes paid (refunded)
|
|
$
|
10,102
|
|
|
$
|
(73,151
|
)
|
Interest paid
|
|
|
25,387
|
|
|
|
28,508
|
|
Dividends declared not paid
|
|
|
16,637
|
|
|
|
197,220
|
|
Capital expenditures in accounts payable
|
|
|
—
|
|
|
|
—
|
|
Operating right of use assets obtained in exchange for lease obligations
|
|
|
208,650
|
|
|
|
449,995
|
|
The
accompanying notes are an integral part of the condensed consolidated financial statements.
|
COMMUNICATIONS
SYSTEMS, INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE
1 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Description
of Business
Communications
Systems, Inc. (herein collectively referred to as “CSI,” “our,” “we” or the “Company”)
is a Minnesota corporation organized in 1969 that operates directly and through its subsidiaries located in the United States
(U.S.) and the United Kingdom (U.K.). CSI is principally engaged in operations through its subsidiaries Transition Networks, Inc.
(“Transition Networks” or “Transition”), U.K.-based Net2Edge Limited (“Net2Edge”), JDL Technologies,
Incorporated (“JDL Technologies” or “JDL”), and Ecessa Corporation (“Ecessa”). During the
second quarter of 2020, following the May 2020 acquisition of Ecessa and the consolidation of operations within the Transition
Networks and Net2Edge divisions, the Company realigned its business operations. Following this realignment, the Company now classifies
its business into two segments: (1) the Electronics & Software segment (consisting of Transition Networks and Net2Edge) which
(i) manufactures and sells solutions that provide actionable intelligence, power and connectivity at the edge of networks through
Power over Ethernet (“PoE”) products, software and services as well as traditional products such as media converters,
network adapters and other connectivity products and (ii) designs, develops, and sells edge network access products, TDM (time-division
multiplexing) over IP and other circuit emulation solutions, along with specialized cloud-based software solutions, primarily
within the telecommunications market; and (2) the Services and Support segment (consisting of JDL and Ecessa), which (i) provides
technology solutions including virtualization, managed services, wired and wireless network design and implementation, and hybrid
cloud infrastructure and deployment and (ii) designs, develops, and sells SD-WAN (software-designed wide-area network) solutions.
Non-allocated general and administrative expenses are separately
accounted for as “Other” in the Company’s segment reporting. Intersegment revenues are eliminated upon consolidation.
Financial
Statement Presentation
The
condensed consolidated balance sheets and condensed consolidated statement of changes in stockholders’ equity as of September
30, 2020 and the related condensed consolidated statements of income (loss) and comprehensive income (loss), and the condensed
consolidated statements of cash flows for the periods ended September 30, 2020 and 2019 have been prepared by Company management.
In the opinion of management, all adjustments (which include only normal recurring adjustments, except where noted) necessary
to present fairly the financial position, results of operations, and cash flows at September 30, 2020 and 2019 and for the periods
then ended have been made.
Certain
information and footnote disclosures normally included in consolidated financial statements prepared in accordance with generally
accepted accounting principles in the United States of America have been condensed or omitted. We recommend these condensed consolidated
financial statements be read in conjunction with the financial statements and notes thereto included in the Company’s December
31, 2019 Annual Report to Shareholders on Form 10-K (“2019
Form 10-K”). The results of operations for the period ended September 30, 2020 are not necessarily indicative of operating
results for the entire year.
The
presentation of financial statements in conformity with generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities, and disclosure of contingent assets and liabilities
at the balance sheet date, and the reported amounts of revenues and expenses during the reporting period. The estimates and assumptions
used in the accompanying condensed consolidated financial statements are based upon management’s evaluation of the relevant
facts and circumstances as of the time of the financial statements. Actual results could differ from those estimates.
Except
to the extent updated or described below, the significant accounting policies set forth in Note 1 to the consolidated financial
statements in the 2019 Form 10-K, appropriately represent, in all material respects, the current status of accounting policies,
and are incorporated herein by reference.
Accumulated
Other Comprehensive Loss
The
components of accumulated other comprehensive loss, net of tax, are as follows:
|
|
Foreign Currency
Translation
|
|
|
Unrealized gain
(loss) on
securities
|
|
|
Accumulated
Other
Comprehensive
Loss
|
|
December 31, 2019
|
|
$
|
(709,000
|
)
|
|
$
|
11,000
|
|
|
$
|
(698,000
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net current period change
|
|
|
(60,000
|
)
|
|
|
(5,000
|
)
|
|
|
(65,000
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2020
|
|
$
|
(769,000
|
)
|
|
$
|
6,000
|
|
|
$
|
(763,000
|
)
|
NOTE
2 – REVENUE RECOGNITION
Electronics
& Software
The
Company has determined that the revenue recognition for its Electronics & Software segment occurs upon delivery of the Company’s
connectivity infrastructure and data transmission products. To determine when revenue should be recognized, it is important to
determine when the transfer of control has occurred. The Company has determined that control transfers for these products upon
shipment or delivery to the customer, in accordance with the agreed upon shipping terms. As such, the timing of revenue recognition
occurs at a specific point in time.
Services
& Support
The
Company has determined that the following performance obligations identified in its Services & Support segment are transferred
over time: managed services and professional services (time and materials (“T&M”) and fixed price) as well as
services under maintenance and service contracts. The managed services performance obligation is a bundled solution consisting
of a series of distinct services that are substantially the same and that have the same pattern of transfer to the customer and
are therefore recognized evenly over the term of the contract. T&M professional services arrangements are recognized over
time with an input method based on hours expended towards satisfying the performance obligation. Fixed price professional service
arrangements under a relatively longer-term service are also recognized over time with an input method based on hours expended.
Maintenance and service contracts are recognized evenly over the life of the contract.
The
Company has also identified the following performance obligations within its Services & Support segment that are recognized
at a point in time which include resale of third-party hardware and software, installation, arranging for another party to transfer
services to the customer, and certain professional services. The resale of third-party hardware and software is recognized at
a point in time, when the goods are shipped or delivered to the customer’s location, in accordance with the shipping terms.
Installation services are recognized at a point in time when the services are completed. The service the Company provides to arrange
for another party to transfer services to the customer is satisfied at a point in time after the Company has transferred control
when the service is first available to the customer by the third-party vendor. The Company reports revenue from these third-party
services on a net basis in its financial statements. Depending on the nature of the service, certain professional services transfer
control at a point in time. The Company evaluates these circumstances on a case by case basis to determine if revenue should be
recognized over time or at a point in time.
Disaggregation
of revenue
Revenues
are recognized when control of the promised goods or services is transferred to our customers, in an amount that best reflects
the consideration we expect to receive in exchange for those goods or services. In accordance with ASC 606-10-50-5, the following
tables present how we disaggregate our revenues, which is different for each segment. During the second quarter of 2020, following
the May 2020 acquisition of Ecessa and the consolidation of operations within the Transition Networks and Net2Edge divisions,
the Company realigned its business operations. Following this realignment, the Company now classifies its businesses into two
segments, Electronics & Software and Services & Support. To conform to the presentation, the Company has reclassified
the 2019 information within its financial statements in this Form 10-Q.
For
the Electronics & Software segment, we analyze revenue by region and product group, which is as follows for the three and
nine months ended September 30, 2020 and 2019:
|
|
Electronics &
Software Sales by Region
|
|
|
|
Three Months Ended
September 30
|
|
|
Nine Months Ended
September 30
|
|
|
|
2020
|
|
|
2019
|
|
|
2020
|
|
|
2019
|
|
North America
|
|
$
|
7,672,000
|
|
|
$
|
11,479,000
|
|
|
$
|
22,019,000
|
|
|
$
|
26,448,000
|
|
International
|
|
|
1,083,000
|
|
|
|
1,556,000
|
|
|
|
3,560,000
|
|
|
|
5,814,000
|
|
|
|
$
|
8,755,000
|
|
|
$
|
13,035,000
|
|
|
$
|
25,579,000
|
|
|
$
|
32,262,000
|
|
|
|
Electronics &
Software Sales by Product Group
|
|
|
|
Three Months Ended
September 30
|
|
|
Nine Months Ended
September 30
|
|
|
|
2020
|
|
|
2019
|
|
|
2020
|
|
|
2019
|
|
Intelligent edge solutions
|
|
$
|
2,990,000
|
|
|
$
|
5,791,000
|
|
|
$
|
9,368,000
|
|
|
$
|
10,846,000
|
|
Traditional products
|
|
|
5,765,000
|
|
|
|
7,244,000
|
|
|
|
16,211,000
|
|
|
|
21,416,000
|
|
|
|
$
|
8,755,000
|
|
|
$
|
13,035,000
|
|
|
$
|
25,579,000
|
|
|
$
|
32,262,000
|
|
For
the Services & Support segment, we analyze revenue by customer group and type, which is as follows for the three and nine
months ended September 30, 2020 and 2019:
|
|
Services &
Support Revenue by Customer Group
|
|
|
|
Three Months Ended
September 30
|
|
|
Nine Months Ended
September 30
|
|
|
|
2020
|
|
|
2019
|
|
|
2020
|
|
|
2019
|
|
Education
|
|
$
|
2,312,000
|
|
|
$
|
63,000
|
|
|
$
|
3,031,000
|
|
|
$
|
1,831,000
|
|
Healthcare
|
|
|
244,000
|
|
|
|
175,000
|
|
|
|
674,000
|
|
|
|
551,000
|
|
Financial and other commercial clients
|
|
|
799,000
|
|
|
|
353,000
|
|
|
|
1,616,000
|
|
|
|
902,000
|
|
CSI IT operations
|
|
|
175,000
|
|
|
|
192,000
|
|
|
|
561,000
|
|
|
|
658,000
|
|
|
|
$
|
3,530,000
|
|
|
$
|
783,000
|
|
|
$
|
5,882,000
|
|
|
$
|
3,942,000
|
|
|
|
Services &
Support Revenue by Type
|
|
|
|
Three Months Ended
September 30
|
|
|
Nine Months Ended
September 30
|
|
|
|
2020
|
|
|
2019
|
|
|
2020
|
|
|
2019
|
|
Project & product revenue
|
|
$
|
2,611,000
|
|
|
$
|
130,000
|
|
|
$
|
3,498,000
|
|
|
$
|
2,124,000
|
|
Services & support revenue
|
|
|
919,000
|
|
|
|
653,000
|
|
|
|
2,384,000
|
|
|
|
1,818,000
|
|
|
|
$
|
3,530,000
|
|
|
$
|
783,000
|
|
|
$
|
5,882,000
|
|
|
$
|
3,942,000
|
|
NOTE
3 – DISCONTINUED OPERATIONS
On
March 11, 2020, the Company sold the remainder of its Suttle business lines, including the SoHo, MediaMAX, and SpeedStar brands
and inventory as well as working capital, certain capital equipment, intellectual property, and customer relationships to Oldcastle
Infrastructure, Inc. (“Oldcastle”) for $8,000,000, with a working capital adjustment 90 days after close. Oldcastle
will operate the majority of the acquired Suttle business through its wholly-owned subsidiary, Primex Technologies, Inc. The Company
received proceeds of $8,243,000 and recorded a gain on the sale of $2,057,000 in the first nine months of 2020.
Concurrent
with the closing of the transaction, the Company and Oldcastle entered into a Transition Services Agreement (“TSA”)
under which Suttle agreed to continue to manufacture products for Oldcastle for up to six months, to ensure seamless supply and
quality assurance to the existing customer base. As of September 30, 2020, the services under the TSA were complete and the plant
closed and was readied for sale. Concurrently with the closing of the transaction and the TSA, the Company and Oldcastle also
entered into a lease agreement under which Oldcastle agreed to lease two buildings in Hector, Minnesota, where Suttle had conducted
operations. Base rents under the lease agreement range from $6,970 to $7,180 per month. On October 29, 2020, the Company conducted
an on-line auction for the remaining Suttle machinery and equipment assets in Hector and the preliminary net sales price totaled
$700,000. The associated assets and liabilities related to this sale were classified as held for sale at December 31, 2019. The
presentation of discontinued operations has been retrospectively applied to all prior periods presented.
The
assets and liabilities of the discontinued operations classified as held for sale are as follows:
|
|
|
|
|
|
|
|
|
September
30, 2020
|
|
|
December
31, 2019
|
|
|
|
|
|
|
|
|
Trade
accounts receivable
|
|
$
|
—
|
|
|
$
|
2,235,000
|
|
Inventories
|
|
|
—
|
|
|
|
3,009,000
|
|
Other
current assets
|
|
|
—
|
|
|
|
93,000
|
|
Total
current assets
|
|
$
|
—
|
|
|
$
|
5,337,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Property,
plant, and equipment
|
|
$
|
446,000
|
|
|
$
|
883,000
|
|
Total
noncurrent assets
|
|
$
|
446,000
|
|
|
$
|
883,000
|
|
|
|
|
|
|
|
|
|
|
Total
assets held for sale
|
|
$
|
446,000
|
|
|
$
|
6,220,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accounts payable
|
|
$
|
—
|
|
|
$
|
1,111,000
|
|
Other
accrued liabilities
|
|
|
—
|
|
|
|
82,000
|
|
Total
liabilities held for sale
|
|
$
|
—
|
|
|
$
|
1,193,000
|
|
The
financial results of the discontinued operations are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three
Months Ended September 30
|
|
|
Nine
Months Ended September 30
|
|
|
|
2020
|
|
|
2019
|
|
|
2020
|
|
|
2019
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sales
|
|
$
|
—
|
|
|
$
|
4,601,000
|
|
|
$
|
3,024,000
|
|
|
$
|
14,804,000
|
|
Cost of sales
|
|
|
99,000
|
|
|
|
3,148,000
|
|
|
|
2,149,000
|
|
|
|
10,083,000
|
|
Selling, general and
administrative expenses
|
|
|
22,000
|
|
|
|
596,000
|
|
|
|
522,000
|
|
|
|
1,997,000
|
|
Restructuring expenses
|
|
|
194,000
|
|
|
|
—
|
|
|
|
958,000
|
|
|
|
—
|
|
Gain on sale of assets
|
|
|
(19,000
|
)
|
|
|
(4,000
|
)
|
|
|
(2,058,000
|
)
|
|
|
(2,989,000
|
)
|
Other
expense
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Operating (loss) income
before income taxes
|
|
|
(296,000
|
)
|
|
|
861,000
|
|
|
|
1,453,000
|
|
|
|
5,713,000
|
|
Income
tax expense (benefit)
|
|
|
(5,000
|
)
|
|
|
10,000
|
|
|
|
—
|
|
|
|
7,000
|
|
(Loss)
income from discontinued operations
|
|
$
|
(291,000
|
)
|
|
$
|
851,000
|
|
|
$
|
1,453,000
|
|
|
$
|
5,706,000
|
|
During
the nine months ended September 30, 2020, the Company recorded $958,000 in restructuring expense. This consisted of severance
and related benefits costs due to the sale of the remainder of Suttle’s business lines and the closure of the plant now
that the TSA is completed. We expect total restructuring costs over 2020 and 2021 to be $1,100,000, including any remaining shut
down costs. The Company paid $396,000 in restructuring charges during the first nine months of 2020 and had $562,000 in restructuring
accruals recorded in accrued compensation and benefits at September 30, 2020 that are expected to be paid during 2020 and 2021.
NOTE
4 – CASH EQUIVALENTS AND INVESTMENTS
The
following tables show the Company’s cash equivalents and available –for-sale securities’ amortized cost, gross
unrealized gains, gross unrealized losses and fair value by significant investment category recorded as cash and cash equivalents
or short- and long-term investments as of September 30, 2020 and December 31, 2019:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September
30, 2020
|
|
|
|
Amortized
Cost
|
|
|
Gross
Unrealized
Gains
|
|
|
Gross
Unrealized
Losses
|
|
|
Fair
Value
|
|
|
Cash
Equivalents
|
|
|
Short-Term
Investments
|
|
|
Long-Term
Investments
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash equivalents:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Money
Market funds
|
|
$
|
7,189,000
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
7,189,000
|
|
|
$
|
7,189,000
|
|
|
$
|
—
|
|
|
$
|
—
|
|
Subtotal
|
|
|
7,189,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
7,189,000
|
|
|
|
7,189,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investments:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial
Paper
|
|
|
3,898,000
|
|
|
|
2,000
|
|
|
|
—
|
|
|
|
3,900,000
|
|
|
|
—
|
|
|
|
3,900,000
|
|
|
|
—
|
|
Corporate
Notes/Bonds
|
|
|
7,687,000
|
|
|
|
—
|
|
|
|
(9,000
|
)
|
|
|
7,678,000
|
|
|
|
—
|
|
|
|
1,365,000
|
|
|
|
6,313,000
|
|
Convertible
Debt
|
|
|
355,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
355,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
355,000
|
|
Subtotal
|
|
|
11,940,000
|
|
|
|
2,000
|
|
|
|
(9,000
|
)
|
|
|
11,933,000
|
|
|
|
—
|
|
|
|
5,265,000
|
|
|
|
6,668,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
19,129,000
|
|
|
$
|
2,000
|
|
|
$
|
(9,000
|
)
|
|
$
|
19,122,000
|
|
|
$
|
7,189,000
|
|
|
$
|
5,265,000
|
|
|
$
|
6,668,000
|
|
December
31, 2019
|
|
|
|
Amortized
Cost
|
|
|
Gross
Unrealized
Gains
|
|
|
Gross
Unrealized
Losses
|
|
|
Fair
Value
|
|
|
Cash
Equivalents
|
|
|
Short-Term
Investments
|
|
|
Long-Term
Investments
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash equivalents:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Money
Market funds
|
|
$
|
8,761,000
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
8,761,000
|
|
|
$
|
8,761,000
|
|
|
$
|
—
|
|
|
$
|
—
|
|
Subtotal
|
|
|
8,761,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
8,761,000
|
|
|
|
8,761,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investments:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial
Paper
|
|
|
8,695,000
|
|
|
|
—
|
|
|
|
(1,000
|
)
|
|
|
8,694,000
|
|
|
|
—
|
|
|
|
8,694,000
|
|
|
|
—
|
|
Corporate
Notes/Bonds
|
|
|
756,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
756,000
|
|
|
|
—
|
|
|
|
756,000
|
|
|
|
—
|
|
Convertible
Debt
|
|
|
250,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
250,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
250,000
|
|
Subtotal
|
|
|
9,701,000
|
|
|
|
—
|
|
|
|
(1,000
|
)
|
|
|
9,700,000
|
|
|
|
—
|
|
|
|
9,450,000
|
|
|
|
250,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
18,462,000
|
|
|
$
|
—
|
|
|
$
|
(1,000
|
)
|
|
$
|
18,461,000
|
|
|
$
|
8,761,000
|
|
|
$
|
9,450,000
|
|
|
$
|
250,000
|
|
The
following table summarizes the estimated fair value of our investments, designated as available-for-sale and classified by the
contractual maturity date of the securities as of September 30, 2020:
|
|
|
|
|
|
|
|
|
Amortized
Cost
|
|
|
Estimated Market Value
|
|
|
|
|
|
|
|
|
Due within
one year
|
|
$
|
5,264,000
|
|
|
$
|
5,265,000
|
|
Due
after one year through five years
|
|
|
6,676,000
|
|
|
|
6,668,000
|
|
|
|
$
|
11,940,000
|
|
|
$
|
11,933,000
|
|
The Company did not recognize any gross realized gains or losses during either of the three or nine month periods ending September
30, 2020 and 2019, respectively. If the Company had realized gains or losses, they would be included within investment and other
income in the accompanying condensed consolidated statement of income (loss) and comprehensive income (loss).
In
April 2020, the Company made an $899,000 investment in the common stock of Quortus Ltd., a UK-based company that provides virtual
core network software for Private LTE solutions for critical and secure communications. This investment is important for the Company’s
Electronics & Software segment because this segment has been partnering with Quortus to integrate the Quortus Private LTE
core in existing and new products for that segment’s federal business, network extensions, and private networks for enterprises. The
Company’s investment represents less than 10% of the outstanding equity of Quortus Ltd. The Company uses the cost method
to account for investments in common stock of entities such as Quortus if the Company does not have the ability to exercise significant
influence over the operating and financial matters of the entity. The Company also uses the cost method to account for its investments
that are not in the form of common stock or in-substance common stock in entities if the Company does not have the ability to
exercise significant influence over the entity’s operating and financial matters.
NOTE
5 - STOCK-BASED COMPENSATION
Employee
Stock Purchase Plan
Under
the Company’s Employee Stock Purchase Plan (“ESPP”), employees are able to acquire shares of common stock at
85% of the price at the end of each current quarterly plan term. The most recent term ended September 30, 2020. The ESPP is considered
compensatory under current Internal Revenue Service rules. At September 30, 2020, after giving effect to the shares issued as
of that date, 76,154 shares remain available for future issuance under the ESPP.
2011
Executive Incentive Compensation Plan
On
March 28, 2011 the Board adopted and on May 19, 2011 the Company’s shareholders approved the Company’s 2011 Executive
Incentive Compensation Plan (“2011 Incentive Plan”). The 2011 Incentive Plan authorizes incentive awards to officers,
key employees and non-employee directors in the form of options (incentive and non-qualified), stock appreciation rights, restricted
stock, restricted stock units, performance stock units (“deferred stock”), performance cash units, and other awards
in stock, cash, or a combination of stock and cash. The 2011 Incentive Plan, as amended, allows the issuance of up to 2,500,000
shares of common stock.
At
September 30, 2020, 429,432 shares have been issued under the 2011 Incentive Plan, 1,509,623 shares are subject to currently outstanding
options, deferred stock awards, and unvested restricted stock units, and 560,945 shares are eligible for grant under future awards.
Changes
in Stock Options Outstanding
The
following table summarizes changes in the number of outstanding stock options under the 2011 Incentive Plan over the period December
31, 2019 to September 30, 2020:
|
|
Options
|
|
|
Weighted
average
exercise price
per share
|
|
|
Weighted
average
remaining
contractual term
in years
|
|
Outstanding
– December 31, 2019
|
|
|
1,130,472
|
|
|
$
|
7.28
|
|
|
|
3.48
|
|
Awarded
|
|
|
159,301
|
|
|
|
5.22
|
|
|
|
|
|
Exercised
|
|
|
(8,000
|
)
|
|
|
2.64
|
|
|
|
|
|
Forfeited
|
|
|
(46,369
|
)
|
|
|
11.11
|
|
|
|
|
|
Outstanding
– September 30, 2020
|
|
|
1,235,404
|
|
|
|
6.90
|
|
|
|
3.33
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercisable
at September 30, 2020
|
|
|
961,317
|
|
|
$
|
7.58
|
|
|
|
2.65
|
|
Expected
to vest September 30, 2020
|
|
|
1,235,404
|
|
|
|
6.90
|
|
|
|
3.33
|
|
The
aggregate intrinsic value of all options (the amount by which the market price of the stock on the last day of the period exceeded
the market price of the stock on the date of grant) outstanding at September 30, 2020 was $193,000. The intrinsic value of all
options exercised during the nine months ended September 30, 2020 was $18,000. Net cash proceeds from the exercise of all stock
options were $0 in each of the nine-month periods ended September 30, 2020 and 2019.
Changes
in Deferred Stock Outstanding
The
following table summarizes the changes in the number of deferred stock shares under the 2011 Incentive Plan over the period December
31, 2019 to September 30, 2020:
|
|
Shares
|
|
|
Weighted
Average
Grant Date
Fair Value
|
|
Outstanding – December 31, 2019
|
|
|
321,227
|
|
|
$
|
3.37
|
|
Granted
|
|
|
89,131
|
|
|
|
5.39
|
|
Vested
|
|
|
(56,352
|
)
|
|
|
2.64
|
|
Forfeited
|
|
|
(79,787
|
)
|
|
|
4.24
|
|
Outstanding – September 30, 2020
|
|
|
274,219
|
|
|
|
3.92
|
|
Compensation
Expense
Share-based
compensation expense recognized for the nine-months ended September 30, 2020 was $320,000 before income taxes and $253,000 after
income taxes. Share-based compensation expense recognized for the nine-months ended September 30, 2019 was $276,000 before income
taxes and $218,000 after income taxes. Unrecognized compensation expense for the Company’s plans was $662,000 at September
30, 2020 and is expected to be recognized over a weighted-average period of 2.6 years. Share-based compensation expense is recorded
as a part of selling, general and administrative expenses.
NOTE
6 - INVENTORIES
Inventories
summarized below are priced at the lower of first-in, first-out cost or net realizable value:
|
|
September 30
|
|
|
December 31
|
|
|
|
2020
|
|
|
2019
|
|
Finished goods
|
|
$
|
8,958,000
|
|
|
$
|
6,728,000
|
|
Raw and processed materials
|
|
|
874,000
|
|
|
|
1,803,000
|
|
|
|
$
|
9,832,000
|
|
|
$
|
8,531,000
|
|
NOTE
7 – ACQUISITION
On
May 14, 2020, in a reverse triangular merger, the Company completed the acquisition of 100% of Ecessa Corporation (“Ecessa”),
based in Plymouth, Minnesota. The purchase price was $4,642,000, with cash acquired totaling $666,000. The purchase price includes
initial consideration of $4,666,000 and $ (24,000) in working capital adjustments.
The
estimated assets and liabilities of Ecessa are recorded in the condensed consolidated balance sheet within the Services &
Support segment at September 30, 2020. The purchase price allocation was based on estimates of the fair value of assets acquired
and liabilities assumed, and included total assets of $5,249,000, including estimated goodwill of $1,371,000 and estimated intangibles
of $2,230,000, and total liabilities of $608,000. The fair value of acquired identifiable intangible assets of $2,230,000 is provisional
depending on the final valuations for those assets. All balances recorded are estimated amounts and the Company expects to finalize
the purchase price allocation during the fourth quarter of 2020 as the valuation of identifiable assets and liabilities is completed.
The pro forma impact of Ecessa was not significant to the Company’s results for the three and nine months ended September
30, 2020. Ecessa’s revenue and operating loss since acquisition are $798,000 and $ (319,000), respectively. The operating
loss is primarily due to the revaluation of $1,561,000 of pre-acquisition deferred revenue to a preliminary fair value of $257,000
as of the opening balance sheet date and $106,000 of intangibles amortization, thus lowering revenue recognized and increasing
post-acquisition expenses on a similar operating cost structure. The Company is still in process of integrating Ecessa into its
operations and therefore has not realized all potential cost-saving synergies. The Company will include further, more detailed
information on the 2020 post-acquisition Ecessa operating results in the 2020 Form 10-K.
NOTE
8 – CONTINGENCIES
In
the ordinary course of business, the Company is exposed to legal actions and claims and incurs costs to defend against these actions
and claims. Company management is not aware of any outstanding or pending legal actions or claims that could materially affect
the Company’s financial position or results of operations.
NOTE
9 – DEBT
Line
of Credit
On
August 28, 2020, the Company entered into a Credit Agreement with Wells Fargo Bank, National Association, establishing a $5,000,000
line of credit facility agreement, that replaced a prior facility. On October 29, 2020, the Company entered into a First
Amendment to the Credit Agreement. Under the Credit Agreement, as amended, the Company has the ability to obtain one or more letters
of credit in an aggregate amount up to $2,000,000, subject to the general terms of the credit agreement.
The
Company had no outstanding borrowings against the line of credit, or the prior credit facility, at September 30, 2020 or December
31, 2019 and $3,976,000 of the credit line is available for use. Due to the revolving nature of loans under this credit facility,
additional borrowings and periodic repayments and re-borrowings may be made until the maturity date. Interest on borrowings on
the credit line is at LIBOR plus 1.25% , with a minimum LIBOR rate of 0.75%, (2.0% at September 30, 2020). The Credit Agreement
expires August 28, 2021 and is secured by assets of the Company. The Credit Agreement contains financial covenants including
a tangible net worth minimum. The Company was in compliance with its financial covenants at September 30, 2020.
NOTE
10 – INCOME TAXES
In
the preparation of the Company’s consolidated financial statements, management calculates income taxes based upon the estimated
effective rate applicable to operating results for the full fiscal year. This includes estimating the current tax liability as
well as assessing differences resulting from different treatment of items for tax and book accounting purposes. These differences
result in deferred tax assets and liabilities, which are recorded on the balance sheet. Management analyzes these assets and liabilities
regularly and assesses the likelihood that deferred tax assets will be recovered from future taxable income.
At
September 30, 2020 there was $111,000 of net uncertain tax benefit positions that would reduce the effective income tax rate if
recognized. The Company records interest and penalties related to income taxes as income tax expense in the condensed consolidated
statements of income (loss) and comprehensive income (loss).
The
Company is subject to U.S. federal income tax as well as income tax of multiple state and foreign jurisdictions. The tax years
2017-2019 remain open to examination by the Internal Revenue Service and the years 2016-2019 remain open to examination by various
state tax departments. The tax years from 2016-2018 remain open in Costa Rica.
The
Company’s effective income tax rate was (0.3%) for the first nine months of 2020. The effective tax rate differs from the
federal tax rate of 21% due to state income taxes, foreign tax rate differences, foreign losses not deductible for U.S. income
tax purposes, the effect of uncertain income tax positions, stock compensation windfalls and changes in valuation allowances related
to deferred tax assets. The foreign operating losses may ultimately be deductible in the
countries in which they occurred; however, the Company has not recorded a deferred tax asset for these losses due to uncertainty
regarding the eventual realization of the benefit. The effect of the foreign operations was an overall rate decrease of approximately
99.3% for the nine months ended September 30, 2020. There were no additional uncertain
tax positions identified in the first nine months of 2020. The Company’s effective income tax rate for the
nine months ended September 30, 2019 was 4.3%, and differed from the federal tax
rate due to state income taxes, foreign tax rate differences, foreign losses not deductible for U.S. income tax purposes, changes
in the reserve for uncertain income tax positions, provisions for interest charges for uncertain income tax positions, stock compensation
shortfalls and changes in valuation allowances related to deferred tax assets.
NOTE
11 – SEGMENT INFORMATION
Following
the acquisition of Ecessa during the second quarter of 2020 and the merging of certain operations, the Company classifies its
remaining businesses into two segments as follows:
|
●
|
Electronics
& Software: designs, develops and sells Intelligent Edge solutions that provide connectivity and power through PoE products
and actionable intelligence to end devices in an IoT ecosystem through embedded and cloud-based management software. In addition,
this segment continues to generate revenue from its traditional products consisting of, media converters, NICs, and Ethernet switches
that offer the ability to affordably integrate the benefits of fiber optics into any data network; and
|
|
●
|
Services
& Support: provides technology solutions that address prevalent IT challenges, including network resiliency, security products
and services, network virtualization, and cloud migrations, IT managed services, wired and wireless network design and implementation,
and converged infrastructure configuration, deployment and management.
|
Management
has chosen to organize the Company and disclose reportable segments based on our products and services. Intersegment revenues
are eliminated upon consolidation. “Other” includes non-allocated corporate overhead costs. As a result of our treatment
of Suttle as discontinued operations, “Other” includes amounts previously allocated to Suttle that do not meet the
criteria to be included in income from discontinued operations. The Company has reclassified its 2019 financial statements to
conform to its new segment reporting.
Information
concerning the Company’s continuing operations in these two segments for the three and nine-month periods ended September
30, 2020 and 2019 are as follows:
|
|
Electronics &
Software
|
|
|
Services &
Support
|
|
|
Other
|
|
|
Intersegment
Eliminations
|
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, 2020
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sales
|
|
$
|
8,755,000
|
|
|
$
|
3,530,000
|
|
|
$
|
—
|
|
|
$
|
(175,000
|
)
|
|
$
|
12,110,000
|
|
Cost of sales
|
|
|
4,746,000
|
|
|
|
2,190,000
|
|
|
|
—
|
|
|
|
(8,000
|
)
|
|
|
6,928,000
|
|
Gross profit
|
|
|
4,009,000
|
|
|
|
1,340,000
|
|
|
|
—
|
|
|
|
(167,000
|
)
|
|
|
5,182,000
|
|
Selling, general and administrative expenses
|
|
|
3,281,000
|
|
|
|
909,000
|
|
|
|
782,000
|
|
|
|
(167,000
|
)
|
|
|
4,805,000
|
|
Acquisition costs
|
|
|
—
|
|
|
|
—
|
|
|
|
71,000
|
|
|
|
—
|
|
|
|
71,000
|
|
Operating income (loss)
|
|
|
728,000
|
|
|
|
431,000
|
|
|
|
(853,000
|
)
|
|
|
—
|
|
|
|
306,000
|
|
Other (expense) income
|
|
|
(18,000
|
)
|
|
|
—
|
|
|
|
275,000
|
|
|
|
—
|
|
|
|
257,000
|
|
Income (loss) before income tax
|
|
$
|
710,000
|
|
|
$
|
431,000
|
|
|
$
|
(578,000
|
)
|
|
$
|
—
|
|
|
$
|
563,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation and amortization
|
|
$
|
71,000
|
|
|
$
|
146,000
|
|
|
$
|
94,000
|
|
|
$
|
—
|
|
|
$
|
311,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Capital expenditures
|
|
$
|
14,000
|
|
|
$
|
—
|
|
|
$
|
79,000
|
|
|
$
|
—
|
|
|
$
|
93,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Assets
|
|
$
|
16,600,000
|
|
|
$
|
9,034,000
|
|
|
$
|
30,110,000
|
|
|
$
|
(27,000
|
)
|
|
$
|
55,717,000
|
|
|
|
Electronics &
Software
|
|
|
Services &
Support
|
|
|
Other
|
|
|
Intersegment
Eliminations
|
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, 2019
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sales
|
|
$
|
13,035,000
|
|
|
$
|
783,000
|
|
|
$
|
—
|
|
|
$
|
(196,000
|
)
|
|
$
|
13,622,000
|
|
Cost of sales
|
|
|
6,753,000
|
|
|
|
603,000
|
|
|
|
—
|
|
|
|
(19,000
|
)
|
|
|
7,337,000
|
|
Gross profit
|
|
|
6,282,000
|
|
|
|
180,000
|
|
|
|
—
|
|
|
|
(177,000
|
)
|
|
|
6,285,000
|
|
Selling, general and administrative expenses
|
|
|
4,419,000
|
|
|
|
349,000
|
|
|
|
922,000
|
|
|
|
(177,000
|
)
|
|
|
5,513,000
|
|
Operating income (loss)
|
|
|
1,863,000
|
|
|
|
(169,000
|
)
|
|
|
(922,000
|
)
|
|
|
—
|
|
|
|
772,000
|
|
Other income
|
|
|
11,000
|
|
|
|
—
|
|
|
|
77,000
|
|
|
|
—
|
|
|
|
88,000
|
|
Income (loss) before income tax
|
|
$
|
1,874,000
|
|
|
$
|
(169,000
|
)
|
|
$
|
(845,000
|
)
|
|
$
|
—
|
|
|
$
|
860,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation and amortization
|
|
$
|
86,000
|
|
|
$
|
25,000
|
|
|
$
|
154,000
|
|
|
$
|
—
|
|
|
$
|
265,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Capital expenditures
|
|
$
|
8,000
|
|
|
$
|
4,000
|
|
|
$
|
71,000
|
|
|
$
|
—
|
|
|
$
|
83,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Assets
|
|
$
|
21,114,000
|
|
|
$
|
1,419,000
|
|
|
$
|
35,201,000
|
|
|
$
|
(27,000
|
)
|
|
$
|
57,707,000
|
|
|
|
Electronics &
Software
|
|
|
Services &
Support
|
|
|
Other
|
|
|
Intersegment
Eliminations
|
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, 2020
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sales
|
|
$
|
25,579,000
|
|
|
$
|
5,882,000
|
|
|
$
|
—
|
|
|
$
|
(561,000
|
)
|
|
$
|
30,900,000
|
|
Cost of sales
|
|
|
14,745,000
|
|
|
|
3,792,000
|
|
|
|
—
|
|
|
|
(36,000
|
)
|
|
|
18,501,000
|
|
Gross profit
|
|
|
10,834,000
|
|
|
|
2,090,000
|
|
|
|
—
|
|
|
|
(525,000
|
)
|
|
|
12,399,000
|
|
Selling, general and administrative expenses
|
|
|
10,816,000
|
|
|
|
1,720,000
|
|
|
|
2,466,000
|
|
|
|
(525,000
|
)
|
|
|
14,477,000
|
|
Acquisition costs
|
|
|
—
|
|
|
|
—
|
|
|
|
486,000
|
|
|
|
—
|
|
|
|
486,000
|
|
Operating income (loss)
|
|
|
18,000
|
|
|
|
370,000
|
|
|
|
(2,952,000
|
)
|
|
|
—
|
|
|
|
(2,564,000
|
)
|
Other (expense) income
|
|
|
(1,000
|
)
|
|
|
—
|
|
|
|
947,000
|
|
|
|
—
|
|
|
|
946,000
|
|
Income (loss) before income tax
|
|
$
|
17,000
|
|
|
$
|
370,000
|
|
|
$
|
(2,005,000
|
)
|
|
$
|
—
|
|
|
$
|
(1,618,000
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation and amortization
|
|
$
|
218,000
|
|
|
$
|
178,000
|
|
|
$
|
345,000
|
|
|
$
|
—
|
|
|
$
|
741,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Capital expenditures
|
|
$
|
82,000
|
|
|
$
|
1,000
|
|
|
$
|
100,000
|
|
|
$
|
—
|
|
|
$
|
183,000
|
|
|
|
Electronics &
Software
|
|
|
Services &
Support
|
|
|
Other
|
|
|
Intersegment
Eliminations
|
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, 2019
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sales
|
|
$
|
32,262,000
|
|
|
$
|
3,942,000
|
|
|
$
|
—
|
|
|
$
|
(661,000
|
)
|
|
$
|
35,543,000
|
|
Cost of sales
|
|
|
17,892,000
|
|
|
|
2,643,000
|
|
|
|
—
|
|
|
|
(144,000
|
)
|
|
|
20,391,000
|
|
Gross profit
|
|
|
14,370,000
|
|
|
|
1,299,000
|
|
|
|
—
|
|
|
|
(517,000
|
)
|
|
|
15,152,000
|
|
Selling, general and administrative expenses
|
|
|
13,116,000
|
|
|
|
1,056,000
|
|
|
|
2,676,000
|
|
|
|
(517,000
|
)
|
|
|
16,331,000
|
|
Operating income (loss)
|
|
|
1,254,000
|
|
|
|
243,000
|
|
|
|
(2,676,000
|
)
|
|
|
—
|
|
|
|
(1,179,000
|
)
|
Other income (expense)
|
|
|
12,000
|
|
|
|
(10,000
|
)
|
|
|
179,000
|
|
|
|
—
|
|
|
|
181,000
|
|
Income (loss) before income tax
|
|
$
|
1,266,000
|
|
|
$
|
233,000
|
|
|
$
|
(2,497,000
|
)
|
|
$
|
—
|
|
|
$
|
(998,000
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation and amortization
|
|
$
|
274,000
|
|
|
$
|
80,000
|
|
|
$
|
452,000
|
|
|
$
|
—
|
|
|
$
|
806,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Capital expenditures
|
|
$
|
19,000
|
|
|
$
|
39,000
|
|
|
$
|
268,000
|
|
|
$
|
—
|
|
|
$
|
326,000
|
|
NOTE
12 – NET INCOME (LOSS) PER SHARE
Basic
net income (loss) per common share is based on the weighted average number of common shares outstanding during each period and
year. Diluted net income per common share takes into effect the dilutive effect of potential common shares outstanding. The Company’s
only potential common shares outstanding are stock options and shares associated with the long-term incentive compensation plans,
which resulted in a dilutive effect of 89,561 and 0 shares for the three and nine months ended September 30, 2020, respectively.
The dilutive effect for the three and nine-month periods ended September 30, 2019 was 51,042 and 8,678 shares, respectively. The
Company calculates the dilutive effect of outstanding options using the treasury stock method. Due to the net losses in the first
nine months ended September 30, 2020, there was no dilutive impact from stock options or unvested shares. Options totaling 791,415
and 727,915 were excluded from the calculation of diluted earnings per share for the three and nine months ended September 30,
2020, respectively because the exercise price was greater than the average market price of common stock during the period and
deferred stock awards totaling 110,308 shares would not have been included for the three and nine months ended September 30, 2020,
because of unmet performance conditions. Options totaling 936,817 and 1,150,865 were excluded from the calculation of diluted
earnings per share for the three and nine months ended September 30, 2019, respectively because the exercise price was greater
than the average market price of common stock during the period and deferred stock awards totaling 200,260 shares would not have
been included for the three and nine months ended September 30, 2019, because of unmet performance conditions.
NOTE
13 – FAIR VALUE MEASUREMENTS
The
accounting guidance establishes a valuation hierarchy for disclosure of the inputs to valuation used to measure fair value. This
hierarchy prioritizes the inputs into three broad levels as follows:
Level
1 – Observable inputs that reflect unadjusted quoted prices for identical assets or liabilities in active markets that the
Company has the ability to access at the measurement date.
Level
2 – Observable inputs such as quoted prices for similar instruments and quoted prices in markets that are not active, and
inputs that are directly observable or can be corroborated by observable market data. The types of assets and liabilities included
in Level 2 are typically either comparable to actively traded securities or contracts, such as treasury securities with pricing
interpolated from recent trades of similar securities, or priced with models using highly observable inputs, such as commodity
options priced using observable forward prices and volatilities.
Level
3 – Significant inputs to pricing that have little or no observability as of the reporting date. The types of assets and
liabilities included in Level 3 are those with inputs requiring significant management judgment or estimation, such as the complex
and subjective models and forecasts used to determine the fair value of financial instruments.
Financial
assets and liabilities measured at fair value on a recurring basis as of September 30, 2020 and December 31, 2019, are summarized
below:
|
|
September 30, 2020
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Level
1
|
|
|
Level
2
|
|
|
Level
3
|
|
|
Total
Fair Value
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash equivalents:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Money Market Funds
|
|
$
|
7,189,000
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
7,189,000
|
|
Subtotal
|
|
|
7,189,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
7,189,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Short-term investments:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial Paper
|
|
|
—
|
|
|
|
3,900,000
|
|
|
|
—
|
|
|
|
3,900,000
|
|
Corporate Notes/Bonds
|
|
|
—
|
|
|
|
1,365,000
|
|
|
|
—
|
|
|
|
1,365,000
|
|
Subtotal
|
|
|
—
|
|
|
|
5,265,000
|
|
|
|
—
|
|
|
|
5,265,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Long-term investments:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate Notes/Bonds
|
|
|
—
|
|
|
|
6,313,000
|
|
|
|
—
|
|
|
|
6,313,000
|
|
Convertible debt
|
|
|
—
|
|
|
|
—
|
|
|
|
355,000
|
|
|
|
355,000
|
|
Subtotal
|
|
|
—
|
|
|
|
6,313,000
|
|
|
|
355,000
|
|
|
|
6,668,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
7,189,000
|
|
|
$
|
11,578,000
|
|
|
$
|
355,000
|
|
|
$
|
19,122,000
|
|
|
|
December 31, 2019
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Level
1
|
|
|
Level
2
|
|
|
Level
3
|
|
|
Total
Fair Value
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash equivalents:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Money Market Funds
|
|
$
|
8,761,000
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
8,761,000
|
|
Subtotal
|
|
|
8,761,000
|
|
|
|
—
|
|
|
|
—
|
|
|
|
8,761,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Short-term investments:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial Paper
|
|
|
—
|
|
|
|
8,694,000
|
|
|
|
—
|
|
|
|
8,694,000
|
|
Corporate Notes/Bonds
|
|
|
—
|
|
|
|
756,000
|
|
|
|
—
|
|
|
|
756,000
|
|
Subtotal
|
|
|
—
|
|
|
|
9,450,000
|
|
|
|
—
|
|
|
|
9,450,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Long-term investments:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Convertible debt
|
|
|
—
|
|
|
|
—
|
|
|
|
250,000
|
|
|
|
250,000
|
|
Subtotal
|
|
|
—
|
|
|
|
—
|
|
|
|
250,000
|
|
|
|
250,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
8,761,000
|
|
|
$
|
9,450,000
|
|
|
$
|
250,000
|
|
|
$
|
18,461,000
|
|
We
record transfers between levels of the fair value hierarchy, if necessary, at the end of the reporting period. There were no transfers
between levels during the three and nine months ended September 30, 2020.
NOTE
14 – GENERAL COMMITMENTS
On
August 2, 2018, the Company entered into a purchase agreement with Launch Properties, LLC for the sale of the Company’s
building located at 10900 Red Circle Drive, Minnetonka, MN for $10,000,000. The building currently includes the Company’s
corporate administrative offices, as well as some operations for Transition Networks and JDL Technologies. This agreement was
terminated on July 28, 2020 and earnest money totaling $225,000 was transferred to the Company and recognized as other income
in the accompanying condensed consolidated statements of income (loss) and comprehensive income (loss) for the three and nine
months ended September 30, 2020. The Company is reviewing options to continue to use or sell the property.
NOTE
15 – RECENT ACCOUNTING PRONOUNCEMENTS
In
December 2019, the FASB issued ASU 2019-12, “Simplifying the Accounting for Income Taxes”, which, as part
of its Simplification Initiative to reduce the cost and complexity in accounting for income taxes, removes certain exceptions
related to the approach for intra-period tax allocation, the methodology for calculating income taxes in an interim period and
the recognition of deferred tax liabilities for outside basis differences. ASU 2019-12 also amends other aspects of
the guidance to help simplify and promote consistent application of GAAP. The guidance is effective for interim and annual periods
beginning after December 15, 2020, with early adoption permitted. The Company adopted this standard during the first quarter
of 2020 with an immaterial impact to our consolidated financial statements.
In
June 2016, FASB issued ASU 2016-13, “Financial Instruments - Credit Losses (Topic 326), Measurement of Credit Losses on Financial
Instruments.” The amendments in this update replace the incurred loss impairment methodology in current U.S. GAAP with a
methodology that reflects expected credit losses. This ASU is intended to provide financial statement users with more decision-useful
information about the expected credit losses and is effective for annual periods and interim periods for those annual periods
beginning after December 15, 2022, which for us is the first quarter ending March 31, 2023. Entities may early adopt beginning
after December 15, 2018. We are currently evaluating the impact of the adoption of ASU 2016-13 on our consolidated financial statements.
NOTE
16 – SUBSEQUENT EVENTS
On
November 3, 2020, the Company acquired the operating assets of privately held IVDesk Minnesota, Inc. (“IVDesk”) from
a third party receiver (“Receiver”) appointed by Hennepin County, Minnesota State District Court Judge for aggregate
consideration of up to $1,500,000. The transaction was structured as an asset purchase under which the Company paid $950,000 in
cash at closing with up to an additional $550,000 payment contingent on an earn-out tied to customer retention. The Company provided
the Receiver as seller a $550,000 letter of credit to secure its obligation to pay the earn-out under the asset purchase agreement.
IVDesk provides private cloud services to small- and mid-size businesses (SMB), with a particular focus on the financial services
industry. IVDesk currently services over 85 customers across the US with a focus on a tri-state region with Minnesota at the center.
IVDesk’s business model is built on monthly recurring revenue.
Item
2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Overview
Communications
Systems, Inc. provides network infrastructure and services for global deployments of enterprise and industrial broadband networks
through the following business segments:
Electronics
& Software
This
segment is initially comprised of CSI’s Transition Networks and Net2Edge businesses. With over 30 years of growth and expertise
in hardware and software development in this segment, the Company offers customers network solutions that provide secure, reliable
connectivity and power through PoE products and actionable intelligence to end devices in an IoT ecosystem through embedded and
cloud-based management software. In addition, this segment continues to generate revenue from its traditional products consisting
of, media converters, NICs, and Ethernet switches that offer the ability to affordably integrate the benefits of fiber optics
into any data network, in any application, and in any environment. The product portfolio gives customers simple, secure, and intelligent
solutions for the network edge by offering support for multiple interface speeds, PoE options, and a broad array of protocols.
As
data networks continue to change and evolve, the Company’ solutions enable customers to easily deploy, provision, and proactively
manage their networks with actionable insights about their edge devices and connected end points, thereby minimizing the administrative
burden of the operator. The Company distributes hardware-based connectivity solutions through a network of resellers in over 50
countries.
Services
& Support
This
segment is initially comprised of CSI’s JDL Technologies and Ecessa Corporation businesses. With over 30 years of growth
and expertise in managed services and SD-WAN solutions in this segment, the Company offers customers:
|
●
|
Technology
services and infrastructure in the commercial, healthcare, financial, and education market
segments. The Company’s portfolio of technology solutions includes IT managed services
supporting client infrastructures from the data center to the desktop, security products
and services, cloud migrations, network virtualization and resiliency, wired and wireless
network design and implementation, and converged infrastructure configuration and deployment.
We provide many of these technology services to the education space, including having
provided services to one of the largest school districts in the US for more than 30 years.
We also provide these services to a number of commercial and healthcare clients.
|
|
●
|
SD-WAN
Never Down® networks, sold as a product or as a recurring service,
enable organizations of all sizes to reliably run Internet and cloud-based applications,
connect offices worldwide and distribute traffic among a fabric of multiple, diverse
ISP links, ensuring business continuity by removing bottlenecks and eliminating network
downtime. These capabilities optimize Never Down performance of business-critical applications,
aid in lowering IT costs, and make it easier to provision, maintain and support business
networks and the applications that run over them.
|
Except
as otherwise expressly discussed, all operating results for 2019 and 2020 only reflect the Company’s continuing operations
and exclude the discontinued operations of the Company’s former Suttle business. Operating results for 2019 have been reclassified
to reflect the Company’s new segment reporting.
Third
Quarter 2020 Summary
|
●
|
Consolidated
sales were $12.1 million in Q3 2020 compared to $13.6 million in Q3 2019.
|
|
●
|
The
Company incurred operating income from continuing operations of $306,000 in Q3 2020 compared
to operating income from continuing operations of $772,000 in Q3 2019.
|
|
●
|
Net
income from continuing operations was $554,000, or $0.06 per diluted share in Q3 2020,
compared to net income from continuing operations of $887,000, or $0.10 per diluted share,
in Q3 2019.
|
Forward-looking statements
In
this report and, from time to time, in reports filed with the Securities and Exchange Commission (“SEC”), in press
releases, and in other communications to shareholders or the investing public, the Company may make “forward-looking statements”
within the meaning of the Private Securities Litigation Reform Act of 1995. We may make these forward-looking statements concerning
possible or anticipated future financial performance, business activities, plans, pending claims, investigations or litigation,
which are typically preceded by the words “believes,” “expects,” “anticipates,” “intends”
or similar expressions. For these forward-looking statements, the Company claims the protection of the safe harbor for forward-looking
statements contained in federal securities laws. Shareholders and the investing public should understand that these forward-looking
statements are subject to risks and uncertainties that could cause actual performance, activities, anticipated results, outcomes
or plans to differ significantly from those indicated in the forward-looking statements. These risks and uncertainties include,
but are not limited to:
General
Risks and Uncertainties:
|
●
|
The
ability of the Company’s two operating segments, Electronics & Software and
Services & Support, to each function in an efficient, cost-effective manner and profitable
manner, under the oversight of the CSI parent;
|
|
●
|
Any
short-term or long-term effect that the COVID-19 Pandemic may have on the American and
world economies generally, or us as a manufacturing entity, including our ability to
manufacture, market, and sell our products while complying with applicable or otherwise
appropriate social distancing policies, as discussed throughout the “Forward-looking
statements” section and more thoroughly below in the section “Impact of COVID-19
Pandemic”;
|
|
●
|
Our
ability to successfully and profitably integrate our new Ecessa subsidiary into our existing
operations, particularly in the Services & Support segment;
|
|
●
|
Our
ability to manage corporate costs incurred as a public company in an effective manner
given our lower revenues and smaller scale as a result of the sale of Suttle operations;
|
|
●
|
The
ability of our Board of Directors and our management leadership team to identify business
development options for the Company and the Company’s ability to implement these
plans;
|
|
●
|
The
impact of changing government expenditures in our markets; and
|
|
●
|
The
fact that our information technology systems may be exposed to various cybersecurity
risks and other disruptions that could impair our ability to operate.
|
Electronics
& Software Segment Risks and Uncertainties:
|
●
|
The
ability of this segment to develop and sell new products, including intelligent edge
solutions, for new and existing markets at a level adequate to counter the decline in
sales of its traditional products;
|
|
●
|
The
ability to develop, field test, manufacture and sell new products in sufficient quantities
to achieve profitability;
|
|
●
|
The
ability to sustain meaningful product differentiation and achieve substantial gross margins;
|
|
●
|
Reliance
on contract manufacturers and OEMs to supply it with components and products in a timely
manner as we develop and introduce new products;
|
|
●
|
The
fact that as this segment has more success in selling its products, including PoE products,
as part of major infrastructure projects, it may experience significant fluctuations
in quarter-to-quarter and year-to-year revenue and profitability; and
|
|
●
|
Our
ability to manage an inventory of components and finished products that is complex and
complicated by our need to maintain a significant inventory of components (i) that may
be or become in short supply or discontinued by the component manufacturer, (ii) that
must be purchased in bulk to obtain favorable pricing, or (iii) that require long lead
times. These factors may result in this business segment purchasing and maintaining significant
amounts of inventory, that if not used or expected to be used based on anticipated production
requirements, (i) may become excess or obsolete and (ii) could result in sales price
reductions or inventory write-downs that could adversely affect this business and results
of operations.
|
Services
& Support Segment Risks and Uncertainties:
|
●
|
Our
ability to continue to obtain and manage the historically fluctuating business from its
traditional South Florida school district customer;
|
|
●
|
Our
ability to expand to other educational prospects;
|
|
●
|
Our
ability to profitably increase our business serving small and medium-sized (“SMB”)
commercial businesses as well as any decreased spending by our existing SMB customers
due to uncertainty or lower customer demand due to the COVID-19 pandemic;
|
|
●
|
Our
ability to successfully and profitably manage a large number of small accounts;
|
|
●
|
Our
ability to establish and maintain a productive and efficient workforce;
|
|
●
|
Our
ability to compete in a fast growing and large field of SD-WAN competitors, some whom
have more features than our current product offering; and
|
|
●
|
Our
ability to integrate the recently acquired Ecessa SD-WAN business and the IVDesk private
cloud services into the Services & Support operating segment.
|
The
Company discusses these and other risk factors from time to time in its filings with the SEC, including risk factors presented
under Item 1A of the Company’s most recently filed Annual Report on Form 10-K and Quarterly Reports on Form 10-Q.
Impact
of COVID-19 Pandemic
We
are subject to risks and uncertainties as a result of the COVID-19 pandemic. In response to the pandemic, we instituted temporary
office closures, implemented shelter-in-place orders and restrictions and instituted a mandatory work from home policy for substantially
all office employees, and instituted social distancing work rules for operations personnel that continued to work in our facilities
to satisfy customer orders. We experienced supply chain and demand disruptions during the first nine months of 2020 and expect
the disruption to our supply to continue throughout 2020, as well as higher logistics and operational costs due to the COVID-19
pandemic. At the same time, we have seen an increase in demand for our fiber and high-speed products as customers are looking
to upgrade their networks. As noted below, we are also seeing delays in orders as some projects are pushed out due to the inability
to access locations due to the shutdowns. We may also see a slowdown in our business if one or more of our major customer or suppliers
delays its purchase or supplies due to uncertainty in its business operations, encounters difficulties in its production due to
employee safety or workforce concerns, is unable to obtain materials or labor from third parties that it needs to complete its
projects, and may see a slowdown in our collection of receivables if our customers encounter cash flow difficulties or delay payments
to preserve their cash resources. We are continuing to actively monitor the effects and potential impacts of the COVID-19 pandemic
on all aspects of our business, liquidity and capital resources. The extent to which the COVID-19 pandemic may materially impact
our financial condition, liquidity or results of operations is uncertain at this time.
Three
Months Ended September 30, 2020 Compared to
Three
Months Ended September 30, 2019
Consolidated
sales declined 11.1% in the third quarter of 2020 to $12,110,000 compared to $13,622,000 in the same period of 2019. Consolidated
operating income from continuing operations in the third quarter of 2020 decreased to $306,000 from operating income from continuing
operations of $772,000 in the third quarter of 2019. Net
income from continuing operations in the third quarter of 2020 was $554,000 or $0.06 per share compared to net income from continuing
operations of $887,000 or $0.10 per share in the third quarter of 2019.
Electronics
& Software
Electronics
& Software sales decreased 33% to $8,755,000 in the third quarter of 2020 compared to $13,035,000 in 2019. The Electronics
& Software segment organizes its sales force by vertical markets and segments its customers geographically. Third
quarter sales by region are presented in the following table:
|
|
Electronics & Software Sales by Region
|
|
|
2020
|
|
|
2019
|
|
North America
|
|
$
|
7,672,000
|
|
|
$
|
11,479,000
|
|
International
|
|
|
1,083,000
|
|
|
|
1,556,000
|
|
|
|
$
|
8,755,000
|
|
|
$
|
13,035,000
|
|
The
following table summarizes the 2020 and 2019 third quarter sales by its major product groups:
|
|
Electronics &
Software Sales by Product Group
|
|
|
|
|
2020
|
|
|
|
2019
|
|
Intelligent edge solutions
|
|
$
|
2,990,000
|
|
|
$
|
5,791,000
|
|
Traditional products
|
|
|
5,765,000
|
|
|
|
7,244,000
|
|
|
|
$
|
8,755,000
|
|
|
$
|
13,035,000
|
|
Sales
in North America decreased $3,807,000, or 33%, primarily due to delayed project spending by customers due to the COVID-19 pandemic
in addition to $2,820,000 of sales for a major metropolitan smart city IoT project recorded in the prior year, that did not reoccur
in the current year and delayed spending from a major Canadian telecommunications provider. International sales decreased $473,000,
or 30%, primarily due to an overall drop in demand for traditional products and delayed project spending by customers due to the
economic effects of the COVID-19 pandemic. Sales of Intelligent edge solutions (“IES”) products decreased 48% or $2,801,000
due to the $2,820,000 of deliveries in the prior year related to the major metropolitan smart city IoT projects that did not reoccur.
Traditional product sales decreased 20% or $1,479,000 due mainly to a decline in media converter and optical device orders from
one major telecommunications customer.
Gross
profit on third quarter sales decreased to $4,009,000 in 2020 from $6,282,000 in 2019. Gross margin decreased to 45.8% in the
third quarter of 2020 from 48.2% in 2019 primarily due to the volume and favorable margin impacts from the prior year major metropolitan
smart city IoT project that did not reoccur this year. Selling, general and administrative expenses decreased 26% to $3,281,000,
or 37.5% of sales, in the third quarter of 2020 compared to $4,419,000, or 33.9% of sales, in 2019 due to reduced travel, marketing
and personnel expenses, in part due to steps taken by management in response to the COVID-19 pandemic.
Electronics
& Software incurred operating income of $728,000 in the third quarter of 2020 compared to operating income of $1,863,000 in
2019, primarily due to lower sales and gross margin.
Services
& Support
Services
& Support sales increased 351% to $3,530,000 in the third quarter of 2020 compared to $783,000 in 2019.
Revenues
by customer group were as follows:
|
|
Services &
Support Revenue by Customer Group
|
|
|
|
|
2020
|
|
|
|
2019
|
|
Education
|
|
$
|
2,312,000
|
|
|
$
|
63,000
|
|
Healthcare
|
|
|
244,000
|
|
|
|
175,000
|
|
Financial and other commercial clients
|
|
|
799,000
|
|
|
|
353,000
|
|
CSI IT operations
|
|
|
175,000
|
|
|
|
192,000
|
|
|
|
$
|
3,530,000
|
|
|
$
|
783,000
|
|
Revenues
by revenue type were as follows:
|
|
Services &
Support Revenue by Type
|
|
|
|
|
2020
|
|
|
|
2019
|
|
Project & product revenue
|
|
$
|
2,611,000
|
|
|
$
|
130,000
|
|
Services & support revenue
|
|
|
919,000
|
|
|
|
653,000
|
|
|
|
$
|
3,530,000
|
|
|
$
|
783,000
|
|
|
|
|
—
|
|
|
|
—
|
|
Revenues
from the education sector increased $2,249,000 or 3570% in the third quarter of 2020 as compared to the 2019 third quarter due
primarily to the commencement of projects that had been previously delayed due to funding issues where the same quarter of the
prior year had very little project revenue in this sector. Revenue from sales to SMBs, which are primarily healthcare and financial
clients increased $515,000 or 98% in the third quarter of 2020 as compared to 2019 due to the acquisition
of Ecessa effective May 14, 2020. Project and product revenue increased $2,481,000 or 1908% in the third quarter of 2020
as compared to the third quarter of 2019 due primarily to the increase in the education sector. Services and support revenue increased
$266,000 or 41% as compared to the same quarter of the prior year due to new client acquisition within managed services and the
Company’s acquisition of Ecessa, which has service and support revenue on its SD-WAN products. Overall, Ecessa contributed
$535,000 in revenue during the quarter.
Gross
profit increased 644% to $1,340,000 in the third quarter of 2020 compared to $180,000 in the same period in 2019. Gross margin
increased to 38.0% in the third quarter of 2020 compared to 23.0% in 2019 due to the increase in projects in the education sector
during the third quarter of 2020, while there was limited project revenue in the prior year, resulting in lower 2019 gross margins.
Selling, general and administrative expenses increased 160% in the third quarter of 2020 to $909,000, or 25.8% of sales, compared
to $349,000, or 44.6% of sales, in 2019 due the May 14, 2020 acquisition of Ecessa and the inclusion of its general and administrative
costs that are not included in the prior year.
Services
& Support reported operating income of $431,000 in the third quarter of 2020 compared to an operating loss of $169,000 in
the same period of 2019, primarily due to increased education revenue.
Other
As
a result of our treatment of Suttle as discontinued operations, “Other” includes non-allocated corporate overhead
costs as well as costs allocated to Suttle that are not considered discontinued operations. In the past, the Company would estimate
annual revenue and headcount for each principal business unit and then allocate a portion of shared service corporate overhead
costs based on these metrics. Because Suttle is now treated as discontinued operations, these costs are now included within “Other.”
The Company is currently examining how to allocate these costs in the future given its sale of Suttle, acquisition of Ecessa and
realignment of its operation into its Electronics & Software and Services & Support segments.
Income
Taxes
The
Company’s income from continuing operations before income taxes was $563,000 in the third quarter of 2020 compared to income
from continuing operations before income taxes of $860,000 in the third quarter of 2019. The Company’s effective income
tax rate was 1.6% in the third quarter of 2020 and (3.1%) in 2019. This effective tax rate for 2020 differs from the federal tax
rate of 21% due to state income taxes, foreign tax rate differences, foreign losses not deductible for U.S. income tax purposes,
the effect of uncertain income tax positions, stock compensation windfalls and changes in valuation allowances related to deferred
tax assets. As of December 31, 2019, the Company had a federal net operating loss carryforward from 2015 through 2019 activity
of approximately $7,687,000 that is available to offset future taxable income and begins to expire in 2035. The Company also has
a federal capital loss carryforward from 2018 of approximately $1,930,000 that is available to offset future capital gains and
expires in 2023.
Nine
Months Ended September 30, 2020 Compared to
Nine
Months Ended September 30, 2019
Consolidated
sales decreased 13% in the first nine months of 2020 to $30,900,000 compared to $35,543,000 in the same period of 2019. Consolidated
operating loss from continuing operations in the first nine months of 2020 was $2,564,000 compared to an operating loss from continuing
operations of $1,179,000 in the same period of 2019. Net loss from continuing operations in the first nine months of 2020 was
$1,622,000 or $ (0.17) per share compared to net loss from continuing operations of $955,000 or $ (0.11) per share in the first
nine months of 2019.
Electronics
& Software
Electronics
& Software sales decreased 21% to $25,579,000 in the first nine months of 2020 compared to $32,262,000 in 2019. The Electronics
& Software segment organizes its sales force by vertical markets and segments its customers geographically. First nine-month
sales by region are presented in the following table:
|
|
Electronics
& Software Sales by Region
|
|
|
|
|
2020
|
|
|
|
2019
|
|
North America
|
|
$
|
22,019,000
|
|
|
$
|
26,448,000
|
|
International
|
|
|
3,560,000
|
|
|
|
5,814,000
|
|
|
|
$
|
25,579,000
|
|
|
$
|
32,262,000
|
|
The
following table summarizes the segment’s 2020 and 2019 first nine-month sales by its major product groups:
|
|
Electronics
& Software Sales by Product Group
|
|
|
|
|
2020
|
|
|
|
2019
|
|
Intelligent edge solutions
|
|
$
|
9,368,000
|
|
|
$
|
10,846,000
|
|
Traditional products
|
|
|
16,211,000
|
|
|
|
21,416,000
|
|
|
|
$
|
25,579,000
|
|
|
$
|
32,262,000
|
|
Sales
in North America decreased $4,429,000, or 17%, primarily due to delayed project spending by customers due to the effect of the
COVID-19 pandemic, $2,820,000 of sales for a major metropolitan smart city IoT project recorded in the prior year, that did not
reoccur in the current year, and a decline in sales to major Canadian telecommunications customer, partially offset by strong
sales to Federal agencies. International sales decreased $2,254,000, or 39%, primarily due to an overall drop in demand for traditional
products and the economic effects of the COVID-19 pandemic. Sales of Intelligent edge solutions (“IES”) products decreased
14% or $1,478,000 due to $2,820,000 of deliveries in the prior year for a major metropolitan smart city IoT project that did not
reoccur this year, partially offset by higher sales of security and surveillance products and sales to Federal agencies. Traditional
product sales decreased 24% or $5,205,000 due mainly to a decline in media converter orders from major telecommunications customers.
Gross
profit on first nine-month sales decreased to $10,834,000 in 2020 as compared to $14,370,000 in 2019. Gross margin decreased to
42.4% in the first nine months of 2020 from 44.5% in 2019 primarily due to the volume and favorable margin impacts from the prior
year major metropolitan smart city IoT project that did not reoccur this year, increased sales of some IES products to Federal
agencies at lower margins, partially offset by lower inventory write-downs year over year. Selling, general and administrative
expenses decreased 18% to $10,816,000, or 42.3% of sales, in the first nine months of 2020 compared to $13,116,000, or 40.7% of
sales, in 2019 due to reduced travel, marketing and personnel expenses, in part due to steps taken by management in response to
the COVID-19 pandemic.
Electronics
& Software had operating income of $18,000 in the first nine months of 2020 compared to operating income of $1,254,000 in
the same period of 2019, primarily due to lower sales and gross margin.
Services
& Support
Services
& Support sales increased 49% to $5,882,000 in the first nine months of 2020 compared to $3,942,000 in 2019.
Revenues
by customer group were as follows:
|
|
Services
& Support Revenue by Customer Group
|
|
|
|
|
2020
|
|
|
|
2019
|
|
Education
|
|
$
|
3,031,000
|
|
|
$
|
1,831,000
|
|
Healthcare
|
|
|
674,000
|
|
|
|
551,000
|
|
Financial and other commercial clients
|
|
|
1,616,000
|
|
|
|
902,000
|
|
CSI IT operations
|
|
|
561,000
|
|
|
|
658,000
|
|
|
|
$
|
5,882,000
|
|
|
$
|
3,942,000
|
|
Revenues
by revenue type were as follows:
|
|
Services &
Support Revenue by Type
|
|
|
|
|
2020
|
|
|
|
2019
|
|
Project & product revenue
|
|
$
|
3,498,000
|
|
|
$
|
2,124,000
|
|
Services & support revenue
|
|
|
2,384,000
|
|
|
|
1,818,000
|
|
|
|
$
|
5,882,000
|
|
|
$
|
3,942,000
|
|
Revenues
from the education sector increased $1,200,000, or 66%, in the first nine months of 2020 as compared to the same period in 2019
due primarily to the commencement of projects that had been previously delayed due to funding issues where the same quarter of
the prior year had very little project revenue in this sector. Projects for this customer commenced at the end of the second quarter
of 2020. Revenue from sales to SMBs, which are primarily healthcare, financial and commercial clients increased $837,000, or 58%,
in the first nine months of 2020 as compared to 2019 due to new client acquisition and rate increases
in our commercial services division as well as the acquisition of Ecessa on May 14, 2020. The decrease in the CSI IT operations
revenue as compared to the first nine months of 2019 is related to hardware refresh revenue in the prior year that was not repeated
in the current year. Project and product revenue increased $1,374,000 or 65% in the first nine months of 2020 as compared to the
first nine months of 2019 due primarily to the increase in the education sector. Services and support revenue increased $566,000
or 31% as compared to the same quarter of the prior year due to new client acquisition within managed services and the Company’s
acquisition of Ecessa, which has service and support revenue on its SD-WAN products. Overall, Ecessa contributed $798,000 in revenue
during the year.
Gross
profit increased 61% to $2,090,000 in the first nine months of 2020 compared to $1,299,000 in the same period in 2019. Gross margin
increased to 35.5% in the first nine months of 2020 compared to 33.0% in 2019 due to the increase in project revenue in the education
sector, primarily within the third quarter. Selling, general and administrative expenses increased 63% in the first nine months
of 2020 to $1,720,000, or 29.2% of sales, compared to $1,056,000, or 26.8% of sales, in 2019 due to the May 2020 acquisition of
Ecessa and the inclusion of its general and administrative costs that are not included in the prior year.
The
operating income was of $370,000 in the first nine months of 2020 compared to operating income of $243,000 in the same period
of 2019, primarily due to increased education revenue.
Other
As
a result of our treatment of Suttle as discontinued operations, “Other” includes non-allocated corporate overhead
costs as well as costs allocated to Suttle that are not considered discontinued operations. In the past, the Company would estimate
annual revenue and headcount for each principal business unit and then allocate a portion of shared service corporate overhead
costs based on these metrics. Because Suttle is now treated as discontinued operations, these costs are now included within “Other.”
As noted above, the Company is currently examining how to allocate these costs in the future given its sale of Suttle, acquisition
of Ecessa and realignment of its operations into its Electronics & Software and Services & Support segments.
Income
Taxes
The
Company’s loss from continuing operations before income taxes was $1,618,000 in the first nine months of 2020 compared to
a loss from continuing operations before income taxes of $998,000 in the first nine months of 2019. The Company’s effective
income tax rate was (0.3%) in the first nine months of 2020 and 4.3% in 2019. This effective tax rate for 2020 differs from the
federal tax rate of 21% due to state income taxes, foreign tax rate differences, foreign losses not deductible for U.S. income
tax purposes, the effect of uncertain income tax positions, stock compensation windfalls and changes in valuation allowances related
to deferred tax assets. As of December 31, 2019, the Company had a federal net operating loss carryforward from 2015 through 2019
activity of approximately $7,687,000 that is available to offset future taxable income and begins to expire in 2035. The Company
also has a federal capital loss carryforward from 2018 of approximately $1,930,000 that is available to offset future capital
gains and expires in 2023.
Liquidity
and Capital Resources
As
of September 30, 2020, the Company had $20,953,000 in cash, cash equivalents, restricted cash, and liquid investments. Of this
amount, $7,189,000 was invested in short-term money market funds that are not considered to be bank deposits and are not insured
or guaranteed by the FDIC or other government agency. These money market funds seek to preserve the value of the investment at
$1.00 per share; however, it is possible to lose money investing in these funds. The remainder in cash and cash equivalents is
operating cash. The Company also had $11,578,000 in investments consisting of commercial paper and corporate notes and bonds that
are traded on the open market and are classified as available-for-sale at September 30, 2020.
The
Company had working capital of $28,474,000 at September 30, 2020, consisting of current assets of approximately $36,256,000 and
current liabilities of $7,782,000 compared to working capital of $38,052,000 at December 31, 2019 consisting of current assets
of $49,402,000 and current liabilities of $11,350,000.
Cash
flow used in operating activities was approximately $5,580,000 in the first nine months of 2020 and $5,809,000 generated in the
same period of 2019. Significant working capital changes from December 31, 2019 to September 30, 2020 included an increase in
inventories of $1,230,000 and $1,526,000 used in discontinued operations.
Net
cash provided by investing activities was $1,183,000 in first nine months of 2020 compared to $926,000 used in 2019, due to proceeds
from the Suttle sale, included in discontinued operations, and proceeds from the maturity of investments, partially offset by
additional investment purchases and net cash paid for the Ecessa acquisition.
Net
cash used in financing activities was $827,000 in the first nine months of 2020 compared to $598,000 used in financing activities
in 2019. Cash dividends paid on common stock increased to $564,000 in 2020 ($0.06 per common share) from $557,000 in 2019 ($0.06
per common share). Proceeds from common stock issuances, principally issued under the Company’s Employee Stock Purchase
Plan, totaled approximately $91,000 in 2020 and $155,000 in 2019. The Company acquired $70,000 and $2,000 in 2020 and 2019, respectively,
of Company stock from employees to satisfy withholding tax obligations related to share-based compensation, pursuant to terms
of Board and shareholder-approved compensation plans. The Company also acquired $284,000 of Company stock under a $2,000,000 Stock
Repurchase Program authorized by the Board of Directors in August 2019. At September 30, 2020, there remained $341,000 under the
2019 Stock Repurchase Program. See “Issuer Purchases of Equity Securities” in Part II, Item 2 of this Form 10-Q.
Line
of Credit
As
discussed above in Note 9, on August 28, 2020, the Company entered into a Credit Agreement with Wells Fargo Bank, National Association,
establishing a $5,000,000 line of credit facility, that replaced a prior facility. On October 29, 2020, the Company entered into
a First Amendment to the Credit Agreement. Under the Credit Agreement, as amended, the Company has the ability to obtain one or
more letters of credit in an aggregate amount up to $2.0 million, subject to the general terms of the Credit Agreement.
The
Company had no outstanding borrowings against the line of credit, or the prior facility, at September 30, 2020 and $3,976,000
was available for use. Due to the revolving nature of loans under this credit facility, additional borrowings and periodic repayments
and re-borrowings may be made until the maturity date. Interest on borrowings on the credit line is at LIBOR plus 1.25%, with
a minimum LIBOR rate of 0.75% (2.0% at September 30, 2020). The Credit Agreement expires August 28, 2021 and is secured by government
securities owned and pledged by the Company.
As
described in Note 16, in connection with the Company’s November 3, 2020 purchase of the operating assets of privately held
IVDesk from a third party Receiver, the Company provided the Receiver as seller a $550,000 letter of credit to secure the Company’s
obligation to pay the earn-out under the asset purchase agreement. The letter of credit was issued pursuant to the line of credit
with Wells Fargo.
In
the opinion of management, based on the Company’s current financial and operating position and projected future expenditures,
sufficient funds are available to meet the Company’s anticipated operating and capital expenditure needs.
Critical
Accounting Policies
Our
critical accounting policies, including the assumptions and judgments underlying them, are discussed in our 2019 Form 10-K in
Note 1 Summary of Significant Accounting Policies included in our Consolidated Financial Statements. There were no other significant
changes to our critical accounting policies during the nine months ended September 30, 2020.
The
Company’s accounting policies have been consistently applied in all material respects and disclose matters such as allowance
for doubtful accounts, sales returns, inventory valuation, warranty expense, income taxes, revenue recognition, asset impairment
recognition and foreign currency translation. On an ongoing basis, we evaluate our estimates based on historical experience and
on various other assumptions that we believe to be reasonable under the circumstances, the result of which form the basis for
making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Results
may differ from these estimates due to actual outcomes being different from those on which we based our assumptions. Management
reviews these estimates and judgments on an ongoing basis.
Recently
Issued Accounting Pronouncements
Recently
issued accounting standards and their estimated effect on the Company’s condensed consolidated financial statements are
also described in Note 15, Recent Accounting Pronouncements, to the Condensed Consolidated Financial Statements.