AUTOSCOPE TECHNOLOGIES CORP - Quarter Report: 2019 September (Form 10-Q)

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PART I. FINANCIAL INFORMATION	4
Item 1. Financial Statements	4
Condensed Consolidated Balance Sheets	4
Condensed Consolidated Statements of Operations	5
Condensed Consolidated Statements of Comprehensive Income	6
Condensed Consolidated Statements of Cash Flows	7
Condensed Consolidated Statements of Shareholders' Equity	8
Notes to Condensed Consolidated Financial Statements	10
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations	21
Item 3. Quantitative and Qualitative Disclosures About Market Risk	27
Item 4. Controls and Procedures	27
PART II. OTHER INFORMATION	28
Item 1. Legal Proceedings	28
Item 1A. Risk Factors	28
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds	28
Item 3. Defaults Upon Senior Securities	28
Item 4. Mine Safety Disclosures	28
Item 5. Other Information	28
Item 6. Exhibits	29
SIGNATURES	30
EXHIBIT INDEX	31

	Nine-Month Periods Ended September 30,
	2019				2018
Operating activities:
Net income	$	7,085			$	1,345
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation		149				191
Software amortization		448				380
Stock-based compensation		162				164
Deferred income tax benefit		(5,200	)			—
Loss on disposal of assets		—				5
Changes in operating assets and liabilities:
Accounts receivable, net		454				(383	)
Inventories		524				(444	)
Prepaid expenses and other current assets		(118	)			(163	)
Accounts payable		(468	)			10
Accrued expenses and other current liabilities		(1,159	)			(430	)
Other (Lease asset and obligations)		2				—
Net cash provided by operating activities		1,879				675
Investing activities:
Capitalized software development costs		(1,042	)			(134	)
Purchases of property and equipment		(239	)			(163	)
Net cash used for investing activities		(1,281	)			(297	)
Financing activities:
Stock for tax withholding		(21	)			(10	)
Proceeds from stock options exercised		4				—
Net cash used for financing activities		(17	)			(10	)
Effect of exchange rate changes on cash		(94	)			(13	)
Change in cash and cash equivalents		487				355
Cash and cash equivalents at beginning of period		4,236				3,190
Cash and cash equivalents at end of period	$	4,723			$	3,545
Non-Cash investing and financing activities:
Purchase of property and equipment in accounts payable	$	20			$	18

See accompanying notes to the condensed consolidated financial statements.

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Note A: Basis of Presentation

 

Image Sensing Systems, Inc. (referred to in this Quarterly Report on Form 10-Q as "we," "us," "our" and the "Company") develops and markets video and radar processing products for use in applications such as intersection control, highway, bridge and tunnel traffic management and traffic data collection. We sell our products primarily to distributors and also receive royalties under a license agreement with a manufacturer/distributor for certain of our products. Our products are used primarily by governmental entities.

 

The accompanying unaudited condensed consolidated financial statements of the Company have been prepared in accordance with U.S. generally accepted accounting principles (GAAP) for interim financial information and with the instructions to the Quarterly Report on Form 10-Q, which require the Company to make estimates and assumptions that affect amounts reported. Certain information and footnote disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to rules and regulations of the Securities and Exchange Commission (the "SEC"). Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. It is the opinion of management that the unaudited condensed consolidated financial statements include all adjustments consisting of normal recurring accruals considered necessary for a fair presentation. All significant intercompany balances and transactions have been eliminated.

 

Operating results for the three and nine month periods ended September 30, 2019 are not necessarily indicative of the results that may be expected for the year ending December 31, 2019. The accompanying condensed consolidated financial statements of the Company should be read in conjunction with the audited consolidated financial statements and notes thereto included in the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2018 as filed with the SEC.

 

Summary of Significant Accounting Policies

The Company believes that of its significant accounting policies, the following are particularly important to the portrayal of the Company's results of operations and financial position and may require the application of a higher level of judgment by the Company's management and, as a result, are subject to an inherent degree of uncertainty.

 

Revenue Recognition 

On January 1, 2018, we adopted Accounting Standards Update ("ASU") No. 2014-09, Revenue from Contracts with Customers (Topic 606), using the full retrospective transition method. The Company's adoption of ASU 2014-09 did not have a material impact on the amount and timing of revenue recognized in its consolidated financial statements.

 

Under ASU 2014-09, we recognize revenue when control of the promised goods or services is transferred to customers, in an amount that reflects the consideration we expect to be entitled to in exchange for those goods or services.

 

Revenue disaggregated by revenue source for the three and nine months ended September 30, 2019 and 2018 consists of the following (in thousands); revenue excludes sales and usage-based taxes when or if it has been determined that we are acting as a pass-through agent: 

 

 

Inventories

Inventories are primarily electronic components and finished goods and are valued at the lower of cost or net realizable value determined under the first-in, first-out accounting method.

 

Income Taxes

We record a tax provision for the anticipated tax consequences of our reported results of operations. Deferred tax assets and liabilities are measured using the currently enacted tax rates that apply to taxable income in effect for the years in which those deferred tax assets and liabilities are expected to be realized or settled. We record a valuation allowance to reduce deferred tax assets to the amount that is believed more likely than not to be realized. We believe it is more likely than not that forecasted income, including income that may be generated as a result of certain tax planning strategies, together with the tax effects of the deferred tax liabilities, will be sufficient to fully recover the remaining net realizable value of our deferred tax assets. In the event that all or part of the net deferred tax assets are determined not to be realizable in the future, an adjustment to the valuation allowance would be charged to earnings in the period in which such determination is made. In addition, the calculation of tax liabilities involves significant judgment in estimating the impact of uncertainties in the application of complex tax laws. Resolution of these uncertainties in a manner inconsistent with management’s expectations could have a material impact on our financial condition and operating results. We recognize penalties and interest expense related to unrecognized tax benefits in income tax expense.

On a quarterly basis, the Company evaluates all positive and negative evidence in determining if the valuation allowance is fairly stated. At September 30, 2019, the Company determined that, based on the profitability it has achieved, historical taxable cumulative profits, and estimates of future income, there is sufficient positive evidence to conclude that the likelihood of realization of deferred tax assets outweighs the negative evidence. The valuation allowance was partially released for the deferred tax assets that the Company is more likely than not to realize, which resulted in a $5.2 million non-cash income tax benefit from the recognition of $5.4 million in net deferred tax assets for the three- and nine-month periods ended September 30, 2019.

 

Intangible Assets

We capitalize certain software development costs related to software to be sold, leased, or otherwise marketed. Capitalized software development costs include purchased materials, services, internal labor and other costs associated with the development of new products and services. Software development costs are expensed as incurred until technological feasibility has been established, at which time future costs incurred are capitalized until the product is available for general release to the public. Based on our product development process, technological feasibility is generally established once product and detailed program designs have been completed, uncertainties related to high-risk development issues have been resolved through coding and testing, and we have established that the necessary skills, hardware, and software technology are available for production of the product. Once a software product is available for general release to the public, capitalized development costs associated with that product will begin to be amortized to cost of sales over the product's estimated economic selling life, using the straight-line method in a manner that is consistent with the anticipated timing of product revenue recognition.

Capitalized software development costs are subject to an ongoing assessment of recoverability, which is impacted by estimates and assumptions of future revenues and expenses for these software products, as well as other factors such as changes in product technologies. Any portion of unamortized capitalized software development costs that is determined to be in excess of net realizable value has been expensed in the period in which such a determination is made. Subsequent to reaching technological feasibility for certain software products, we capitalized approximately $281,000 and $32,000 of software development costs during the quarters ended September 30, 2019 and 2018, respectively, and approximately $1.0 million and $134,000 during the nine months ended September 30, 2019 and 2018, respectively. 

Intangible assets with finite lives are amortized on a straight-line basis over the expected period to be benefited by future cash flows and reviewed for impairment. At both September 30, 2019 and 2018, we determined there was no impairment of intangible assets. At both September 30, 2019 and 2018, there were no indefinite-lived intangible assets.

Note C: Fair Value Measurements

 

The guidance for fair value measurements establishes the authoritative definition of fair value, sets out a framework for measuring fair value and outlines the required disclosures regarding fair value measurements. Fair value is the price that would be received to sell an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date. We use a three-tier fair value hierarchy based upon observable and non-observable inputs as follows:

	Level 1:	observable inputs such as quoted prices in active markets;
	Level 2:	inputs, other than the quoted prices in active markets, that are observable either directly or indirectly; and
	Level 3:	unobservable inputs in which there is little or no market data, which require the reporting entity to develop its own assumptions.

Nonfinancial Assets Measured at Fair Value on a Nonrecurring Basis

 

Our intangible assets and other long-lived assets are nonfinancial assets that were acquired either as part of a business combination, individually or with a group of other assets. These nonfinancial assets were initially, and have historically been, measured and recognized at amounts equal to the fair value determined as of the date of acquisition.

 

Financial Instruments not Measured at Fair Value

Certain of our financial instruments are not measured at fair value and are recorded at carrying amounts approximating fair value, based on their short-term nature or variable interest rate. These financial instruments include cash and cash equivalents, accounts receivable, accounts payable and other current financial assets and liabilities.

 

Note D: Inventories

 

Inventories consisted of the following (in thousands):

Note E: Operating Leases

On January 1, 2019, we adopted ASU No. 2016-02, Leases (Topic 842), and its amendments and elected the effective date transition method, which included recognizing a cumulative effect adjustment through opening accumulated deficit as of that date.

 

The Company is subject to various non-cancelable operating leases for office space and IT equipment expiring at various dates through November 2022. These leases do not have significant rent escalation, holidays, concessions, leasehold improvement incentives, or other build-out clauses. Further, the leases do not contain contingent rent provisions.

  

Most of these leases include an option to renew. The exercise of lease renewal options is typically at our sole discretion; therefore, the majority of renewals to extend the lease terms are not included in our right-of-use ("ROU") assets and lease liabilities because they are not reasonably certain of exercise. We regularly evaluate the renewal options and, when they are reasonably certain of exercise, we include the renewal period in our lease term.

 

Because most of our leases do not provide an implicit rate, we use our incremental borrowing rate in determining the present value of the lease payments. The incremental borrowing rate represents an estimate of the interest rate we would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. We used incremental borrowing rates as of January 1, 2019 for operating leases that commenced prior to that date. We have a centrally managed treasury function; therefore, based on the applicable lease terms and the current economic environment, we apply a portfolio approach for determining the incremental borrowing rate.

 

Under Accounting Standards Codification (ASC) 840, rent expense for office facilities for the three- and nine-month periods ended September 30, 2018 was $147,000 and $438,000, respectively.

  

The cost components of our operating leases were as follows (in thousands) for the following periods ended September 30, 2019: 

 

Variable lease costs consist primarily of property taxes, insurance, and common area or other maintenance costs for our leased facilities and equipment, which are paid based on actual costs incurred by the lessor.

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Maturities for our lease liabilities for all operating leases are as follows (in thousands) as of September 30, 2019:

The weighted average remaining lease terms and discount rates for all of our operating leases were as follows as of September 30, 2019:

 

Cash paid for amounts included in the measurement of operating lease liabilities was $197,000 for the nine months ended September 30, 2019, and this amount is included in operating activities in the condensed consolidated statements of cash flows. Separate from the initial recognition of the existing leases, there were no operating lease assets obtained in exchange for new operating lease liabilities for the nine months ended September 30, 2019.

	September 30, 2019
													Weighted
	Gross								Net				Average
	Carrying				Accumulated				Carrying				Useful Life
	Amount				Amortization				Value				(in Years)
Developed technology	$	3,900			$	(3,900	)		$	—			—
Vision development costs		2,929				(1,094	)			1,835			8.0
Software development in process costs		1,716				—				1,716			—
IntellitraffiQ development costs		468				(146	)			322			4.0
Wrong Way development costs		228				(190	)			38			2.0
Total	$	9,241			$	(5,330	)		$	3,911			7.1

	December 31, 2018
													Weighted
	Gross								Net				Average
	Carrying				Accumulated				Carrying				Useful Life
	Amount				Amortization				Value				(in Years)
Developed technology	$	3,900			$	(3,900	)		$	—			—
Vision development costs		2,929				(819	)			2,110			8.0
Software development in process costs		674				—				674			—
IntellitraffiQ development costs		468				(59	)			409			4.0
Wrong Way development costs		228				(104	)			124			2.0
Total	$	8,199			$	(4,882	)		$	3,317			7.1

	Nine-Month Periods Ended September 30,
	2019				2018
Beginning balance	$	656			$	858
Warranty provisions		100				103
Warranty claims		(69	)			(25	)
Adjustments to preexisting warranties		(240	)			(231	)
Currency		(3	)			(7	)
Ending balance	$	444			$	698