CPI Card Group Inc. - Quarter Report: 2017 September (Form 10-Q)

 

 

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

Form 10-Q

(Mark One)

 

☒Quarterly Report Pursuant to Section 13 or 15(d) of the Securities and Exchange Act of 1934

 

For the Quarterly Period Ended September 30, 2017.

 

or

 

☐Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the Transition Period from                            to

 

Commission File Number 001-37584

 

CPI Card Group Inc.

(Exact name of the registrant as specified in its charter)

 

(303) 973-9311

(Registrant’s telephone number, including area code) 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.     Yes☒     No☐

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).     Yes☒     No☐

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company.  See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☒

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes☐     No☒

 

Number of shares of Common Stock, $0.001 par value, outstanding as of October 26, 2017: 55,673,755

 

 

 

Table of Contents

 

 

Item 1. Financial Statements

 

CPI Card Group Inc. and Subsidiaries

Condensed Consolidated Balance Sheets

(Dollars in Thousands, Except Share and Per Share Amounts)

 

 

See accompanying notes to condensed consolidated financial statements

 

 

CPI Card Group Inc. and Subsidiaries

Condensed Consolidated Statements of Operations and Comprehensive (Loss) Income

(Dollars in Thousands, Except Per Share Amounts)

(Unaudited)

 

 

See accompanying notes to condensed consolidated financial statements

 

 

CPI Card Group Inc. and Subsidiaries

Condensed Consolidated Statements of Cash Flows

(Dollars in Thousands)

(Unaudited)

 

 

See accompanying notes to condensed consolidated financial statements

CPI Card Group Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements

(Dollars in Thousands, Except Share and Per Share Amounts or as Otherwise Indicated)

(Unaudited)

 

1. Business Overview and Summary of Significant Accounting Policies

 

Business Overview

 

CPI Card Group Inc. (which, together with its subsidiaries, is referred to herein as “CPI” or the “Company”) is a leading provider of comprehensive Financial Payment Card solutions in the United States. The Company defines Financial Payment Cards as credit, debit and prepaid debit cards issued on the networks of the Payment Card Brands (Visa, MasterCard, American Express and Discover) and Interac (in Canada). The Company serves its customers through a network of ten production and card services facilities, including eight high-security facilities in the United States and Canada that are each certified by one or more of the Payment Card Brands and Interac (in Canada) and, where required by the Company’s customers, certified to be in compliance with the standards of the Payment Card Industry (“PCI”) Security Standards Council.

 

In addition to its eight facilities in the United States and Canada, the Company has two facilities in the United Kingdom that produce retail cards, such as gift and loyalty cards, and provide card personalization, packaging and fulfillment services for customers in the United Kingdom and continental Europe.  These facilities are not certified by the Payment Card Brands or to be in compliance with the Standards of the PCI Security Standards Council, but are certified to be in compliance with International Organization for Standardization (“ISO”) 27001 standards.

 

Basis of Presentation

 

Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) have been condensed or omitted pursuant to Form 10-Q and Article 10 of Regulation S-X. In the opinion of management, these financial statements reflect all adjustments (consisting of normal recurring adjustments) considered necessary for the fair statement of the results of the interim periods presented. The Condensed Consolidated Balance Sheet as of December 31, 2016 is derived from the audited financial statements as of that date.  The accompanying condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2016.

 

Use of Estimates

 

Management uses estimates and assumptions relating to the reporting of assets and liabilities in its preparation of the condensed consolidated financial statements. Significant items subject to such estimates and assumptions include the carrying amount of property and equipment, goodwill and intangible assets; valuation allowances for inventories and deferred tax assets; debt; and stock-based compensation expense. Actual results could differ from those estimates.

 

Inventories

 

Inventories consist of raw materials, work-in-process and finished goods and are measured at the lower of cost or net realizable value (determined on the first-in, first-out or specific identification basis) in accordance with the Financial Accounting Standards Board’s (“FASB”) Accounting Standards Update (“ASU”) 2015-11, Inventory—Simplifying the Measurement of Inventory, which the Company adopted on January 1, 2017. Net realizable value is the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. The adoption of this standard did not impact the Company’s financial position, results of operations or cash flows during either the three or nine months ended September 30, 2017.

 

Stock-based Compensation

 

The Company accounts for stock-based compensation pursuant to Accounting Standards Codification (“ASC”) Topic 718, Share-Based Payments. All stock-based compensation to employees is required to be measured at fair value and expensed, net of forfeitures, over the requisite service period. The Company recognizes compensation expense on

awards on a straight-line basis over the vesting period for each tranche of an award. Refer to Note 11 “Stock Based Compensation” for additional discussion regarding details of the Company's stock-based compensation plans.

 

As a result of the Company’s adoption of ASU 2016-09, Compensation–Stock Compensation: Improvements to Employee Share-Based Payment Accounting (“ASU 2016-09”)  as of January 1, 2017, the Company accounts for forfeitures when they occur.  In addition, excess tax benefits and deficiencies in connection with the Company’s stock-based compensation plans are recorded in “Income tax benefit” in the Condensed Consolidated Statement of Operations and Comprehensive (Loss) Income.

 

Recently Issued Accounting Pronouncements

 

The FASB issued ASU 2014-09, Revenue from Contracts with Customers, in May 2014, as amended by ASU 2016-12 Narrow-scope Improvements and Practical Expedients, in May 2016. ASU 2014-09, as amended, requires an entity to recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. An entity should also disclose sufficient quantitative and qualitative information to enable users of financial statements to understand the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers. In July 2015, the FASB deferred the effective date to annual reporting periods beginning after December 15, 2017, and interim reporting periods within those periods. The Company plans to implement the provisions of ASU 2014-09, as amended, as of January 1, 2018 using the modified retrospective transition method, with the cumulative effect of initial adoption recognized at the date of initial application.  The Company is currently assessing the impact that the future adoption of ASU 2014-09, as amended, will have on its condensed consolidated financial statements. The Company believes it meets the criteria for recognizing certain performance obligations over time, as much of its finished product provides value to only a specified customer, has no alternative use, and the Company has the right to payment for work completed on such items. After the adoption of ASU 2014-09, the Company would plan to expense the costs of these performance obligations over time and apply a margin to estimate associated revenues. The Company is evaluating the required changes to its business and accounting processes, and internal controls to support recognition and disclosures under the new standard.

   

In February 2016, the FASB issued ASU 2016-02, Leases, which provides guidance for accounting for leases. The new guidance requires companies to recognize the assets and liabilities for the rights and obligations created by leased assets.  ASU 2016-02 is effective for annual and interim periods beginning after December 15, 2018 (the Company’s fiscal year 2019) with early adoption permitted. The new standard is required to be adopted using a modified retrospective approach. The Company is in the process of assessing the impact of ASU 2016-02 on its results of operations, financial position and condensed consolidated financial statements.

 

In January 2017, the FASB issued ASU 2017-04,  Intangibles – Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment to simplify the method of measuring a goodwill impairment charge in the event a reporting unit’s carrying amount exceeds its fair value. In those circumstances, the new standard requires the Company to recognize an impairment charge for the amount by which the carrying amount of the reporting unit exceeds its fair value. The Company cannot predict if or when such an impairment charge may occur, or the amount of any potential impairment, and is currently evaluating the potential impact that the adoption of ASU 2017-04 will have on its results of operations, financial position and condensed consolidated financial statements. The Company is required to adopt the new standard on January 1, 2020, with early adoption permitted.

 

 

2. Inventories

 

Inventories are summarized below:

 

 

 

 

3. Plant, Equipment and Leasehold Improvements

 

Plant, equipment and leasehold improvements consist of the following:

 

 

Amounts recorded for the depreciation of plant, equipment and leasehold improvements was $3,233 and $3,098 for the three months ended September 30, 2017 and 2016, respectively, and $9,917 and $9,124 for the nine months ended September 30, 2017 and 2016, respectively.

 

4. Goodwill and Other Intangible Assets

 

The Company’s goodwill by reportable segment at September 30, 2017 and December 31, 2016 is as follows:

 

 

The change in goodwill from December 31, 2016 to September 30, 2017 was a result of foreign currency translation adjustments.

 

Intangible assets consist of customer relationships, technology and software, non-compete agreements and trademarks. The changes in the cost basis of the intangibles from December 31, 2016 to September 30, 2017 are related to foreign currency translation adjustments. Intangible amortization expense was $1,227 and $1,132 for the three months ended September 30, 2017 and 2016, respectively, and $3,678 and $3,406 for the nine months ended September 30, 2017 and 2016, respectively. 

 

As of September 30, 2017 and December 31, 2016, intangible assets, excluding goodwill, were comprised of the following:

 

 

The estimated future aggregate amortization expense for the identified amortizable intangibles noted above as of September 30, 2017 is as follows:

 

 

 

 

5. Fair Value of Financial Instruments

 

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (exit price). In determining fair value, the Company utilizes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value into three broad levels. The following is a brief description of those three levels:

 

    Level 1—Valuations based on unadjusted quoted prices in active markets for identical assets or liabilities accessible to the reporting entity at the measurement date.

 

    Level 2— Observable inputs other than Level 1 prices such as quoted prices in active markets for similar assets and liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term for the assets or liabilities.

 

    Level 3— Valuations based on unobservable inputs for the asset or liability used to measure fair value to the extent that observable inputs are not available, thereby allowing for situations in which there is little, if any, market activity for the asset or liability at measurement date.

 

The Company’s financial assets and liabilities that are not required to be remeasured at fair value in the Condensed Consolidated Balance Sheets are as follows:

 

 

 

The aggregate fair value of the Company’s First Lien Term Loan, as defined in Note 6, “Long-Term Debt and Credit Facility,” was based on bank quotes.

 

The carrying amounts for cash and cash equivalents approximate fair value due to their short maturities.

 

6. Long-Term Debt and Credit Facility

 

As of September 30, 2017 and December 31, 2016, long-term debt and credit facilities consist of the following:

 

(1)   Interest rate at September 30, 2017.  Interest rate at December 31, 2016 was 5.50%.

 

First Lien Credit Facility

 

On August 17, 2015, the Company entered into a first lien credit facility (the “First Lien Credit Facility”) with a syndicate of lenders providing for a $435,000 first lien term loan (the “First Lien Term Loan”) and a $40,000 revolving credit facility (the “Revolving Credit Facility”). The First Lien Term Loan and the Revolving Credit Facility have maturity dates of August 17, 2022 and August 17, 2020, respectively.

 

The First Lien Credit Facility is secured by a first-priority security interest in substantially all of the Company’s assets constituting equipment, inventory, receivables, cash and other tangible and intangible property.

 

Interest rates under the First Lien Credit Facility are based, at the Company’s election, on a Eurodollar rate, subject to an interest rate floor of 1.0%, plus a margin of 4.50%, or a base rate plus a margin of 3.50%.

 

The First Lien Credit Facility contains customary nonfinancial covenants, including among other things, restrictions on indebtedness, issuance of liens, investments, dividends, redemptions and other distributions to equity holders, asset sales, certain mergers or consolidations, sales, transfers, leases or dispositions of substantially all of the Company’s assets and affiliate transactions. The First Lien Credit Facility also contains a requirement that, as of the last day of any fiscal quarter, if the amount the Company has drawn under the Revolving Credit Facility is greater than 50% of the aggregate principal amount of all commitments of the lenders thereunder, the Company maintain a first lien net leverage ratio not in excess of 7.0 times trailing twelve month Adjusted EBITDA, as defined in the agreement. As of September 30, 2017, the Company was in compliance with all covenants under the First Lien Credit Facility.

 

The First Lien Credit Facility also requires prepayment in advance of the maturity date upon the occurrence of certain customary events, including based on an annual excess cash flow calculation, pursuant to the terms of the agreement, with any required payments to be made after the issuance of the Company’s annual financial statements.  As of September 30, 2017, the Company does not expect to have a required excess cash flow payment related to 2017.

 

As of September 30, 2017, the Company did not have any outstanding amounts under the Revolving Credit Facility, and has $19,950 available for borrowing. Additional amounts may be available for borrowing under the term of the Revolving Credit Facility, up to the full $40,000, to the extent the Company’s net leverage ratio does not exceed 7.0 times Adjusted EBITDA, as defined in the agreement. The Company has one outstanding letter of credit for $50 relating to the security deposit on a real property lease agreement. The Company pays a fee on outstanding letters of credit at the applicable margin, which was 4.50% as of September 30, 2017 and December 31, 2016, in addition to a fronting fee of 0.125% per annum. In addition, the Company is required to pay an unused commitment fee ranging from 0.375% per annum to 0.50% per annum of the average unused portion of the revolving commitments. The unused commitment fee is determined on the basis of a grid that results in a lower unused commitment fee as the Company’s total net leverage ratio declines.  The Company has accrued interest of $4,192 and $3,858, recorded within “Accrued expenses” on the Condensed Consolidated Balance Sheets as of September 30, 2017, and December 31, 2016, respectively.

 

Sellers Note

 

The Company entered into a subordinated, unsecured promissory note for $9,000 with certain sellers of EFT Source as part of the EFT Source acquisition, which was fully repaid on September 2, 2016. Interest on the Sellers Note accrued at 5.0% per annum and was paid quarterly.

 

Deferred Financing Costs

 

Certain costs incurred with borrowings or the establishment or modification of credit facilities are reflected as a reduction to the long-term debt balance.  These costs are amortized as an adjustment to interest expense over the life of the borrowing using the effective-interest rate method.

 

 

7. Income Taxes

 

During the three months ended September 30, 2017, the Company recognized an income tax benefit of $755 on a pre-tax loss of $1,490, representing an effective income tax rate of 50.7%, compared to an income tax expense of $2,541 on pre-tax income of $6,567, representing an effective tax rate of 38.7% during the three months ended September 30, 2016.  During the nine months ended September 30, 2017, the Company recognized an income tax benefit of $3,893 on a pre-tax loss of $11,296, representing an effective income tax rate of 34.5%, compared to an income tax expense of $5,194 on pre-tax income of $14,607, representing an effective tax rate of 35.6% during the nine months ended September 30, 2016.

 

The effective tax rates differ from the federal U.S. statutory rate primarily due to a benefit from permanent deductions related to credits for domestic production activities and the impact of state and foreign income taxes.  In addition, as a result of the January 1, 2017 adoption of ASU 2016-09, excess tax benefits and deficiencies in connection with the Company’s stock-based compensation plans are recorded to income tax benefit and impact the effective tax rate.

 

The Company’s tax returns are subject to audits by U.S. federal, state, and foreign tax authorities.  During March 2017, the Company was notified that the Internal Revenue Service ("IRS") would examine its 2014 United States federal income tax return. During August 2017, the Company was notified that the IRS has completed the examination and made no adjustments to the Company’s reported tax.

 

8. Stockholders’ Equity

 

During the three and nine months ended September 30, 2017, the Company paid dividends of $2,511 and $7,537, respectively, representing $0.045 and $0.135 per share, respectively.  During August 2017, the Company discontinued its quarterly dividend of $0.045 per share. 

 

On May 11, 2016, the Board of Directors approved a stock repurchase program that authorized repurchases of the Company’s common stock up to $20,000, limited to a maximum of 2,827,105 shares, prior to May 11, 2017.  The stock repurchase program expired by its terms during May 2017.  During the three and nine months ended September 30, 2017, there were no common shares repurchased.

 

 

9. (Loss) Earnings per Share

 

Basic and diluted (loss) earnings per share is computed by dividing net (loss) income by the weighted-average number of common shares outstanding during the period.

 

The following table sets forth the computation of basic and diluted (loss) earnings per share:

 

 

The Company reported a net loss for the three and nine months ended September 30, 2017.  Accordingly, the potentially dilutive effect of 4,765,224 stock options and 263,323 restricted stock units has been excluded from the computation of diluted earnings per share as their inclusion would be anti-dilutive.

 

10. Commitments and Contingencies

 

Commitments

 

The Company incurred rent expense under non-cancellable operating leases of $970 and $907 for the three months ended September 30, 2017 and 2016, respectively, and $2,875 and $2,541 for the nine months ended September 30, 2017 and 2016, respectively.

 

Contingencies 

 

In accordance with applicable accounting guidance, the Company establishes an accrued liability when loss contingencies are both probable and estimable. In such cases, there may be an exposure to loss in excess of any amounts accrued. As a matter develops, the Company, in conjunction with any outside counsel handling the matter, evaluates on an ongoing basis whether such matter presents a loss contingency that is probable and estimable. Once the loss contingency is deemed to be both probable and estimable, the Company will establish an accrued liability and record a corresponding amount of litigation-related expense. The Company expenses professional fees associated with litigation claims and assessments as incurred.

 

CPI Card Group Inc. Securities Litigation, Case No. 1:16-CV-04531 (S.D.N.Y.)

 

On June 15, 2016, two purported CPI stockholders filed putative class action lawsuits captioned Vance, et al. v. CPI Card Group Inc., et al. and Chipman, et al. v. CPI Card Group Inc., in the United States District Court for the Southern District of New York against CPI and certain of its officers and directors, along with the sponsors of and the financial institutions who served as underwriters for CPI’s October 2015 initial public offering (“IPO”). The complaints, purportedly brought on behalf of all purchasers of CPI common stock pursuant to the October 8, 2015 Registration Statement filed in connection with the IPO, assert claims under §§11 and 15 of the Securities Act of 1933, as amended (the “Securities Act”) and seek, among other things, damages and costs. In particular, the complaints allege that the Registration Statement contained false or misleading statements or omissions regarding CPI’s customers’ (i) purchases of Europay, MasterCard, and VISA chip cards (collectively, “EMV cards”) during the first half of fiscal year 2015 and resulting EMV card inventory levels, and (ii) capacity to purchase additional EMV cards in the fourth quarter of fiscal year 2015, and the remainder of the fiscal year ended December 31, 2015. The complaints allege that these actions artificially inflated the price of CPI common stock issued pursuant to the IPO.

 

On August 30, 2016, the Court consolidated the Vance and Chipman actions and appointed lead plaintiff and lead counsel pursuant to the Private Securities Litigation Reform Act (the “PSLRA”). On October 17, 2016, lead plaintiff filed a consolidated amended complaint, asserting the same claims for violations of §§11 and 15 of the Securities Act. The amended complaint is based principally on the same theories as the original complaints, but adds allegations that the Registration Statement contained inadequate risk disclosures and failed to disclose (i) small and mid-size issuers’ slower-than-anticipated conversion to EMV technology and (ii) increased pricing pressure and competition CPI faced in the EMV market.

 

On November 16, 2016, the Company filed a motion to dismiss the amended complaint, which was denied by the court on October 30, 2017.  The Company believes these claims are without merit and intends to defend the actions vigorously. Given the current stage of these matters, the range of potential loss is not probable or estimable and no accrual has been recognized as of September 30, 2017 or December 31, 2016.  

 

Gemalto S.A. v. CPI Card Group Inc. (2 cases)

 

First case. This suit was initially filed by Gemalto S.A. (“Gemalto”) against the Company in the United States District Court for the Western District of Texas in October 2015.  The complaint alleged that the Company infringed a now-expired Gemalto patent by incorporating into the Company’s products microchips that allegedly practice the EMV standard.  The Company successfully moved to transfer the lawsuit to the District of Colorado, answered the complaint, and filed counterclaims that the asserted patent was invalid and unenforceable, and that Gemalto’s lawsuit was a “sham” intended to interfere with the Company’s IPO and business relationships.  Gemalto answered the Company’s counterclaims in February 2016.  In March 2016, Gemalto provided specific infringement contentions, which named CPI products that incorporate microchips supplied by two specific vendors.

 

On May 31, 2016, the Company filed an Inter Partes Review ("IPR") petition with the United States Patent & Trademark Office’s Patent Trial & Appeal Board (“PTAB”), seeking re-examination of Gemalto’s asserted patent. On July 11, 2016, the United States District Court for the District of Colorado granted the Company’s motion to stay the litigation pending the PTAB’s consideration of the Company’s challenge to the patentability of asserted claims. The petition was granted as to all of the independent claims of Gemalto’s patent on November 9, 2016.  The PTAB also granted the Company’s petition as to certain dependent claims, which are claims that rely upon and incorporate an independent claim. The PTAB heard oral argument on the IPR on August 4, 2017. No decision has yet been rendered.

 

            Second case. On May 3, 2016, Gemalto filed a second patent infringement action against CPI in the United States District Court for the District of Colorado. The complaint alleged that the Company infringed a Gemalto patent on networked smartcard printing by way of the Company’s Card@Once offering. Gemalto provided initial infringement contentions to the Company in July 2016, and amended its contentions in October 2016. During May 2017, the Company filed an IPR petition with the PTAB, seeking re-examination of Gemalto’s asserted patent.  The PTAB has not yet ruled on the Company’s petition.

 

On September 28, 2017, the Company reached a settlement with Gemalto to resolve both lawsuits. Under the terms of the settlement, the Company has agreed to make a one-time payment of $750 in the fourth quarter of 2017. The settlement will result in the dismissal of both lawsuits with prejudice. The settlement also includes a mutual covenant not to sue for a period of 18 months. The Company previously had accrued a $1,000 loss contingency, which does not include any potential indemnity or other third-party recoveries.  As a result of the settlement, the Company has recorded a $250 reduction to its previously recorded loss contingency, which is recorded in “Selling, General and Administrative” expenses in the Condensed Consolidated Statement of Operations during the three months ended September 30, 2017.  The net expense recognized for this contingency during the nine months ended September 30, 2017 was $750.

 

In addition to the matters described above, the Company is subject to routine legal proceedings in the ordinary course of business. The Company believes that the ultimate resolution of these matters will not have a material adverse effect on our business, financial condition or results of operations.

 

 

11. Stock-Based Compensation

 

CPI Card Group Inc. Omnibus Incentive Plan

 During October 2015, the Company adopted the CPI Card Group Inc. Omnibus Incentive Plan (the “Omnibus Plan”) pursuant to which cash and equity based incentives may be granted to participating employees, advisors and directors. The Company had reserved 4,000,000 shares of common stock for issuance under the Omnibus Plan.  Effective September 25, 2017, the Omnibus Plan was amended and restated, providing for an increase in the number of shares of common stock authorized for issuance thereunder by 2,000,000, subject to the effectiveness of stockholder approval under the applicable law, after which the Company will have reserved 6,000,000 shares of common stock for issuance.  As of September 30, 2017, there were 827,378 shares available for grant under the Omnibus Plan.

During the three months ended September 30, 2017, the Company granted awards of non-qualified stock options for 2,780,147 shares of common stock, of which 1,230,173 are contingent upon the effectiveness of stockholder approval of the Omnibus Plan amendment, as described above.  The third quarter 2017 stock option awards were made in lieu of the regular cycle of Omnibus Plan awards that the Company would have otherwise made in the first quarter of 2018, and also in conjunction with the appointment of the Company’s President and Chief Executive Officer.  During the nine months ended September 30, 2017, the Company granted awards of non-qualified stock options for 3,565,517 shares of common stock, of which 1,230,173 are contingent upon the effectiveness of stockholder approval of the Omnibus Plan amendment, as described above.  All stock option grants have a 10-year term, and will generally vest ratably over a three-year period beginning on the first anniversary of the grant date. As of September 30, 2017, there are 28,125 exercisable options outstanding under the Omnibus Plan. Outstanding stock options under the Omnibus Plan, including the contingent option awards discussed above, are as follows:

 

 

 

Unvested options as of September 30, 2017 will vest as follows:

 

 

The fair value of the stock option awards granted during the nine months ended September 30, 2017, was determined using a Black-Scholes option-pricing model with the following weighted-average assumptions:

 

 

The Company did not grant any awards of restricted stock units during the three months ended September 30, 2017.  During the nine months ended September 30, 2017, the Company granted awards of restricted stock units for 239,446 shares of common stock. The restricted stock units contain conditions associated with continued employment or service.  The majority of the restricted stock units granted will vest in one year or three years from the date of grant.  On the vesting date, shares of common stock will be issued to the award recipients.

 

The following table summarizes the changes in the number of outstanding restricted stock units for the nine month period ended September 30, 2017:

 

 

During the nine months ended September 30, 2017, the Company granted awards of 932,837 cash performance units with a grant date fair value of $663. There were no awards of cash performance units granted during the three months ended September 30, 2017.  These awards will settle in cash in three annual payments on the first, second and third anniversaries of the date of grant.  The cash performance units are based on the performance of the Company’s stock, measured based on the Company’s stock price at each of the first, second, and third anniversaries of the grant date compared to the Company’s stock price on the date of grant.  The cash performance units were valued using a Monte Carlo simulation.  The Monte Carlo model used the following valuation assumptions based on the 3-year term of the awards: leverage adjusted peer volatility of 48%, risk free rate of 1.5%, and a dividend yield of 4.0%.  The Company recognizes compensation expense on a straight-line basis for each annual performance period. The cash performance units are accounted for as a liability and remeasured to fair value at the end of each reporting period.  As of September 30, 2017, the Company recognized a liability of $75 in “Accrued expenses” and $62 in “Other long-term liabilities” in the Condensed Consolidated Balance Sheet for unsettled cash performance units.

 

The following table summarizes the changes in the number of outstanding cash performance units for the nine month period ended September 30, 2017:

 

Compensation expense for the Omnibus Plan for the three months ended September 30, 2017 and 2016 was $507 and $840, respectively, and was $1,738 and $2,045, during the nine months ended September 30, 2017 and 2016, respectively.  As of September 30, 2017, the total unrecognized compensation expense related to unvested options, restricted stock units, and cash performance unit awards under the Omnibus Plan was $2,885, which the Company expects to recognize over an estimated weighted average period of 1.8 years.

 

CPI Holdings I, Inc. Amended and Restated 2007 Stock Option Plan

 

In 2007, the Company’s Board of Directors adopted the CPI Holdings I, Inc. Amended and Restated 2007 Stock Option Plan (the “Option Plan”). Under the provisions of the Option Plan, stock options may be granted to employees, directors, and consultants at an exercise price greater than or equal to (and not less than) the fair market value of a share on the date the option is granted.

 

As a result of the Company’s adoption of the Omnibus Plan, as further described above, no further awards will be made under the Option Plan.  The outstanding stock options under the Option Plan are non-qualified, have a 10-year life and are fully vested as of September 30, 2017. 

 

The following table summarizes the changes in the number of outstanding stock options under the Option Plan for the nine months ended September 30, 2017:

 

 

There was no compensation expense related to options previously granted under the Option Plan for the three and nine months ended September 30, 2017, as all options were fully vested.  The aggregate intrinsic value of stock option awards outstanding and exercisable under the Option Plan as of September 30, 2017 was $39.

 

Other Stock-Based Compensation Awards

 

During June 2015, the Company issued 191,664 restricted shares of common stock to executives with a weighted-average grant date fair value of $9.48 per share.  There was no activity relating to restricted common stock for the three months ended September 30, 2017, and there are no outstanding unvested shares of restricted common stock as of September 30, 2017. The terms of the unvested restricted shares of common stock provided voting and regular dividend rights to the holders, and accordingly are included in weighted-average shares outstanding in the Company’s basic (loss) earnings per share calculation.  See Note 9, “(Loss) Earnings per Share”. 

 

During the nine months ended September 30, 2017, of the remaining 94,864 of unvested restricted stock awards that were outstanding, 47,432 shares vested, and the remaining 47,432 shares were forfeited.  The executive who held the remaining 94,864 unvested restricted shares changed employment status to a consultant during the first quarter of 2017, and accordingly, the Company remeasured the awards on the date of the change in employment status and reduced stock-based compensation expense by $143. There was no compensation expense recorded for these awards during the three months ended September 30, 2017, and compensation expense related to these awards for the nine months ended September 30, 2017 was $(371).  Compensation expense related to these awards for the three and nine months ended September 30, 2016 was $94 and $740, respectively.   

 

12. Segment Reporting

 

The Company has identified reportable segments as those consolidated subsidiaries that represent 10% or more of its revenue, EBITDA (as defined below), or total assets, or when the Company believes information about the segment would be useful to the readers of the financial statements. The Company’s chief operating decision maker is its Chief Executive Officer who is charged with management of the Company and is responsible for the evaluation of operating performance and decision making about the allocation of resources to operating segments based on measures such as revenue and EBITDA.

 

EBITDA is the primary measure used by the Company’s chief operating decision maker to evaluate segment operating performance. As the Company uses the term, EBITDA is defined as income before interest expense, income taxes, depreciation and amortization. The Company’s chief operating decision maker believes EBITDA is a meaningful measure and is superior to available GAAP measures as it represents a transparent view of the Company’s operating performance that is unaffected by fluctuations in property, equipment and leasehold improvement additions. The Company’s chief operating decision maker uses EBITDA to perform periodic reviews and comparison of operating trends and identify strategies to improve the allocation of resources amongst segments.