CRAWFORD UNITED Corp - Quarter Report: 2022 September (Form 10-Q)

PART I

ITEM 1. FINANCIAL STATEMENTS

CRAWFORD UNITED CORPORATION

CONSOLIDATED BALANCE SHEET

See accompanying notes to consolidated financial statements

CRAWFORD UNITED CORPORATION

CONSOLIDATED BALANCE SHEET

See accompanying notes to consolidated financial statements

CRAWFORD UNITED CORPORATION

CONSOLIDATED STATEMENT OF INCOME (Unaudited)

See accompanying notes to consolidated financial statements

CRAWFORD UNITED CORPORATION

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (Unaudited)

Three Months Ended September 30, 2022 and 2021

CRAWFORD UNITED CORPORATION

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (Unaudited)

Nine Months Ended September 30, 2022 and 2021

See accompanying notes to consolidated financial statements

CRAWFORD UNITED CORPORATION

CONSOLIDATED STATEMENT OF CASH FLOW (Unaudited)

See accompanying notes to consolidated financial statements

CRAWFORD UNITED CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
September 30, 2022

1.  BASIS OF PRESENTATION

The accompanying unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles (GAAP) for interim financial information and with the instructions to Form 10-Q and Article 8 of Regulation S-X. Accordingly, they do not include all the information and footnotes required by generally accepted accounting principles for complete financial statements. The consolidated financial statements include the accounts of Crawford United Corporation and its wholly-owned subsidiaries (the “Company”). Significant intercompany transactions and balances have been eliminated in the financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three and nine months ended September 30, 2022 are not necessarily indicative of the results that may be expected for the year ended December 31, 2022. For further information, refer to the consolidated financial statements and footnotes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021. 

During the nine-month period ended September 30, 2022, there have been no changes to the Company's significant accounting policies.

2.  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

The Company’s Summary of Significant Accounting Policies is provided with the consolidated financial statements and footnotes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021.

New Accounting Standards Not Yet Adopted

In June 2016, the FASB issued ASU 2016-13, Financial Instruments-Credit Losses. The standard requires a financial asset (including trade receivables) measured at amortized cost basis to be presented at the net amount expected to be collected. Thus, the income statement will reflect the measurement of credit losses for newly-recognized financial assets as well as the expected increases or decreases of expected credit losses that have taken place during the period. This standard will be effective for smaller reporting companies for fiscal years beginning after December 15, 2022.The Company is in the process of analyzing the impact to its consolidated financial statements.

Use of Estimates in the Preparation of Financial Statements
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that may affect the reported amounts of certain assets and liabilities and disclosure of contingencies at the date of the financial statements, and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.

Fair Value of Financial Instruments
Accounting for "Financial Instruments" requires the Company to disclose estimated fair values of financial instruments. Financial instruments held by the Company include, among others, accounts receivable, accounts payable, and notes payable. The carrying amounts reported in the consolidated balance sheet for assets and liabilities qualifying as financial instruments is a reasonable estimate of fair value.

Fair Value Measurements

As defined in FASB ASC 820, "Fair Value Measurements", fair value is 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. In determining fair value, the Company utilizes certain assumptions that market participants would use in pricing the asset or liability, including assumptions about risk and/or the risks inherent in the inputs to the valuation technique. These inputs can be readily observable, market corroborated, or generally unobservable firm inputs. The Company utilizes valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs. Based on the examination of the inputs used in the valuation techniques, the Company is required to provide the following information according to the fair value hierarchy. The fair value hierarchy ranks the quality and reliability of the information used to determine fair values. Financial assets and liabilities carried at fair value will be classified and disclosed in one of the following three categories:

* Level 1: Quoted market prices in active markets for identical assets or liabilities.

* Level 2: Inputs to the valuation methodology include: * Quoted prices for similar assets or liabilities in active markets;

* Quoted prices for identical assets or similar assets or liabilities in inactive markets;

* Inputs other than quoted prices that are observable for the asset or liability;

* Inputs that are derived principally from or corroborated by observable market data by correlation or other means.

* Level 3: Unobservable inputs that are not corroborated by market data.

A financial instrument's categorization within the valuation hierarchy is based upon the lowest level of input that is significant to the fair value measurement.

Following is a description of the valuation methodologies used for instruments measured at fair value, including the general classification of such instruments pursuant to the valuation hierarchy.

* Stock: The stock market value is based on valuation of market quotes from independent active market sources, and is considered a level 1 investment.

3.  ACCOUNTS RECEIVABLE 

The Company establishes an allowance for doubtful accounts based upon factors surrounding the credit risk of specific customers, historical trends and other information. The reserve for doubtful accounts was $38,288 and $75,930 at September 30, 2022 and December 31, 2021, respectively.

4.  INVENTORY

Inventory is valued at the lower of cost (first-in, first-out) or net realizable value and consists of:

5. GOODWILL AND OTHER INTANGIBLE ASSETS, NET

For the identified reporting units, impairment testing was performed as of December 31, 2021 using an income approach based on management’s determination of the prospective financial information, with consideration given to the existing uncertainty in the global economy and aerospace and defense industry, particularly the commercial sector. The results of this test indicated the fair value exceeded carrying value for all reporting units tested. As a result of the impairment testing performed as of December 31, 2021, no indefinite-lived intangible assets or goodwill was determined to be impaired. Management updated their assessment during the first nine months of 2022 and validated the assumptions used in the analyses performed as of December 31, 2021 and determined that the resulting conclusions remained appropriate as of September 30, 2022.

Goodwill increased by $1.8 million from $14.4 million at December 31, 2021 to $16.2 million at September 30, 2022. The increase in Goodwill was driven by the addition of $1.9 million of Goodwill related to the acquisitions in the Industrial and Transportation Products segment of Knitting Machinery Company of America in the second quarter of 2022 and of Reverso Pumps and Separ America in the first quarter of 2022, partially offset by a decrease of $0.1 million related to a purchase accounting adjustment to Goodwill for Global-Tek Manufacturing and Global-Tek Colorado, also in the Industrial and Transportation Products segment. Goodwill by reportable segment is as follows:

Intangible assets relate to the purchase of businesses. Goodwill represents the excess of cost over the fair value of identifiable assets acquired. Goodwill is not amortized but is reviewed on an annual basis for impairment. Amortization of intangibles is being amortized on a straight-line basis over period ranging from one year to 15 years. Intangible assets are as follows:

Amortization of intangibles assets was: $316,729 and $229,817 for the three months ended September 30, 2022 and 2021, respectively and $956,853 and $653,733 for the nine months ended September 30, 2022 and 2021, respectively.

6.  PROPERTY, PLANT AND EQUIPMENT, NET

Property, plant and equipment are recorded at cost and depreciated over their useful lives. Maintenance and repair costs are expenses as incurred. Property, plant and equipment are as follows:

Depreciation expense was $597,320 and $511,046 for the three months ended September 2022 and 2021, respectively and $1,778,566 and $1,535,870 for the nine months ended September 30, 2022 and 2021, respectively. There was a $1.0 million reclassification from inventory to machinery and equipment during the three months ended September 30, 2022.

7.  INVESTMENTS IN EQUITY SECURITIES

Investments in equity securities are summarized in the table below:

Investments by fair value level in the hierarchy as of September 30, 2022 and December 31, 2021 are as follows:

8.  BANK DEBT 

The Company is party to a Credit Agreement with JPMorgan Chase Bank, N.A. as lender (as amended, the “Credit Agreement”). As amended, the Credit Agreement is comprised of a revolving facility in the amount of $30,000,000 and a term A loan in the amount of $6,000,000. The revolving facility matures June 1, 2024 and the term A loan matures December 1, 2022. Outstanding borrowings on the term A loan are payable in consecutive monthly installments, which currently amount to $111,111 per month and a final payment of $222,223 on the December 1, 2022 maturity date.

The revolving facility under the Credit Agreement includes a $3 million sublimit for the issuance of letters of credit thereunder. Interest for borrowings under the revolving facility accrues at a per annum rate equal to Prime Rate or LIBOR plus applicable margins of (i) (0.25%) for Prime Rate loans and (ii) 1.75% for LIBOR loans. The maturity date of the revolving facility is  June 1, 2024. Interest for borrowings under the term A loan accrues at a per annum rate equal to Prime Rate or LIBOR plus applicable margins of (i) 0.25% for Prime Rate loans and (ii) 2.25% for LIBOR loans. The maturity date of the term A loan is December 1, 2022. The Credit Agreement includes a commitment fee on the unused portion of the revolving facility of 0.25% per annum payable quarterly. The obligations of the Company and other borrowers under the Credit Agreement are secured by a blanket lien on all the assets of the Company and its subsidiaries. The Credit Agreement also includes customary representations and warranties and applicable reporting requirements and covenants. The financial covenants under the Credit Agreement include a minimum fixed charge coverage ratio, a maximum senior funded debt to EBITDA ratio and a maximum total funded debt to EBITDA ratio. LIBOR is a common benchmark interest rate (or reference rate) used to set and make adjustments to interest rates for certain floating rate securities and other financial instruments. Financial institutions are discontinuing the use of LIBOR and adopting alternative reference rates including the Federal Reserve Bank of New York’s Secured Overnight Financing Rate (SOFR).

Bank debt balances consist of the following:

The Company had $9.1 million and $13.7 million available to borrow on the revolving credit facility at September 30, 2022 and December 31, 2021, respectively.   

9.     NOTES PAYABLE

Notes Payable – Related Party

The Company had two separate outstanding promissory notes with First Francis Company Inc. (“First Francis”), which were originally issued in  July 2016 in connection with the acquisition of Federal Hose Manufacturing (“Federal Hose”) and which were amended in  July 2018 in connection with acquisition of CAD Enterprises, Inc. (“CAD”). The first promissory note was issued with original principal in the amount of $2,000,000, and the second was issued with original principal in the amount of $2,768,662. The promissory notes each had an interest rate of 6.25% per annum, which was increased from 4.0% per annum as part of the  July 2018 amendments.

In connection with the Komtek Forge acquisition, on  January 15, 2021, the Company refinanced the outstanding First Francis promissory notes in the aggregate amount of $2,077,384, including accrued interest payable through the refinance date and combined this amount with an existing First Francis promissory note carried by Komtek Forge in the amount of $1,702,400 into one note for a combined $3,779,784 loan due to First Francis Company, payable in quarterly installments beginning  April 15, 2021. The interest rate on the refinanced loan remained at 6.25% per annum. First Francis is owned by Edward Crawford and Matthew Crawford, both of whom serve on the Board of Directors of the Company.

Notes Payable – Seller Note

Effective July 1, 2018, the Company completed the acquisition of all of the issued and outstanding shares of capital stock of CAD. Upon the closing of the transaction, the CAD shares were transferred and assigned to the Company in consideration of the payment by the Company of an aggregate purchase price of $21 million, $12 million of which was payable in cash at closing, with the remainder paid in the form of a subordinated promissory note issued by the Company in favor of a Seller (the “Seller Note”), which is subject to certain post-closing adjustments based on working capital, indebtedness and selling expenses, as specified in the Share Purchase Agreement entered into in connection with the acquisition (the “Share Purchase Agreement”). The Seller Note bears interest at a rate of four percent (4%) per annum and is payable in full no later than June 30, 2023 (the “Maturity Date”). The Maturity Date, with respect to any then-outstanding portion of the original principal amount which is subject to an indemnification claim by the Company (asserted in accordance with the terms of the Share Purchase Agreement) pending as of the date thereof, will be automatically extended until such time as any claim relating to such disputed amount is no longer pending, pursuant to the terms of the Seller Note and subject to additional conditions set forth therein and in the Share Purchase Agreement. The Company is not permitted to prepay any amounts due and owing under the Seller Note. Payment of the Seller Note is secured by a second-priority security interest in the assets of CAD. Interest accrued on the original principal amount is due and payable in arrears on the first day of each calendar quarter up to and including June 30, 2023. The Company is required to make quarterly principal payments, the amount of which is calculated based on a four (4) year amortization schedule, on the last day of each calendar quarter up to and including the Maturity Date. The holders of the Seller Note and the Company agreed to defer the quarterly principal payment due June 30, 2020 until June 30, 2022. An additional voluntary prepayment of principal in the amount of $0.6 million was made on September 30, 2022.

Notes payable consists of the following: 

10. LEASES

The Company has operating leases for facilities, vehicles and equipment. These leases have remaining terms of 2 years to 15 years, some of which include options to extend the leases for up to 10 years.

Supplemental balance sheet information related to leases:

11. EARNINGS PER COMMON SHARE 

The following table sets forth the computation of basic and diluted earnings per share.

12. ACQUISITIONS

Effective January 15, 2021, the Company completed the acquisition of all of the issued and outstanding membership interests of KT Acquisition LLC (dba Komtek Forge, “Komtek”), a Massachusetts limited liability company and supplier of highly engineered forgings for the aerospace, industrial gas turbine, medical prosthetics. alternative energy, petrochemical, and defense industries, pursuant to a Membership Interest Purchase Agreement entered into as of January 15, 2021. The Company acquired Komtek in consideration of the payment by the Company of an aggregate purchase price of $3.7 million, subject to certain post-closing adjustments based on working capital, indebtedness and selling expenses, as specified in the Membership Interest Purchase Agreement, which was comprised of cash, the issuance of 60,000 Class A common shares of the Company and the assumption of certain specified liabilities of the seller.

Goodwill

Goodwill has an assigned value of $0.8 million and represents the expected synergies generated by combining the operations of Komtek and the Company. The Company purchases forgings to manufacture products for customers in the Industrial and Transportation Products segment and the Komtek acquisition strengthens the Company’s supply chain.

Effective March 1, 2021, MTA Acquisition Company, LLC, a Delaware limited liability company and indirect wholly-owned subsidiary of Crawford United Corporation, completed the acquisition of all of the membership interests of Global-Tek-Manufacturing LLC, a Puerto Rico limited liability company (“Global-Tek Manufacturing”) and specialist in machining parts from wrought, rounds, castings or extrusions and providing in house anodizing and other finishing and assembly operations and substantially all of the assets of Machining Technology L.L.C., a Colorado limited liability company (“Global-Tek Colorado”) with CNC machining capability, pursuant to a Membership Interest and Asset Purchase Agreement entered into March 2, 2021 and effective as of March 1, 2021. The stock and assets were transferred and assigned to MTA in exchange for approximately $4.9 million in cash and the repayment of remaining outstanding indebtedness and transaction costs totaling $1.4 million, subject to customary post-closing adjustments. The Purchase Agreement also includes a post-closing “earnout” that provides for up to an aggregate of $1.5 million in additional consideration to the certain sellers (up to $750,000 per year) if specified performance targets are met in the two years following closing. If earned, the additional consideration is payable in cash or, at the election of each such seller, in Company common shares up to a maximum aggregate amount of 61,475 shares.

Goodwill and Intangible Assets

Goodwill has an assigned value of $1.9 million and represents the expected synergies generated by combining the operations of Global-Tek Colorado, Global-Tek-Manufacturing and the Company. The Company utilizes machined parts for customers in the Industrial and Transportation Products segment and the acquisition of Global-Tek Colorado and Global-Tek-Manufacturing allows the Company to strengthen its supply chain. Intangible asset, trademark has an assigned value of $1.2 million which represents the expected value of the Global-Tek trade name in the market. Intangible asset, customer list has an assigned value of $1.0 million which represents the expected value of the list of the customers of Global-Tek to the Company.

Contingent Consideration

Global-Tek had a contingent consideration of $1.5 million as of the acquisition date which represented $750 thousand of additional consideration per year for a period of two years following the acquisition date if specified performance targets were met. The additional consideration will be earned if Global-Tek achieves specified profitability targets and is payable either in cash or in common shares of the Company up to an aggregate maximum amount of 61,475 shares. The first year performance target has been achieved by Global-Tek and was paid out in the second quarter of 2022 in the cash amount of $750 thousand. The remaining maximum amount of the payment is the greater of the value of 30,736 comon shares of the Company and $750 thousand. The range of estimates for the outcome of the remaining contingent consideration is between $0 and approximately $750 thousand.

Effective July 1, 2021, Crawford EH Acquisition Company, LLC, a Delaware limited liability company and indirect wholly-owned subsidiary of Crawford United Corporation, completed the acquisition of all of the operating assets of Emergency Hydraulics LLC, (“Emergency Hydraulics”) a Florida limited liability company and provider of hydraulic hoses, air tank assemblies and related products to manufacturers of firefighting trucks and other emergency vehicles, pursuant to an Asset Purchase Agreement entered into July 1, 2021. The acquired business is strategically important to the Company’s growing industrial hose platform and will expand its offerings and diversify its customer base in this important market segment. The assets were transferred and assigned to Emergency Hydraulics in exchange for approximately $0.3 million of repayment of remaining outstanding indebtedness and transaction costs.

Intangible Assets

Intangible assets, customer list has an assigned value of $0.5 million which represents the expected value of the list of the customers of Emergency Hydraulics to the Company.

Effective January 10, 2022, Crawford REV Acquisition Company LLC (name later changed to Reverso Pumps LLC or “Reverso Pumps”), a Delaware limited liability company and indirect wholly-owned subsidiary of Crawford United Corporation (the “Company”), completed the acquisition (the “Reverso Transaction”) of substantially all the assets of Reverso Pumps, Inc., a Florida corporation and developer, designer, manufacturer, seller and distributor of oil change systems, fuel and oil transfer pumps, fuel primers, fuel polishing systems and engine flushing systems (“Reverso”), pursuant to an Asset Purchase Agreement (the “Reverso Asset Purchase Agreement”) entered into and effective January 10, 2022 by and among Reverso Pumps, the Seller, the seller parties named therein and the Seller Parties’ representatives named therein. Upon the closing of the Transaction, the assets were transferred and assigned to Reverso Pumps in exchange for approximately $2.6 million in cash, subject to customary post-closing adjustments.

Additionally, effective on January 10, 2022, Crawford SEP Acquisition Company LLC (name later changed to Separ America LLC or “Separ America”), a Delaware limited liability company and indirect wholly-owned subsidiary of the Company, completed the acquisition (the “Separ Transaction,” and with the Reverso Transaction, the “Transactions”) of substantially all the assets of Separ of the Americas, LLC, a Florida limited liability company and developer, designer, manufacturer, seller and distributor of oil change systems, fuel and oil transfer pumps, fuel primers, fuel polishing systems and engine flushing systems (“Separ”) pursuant to an Asset Purchase Agreement (the “Separ Asset Purchase Agreement,” and together with the Reverso Asset Purchase Agreement, the “Purchase Agreements”) by and among Separ America, the Seller, the seller parties named therein and the Seller Parties’ representative named therein. Upon the closing of the Transaction, the assets were transferred and assigned to Separ America in exchange for approximately $1.6 million in cash, subject to customary post-closing adjustments.

Goodwill

Goodwill has an assigned value of $1.4 million and represents the expected synergies generated by combining the operations of Reverso, Separ, and the Company. The Company sells marine hoses and related products and the acquisition of Reverso Pumps and Separ America will allow the Company to expand its offerings to customers in the strategically important marine and defense markets. Intangible assets, customer list and trademarks has an assigned value of $1.3 million which represents the expected value of the list of the customers and trademarks of Reverso Pumps and Separ America.

Effective May 1, 2022, Knitting Machinery Company of America, LLC, a Delaware limited liability company (“Knitting Machinery”) and indirect wholly-owned subsidiary of Crawford United Corporation, completed the acquisition of all of the operating assets of KMC Corp. dba Knitting Machinery Corp., a Delaware corporation and specialist in the manufacture of hose reinforcement machinery for the plastic, rubber and silicone industries pursuant to an Asset Purchase Agreement entered into as of May 1, 2022. The acquired business is strategically important to the Company’s growing industrial hose platform and will expand its offerings and diversify its customer base in this important market segment. The assets were transferred and assigned to Knitting Machinery in exchange for approximately $250,000 in cash and 38,462 Class A Common Shares valued at $1.0 million.

Goodwill and Intangible Assets

Goodwill has an assigned value of $0.4 million and represents the expected synergies generated by combining the operations of KMC and the Company. The Company utilizes industrial hoses for customers in the Industrial and Transportation Products segment and the acquisition of KMC allows the Company to strengthen its supply chain. Intangible asset, trademark has an assigned value of $0.075 million which represents the expected value of the KMC trade name in the market. Intangible asset, customer list has an assigned value of $0.075 million which represents the expected value of the list of the customers of KMC to the Company.

Sales and Net Income for the Acquired Companies

Sales and net income information for the acquired companies, including Komtek Forge LLC (“Komtek”), Global-Tek Manufacturing LLC and Global-Tek Colorado LLC (“Global-Tek”), Emergency Hydraulics LLC (“EH”), Reverso Pumps LLC (“Reverso Pumps”), Separ America LLC (“Separ America”) and Knitting Machinery Company of America LLC (“Knitting Machinery”) since the respective acquisition dates for the nine months ended September 30, 2022 and 2021 are provided below.

13. SEGMENT AND RELATED INFORMATION  

The Company reports operations for two business segments: (1) Commercial Air Handling Equipment, (2) Industrial and Transportation Products. The identification of our operating segments is based on guidance in ASC 280-10-50-1. The Company's management evaluates segment performance based primarily on operating income. Interest expense directly related to financing the acquisition of a business is allocated to that respective segment.  Intangible assets are allocated to each segment and the related amortization of these assets are recorded in selling, general and administrative expenses. Beginning in 2022, the Company ceased allocating corporate costs to the respective segments.

Both the Commercial Air Handling Equipment segment and the Industrial and Transportation Products segment engage in business activities from which they may recognize revenues and incur expenses, including revenue and expenses relating to transactions with other components of the Company. The operating results for both the Commercial Air Handling Equipment segment and the Industrial and Transportation Products segment are reviewed regularly by our chief operating decision maker and is considered in making decisions about resources to be allocated to the segment in assessing its performance. Financial information for both segments is available in internal financial statements that are prepared on a monthly basis.

Commercial Air Handling Equipment:

The Commercial Air Handling Equipment segment was added June 1, 2017, when the Company purchased certain assets and assumed certain liabilities of Air Enterprises Acquisition LLC in Akron, Ohio. The acquired business, which operates under the name Air Enterprises, is an industry leader in designing, manufacturing and installing large-scale commercial, institutional, and industrial custom air handling solutions. Its customers are typically in the health care, education, pharmaceutical and industrial manufacturing markets in the United States. This segment also sells to select international markets. The custom air handling units are constructed of non-corrosive aluminum, resulting in sustainable, long-lasting, and energy efficient solutions with life expectancies of 50 years or more. These products are distributed through a network of sales representatives, based on relationships with health care networks, building contractors and engineering firms. The custom air handling equipment is designed, manufactured and installed under the brand names FactoryBilt® and SiteBilt®. FactoryBilt® air handling solutions are designed, fabricated and assembled in a vertically integrated process entirely within the Akron, Ohio facility. SiteBilt® air handling solutions are designed and fabricated in Akron, but are then crated and shipped to the field and assembled on-site.

Industrial and Transportation Products: 

The Industrial and Transportation Products segment was added July 1, 2016, when the Company purchased the assets of the Federal Hose Manufacturing, LLC of Painesville, Ohio. This business segment includes the manufacture of flexible interlocking metal hoses and the distribution of silicone and hydraulic hoses. Metal hoses are sold primarily to major heavy-duty truck manufacturers and major aftermarket suppliers in North America. Metal hoses are also sold into the agricultural, industrial and petrochemical markets. Silicone hoses are distributed to a number of industries in North America, including agriculture and general industrial markets. The Company purchased all of the issued and outstanding shares of capital stock of CAD Enterprises, Inc.(“CAD”) in Phoenix, Arizona on July 1, 2018. CAD provides complete end-to-end engineering, machining, grinding, welding, brazing, heat treat and assembly solutions. Utilizing state-of-the-art machining and welding technologies, this segment is an industry leader in providing complex components produced from nickel-based superalloys and stainless steels. CAD’s quality certifications include ISO 9001:2015/AS9100D, as well as Nadcap accreditation for Fluorescent Penetrant Inspection (FPI), Heat Treating/Braze, Non-Conventional Machining EDM, and TIG/E-Beam welding. The Company added the distribution of marine hose to this segment through the acquisition of the assets of MPI Products, Inc. (“MPI”) on January 2, 2020. MPI specializes in rubber and plastic marine hose for the recreational boating industry. MPI offers certified products that meet marine industry standards and regulations. Effective April 19, 2019, the Company, completed the acquisition of substantially all of the assets of Data Genomix, Inc., an Ohio corporation (“DG”). DG is in the business of developing and commercializing marketing and data analytic technology applications. The Company purchased all of the issued and outstanding membership interests of KT Acquisition LLC (name later changed to Komtek Forge LLC), in Worcester, Massachusetts on January 15, 2021. Komtek Forge LLC is a supplier of highly engineered forgings for the aerospace, industrial gas turbine, medical prosthetics, alternative energy, petrochemical and defense industries. The Company purchased all of the membership interests of Global-Tek-Manufacturing LLC (“Global-Tek”), in Ceiba, Puerto Rico and substantially all of the assets of Machining Technology LLC (name later changed to Global-Tek Colorado LLC or “Global-Tek Colorado”) in Longmont, Colorado on March 2, 2021. Global-Tek and Global-Tek Colorado specialize in providing customers with highly engineered manufacturing solutions, including CNC machining, anodizing, electro polishing and laser marking for customers in the defense, aerospace and medical device markets. The Company purchased substantially all of the assets of Emergency Hydraulics LLC (“Emergency Hydraulics”), in Ocala, Florida on July 1, 2021. Emergency Hydraulics provides hydraulic hoses, air tank assemblies and related products to manufacturers of firefighting trucks and other emergency vehicles. The company purchased substantially all of the assets of Crawford REV Acquisition Company LLC (name later changed to Reverso Pumps LLC or “Reverso Pumps”), in Davie, Florida on January 10, 2022. Reverso Pumps develops, designs, manufactures, sells and distributes oil change systems, fuel and oil transfer pumps, fuel primers, fuel polishing systems and engine flushing systems.

The company purchased substantially all of the assets of Crawford SEP Acquisition Company LLC (name later changed to Separ America LLC or “Separ America”), in Davie, Florida on January 10, 2022. Separ America develops, designs, manufactures, sells and distributes oil change systems, fuel and oil transfer pumps, fuel primers, fuel polishing systems and engine flushing systems. The company purchased substantially all of the assets of KMC Corp. dba Knitting Machinery Corp. (“Knitting Machinery”), in Cleveland, Ohio and Greenville, Ohio on May 1, 2022. Knitting Machinery specializes in manufacturing hose reinforcement machinery for the plastic, rubber and silicone industries.

The factors used to determine the Company’s reportable segments follow the guidance of ASC 280-10-50-21 and 50-10-22 and include consideration of the type of products or services delivered, the customers and end markets served, the appliable revenue recognition methodology and the length of time it takes to deliver products or services to customers. The Commercial Air Handling Equipment segment was identified as a reportable segment consisting of Air Enterprises, because Air Enterprises is strategically and operationally different from our other companies in several ways. First, Air Enterprises sells equipment to end customers and our other businesses that fall into the Industrial and Transportation Products segment sell products and components to end customers, not equipment. Second, the Commercial Air Handling Equipment segment delivers custom air handling solutions to customers which is different than the Industrial and Transportation Products segment which delivers manufactured metal, silicone, hydraulic and marine hoses, complex engineered components, highly engineered forgings, highly engineered and machined parts and data analytic technology applications. Third, the Commercial Air Handling Equipment segment serves customers primarily in the health care and education end markets while the Industrial and Transportation Products segment delivers products to customers in the heavy-duty truck manufacturing, agricultural, industrial, petrochemical, aerospace, defense, industrial gas turbine, medical prosthetics, alternative energy and emergency vehicle end markets. Fourth, the Commercial Air Handling Equipment segment recognizes revenue primarily over time while the Industrial and Transportation Products segment recognizes revenue primarily at a point in time. Fifth, the Commercial Air Handling Equipment segment manufactures custom air handling solutions for customers over a period of three to eighteen months from the time the order is received to the time the air handling solution is delivered to the end customer as compared to the Industrial and Transportation Products segment which sells and delivers products to customers much more quickly, often within 30 days or less. For the reasons previously mentioned, Air Enterprises is strategically and operationally different than the other businesses owned by the Company and management finds it useful to include this business in the Commercial Air Handling Segment which is separate and distinct from all of our other businesses that reside in the Industrial and Transportation Products segment.

Corporate and Other: 

Corporate costs not allocated to the two primary business segments are aggregated here.

Information by industry segment is set forth below: 

14. SUBSEQUENT EVENTS

None.

RESULTS OF OPERATIONS.

The following discussion is intended to assist in the understanding of the Company's financial position at September 30, 2022 and December 31, 2021, results of operations for the three and nine month periods ended September 30, 2022 and 2021, and cash flows for the three and nine month periods ended September 30, 2022 and 2021, and should be read in conjunction with the consolidated financial statements and related notes included elsewhere in this Quarterly Report on Form 10-Q and with the Company’s Annual Report on Form 10-K for the year ended December 31, 2021. The coronavirus (COVID-19) pandemic has disrupted our operations and affected our business, and may continue to do so, due to many factors, including imposition by government authorities of mandatory closures, work-from-home orders and social distancing protocols, increased employee absenteeism due to illness and/or quarantine requirements, and other restrictions that could materially adversely affect our ability to adequately staff and maintain our operation. The COVID-19 pandemic has also disrupted, and may continue to disrupt, our operations and facilities and to provide personal protective equipment for our employees. There may also be long-term negative effects on the economic well being of our customers and in the economies of affected countries. Even as government restrictions have been lifted and economies gradually reopened, the shape of the economic recovery remains uncertain and may continue to negatively impact our results of operations, cash flows and financial position in subsequent quarters.

Items Affecting the Comparability of our Financial Results

The Company purchased all of the issued and outstanding membership interests of KT Acquisition LLC (name later changed to Komtek Forge LLC “Komtek”), in Worcester, Massachusetts on January 15, 2021.

The Company purchased all of the membership interests of Global-Tek Manufacturing LLC (“Global-Tek Manufacturing”) in Ceiba, Puerto Rico and substantially all of the assets of Machining Technology L.L.C. (“Global-Tek Colorado”), in Longmont, Colorado on March 2, 2021. Global-Tek Manufacturing and Global-Tek Colorado are collectively referred to as “Global-Tek”.

The Company purchased substantially all of the operating assets of Emergency Hydraulics LLC, (“Emergency Hydraulics”) in Ocala, Florida on July 1, 2021.

The Company purchased substantially all of the operating assets of Reverso Pumps, Inc, (“Reverso Pumps”) and Separ of the Americas, LLC, (“Separ America”), both located in Davie, Florida on January 10, 2022.

The Company purchased substantially all of the operating assets of KMC Corp. dba Knitting Machinery Corp. (“Knitting Machinery”) located in Cleveland, Ohio and Greenville, Ohio on May 1, 2022.

Accordingly, in light of the timing of these transactions, the Company’s results for the three and nine-month periods ended on September 30, 2022 include the added results of operations of Emergency Hydraulics, Reverso Pumps, Separ America and Knitting Machinery in the Industrial and Transportation Products segment. Conversely, our results for the three and nine-month periods ended September 30, 2021 do not include the results of operations of Reverso Pumps, Separ America and Knitting Machinery and also do not include a full nine months of results for Komtek, Emergency Hydraulics, Global-Tek Manufacturing and Global-Tek Colorado in the Industrial and Transportation Products segment.

Results of Operations – Three Months Ended September 30, 2022 and 2021

Sales for the quarter ended September 30, 2022 (“current quarter”) increased to $32.2 million, an increase of approximately $5.8 million or 22.0% from sales of $26.4 million during the same quarter of the prior year. The increase in sales for the quarter ended September 30, 2022 was driven by increased sales from the acquisitions of Reverso and Separ America of $1.8 million and Knitting Machinery of $0.2 million. Additionally, there was increased demand for products sold by Air Enterprises of $2.6 million, MPI of $1.8 million, Komtek of $1.0 million, Federal Hose of $0.6 million and Emergency Hydraulics of $0.2 million. These increases were partially offset by a decline in demand of $1.2 million attributable to Global-Tek Manufacturing and Global-Tek Colorado, CAD Enterprises of $1.4 million and Data Genomix of $0.2 million.

Cost of sales for the current quarter was $25.9 million compared to $21.0 million, an increase of $4.9 million or 23.3% from the same quarter of the prior year.  Gross profit was $6.3 million in the current quarter compared to $5.4 million, an increase of $0.9 million from the same quarter of the prior year.  The increase in cost of sales and gross profit was primarily attributable to the impact of the acquisitions of Reverso and Separ America and Knitting Machinery in addition to greater demand for products sold by Air Enterprises, MPI and Federal Hose partially offset by a decrease in cost of sales and gross profit for Global-Tek Manufacturing and Global-Tek Colorado and CAD Enterprises.

Selling, general and administrative expenses (SG&A) in the current quarter were $4.3 million, or 13.4% of sales, compared to $3.5 million, or 13.4% of sales in the same quarter of last year. Selling, general and administrative expenses were flat as a percentage of sales, notwithstanding increased costs, due primarily to increased control over spending partially offset by an additional $0.5 million of Selling, general and administrative expenses in the current quarter as a result of the acquisitions of Reverso Pumps, Separ America and Knitting Machinery.

Interest charges in the current quarter were approximately $0.3 million compared to $0.2 million in the same quarter of the prior year. Average total debt (including notes) and average interest rates for the current quarter were $25.9 million and 4.1% respectively, compared to $26.3 million and 2.9% in the same period of last year.

Other income, net was $0.1 million in the current quarter compared to other expense, net of $0.1 million in the same quarter of the prior year.  The increase in other income, net is driven by a loss of $0.1 million in the quarter related to investments in marketable securities partially offset by other income of $0.2 million driven primarily by incentives at Global-Tek compared to a loss of $0.3 million related to investments in marketable securities and $0.1 million of transaction costs partially offset by other income of $0.3 million related to business development incentives at Global-Tek in the same period of last year.

Income tax expense in the current quarter was $0.5 million compared to $0.3 million in the same quarter of the prior year. Tax expense is higher compared to the same quarter of the prior year because of higher pre-tax income and because a higher expected state tax rate was used in the current quarter.

Net income in the current quarter was $1.3 million or $0.36 per diluted share as compared to net income of $1.2 million or $0.35 per diluted share for the same quarter of the prior year because of the factors noted above.

Commercial Air Handling Segment

Sales in the Commercial Air Handling Equipment segment for the quarter ended September 30, 2022 increased to $11.5 million, an increase of approximately $2.6 million or 29.2% from sales of $8.9 million during the same period of the prior year. This increase was primarily attributable to an increase in demand as COVID-19 pandemic-related restrictions were lifted and the on-site access necessary to complete the installation of commercial air handling units was restored for certain hospital and university customers.

Cost of sales in the Commercial Air Handling Equipment segment for the current quarter was $8.9 million compared to $7.4 million in the prior year, an increase of $1.5 million or 20.3%. Gross profit was $2.6 million in the current quarter compared to $1.4 million in the same period of last year, an increase of $1.2 million. Cost of sales as a percentage of sales was 77.7% in the current quarter compared to 84.0% in the prior year. The decrease in cost of sales as a percentage of sales in the current quarter was primarily attributable to cost savings and lower input costs in the current period compared to prior year.

Selling, general and administrative expenses (SG&A) in the Commercial Air Handling Equipment segment in the current quarter were $1.0 million, or 9.0% of sales, compared to $1.1 million, or 12.7% of sales, in the prior year.

There was no interest charge in the Commercial Air Handling Equipment segment for the current quarter or the same quarter of the prior year because there was no outstanding debt attributable to this segment during those periods.

Income tax expense in the Commercial Air Handling Equipment segment in the current quarter was $0.4 million compared to $0.1 million in the prior year an increase of $0.3 million that was primarily attributable to an increase in income before taxes.

Net income in the Commercial Air Handling Equipment segment for the current year was $1.1 million compared to net income of $0.2 million in the prior year due primarily to the factors noted above.

Industrial and Transportation Products Segment

Sales in the Industrial and Transportation Products segment for the current quarter increased to $20.7 million, an increase of approximately $3.2 million or 18.3% from sales of $17.5 million during the same quarter of the prior year. This increase was primarily driven by sales from the acquisitions of Reverso and Separ America of $1.8 million and the acquisition of Knitting Machinery of $0.2 million in addition to increased sales by Emergency Hydraulics of $0.2 million, MPI of $1.8 million, Komtek Forge of $1.0 million, Federal Hose of $0.6 million and Emergency Hydraulics of $0.2 million. These increases were partially offset by a decline in demand of $1.2 million attributable to Global-Tek Manufacturing and Global-Tek Colorado, $1.4 million attributable to CAD Enterprises and $0.2 million attributable to Data Genomix.

Cost of sales in the Industrial and Transportation Products segment for the current quarter was $17.0 million compared to $13.6 million in the prior year, an increase of $3.4 million or 25.0%. Gross profit was $3.8 million in the current quarter compared to $4.0 million in the same period of the prior year, a decrease of $0.2 million. The increase in cost of sales and decrease in gross profit was primarily attributable to the impact of the acquisitions of Reverso and Separ of the Americas and Knitting Machinery in addition to greater demand for products sold by MPI, Federal Hose and Emergency Hydraulics offset by a decrease in gross profit for CAD Enterprises, Global-Tek Manufacturing and Global-Tek Colorado.

Selling, general and administrative expenses (SG&A) in the Industrial and Transportation Products segment in the current quarter were $2.6 million, or 12.6% of sales, compared to $2.4 million, or 13.5% of sales, in the same quarter of the prior year. Selling, general and administrative expenses decreased as a percentage of sales, notwithstanding increased costs, due primarily to increased control over spending partially offset by an additional $0.5 million of Selling, general and administrative expenses in the current quarter as a result of the acquisitions of Reverso Pumps, Separ America and Knitting Machinery.

Interest charges in the current quarter were approximately $0.3 million compared to $0.2 million in the same quarter of the prior year. Average total debt (including notes) and average interest rates for the current quarter were $25.9 million and 4.1% respectively, compared to $26.3 million and 2.9% in the same period of last year.

Other income, net in the Industrial and Transportation Products segment was $0.1 million in the current year compared to $0.1 million of other income, net in the same period of the prior year.

Income tax expense in the current quarter was $0.3 million compared to $0.4 million in the same quarter of the prior year. Tax expense is lower compared to the same quarter of the prior year primarily driven by the decrease in pre-tax income.

Net income in the Industrial and Transportation Products segment for the current quarter was $0.7 million compared to net income of $1.4 million in the same period of the prior year due primarily to the factors noted above.

Results of Operations – Nine Months Ended September 30, 2022 and 2021

Sales for the nine months ended September 30, 2022 increased to $95.1 million, an increase of approximately $18.3 million or 23.8% from sales of $76.8 million during the same period of the prior year. This increase in sales was primarily attributable to the impact of the acquisitions of Reverso Pumps, Separ America and Knitting Machinery in addition to a full nine months of earnings from Komtek as compared to the same period last year. Specifically, the increase in sales was driven by increased sales from the acquisitions of Reverso Pumps and Separ America ($5.2 million) and Knitting Machinery ($0.8 million), in addition to increased revenue from Komtek ($1.5 million) and Emergency Hydraulics ($0.8 million), and a $14.2 million increase attributable to recovery in demand as COVID-19 pandemic-related restrictions loosened and commercial activity increased for Air Enterprises, Federal Hose, Data Genomix and MPI. These increases were partially offset by a decline in demand of $4.5 million attributable collectively to Global-Tek Manufacturing and Global-Tek Colorado and CAD Enterprises.

Cost of sales for the nine-month period ended September 30, 2022 was $75.6 million compared to $59.7 million, an increase of $15.9 million or 26.8% from the same period of the prior year.  Gross profit was $19.4 million in the nine-month period ended September 30, 2022 compared to $17.2 million, an increase of $2.2 million from the same period of the prior year.  The increase in cost of sales and gross profit was primarily attributable to the impact of the acquisitions of Knitting Machinery, Emergency Hydraulics, Reverso Pumps and Separ America, in addition to a full nine months of earnings in 2022 from Komtek, and Global-Tek Manufacturing and Global-Tek Colorado. In addition, cost of sales for Air Enterprises increased from $21.9 million in the first nine months of 2021 to $27.2 million in the nine months ended September 30, 2022, an increase of $5.3 million or 24.4% driven by increased demand for its products.

Selling, general and administrative expenses (SG&A) for the nine months ended September 30, 2022 were $13.7 million, or 14.4% of sales, compared to $10.9 million, or 14.1% of sales in the same period of last year. Selling, general and administrative expenses increased due to $0.9 million of stock awards that were granted in the current nine months compared to $0.4 million of stock awards during the same period of last year. An additional $1.3 million of Selling, general and administrative expenses in the current nine month period were a result of the acquisitions of Reverso Pumps and Separ America, in addition to a full nine months of expenses in 2022 for Komtek and Global-Tek.

Interest charges in the nine months ended September 30, 2022 were approximately $0.7 million compared to $0.7 million in the same period of the prior year. The interest expense was flat due to similar levels of floating rate bank debt and similar average interest rates. Average total debt (including notes) and average interest rates for the most recent nine-month period were $27.0 million and 3.2% compared to $26.6 million and 3.0% in the same period of last year.

Other expense, net was $0.0 million in the nine-month period ended September 30, 2022 compared to $1.1 million of other income, net in the same period of the prior year.  The decrease in other income is primarily driven by the forgiveness of the Company’s $1.5 million in outstanding Payroll Protection Loans (“PPP Loans”) in full by the U.S. Small Business Administration in accordance with the terms of the CARES Act in the first quarter of 2021 as compared to no PPP Loan forgiveness in the first nine months of 2022. The forgiveness of the PPP Loans was treated as income in the first nine months of 2021.

Income tax expense in the nine-month period ended September 30, 2022 was $1.5 million compared to $1.2 million in the same period of the prior year. Tax expense was higher in the nine-month period ended September 30, 2022 compared to the same period of the prior year despite lower pre-tax income because PPP Loan forgiveness is not taxable, which contributed to a lower tax rate in 2021.

Net income for the nine-month period ended September 30, 2022 was $3.5 million or $1.01 per diluted share as compared to the net income of $5.6 million or $1.64 per diluted share for the same period of the prior year.  

Commercial Air Handling Segment

Sales in the Commercial Air Handling Equipment segment for the nine months ended September 30, 2022 increased to $34.9 million, an increase of approximately $7.3 million or 26.4% from sales of $27.6 million during the same period of the prior year. This increase was primarily attributable to an increase in demand as COVID-19 pandemic-related restrictions were lifted and the on-site access necessary to complete the installation of commercial air handling units was restored for certain hospital and university customers.

Cost of sales in the Commercial Air Handling Equipment segment for the nine-month period ended September 30, 2022 was $27.3 million compared to $21.9 million in the same period of the prior year, an increase of $5.4 million or 24.6%. Gross profit was $7.6 million in the nine-month period ended September 30, 2022 compared to $5.7 million in the prior year, an increase of $1.9 million. Cost of sales as a percentage of sales was 78.2% in the most recent nine months compared to 79.4% in the same period of the prior year. The decrease in cost of sales as a percentage of sales in the current year was primarily attributable to improved cost management in the most recent nine-month period compared to prior year.

Selling, general and administrative expenses (SG&A) in the Commercial Air Handling Equipment segment in the nine-month period ending September 30, 2022 were $3.2 million, or 9.1% of sales, compared to $3.5 million, or 12.7% of sales, in the same period of the prior year. The improvement in SG&A expenses as a percentage of net sales is driven by the impact of the fixed SG&A expenses over the higher revenue base in the 2022 period compared to the same period a year ago.

There was no interest charge in the Commercial Air Handling Equipment segment for the nine-month period ended September 30, 2022 or in the same period of the prior year because there was no outstanding debt attributable to this segment during those periods.

Income tax expense in the Commercial Air Handling Equipment segment in the nine-month period ended September 30, 2022 was $1.3 million compared to $0.5 million in the same period of the prior year, an increase of $0.8 million that was primarily attributable to an increase in income before taxes.

Net income in the Commercial Air Handling Equipment segment for the nine-month period ended September 30, 2022 was $3.2 million compared to net income of $1.6 million in the same period of the prior year due primarily to the factors noted above.

Industrial and Transportation Products Segment

Sales in the Industrial and Transportation Products segment for the nine-months ended September 30, 2022 increased to $60.2 million, an increase of approximately $11.0 million or 22.4% from sales of $49.2 million during the same period of prior year. Specifically, the increase in sales was driven by the acquisitions of Reverso Pumps and Separ America ($5.2 million) and Knitting Machinery ($0.8 million), an increase in revenue for Komtek ($1.5 million) and Emergency Hydraulics ($0.8 million), and a $6.8 million increase attributable to recovery in demand as COVID-19 pandemic-related restrictions loosened and commercial activity increased for Federal Hose, Data Genomix and MPI. These increases were partially offset by a decline in demand of $4.5 million attributable collectively to Global-Tek Manufacturing and Global-Tek Colorado and CAD Enterprises.

Selling, general and administrative expenses (SG&A) in the Industrial and Transportation Products segment in the nine-month period ended September 30, 2022 were $7.5 million, or 12.4% of sales, compared to $6.8 million, or 13.8% of sales, in same period of the prior year. The improvement in SG&A expenses as a percentage of net sales is driven by the impact of the fixed SG&A expenses over the higher revenue base in the 2022 period compared to the same period a year ago.

The interest charge for the Industrial and Transportation Products segment for the nine-months ended September 30, 2022 was $0.7 million compared to $0.6 million in the same period of the prior year.

Other income, net in the Industrial and Transportation Products segment was $0.4 million in the nine-month period ended September 30, 2022 compared to $0.4 million of other income, net in the same period of the prior year. The other income, net was primarily attributable to Aerospace and Manufacturing grant income provided by the U.S. Department of Transportation and incentives at Global-Tek in the current nine-month period.

Income tax expense in the Industrial and Transportation Products segment in the nine-month period ended September 30, 2022 was $1.2 million compared to $0.9 million in the same period of the prior year, an increase of $0.3 million despite a decrease in income before taxes in the current period due to higher expected tax rates used in the current period.

Net income in the Industrial and Transportation Products segment for the nine-month period ended September 30, 2022 was $2.7 million compared to net income of $3.5 million in the same period of the prior year due primarily to the factors noted above.

Liquidity and Capital Resources

As described further in Note 12 to the Company’s consolidated financial statements, effective January 10, 2022, the Company completed the Reverso Pumps and Separ America acquisitions for a purchase price of $4.2 million, subject to certain customary post-closing adjustments based on working capital.

As described further in Note 12 to the Company’s consolidated financial statements, effective May 1, 2022, the Company completed the Knitting Machinery acquisition for a purchase price of $1.3 million, subject to certain customary post-closing adjustments based on working capital.

The Company’s credit agreement, by and between the Company and JPMorgan Chase Bank, N.A. as lender (as amended, the “Credit Agreement”), provides for a revolving credit facility. On March 2, 2021, the Company amended its Credit Agreement to increase availability under the revolving credit facility to $30.0 million from $20.0 million. The amendment to the loan agreement provided additional flexibility to fund acquisitions, working capital and other strategic initiatives. 

Total current assets at September 30, 2022 increased to $50.2 million from $42.5 million at December 31, 2021, an increase of $7.7 million. The increase in current assets is comprised of the following: an increase of accounts receivable of $3.4 million; an increase in cash of $0.7 million, an increase in inventory of $4.9 million; and an increase in prepaid expenses and other assets of $0.2 million; partially offset by a decrease in refundable tax assets of $0.9 million; a decrease in investments of $0.5 million and a decrease in contract assets of $0.1 million. The increase in accounts receivable is driven by the recent acquisitions of Reverso Pumps and Separ America in addition to an increase in new billings in the Commercial Air Handling segment for certain early-stage projects that have achieved billing milestones in advance of certain production milestones per their individual contract terms. Management estimates that these new projects in the Commercial Air Handling segment will be completed in the next 6 months. The Company is carrying higher cash balances in expectation of future bulk inventory purchases.

Total current liabilities at September 30, 2022 increased to $27.2 million from $23.9 million at December 31, 2021, an increase of $3.3 million.  The increase in current liabilities is primarily driven by the following: an increase in accounts payable of $3.2 million and an increase in unearned revenue of $1.7 million partially offset by a decrease in short term notes payable of $1.1 million and a decrease in bank debt of $1.0 million.

Cash provided by operating activities for the nine months ended September 30, 2022 was approximately $6.2 million, compared to cash provided by operating activities of $3.9 million in the same period a year ago. Cash provided by operating activities for the nine-months ended September 30, 2022 is comprised of the following: net income of $3.5 million; cash provided by adjustments for non-cash items of $5.3 million; and cash used in working capital adjustments of $2.7 million. The primary drivers of decreased working capital during the current nine-month period were the increase in inventories of $3.9 million and the increase in accounts receivable of $2.9 million, partially offset by the decrease in accounts payable of $2.6 million and the decrease in deferred revenue of $1.3 million. Cash flows from operations were impacted by cash used in working capital adjustments including an increase in accounts receivable of $2.9 million in the first nine months of 2022, driven primarily by an increase of $1.6 million in the Commercial Air Handling Equipment segment and an increase of $1.3 million in the Industrial and Transportation Products segment. The $1.6 million increase in accounts receivable in the Commercial Air Handling Equipment segment was the result of an increase in new sales with high upfront billing milestones. Days sales outstanding in the Commercial Air Handling Equipment segment were 83 days in the first nine months of 2022 compared 73 days in fiscal year 2021 which management will continue to monitor but does not view as a significant change. The $1.3 million increase in accounts receivable in the Industrial and Transportation Products segment was driven primarily by an increase in days sales outstanding from 56 days in fiscal year 2021 to 75 days in the first nine months of 2022. The Company added Reverso Pumps, Separ America and Knitting Machinery in 2022 and will closely monitor days sales outstanding for the companies in this segment. The rise in days sales outstanding has a negative impact on cashflow and management will continue to monitor the trend in future periods. The Company does not have a history of failure to collect payment from its customers and believes that it is reasonable to assume that materially all of its outstanding accounts receivable will be collectible barring unforeseen circumstances.

Cash used in investing activities for the nine months ended September 30, 2022 was $4.9 million, compared to cash used in investing activities of $9.6 million in the same period a year ago. Cash used in investing activities was for the acquisitions of Knitting Machinery, Reverso Pumps and Separ America in the Industrial and Transportation Products segment and capital expenditures in the normal course of business.

Cash used in financing activities was approximately $0.6 million for the nine months ended September 30, 2022, compared to cash provided by financing activities of $2.1 million in the same period a year ago. Cash provided by financing activities for the nine months ended September 30, 2022 was primarily related to: $8.1 million borrowings on bank debt related primarily to the acquisition of Reverso Pumps and Separ America offset by payments on bank debt of $4.5 million, payments on notes payable of $3.3 million and a reduction of a contingent liability by $0.8 million.

The Company is actively managing its business to maintain cash flow and liquidity. We believe that cash and availability on our revolving credit facility to be sufficient to fund working capital needs and service principal and interest payments due related to the bank debt and notes payable. The Company had $9.1 million available to borrow on the revolving credit facility at September 30, 2022. Notwithstanding the Company's expectations, if the Company's operating results decrease as the result of pressures on the business due to, for example, the impact of the COVID-19 pandemic, currency or interest rate fluctuations, regulatory issues, a downturn in general economic conditions, or the Company's failure to execute its business plans, the Company may require additional financing, or may be unable to comply with its obligations under the credit facility, and its lenders could demand repayment of any amounts outstanding under the Company’s credit facility. In addition, see Note 8 of the notes to the consolidated financial statements.

Off-Balance Sheet Arrangements

From time to time, the Company enters into performance and payment bonds in the ordinary course of business. These bonds are secured by certain assets of the Company by the surety until the Company’s completion of the requirements of the commercial air handling contract. At September 30, 2022, the Company had secured performance and payment bonds in the amount of $8.2 million as surety on completion of the requirements of certain commercial air handling contracts. The Company has no other off-balance sheet arrangements (as defined in Regulation S-K Item 303 paragraph (a)(4)(ii)) that have or are reasonably likely to have a material current or future effect on its financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditure or capital resources.

Critical Accounting Policies

Preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make certain estimates and assumptions which affect amounts reported in our consolidated financial statements. On an ongoing basis, we evaluate the accounting policies and estimates that are used to prepare financial statements. Management has made their best estimates and judgments of certain amounts included in the financial statements, giving due consideration to materiality. We do not believe that there is great likelihood that materially different amounts would be reported under different conditions or using different assumptions related to the accounting policies described below. However, application of these accounting policies involves the exercise of judgment and use of assumptions as to future uncertainties and, as a result, actual results could differ from these estimates.

Certain accounting policies that require significant management estimates and are deemed critical to our results of operations or financial position are discussed below. On a regular basis, critical accounting policies are reviewed with the Audit Committee of the Board of Directors.

Revenue Recognition: We recognize revenue with respect to customer orders when our obligations under the contract terms are satisfied and control of the product transfers to the customer, typically upon shipment. Revenue from certain contracts in the Commercial Air Handling Equipment segment is accounted for over time, when products are manufactured or services are performed, as control transfers under these arrangements. We follow the input method, as we have determined that it allows us to make reasonably reliable estimates of revenue and costs of a contract.

Allowance for Obsolete and Slow-Moving Inventory: Inventories are valued using the first-in, first-out (“FIFO”) method; stated at the lower of cost or net realizable value; and are reduced by an allowance for obsolete and slow-moving inventories. The allowance is estimated based on management’s review of inventories on hand with minimal sales activity, which is compared to estimated future usage and sales. Inventories identified by management as slow-moving or obsolete are reserved for based on estimated selling prices less disposal costs. Though we consider these allowances adequate and proper, changes in economic conditions in specific markets in which we operate could have a material effect on allowances required.

Business Combinations: Business combinations are accounted for using the purchase method of accounting under ASC 805, “Business Combinations.” This method requires the Company to record assets and liabilities of the businesses acquired at their estimated fair values as of the acquisition date. Any excess of the cost of the acquisition over the fair value of the net assets acquired is recorded as goodwill. Determining the fair value requires management to make estimates and assumptions including discount rates, rates of return on assets, and long-term sales growth rates.

Goodwill and Indefinite Lived Intangible Assets: As referenced by ASC 350 “Intangibles- Goodwill and other” (“ASC 350”), management performs its annual impairment test for goodwill and intangible assets at least annually or more frequently, if impairment indicators arise at the reporting unit level. Our reporting units have been identified at the individual company component level, with each individual subsidiary operating company constituting its own reporting unit. For 2021 management performed qualitative and quantitative testing for each individual company with a goodwill balance other than those companies that were newly acquired within one year.

Our goodwill impairment analysis utilizes a qualitative approach comparing carrying amount of the reporting unit to its estimated fair value. To the extent that the qualitative approach indicates that it is more likely than not that the carrying amount is less than its fair value, we apply a quantitative approach as a secondary step. In applying the quantitative approach, we use an income approach to estimate the fair value of the reporting unit. The income approach uses a number of factors, including future business plans and actual and forecasted operating results. The significant assumptions employed under this method include discount rates; revenue growth rates, including assumed terminal growth rates; and operating margins used to project future cash flows for the operating company. The discount rates utilized reflect market-based estimates of capital costs and discount rates adjusted for management’s assessment of a market participant’s view with respect to other risks associated with the projected cash flows of the individual company. Our estimates are based upon assumptions we believe to be reasonable, but which by nature are uncertain and unpredictable. We believe we incorporate reasonable assumptions into our analysis of goodwill impairment testing for a reporting unit, such that actual experience would need to be materially out of the range of expected assumptions in order for an impairment to remain undetected.

In conducting our 2021 annual impairment analysis, we determined that the goodwill for CAD Enterprises at December 31, 2021 was $7.3 million. In our qualitative assessment of CAD Enterprises, we noted a decline in revenue from $30.1 million in 2019 to $18.9 million in 2020 and $18.3 million in 2021 and a decline in after-tax income margin from 5.8% in 2019 to -4.6% in 2020 and -0.5% in 2021, and thus determined to conduct a quantitative assessment of CAD Enterprises. The quantitative assessment of CAD Enterprises confirmed that the estimated fair value exceeded carrying value by 9 percent, and thus no impairment existed at December 31, 2021. The key assumptions used to estimate fair value included discount rates; revenue growth rates, including assumed terminal growth rates; and after-tax income margins used to project future cash flows for CAD Enterprises. The discount rate used to estimate fair value was 10% and was based on estimates of capital costs and management’s assessment of a market participant’s view with respect to other risks associated with the projected cash flows for CAD Enterprises. Our revenue growth rate for the 9-year period in the discounted cash flow model was 10.5% per year, which reflects management’s assessment of estimated future orders for CAD Enterprises based in part on a Long-Term-Agreement (“LTA”) with the company’s largest customer, our previous revenue history including actual revenues of $30.1 million in 2019 before the onset of the COVID-19 pandemic, and a continued business rebound in the aerospace industry. The assumed terminal growth rate for CAD Enterprises was 3% based on management’s assessment of long-term growth rates for the Aerospace industry. The after-tax income margins used to project future margins for the company were based on the historical margins for CAD Enterprises prior to the COVID-19 pandemic. In 2019, CAD Enterprises earned an after-tax income margin of 5.8%. The discounted cash flow model used to estimate fair value assumes an after-tax income margin of 6.0% in 2026, or year 5 of the forecast period and expanding margins to 6.4% in the terminal year. This is based on management’s assessment of our ability to grow SG&A expenses at a slower rate than revenues as the company achieves more scale. Our estimates are based upon assumptions we believe to be reasonable, but which by nature are uncertain and unpredictable. Potential events and circumstances including global conflicts, materials shortages, inability to increase prices to keep pace with expenses, onset of a global pandemic, departure of key employees and loss of a key customer could negatively affect the key assumptions used for the recent fair value test and are similar to the risk factors noted in Item 1A, Risk Factors in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021.

Income Taxes: In accordance with ASC 740, “Income Taxes” (“ASC 740”), we account for income taxes under the asset and liability method, whereby deferred tax assets and liabilities are determined based on temporary differences between the financial reporting and the tax bases of assets and liabilities and are measured using the currently enacted tax rates. Specifically, we measure gross deferred tax assets for deductible temporary differences and carryforwards, such as operating losses and tax credits, using the applicable enacted tax rates and apply the more likely than not measurement criterion Further, at each interim reporting period, we estimate an effective income tax rate that is expected to be applicable for the full year. Significant judgment is involved regarding the application of income tax laws and regulations and when projecting the jurisdictional mix of income. Additionally, interpretation of tax laws, court decisions or other guidance provided by taxing authorities influences our estimate of the effective income tax rates. As a result, our actual annual effective income tax rates and related income tax liabilities may differ materially from our interim estimated effective tax rates and related income tax liabilities. Any resulting differences are recorded in the period they become known.

Forward-Looking Statements

The foregoing discussion includes forward-looking statements relating to the business of the Company. Generally, these statements can be identified by the use of words such as “guidance,” “outlook,” “believes,” “estimates,” “anticipates,” “expects,” “forecasts,” “seeks,” “projects,” “intends,” “plans,” “may,” “will,” “should,” “could,” “would” and similar expressions intended to identify forward-looking statements, although not all forward-looking statements contain these identifying words. These forward-looking statements, or other statements made by the Company, are made based on management's expectations and beliefs concerning future events impacting the Company and are subject to uncertainties and factors (including, but not limited to, those specified below) which are difficult to predict and, in many instances, are beyond the control of the Company. As a result, actual results of the Company could differ materially from those expressed in or implied by any such forward-looking statements. These uncertainties and factors include (a) the duration and scope of the COVID-19 pandemic, the resumption of operations by the Company’s customers, loosening of public health restrictions, or any reimposed restrictions or tightening of public health restrictions which could impact the demand for the Company’s products; (b) shortages in supply or increased costs of necessary products, components or raw materials from the Company’s suppliers; (c) availability shortages or increased costs of freight and labor for the Company and/or its suppliers; (d) actions that governments, businesses and individuals take in response to the pandemic, including mandatory business closures and restrictions on onsite commercial interactions; (e) the impact of the pandemic and actions taken in response to the pandemic on global and regional economies and economic activity; (f) the pace of recovery when the COVID-19 pandemic subsides; (g) the Company's ability to effectively integrate acquisitions, and manage the larger operations of the combined businesses, (h) the Company's dependence upon a limited number of customers and the aerospace industry, (i) the highly competitive industry in which the Company operates, which includes several competitors with greater financial resources and larger sales organizations, (j) the Company's ability to capitalize on market opportunities in certain sectors, (k) the Company's ability to obtain cost effective financing and (k) the Company's ability to satisfy obligations under its financing arrangements, and the other risks described in “Item 1A. Risk Factors” in our Annual Report Form 10-K for the year ended December 31, 2021 and the Company’s subsequent filings with the SEC.

ITEM 3. MARKET RISK

This item is not applicable to the Company as a smaller reporting company.

ITEM 4. CONTROLS AND PROCEDURES

As of September 30, 2022, an evaluation was performed, under the supervision and with the participation of the Company’s management, including the Company’s Chief Executive Officer along with the Company’s Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act. Based upon that evaluation, the Company’s management, including the Company’s Chief Executive Officer and the Company’s Chief Financial Officer, concluded that the Company’s disclosure controls and procedures were not effective as of September 30, 2022 due to the material weakness described below and discussed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021.

A material weakness is a deficiency or combination of deficiencies in internal control over financial reporting such that there is a reasonable possibility that a material misstatement of its financial statements would not be prevented or detected on a timely basis.

In the course of preparing the Company’s financial statements included in the Form 10-K, management identified the following material weakness in internal control over financial reporting at the Company’s subsidiary CAD Enterprises Inc. (“CAD”):

In addition, management identified the following material weakness in internal control over financial reporting at the Company’s subsidiaries MPI Products, Inc. (“MPI”) and Federal Hose Manufacturing LLC (“Federal Hose”);

These control deficiencies create a reasonable possibility that a material misstatement to the consolidated financial statements will not be prevented or detected on a timely basis, and therefore management concluded that the deficiencies represent a material weakness in internal control over financial reporting and the Company’s internal control over financial reporting was not effective as of December 31, 2021.

REMEDIATION OF THE MATERIAL WEAKNESSES

The Company is in the process of remediating the material weakness in order to strengthen internal controls at CAD, MPI and Federal Hose. The remediation plan includes the following:

• Hiring and training additional qualified personnel, new controllers were hired at CAD, MPI and Federal Hose;

• Ongoing enhancement of the timeliness, formality and rigor of CAD’s process for costing work-in-process inventory, including its process for assigning, inputting, recording and reviewing raw material costs and other standard costs;

• Ongoing enhancement of CAD’s training of employees with respect to appropriately and consistently recording direct labor time;

• Implementing a new accounting system at CAD that has certain built-in internal controls; and

• Ongoing enhancement of the training of financial personnel at MPI and Federal Hose, and the timeliness, formality and rigor of processes at MPI and Federal Hose with respect to regular reconciliation of cash accounts with bank statements.

Changes in Internal Control over Financial Reporting

There have been no changes in the Company’s internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) of the Exchange Act) that occurred during the Company’s quarter ended September 30, 2022 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting except for the remediation efforts with regard to the material weaknesses described above.

PART II – OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS. 

None.

ITEM 1A. RISK FACTORS. 

There have been no material changes from the risk factors disclosed in Part 1, Item 1A, of our Annual Report on Form 10-K for the year ended December 31, 2021.

ITEM 2 UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

None

ITEM 3 DEFAULTS UPON SENIOR SECURITIES

None

ITEM 4. MINE SAFETY DISCLOSURES

Not applicable.

ITEM 5. OTHER INFORMATION

None

ITEM 6. EXHIBITS