CYANOTECH CORP - Quarter Report: 2017 December (Form 10-Q)

 

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C.  20549

 

FORM 10-Q

 

☒

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

  

For Quarterly Period Ended December 31, 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 0-14602

 

CYANOTECH CORPORATION

(Exact name of registrant as specified in its charter)

 

NEVADA	91-1206026
(State or other jurisdiction of incorporation or organization)	(IRS Employer Identification Number)

 

73-4460 Queen Kaahumanu Hwy. #102, Kailua-Kona, HI 96740

(Address of principal executive offices)

 

(808) 326-1353

(Registrant’s telephone number)

 

Not Applicable

(Former name, former address and former fiscal year, if changed since last report)

 

      Indicate by check mark whether the registrant (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act of 1934 during the past 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, or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. (Check one): 

Large accelerated filer ☐		Accelerated filer ☐
Non-accelerated filer ☐		Smaller reporting company ☒
(Do not check if a smaller reporting company)
		Emerging growth company ☐

 

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 common shares outstanding as of February 6, 2018:

 

Title of Class		Shares Outstanding
Common stock - $0.02 par value		5,752,732

 

 

 

CYANOTECH CORPORATION

 

FORM 10-Q

 

INDEX

 

PART I.  FINANCIAL INFORMATION
Item 1.	Financial Statements	3
	Condensed Consolidated Balance Sheets as of December 31, 2017 and March 31, 2017 (unaudited)	3
	Condensed Consolidated Statements of Operations for the three and nine months ended December 31, 2017 and 2016 (unaudited)	4
	Condensed Consolidated Statements of Cash Flows for the nine months ended December 31, 2017 and 2016 (unaudited)	5
	Notes to Condensed Consolidated Financial Statements (unaudited)	6
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	17
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	23
Item 4.	Controls and Procedures	23
PART II.  OTHER INFORMATION
Item 1.	Legal Proceedings	24
Item 1A	Risk Factors	24
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	24
Item 3.	Defaults upon Senior Securities	24
Item 5.	Other Information	24
Item 6.	Exhibits	25
SIGNATURES		26

 

 

 

		December 31, 2017				March 31, 2017
ASSETS
Current assets:
Cash		$	1,763			$	1,407
Accounts receivable, net of allowance for doubtful accounts of $27 at December 31, 2017 and $49 at March 31, 2017			2,926				2,135
Inventories, net			9,702				7,972
Prepaid expenses and other current assets			553				565
Total current assets			14,944				12,079
Equipment and leasehold improvements, net			15,945				16,712
Restricted cash			65				—
Other assets			317				213
Total assets		$	31,271			$	29,004
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Line of credit		$	500			$	611
Current maturities of long-term debt			656				623
Customer deposits			39				119
Accounts payable			3,590				3,666
Accrued expenses			1,345				1,013
Total current liabilities			6,130				6,032
Long-term debt, less current maturities			5,948				6,249
Other long-term liabilities			108				116
Total liabilities			12,186				12,397
Commitments and contingencies
Stockholders’ equity:
Preferred stock of $0.01 par value, authorized 10,000,000 shares; no shares issued and outstanding			—				—
Common stock of $0.02 par value, shares authorized 50,000,000; 5,752,732 shares issued and outstanding at December 31, 2017 and 5,685,381 shares at March 31, 2017			115				114
Additional paid-in capital			31,971				31,577
Accumulated deficit			(13,001	)			(15,084	)
Total stockholders’ equity			19,085				16,607
Total liabilities and stockholders’ equity		$	31,271			$	29,004

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		Three Months Ended December 31,								Nine Months Ended December 31,
		2017				2016				2017				2016
NET SALES		$	9,150			$	7,605			$	26,014			$	24,789
COST OF SALES			4,910				4,748				14,551				15,226
Gross profit			4,240				2,857				11,463				9,563
OPERATING EXPENSES:
General and administrative			1,368				1,138				4,132				4,864
Sales and marketing			1,620				1,749				4,549				4,774
Research and development			142				143				433				461
Total operating expenses			3,130				3,030				9,114				10,099
Income (loss) from operations			1,110				(173	)			2,349				(536	)
Interest expense, net			(130	)			(149	)			(371	)			(403	)
Income (loss) before income taxes			980				(322	)			1,978				(939	)
INCOME TAX (BENEFIT) EXPENSE			(127	)			27				(105	)			3
NET INCOME (LOSS)		$	1,107			$	(349	)		$	2,083			$	(942	)
NET INCOME (LOSS) PER SHARE:
Basic		$	0.19			$	(0.06	)		$	0.36			$	(0.17	)
Diluted		$	0.19			$	(0.06	)		$	0.36			$	(0.17	)
SHARES USED IN CALCULATION OF NET INCOME (LOSS) PER SHARE:
Basic			5,749				5,669				5,714				5,653
Diluted			5,831				5,669				5,774				5,653

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		Nine Months Ended December 31,
		2017				2016
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss)		$	2,083			$	(942	)
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
Depreciation and amortization			1,403				1,489
Amortization of debt issue costs and other assets			52				49
Share-based compensation expense			369				216
Net (increase) decrease in assets:
Accounts receivable			(791	)			516
Inventories			(1,730	)			185
Prepaid expenses and other assets			(86	)			(107	)
Net increase (decrease) in liabilities:
Customer deposits			(80	)			(41	)
Accounts payable			(76	)			(452	)
Accrued expenses			332				(34	)
Other liabilities			(8	)			13
Net cash provided by operating activities			1,468				892
CASH FLOWS FROM INVESTING ACTIVITIES:
Investment in equipment and leasehold improvements			(667	)			(508	)
Investment in restricted cash			(65	)			—
Net cash used in investing activities			(732	)			(508	)
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from short term note payable			—				600
Net (payments) draws on line of credit			(111	)			611
Payment of short-term notes payable			—				(600	)
Payments on capitalized leases			(67	)			(58	)
Principal payments on long-term debt			(394	)			(372	)
Proceeds from long-term debt, net of costs			166				—
Payments in stock withheld for tax payment on issuance			—				(147	)
Proceeds from stock options exercised			26				4
Net cash (used in) provided by financing activities			(380	)			38
Net increase in cash			356				422
Cash at beginning of period			1,407				1,240
Cash at end of period		$	1,763			$	1,662
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the period for:
Interest		$	313			$	322
Income taxes		$	—			$	—

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1.	BASIS OF PRESENTATION

 

 

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information pursuant to the instructions to Form 10-Q and Regulation S-X of the Securities and Exchange Commission (SEC). These interim condensed consolidated financial statements are unaudited and, in the opinion of management, include all adjustments (consisting of normal recurring adjustments and accruals) necessary to present fairly the Condensed Consolidated Balance Sheets, Condensed Consolidated Statements of Operations, and Condensed Consolidated Statements of Cash Flows for the periods presented in accordance with GAAP. Accordingly, they do not include all of the information and notes required by GAAP for complete financial statements. The results of operations for the interim periods are not necessarily indicative of the results to be expected for the full fiscal year. The Condensed Consolidated Balance Sheet as of March 31, 2017 was derived from the audited consolidated financial statements. These condensed consolidated financial statements and notes should be read in conjunction with the Company’s audited consolidated financial statements for the year ended March 31, 2017, contained in the Company’s annual report on Form 10-K as filed with the SEC on June 22, 2017.

 

The accompanying condensed consolidated financial statements include the accounts of Cyanotech Corporation and its wholly owned subsidiary, Nutrex Hawaii, Inc. (“Nutrex Hawaii” or “Nutrex”, collectively the “Company”). All significant intercompany balances and transactions have been eliminated in consolidation.

 

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosures of any contingent assets and liabilities as of the date of the financial statements and the reported amounts of revenues and expenses during the periods reported.  Management reviews these estimates and assumptions periodically and reflects the effect of revisions in the period that they are determined to be necessary.  Actual results could differ from those estimates and assumptions.

 

Liquidity and Debt Covenant Compliance

 

As of December 31, 2017, the Company had cash of $1.8 million and working capital of $8.8 million compared to $1.4 million and $6.0 million, respectively, at March 31, 2017. The Company has a revolving line of credit agreement with First Foundation Bank (the Bank) that allows it to borrow up to $2 million. The line is subject to renewal on August 30, 2018. As of December 31, 2017, the Company had borrowed $0.5 million and had $1.5 million available on the line.

 

 As of December 31, 2017, the Company had $6.5 million of term loans payable to the Bank that require the payment of principal and interest monthly through August 2032. Pursuant to the term loans, the Company is subject to annual financial covenants, customary affirmative and negative covenants and certain subjective acceleration clauses. As of March 31, 2017 and 2016, the Company's current ratio of 1.92:1 and 1.97:1, respectively, fell short of the Bank's annual requirement of 2.10:1. The Bank has provided the Company with letters stating they found the Company to be in compliance with this covenant requirement and all other financial covenants as of March 31, 2017 and 2016, and do not consider these shortfalls to be defaults under the Loan Agreements.

 

 Funds generated by operating activities and available cash continue to be the Company's most significant sources of liquidity for working capital requirements, debt service and funding of maintenance levels of capital expenditures. Based upon the Company's fiscal year 2018 operating plan and related cash flow projections and the Company's projected consolidated financial position as of March 31, 2018, cash flows expected to be generated by operating activities and available financing are expected to be sufficient to fund the Company's operations for at least the next twelve months, and the Company's current ratio is expected to be in compliance with the annual term loan covenant requirement as of March 31, 2018. However, no assurances can be provided that the Company will achieve its operating plan and cash flow objectives for the next fiscal year or its projected consolidated financial position as of March 31, 2018. Such estimates are subject to change based on future results and such change could cause future results to vary significantly from expected results.

 

 

 As indicated above, the Bank has not considered the shortfalls as of March 31, 2017 and 2016 in the Company's current ratio relative to the covenant requirement to be violations of the Loan Agreements. However, in the event the Company has a shortfall under the Loan Agreements as of March 31, 2018 or future fiscal year ends, there is no assurance that the Bank will not consider such to be a violation of the Loan Agreements and pursue its rights under the arrangements to call for the repayment of the outstanding borrowings payable to the Bank. If this occurs, the Company may need to raise additional funds to repay the loans; however, the Company may not be able to secure such funding on acceptable terms, or at all.

 

Reclassification

 

Certain amounts in the fiscal 2017 consolidated financial statements have been reclassified to conform to the fiscal 2018 financial presentation. These reclassifications have no impact on net income (loss).

 

 Recent Accounting Pronouncements

 

In May 2017, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") 2017-09, Compensation-Stock Compensation (Topic 718) Scope of Modification Accounting. ASU 2017-09 will clarify and reduce both (i) diversity in practice and (ii) cost and complexity when applying the guidance in Topic 718, to a change to the terms and conditions of a share-based payment award. This guidance will become effective for fiscal years beginning after December 15, 2017 and interim periods within those fiscal years. Early adoption is permitted. The amendments in this ASU should be applied prospectively to an award modified on or after the adoption date. The Company is currently evaluating the impact of this updated standard. The Company does not believe this update will have a significant impact on its consolidated financial statements.

 

In December 2016, the FASB issued ASU 2016-20 “Technical Corrections and Improvements to Topic 606, Revenue from Contracts with Customers” (“ASU No. 2016-20”) and ASU 2016-19 “Technical Corrections and Improvements” ("ASU No. 2016-19") which contains amendments that affect a wide variety of topics in the Accounting Standards Codification (“ASC”). The amendments generally fall into one of the following four categories: (a) Amendments related to differences between original guidance and the ASC that either carry forward pre-codification guidance or subsequent amendments into the ASC or to guidance that was codified without some text, reference, or phrasing that, upon review, was deemed important to the guidance; (b) Guidance clarification and reference corrections; (c) Simplification; and (d) Minor improvements. ASU 2016-20 will take effect for public companies for the fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. This guidance is applicable to the Company’s fiscal year beginning April 1, 2018. The Company does not expect that the adoption of this guidance will have a significant impact on its consolidated financial position, results of operations or cash flows.

 

In November 2016, the FASB issued ASU 2016-18, “Statement of Cash Flows (Topic 230): Restricted Cash” (“ASU No. 2016-18”).  This update addresses the fact that diversity exists in the classification and presentation of changes in restricted cash on the statement of cash flows under Topic 230, Statement of Cash Flows. ASU 2016-18 will take effect for public companies for the fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. This guidance is applicable to the Company’s fiscal year beginning April 1, 2018. The Company does not anticipate that this guidance will have a material impact on its consolidated financial statements and related disclosures.

 

In August 2016, FASB issued ASU 2016-15, “Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments” (“ASU No. 2016-15”). This ASU clarifies and provides specific guidance on eight cash flow classification issues that are not currently addressed by current GAAP and thereby reduces the current diversity in practice. ASU No. 2016-15 is effective for public business entities for annual periods, including interim periods within those annual periods, beginning after December 15, 2017, with early application permitted. This guidance is applicable to the Company’s fiscal year beginning April 1, 2018. The Company does not anticipate that this guidance will have a material impact on its consolidated financial statements and related disclosures. 

 

 In March 2016, the FASB issued ASU 2016-09, “Compensation – Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting” (“ASU No. 2016-09”). This ASU makes several modifications to Topic 718 related to the accounting for forfeitures, employer tax withholding on share-based compensation, and the financial statement presentation of excess tax benefits or deficiencies. ASU No. 2016-09 also clarifies the statement of cash flows presentation for certain components of share-based awards. The standard is effective for annual periods beginning after December 15, 2016, and interim periods within those annual periods, with early adoption permitted. Amendments requiring recognition of excess tax benefits and tax deficiencies in the income statement must be applied prospectively. Amendments related to the presentation of excess tax benefits on the statement of cash flows may be applied either prospectively or retrospectively based on the Company’s election. Amendments related to the statement of cash flows presentation of employee taxes paid when an employer withholds shares must be applied retrospectively. As of April 1, 2017, the Company adopted ASU 2016-09 and elected to present excess tax benefits as an operating activity prospectively and continues to estimate forfeitures rather than recognize them as they occur. The adoption of ASU 2016-09 did not have an impact on its consolidated financial statements and related disclosures.

 

 

 In March 2016, the FASB issued ASU No. 2016-08, “Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations (Reporting Revenue Gross versus Net)” (“ASU No. 2016-08”), which clarified the revenue recognition implementation guidance on principal versus agent considerations. In April 2016, the FASB issued ASU No. 2016-10, “Revenue from Contracts with Customers (Topic 606): Identifying Performance Obligations and Licensing”, which clarified the revenue recognition guidance regarding the identification of performance obligations and the licensing implementation. In May 2016, the FASB issued ASU No. 2016-12, “Revenue from Contracts with Customers (Topic 606): Narrow-Scope Improvements and Practical Expedients”, which narrowly amended the revenue recognition guidance regarding collectability, noncash consideration, presentation of sales tax and transition. ASU No. 2016-08, ASU No. 2016-10 and ASU No. 2016-12 are effective during the same period as ASU No. 2014-09, Revenue from Contracts with Customers, which is effective for annual reporting periods beginning after December 15, 2017, with the option to adopt one year earlier. This guidance is applicable to the Company’s fiscal year beginning April 1, 2018. The Company does not anticipate that the adoption of ASU No. 2016-08, ASU No. 2016-10 and ASU No. 2016-12 will have a material impact on its consolidated financial statements and related disclosures. 

 

 In February 2016, the FASB issued ASU 2016-02, “Leases (Topic 842)” (“ASU No. 2016-02”). The principle objective of ASU No. 2016-02 is to increase transparency and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet. ASU No. 2016-02 continues to retain a distinction between finance and operating leases but requires lessees to recognize a right-of-use asset representing its right to use the underlying asset for the lease term and a corresponding lease liability on the balance sheet for all leases with terms greater than twelve months. ASU No. 2016-02 is effective for fiscal years and interim periods beginning after December 15, 2018. Early adoption of ASU No. 2016-02 is permitted. Entities are required to apply the amendments at the beginning of the earliest period presented using a modified retrospective approach. This guidance is applicable to the Company’s fiscal year beginning April 1, 2019. The Company expects this guidance will have a material impact on its consolidated balance sheets due to the recognition of lease rights and obligations as assets and liabilities, respectively. The Company does not expect this guidance to have a material effect on its consolidated results of operations and cash flows. 

 

 In November 2015, the FASB issued ASU No. 2015-17, “Income Taxes (Topic 740): Balance Sheet Classification of Deferred Taxes”. This guidance simplifies the presentation of deferred income taxes and requires that deferred tax assets and liabilities be classified as noncurrent in the classified statement of financial position. ASU 2015-17 will take effect for public companies for the fiscal years beginning after December 15, 2016, and interim periods within those fiscal years. As required, the Company adopted this standard as of April 1, 2017 and accordingly all deferred tax assets and liabilities are classified as non-current. Prior periods were retrospectively adjusted.

 

 In August 2015, the FASB issued ASU 2015-14, “Revenue from Contracts with Customers (Topic 606): Deferral of the Effective Date”, which defers the effective date of ASU 2014-09 by one year to December 15, 2017 for interim and annual reporting periods beginning after that date, and permitted early adoption of the standard, but not before the original effective date. 

 

 In July 2015, the FASB issued ASU No. 2015-11, “Inventory: Simplifying the Measurement of Inventory”, that requires inventory not measured using either the last in, first out (LIFO) or the retail inventory method to be measured at the lower of cost and net realizable value. Net realizable value is the estimated selling prices in the ordinary course of business, less reasonably predictable cost of completion, disposal, and transportation.  Prior to the issuance of the standard, inventory was measured at the lower of cost or market (where market was defined as replacement cost, with a ceiling of net realizable value and floor of net realizable value less a normal profit margin). The new standard will be effective for fiscal years beginning after December 15, 2016, including interim periods within those fiscal years, and will be applied prospectively. Early adoption is permitted. As required, the Company adopted this standard as of April 1, 2017. The adoption of this standard did not have a material impact on the Company's financial position or results of operations.

 

 In May 2014, The FASB issued ASU No 2014-09, “Revenue from Contracts with Customers (Topic 606)”. This guidance, as amended by subsequent ASUs on the topic, supersedes current guidance on revenue recognition in topic 605, Revenue Recognition. This guidance will be effective for annual periods beginning after December 15, 2017, including interim reporting periods. Early application of the guidance is permitted for annual periods beginning after December 31, 2016. This guidance is applicable to our fiscal year beginning April 1, 2018. The Company plans to adopt this guidance when effective in the first quarter of the fiscal year ended March 31, 2019. The Company has begun to consider the alternatives of adoption of this ASU and has started its review of the likely impact to the existing portfolio of customers contracts entered into prior to adoption. The Company will also continue to evaluate the effect of adopting this guidance upon its results of operations, cash flows and financial position. The Company expects to complete this evaluation in March 2018.

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2.	INVENTORIES

 

Inventories are stated at the lower of cost or net realizable value. Cost is determined by the first-in, first-out method. Inventories consist of the following:

 

 

                   

                              

 

(1)

Net of reserve for obsolescence of $3,000 at December 31, 2017 and March 31, 2017, respectively.

 

The Company recognizes abnormal production costs, including fixed cost variances from normal production capacity, as an expense in the period incurred. Non-inventoriable fixed costs of $4,000 and $88,000 were charged to cost of sales for the three and nine months ended December 31, 2017, respectively. Non-inventoriable fixed costs of $148,000 and $221,000 were charged to cost of sales for the three and nine months ended December 31, 2016, respectively.

 

3.	EQUIPMENT AND LEASEHOLD IMPROVEMENTS, NET

 

Equipment and leasehold improvements are stated at cost. Depreciation and amortization are provided using the straight-line method over the estimated useful lives for equipment and furniture and fixtures, or the shorter of the land lease term or estimated useful lives for leasehold improvements as follows:

 

 

Equipment and leasehold improvements consist of the following:

 

 

The Company reviews long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying value of such assets may not be recoverable. Recoverability of these assets is measured by a comparison of the carrying amount to forecasted undiscounted future cash flows expected to be generated by the asset. If the carrying amount exceeds its estimated future cash flows, then an impairment charge is recognized to the extent that the carrying amount exceeds the asset’s fair value. Management has determined no asset impairment existed as of December 31, 2017 and 2016, respectively.

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4.	LINE OF CREDIT

 

On August 30, 2016, the Revolving Credit Agreement (the “Credit Agreement”), which the Company and First Foundation Bank (“the Bank”) entered into on June 3, 2016, became effective after the Company and the Bank received the necessary approvals from the State of Hawaii to secure the lien on the Company’s leasehold property in Kona, Hawaii. The Credit Agreement allows the Company to borrow up to $2,000,000 on a revolving basis. Borrowings under the Credit Agreement bear interest at the Wall Street Journal prime rate (4.50% at December 31, 2017) + 2%, floating. The Credit Agreement includes various covenants as defined in the Credit Agreement. The Credit Agreement also contains standard acceleration provisions in the event of a default by the Company. As of December 31, 2017, the Company had borrowed $500,000 and had $1,500,000 available on the line. The line of credit will be subject to renewal upon expiration on August 30, 2018.

 

The Credit Agreement grants the Bank the following security interests in the Company’s property: (a) a lien on the Company’s leasehold interest in its Kona facility; (b) an assignment of the Company’s interest in leases and rents on its Kona facility; and (c) a security interest in all fixtures, furnishings and equipment related to or used by the Company at the Kona facility. Each security interest is further subject to the terms of the Credit Agreement.

 

5.	ACCRUED EXPENSES

 

Accrued expenses consist of the following:

 

 

 

6.	LONG-TERM DEBT

 

Long-term debt consists of the following:

 

  

Term Loans

 

 The Company executed a loan agreement with a lender providing for $2,500,000 in aggregate credit facilities (the “2015 Loan”) secured by substantially all the Company’s assets, pursuant to a Term Loan Agreement dated July 30, 2015 (the “2015 Loan Agreement”). The 2015 Loan Agreement is evidenced by a promissory note in the amount of $2,500,000, the repayment of which is partially guaranteed under the provisions of a United States Department of Agriculture (“USDA”) Rural Development Guarantee program. The provisions of the 2015 Loan Agreement require the payment of principal and interest until its maturity on September 1, 2022, the obligation fully amortizes over seven (7) years. Interest on the 2015 Loan accrues on the outstanding principal balance at an annual variable rate equal to the published Wall Street Journal prime rate (4.50% at December 31, 2017) plus 2.0% and is adjustable on the first day of each calendar quarter and fixed for that quarter. At no time shall the annual interest rate be less than 6.00%. The 2015 Loan has a prepayment penalty of 5% for any prepayment made prior to the first anniversary of the date of the 2015 Loan Agreement, which penalty is reduced by 1% each year thereafter until the fifth anniversary of such date, after which there is no prepayment penalty. The balance under the 2015 Loan was $1,809,000 and $2,049,000 at December 31, 2017 and March 31, 2017, respectively.

  

  The 2015 Loan includes a one-time origination and guaranty fee totaling $113,900 and an annual renewal fee payable in the amount of 0.50% of the USDA guaranteed portion of the outstanding principal balance as of December 31 of each year, beginning December 31, 2015. The USDA has guaranteed 80% of all amounts owing under the 2015 Loan. The Company is subject to financial covenants and customary affirmative and negative covenants.

 

 

 The Company executed a loan agreement with a lender providing for $5,500,000 in aggregate credit facilities (the “Loan”) secured by substantially all the Company’s assets, including a mortgage on the Company's interest in its lease at the National Energy Laboratory of Hawaii Authority, pursuant to a Term Loan Agreement dated August 14, 2012 (the “Loan Agreement”). The Loan Agreement is evidenced by promissory notes in the amounts of $2,250,000 and $3,250,000, the repayment of which is partially guaranteed under the provisions of a USDA Rural Development Guarantee. The provisions of the Loan required the payment of interest only for the first 12 months of the term; thereafter, and until its maturity on August 14, 2032, the obligation fully amortizes over nineteen (19) years. Interest on the Loan accrues on the outstanding principal balance at an annual variable rate equal to the published Wall Street Journal prime rate (4.50% at December 31, 2017) plus 1.0% and is adjustable on the first day of each calendar quarter and fixed for that quarter. At no time shall the annual interest rate be less than 5.50%. The balance under this Loan was $4,702,000 and $4,854,000 at December 31, 2017 and March 31, 2017, respectively.

 

The Loan includes a one-time origination and guaranty fees totaling $214,500 and an annual renewal fee payable in the amount of 0.25% of the USDA guaranteed portion of the outstanding principal balance as of December 31 of each year, beginning December 31, 2012. The USDA has guaranteed 80% of all amounts owing under the Loan. The Company is subject to financial covenants and customary affirmative and negative covenants.  

 

The Company’s current ratio of 1.92 to 1 and 1.97 to 1 as of March 31, 2017 and 2016, respectively, fell short of the bank’s requirement of 2.10 to 1; however, the Company has received letters from its bank stating that they found the Company to be in compliance with this and all other financial covenants as of March 31, 2017 and 2016, and do not consider these shortfalls to be a defaults under the Loan Agreements.   

 

On October 6, 2017, the Company entered into an Equipment Finance Agreement (the “Equipment Agreement”) with a lender, which provides up to $175,000 of financing for equipment. The interest rate on this loan is 4.75%. The provisions of the Equipment Agreement require the payment of principal and interest until its maturity on October 31, 2022, the obligation fully amortizes over five (5) years. The balance under this loan was $164,000 at December 31, 2017. $65,000 of the proceeds from this loan are classified as restricted cash until drawn upon to acquire the equipment.

 

Capital Leases 

 

The Company has four capital leases providing for $364,000 in equipment, secured by the equipment financed. The capital leases mature at various dates between March 2018 and March 2021 and are payable in 60 equal monthly payments, except for one which is payable in 36 equal monthly payments. The interest rates under these capital leases range from 4.18% to 12.90%. The balance under these leases was $170,000 and $236,000 at December 31, 2017 and March 31, 2017, respectively.

 

Future principal payments under the term loans and capital lease agreements as of December 31, 2017 are as follows:

 

 

 

7.	OPERATING LEASES

 

The Company leases facilities, equipment and land under operating leases expiring through 2035. The land lease provides for contingent rentals in excess of minimum rental commitments based on a percentage of the Company’s sales. Management has accrued for the estimated contingent rent as of December 31, 2017.

 

 

Future minimum lease payments under all non-cancelable operating leases at December 31, 2017 are as follows:

 

 

 

8.	OTHER COMMITMENTS AND CONTINGENCIES

 

From time to time, the Company may be involved in litigation and investigations relating to claims and matters arising out of its operations in the normal course of business. The Company believes that it currently is not a party to any legal proceedings or claims which, individually or in aggregate, would have a material effect on its consolidated financial position, results of operations or cash flows. 

 

9.	SHARE-BASED COMPENSATION

 

The Company accounts for share-based payment arrangements using fair value. If an award vests or becomes exercisable based on the achievement of a condition other than service, such as for meeting certain performance or market conditions, the award is classified as a liability. Liability-classified awards are remeasured to fair value at each balance sheet date until the award is settled. The Company currently has no liability-classified awards. Equity-classified awards, including grants of employee stock options, are measured at the grant-date fair value of the award and are not subsequently remeasured unless an award is modified. The cost of equity-classified awards is recognized in the statement of operations over the period during which an employee is required to provide the service in exchange for the award, or the vesting period. All of the Company’s stock options are service-based awards, and because the Company’s stock options are “plain vanilla,” as defined by the U.S. Securities and Exchange Commission in Staff Accounting Bulletin No. 107, they are reflected only in equity and compensation expense accounts.

 

As of December 31, 2017, the Company had two equity-based compensation plans: the 2016 Equity Incentive Plan (the “2016 Plan”) and the 2014 Independent Director Stock Option and Restricted Stock Grant Plan (the “2014 Directors Plan”). The Company has also issued stock options, which remain outstanding as of December 31, 2017, under two equity-based compensation plans which have expired according to their terms: the 2005 Stock Option Plan (the “2005 Plan”) and the 2004 Independent Director Stock Option and Stock Grant Plan (the “2004 Directors Plan”). These plans allowed the Company to award stock options and shares of restricted common stock to eligible employees, certain outside consultants and independent directors. No additional awards will be issued under the 2005 Plan or the 2004 Directors Plan.

 

On August 25, 2016, the Company’s shareholders approved the 2016 Plan as a successor to the 2005 Plan, authorizing the Board of Directors to provide incentive to the Company’s officers, employees and certain independent consultants through equity based compensation in the form of stock options, restricted stock, restricted stock units, stock appreciation rights and other stock based awards (together, “Stock Awards”) and performance shares and performance units (together “Performance Awards”). Awards under the 2016 Plan are limited to the authorized amount of 1,300,000 shares, up to 600,000 of which are available for issuance in connection with Performance Awards and Stock Awards. As of December 31, 2017, there were 1,175,478 shares available for grant under the 2016 Plan.

 

On August 28, 2014, the Company’s shareholders approved the 2014 Directors Plan authorizing the Board of Directors to provide incentive to the Company’s independent directors through equity based compensation in the form of stock options and restricted stock. Awards under the 2014 Directors Plan are limited to the authorized amount of 350,000 shares. As of December 31, 2017, there were 231,623 shares available for grant under the 2014 Directors Plan.

 

 

The following table presents shares authorized, available for future grant and outstanding under each of the Company’s plans:

 

 

Stock Options

 

All stock option grants made under the equity-based compensation plans were issued at exercise prices no less than the Company’s closing stock price on the date of grant. Options under the 2005 Plan and 2014 Directors Plan were determined by the Board of Directors or the Compensation Committee of the Board of Directors in accordance with the provisions of the respective plans.  The terms of each option grant include vesting, exercise, and other conditions are set forth in a Stock Option Agreement evidencing each grant. No option can have a life in excess of ten (10) years. The Company records compensation expense for employee stock options based on the estimated fair value of the options on the date of grant using the Black-Scholes option-pricing model. The model requires various assumptions, including a risk-free interest rate, the expected term of the options, the expected stock price volatility over the expected term of the options, and the expected dividend yield. Compensation expense for employee stock options is recognized ratably over the vesting term. Compensation expense recognized for options issued under all Plans was $13,000 and $47,000 for the three and nine months ended December 31, 2017, respectively. Compensation expense recognized for options issued under all Plans was $1,500 and $138,000 for the three and nine months ended December 31, 2016, respectively. Compensation expense recognized for restricted stock issued under the 2014 Directors Plan was $0 and $276,000 for the three and nine months ended December 31, 2017, respectively. Compensation expense recognized for restricted stock issued under the 2014 Directors Plan was $0 and $78,000 for the three and nine months ended December 31, 2016, respectively. All stock-based compensation has been classified as general and administrative expense in the condensed consolidated statement of operations.

 

A summary of option activity under the Company’s stock plans for the nine months ended December 31, 2017 is presented below: 

 

The aggregate intrinsic value in the table above is before applicable income taxes and represents the excess amount over the exercise price optionees would have received if all options had been exercised on the last business day of the period indicated, based on the Company’s closing stock price of $3.91 for such day.

 

 

A summary of the Company’s non-vested options for the nine months ended December 31, 2017 is presented below:

 

 

The following table summarizes the weighted average characteristics of outstanding stock options as of December 31, 2017:

 

 

The range of fair value assumptions related to options granted during the nine months ended December 31, 2017 were as follows:

 

 

As of December 31, 2017, total unrecognized stock-based compensation expense related to all unvested stock options was $108,000, which is expected to be expensed over a weighted average period of 2.5 years. 

 

Subsequent to December 31, 2017, 45,000 stock options were granted from the 2016 Plan at an exercise price of $3.83 per share.

 

Restricted Stock Units (“RSUs”) 

 

RSUs are service-based awards granted to eligible employees under the 2016 Plan. 

 

On March 31, 2017, 25,000 restricted stock units (“RSUs”) were awarded to the Company’s then CEO. This award is valued at $3.85 per share, the closing market price of Cyanotech common stock on the grant date, and vest over a period of three years. 

 

On April 5, 2017, 28,074 RSUs were awarded to employees of the Company. These awards are valued at $3.92 per share, the closing market price of Cyanotech common stock on the grant date, and vests over a period of three years. 

 

 

The following table summarizes information related to awarded RSUs: 

 

 

 As of December 31, 2017, total unrecognized stock-based compensation expense related to unvested restricted stock units was $142,000, which is expected to be expensed over a weighted average period of 2.3 years.

 

10.	INCOME TAXES

 

On December 22, 2017 H.R. 1, originally known as the Tax Cuts and Jobs Act, (the “ Tax Act”) was enacted. Among the significant changes to the U.S. Internal Revenue Code, the Tax Act lowers the U.S. federal corporate income tax rate (“Federal Tax Rate”) from 35% to 21% effective January 1, 2018. The Company will compute its income tax expense for the March 31, 2018 fiscal year using a blended Federal Tax Rate of 30.79%. The 21% Federal Tax Rate will apply to fiscal years ending March 31, 2019 and each year thereafter.

 

Upon enactment, as a result of the rate reduction, the Company re-measured its net deferred tax assets and liabilities using the Federal Tax Rate that will apply when those amounts are expected to reverse, resulting in a write-down of $1.2 million. Because there is a full valuation allowance against these assets, the valuation allowance was reduced accordingly and there was no effect on the provision (benefit) for income taxes.

 

The estimated annual effective tax rate was used to determine the provision (benefit) for income taxes for interim periods. The income tax provision (benefit) is computed by multiplying the estimated annual effective tax rate by the year to date pre-tax book income (loss). An income tax benefit of $(127,000) and income tax expense of $27,000 was recorded for the three months ended December 31, 2017 and 2016, respectively. The current quarter benefit and the change in the effective tax rate was the result of the favorable treatment of alternative minimum tax credit carryforwards under the new Tax Act, allowing the Company to record receivables totaling $148,000. An income tax benefit of $(105,000) and income tax expense of $3,000 was recorded for the nine months ended December 31, 2017 and 2016, respectively. The effective tax rate was (13.0%) and (5.3%) for the three and nine months ended December 31, 2017, respectively, and (8.4%) and (0.3%) for the three and nine months ended December 31, 2016, respectively. The effective tax rate for the three and nine months ended December 31, 2017 differs from the blended statutory rate of 30.79% as a result of state taxes (net of federal benefit) and the net change in valuation allowance against the net deferred tax asset the Company believes is not more likely than not to be realized.

 

 As of December 31, 2017, the Company can determine a reasonable estimate for certain tax effects of tax reform and is recording that estimate as a provisional amount.  The provisional amount is anticipated to change as data becomes available allowing more accurate scheduling of the deferred tax assets and liabilities in connection with our fiscal year end close. Any adjustment to the deferred tax assets and liabilities is expected to be offset by an equal adjustment to the valuation allowance.

 

 The Company is subject to taxation in the United States and two state jurisdictions. The preparation of tax returns requires management to interpret the applicable tax laws and regulations in effect in such jurisdictions, which could affect the amount of tax paid by the Company. Management, in consultation with its tax advisors, files its tax returns based on interpretations that are believed to be reasonable under the circumstances. The income tax returns, however, are subject to routine reviews by the various taxing authorities.  As part of these reviews, a taxing authority may disagree with respect to the tax positions taken by management (“uncertain tax positions”) and therefore may require the Company to pay additional taxes. Management evaluates the requirement for additional tax accruals, including interest and penalties, which the Company could incur as a result of the ultimate resolution of its uncertain tax positions. Management reviews and updates the accrual for uncertain tax positions as more definitive information becomes available from taxing authorities, completion of tax audits, expiration of statute of limitations, or upon occurrence of other events.

 

As of December 31, 2017, there was no liability for income tax associated with unrecognized tax benefits. The Company recognizes accrued interest related to unrecognized tax benefits as well as any related penalties in interest income or expense in its consolidated condensed statements of operations, which is consistent with the recognition of these items in prior reporting periods.

  

With few exceptions, the Company is no longer subject to U.S. federal, state, local, and non-U.S. income tax examination by tax authorities for tax years before 2012.

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11.	EARNINGS (LOSS) PER SHARE

 

Basic earnings (loss) per share is computed on the basis of the weighted average number of common shares outstanding. Diluted earnings (loss) per share is computed on the basis of the weighted average number of common shares outstanding plus the potentially dilutive effect of outstanding stock options using the “treasury stock” method.

 

Reconciliations between the numerator and the denominator of the basic and diluted earnings per share computations for the three months ended December 31, 2017 and 2016 are as follows:

 

 

 

Reconciliations between the numerator and the denominator of the basic and diluted earnings per share computations for the nine months ended December 31, 2017 and 2016 are as follows:

 

 

 

Basic and diluted earnings per share are the same in periods of a net loss, because common share equivalents are anti-dilutive when a net loss is recorded. Diluted earnings per share does not include the impact of common stock options totaling 75,000 and 605,000 for the three months ended December 31, 2017 and 2016, respectively, and 75,000 and 1,414,916 for the nine months ended December 31, 2017 and 2016, respectively, as the effect of their inclusion would be anti-dilutive. Restricted stock units become dilutive within the period granted and remain dilutive until the units vest and are issued as common stock. 

 

12.	CONCENTRATIONS OF RISK

 

Concentration of Accounts Receivable and Revenues

 

At December 31, 2017, 48% of the Company’s accounts receivable was comprised of two customer balances of 37% and 11%, respectively. At March 31, 2017, 50% of the Company’s accounts receivable was comprised of two customer balances of 38% and 12%, respectively.

 

For the three months ended December 31, 2017, 49% of the Company’s total net sales was comprised of two customers (25% and 24%, respectively) compared to 36% for the three months ended December 31, 2016 (28% and 8%, respectively). For the nine months ended December 31, 2017, 47% of the Company’s total net sales were comprised of two customers (30% and 17%, respectively) compared to 34% for the nine months ended December 31, 2016 (26% and 8%, respectively).

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