ELECTRO SENSORS INC - Annual Report: 2020 (Form 10-K)

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

Form 10-K

 

ELECTRO-SENSORS, INC.

(Exact name of registrant as specified in its charter) 

 

Securities registered under Section 12(g) of the Exchange Act:

None

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☐ No ☒

 

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Exchange Act. Yes ☐ No ☒

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

 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted 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 such files). Yes ☒  No ☐

 

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

 

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

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). ☐ Yes ☒  No

 

The aggregate market value of the voting stock held by non-affiliates (persons other than officers, directors, or holders of more than 5% of the outstanding stock) of the registrant was approximately $7,800,000 based upon the closing price of its common stock as reported on The Nasdaq Stock Market® on June 30, 2020.

 

The number of shares outstanding of the registrant’s Common Stock, $0.10 par value, on March 24, 2021 was 3,395,521.

 

DOCUMENTS INCORPORATED BY REFERENCE

Certain information called for by Part III of this Form 10-K is incorporated by reference from the registrant’s Definitive Proxy Statement, which will be filed pursuant to Regulation 14A not later than 120 days after the end of the fiscal year covered by this report.

 

 

 

ELECTRO-SENSORS, INC.
Form 10-K for the Year Ended December 31, 2020

 

 

 

 

Introduction

 

Electro-Sensors, Inc. (“we,” “us,” “our,” the “Company” or “ESI”) manufactures and sells industrial production monitoring and process control systems. 

 

In addition, we may periodically make strategic investments in other businesses and companies, including investments that we believe would facilitate the development of technology complementary to our existing products or investments that we believe present good opportunities for the Company and its shareholders. 

 

ESI was incorporated in Minnesota in July 1968. Our executive offices are located at 6111 Blue Circle Drive, Minnetonka, Minnesota, 55343-9108. Our telephone number is (952) 930-0100.

 

Products

 

We manufacture and sell a variety of monitoring systems that measure machine production and operation rates, as well as systems that regulate the speed of related machines in production processes.

 

Our goal is to develop meaningful annual updates to our standard products.

 

We have a sales agreement with Motrona GmbH, a German control and interface devices manufacturer, under which we have the right to distribute Motrona products in the United States. These products interface with our products on various applications for motion monitoring.

 

      Speed Monitoring Systems

Our speed monitoring systems compare revolutions per minute or speed against acceptable rates as determined by our customers. These systems vary in complexity, from simple systems that detect slow-downs or stoppages, to more sophisticated systems that warn of deviations from precise tolerances and that permit various subsidiary operations to be determined through monitoring shaft speed.

 

Our speed monitoring systems also include a line of products that measure production counts or rates, such as number of parts, gallons per minute, or board feet. These speed monitoring systems also include alarm systems, tachometers, and other devices that translate impulses from the sensors into alarm signals, computer inputs, or digital displays that are usable by the customer.

 

We have several products used in drive control systems that regulate the speed of motors on related machines in a production sequence to ensure that the performances of various operations are coordinated. The products consist of a line of digital control products for motors that require a complete closed loop PID (Proportional Integral Derivative) control. The closed loop controllers coordinate production speed among process motors and reduce waste.

 

      Temperature Application Products

 

Our main temperature applications include bearing, gear box, and motor temperature monitoring sensors.  These sensors alert an operator when the temperature exceeds or is less than a specified temperature.

     Position Application Products

 

We also offer production monitoring devices that include a belt alignment and slide gate position monitor.  The belt alignment monitor is used to determine if a belt is tracking correctly.  The slide gate position monitor is used in plant operations to provide feedback of the position of a slide gate.  One version has analog output and the second version has relay outputs that provide feedback of the position of a valve or control arm. 

 

     Vibration Monitoring Products 

 

A vibration monitor alerts an operator when the vibration of a machine in a production system exceeds or is less than a specified level.  

 

      Tilt Switches

 

A tilt switch is designed to alert the operator when a storage bin or production system reaches a certain capacity.  

 

      Hazard Monitoring Systems 

 

Electro-Sentry We offer the Electro-Sentry 1 and Electro-Sentry 16 hazard monitoring systems, which integrate our sensors for monitoring temperature, belt alignment, and shaft speed with programmable control logic and LED display interface to create a complete hazard monitoring system. These systems enable our customers to locate which part of their material handling system is operating incorrectly, typically in less than ten seconds, by using visual indication on the LED displays. 

 

HazardPRO^TM We market our wireless hazard technology monitoring system under the HazardPRO product name. This integrated hazard monitoring system captures and displays key information in an intuitive format allowing the user to quickly and comprehensively understand the status and history of its processes.  The simple but powerful interface gives the user insight into its operations as it strives to maximize safety and facility runtime, while minimizing costs associated with unscheduled maintenance and unplanned downtime.  Furthermore, the HazardPRO system has been approved for use in hazardous dust environments by a third-party nationally recognized testing laboratory.

 

The HazardPRO site system manager software efficiently collects data from sensors placed across a widely dispersed area.  We have also added a complete antenna pair mounting system to the product line for easy and accurate customer installation.

 

We expect to continue to expend resources to develop new products and to market new and existing products for use in a wide variety of monitoring applications.

 

Our corporate website, www.electro-sensors.com, provides significant product application information for our existing and prospective customers and our sales partners. Information on our website is not incorporated by reference herein and is not a part of this Form 10-K. 

 

Marketing and Distribution

 

We sell our products primarily through both our internal sales team and a number of manufacturer’s representatives and distributors located throughout the United States, Canada, Mexico, Brazil, Chile, Germany, Panama, Peru, United Kingdom, Ukraine, Egypt, Saudi Arabia, South Africa, Tunisia, India, Australia, China, Taiwan, Korea, Vietnam, Malaysia, Philippines, and Singapore. Sales to customers outside the United States represented approximately 11.6% of our 2020 sales. We sell our products under the Electro-Sensors, Inc. brand as a range of products from simple sensors to complex integrated monitoring systems.  Our customers are businesses in a wide variety of industries, including grain/feed/milling, bulk materials, manufacturing, food products, ethanol, power generation, and other processing industries.

 

 

We continue to explore new industries and applications within the current industries we serve to expand sales and may also consider acquiring compatible businesses or product lines as part of our growth strategy.  In addition, we may make strategic investments that we believe present good opportunities for the Company and its shareholders.

In addition to enhanced operational safety, we believe that a wide variety of organizations could achieve significant savings in both time and materials by adding production monitoring and drive control technology to existing processes to coordinate the operation of related machines. We sell our products into both the “retro-fit” market and into new manufacturing or processing systems.

 

We advertise in national industrial periodicals that cover a range of industrial products and attend several local, national and international industry tradeshows throughout the year. We also use our corporate website and other related industry websites for advertising and marketing purposes.

 

Competition

 

We face substantial competition in the sale of our production monitoring systems from a broad range of industrial and commercial businesses. Many of these competitors are well established and have greater sales volume. Among our larger competitors are Danaher Controls, Red Lion Controls, 4B Elevator Components Ltd., and Durant Corporation. We believe our competitive advantages include our products' superior design and quality, and the fact that we sell our products as ready-to-install units that can be used in a wide range of applications. Our major disadvantages include the fact that our major competitors are larger, have better established names, have a broader range of sensing instruments, and have larger sales forces.

 

Suppliers

 

We purchase parts and materials for our systems from various manufacturers and distributors. In some instances, these materials are manufactured in accordance with our proprietary designs. Multiple sources of these parts and materials are generally available, and we, typically, do not depend on any single source for these supplies and materials. We have not experienced any significant problem of short supply or delays from our suppliers.  However, due to the outbreak of the COVID-19 pandemic, we are closely watching lead times and availability of components.  We are continually assessing our current inventory levels and take actions as necessary to minimize disruptions to our supply chain, although such actions may not be successful.

 

Customers

 

We do not depend upon a single or a few customers for a material (10% or more) portion of our sales.  The ongoing extent of the impact of COVID-19 on our business will depend largely on new information from, and actions taken by federal and local governments, trends in the virus and potential variants, as well as the availability and effectiveness of vaccines and treatments, all of which are highly uncertain and cannot be predicted.

 

Patents, Trademarks and Licenses

 

The Company relies on a combination of patent, trademark, and trade secret laws to establish proprietary right in its products.

 

We have registered the name “Electro-Sensors” as a trademark with the U.S. Patent and Trademark Office (“USPTO”), Reg. No. 1,142,310. We believe this trademark has been and will continue to be useful in developing and protecting market recognition for our products. We established the HazardPRO trademark in the first quarter of 2014 and intend to register this trademark.

 

 

We hold six patents relating to our production monitoring systems. We believe strongly in protecting our intellectual property and have a long history of obtaining patents, when available, in connection with our research and product development programs. We also rely upon trade secrets and proprietary know-how.

 

We seek to protect our trade secrets and proprietary intellectual property, including know-how, in part, through confidentiality agreements with employees, consultants, and other parties. We cannot ensure, however, that these agreements will not be breached, that we would have adequate remedies for any breach, or that our trade secrets will not otherwise become known or independently developed by competitors.

 

Seasonality

 

Generally, the Company experiences seasonality in the sale of its products with the second and third calendar quarters historically the strongest.

 

Business Development Activities

 

We continue to seek growth opportunities, both internally through our existing portfolio of products, technologies and markets, as well as externally through technology partnerships or related-product acquisitions.  In addition, we may make strategic or other investments that we believe present good opportunities for the Company and its shareholders.

 

Governmental Approvals

 

Although we are not required to obtain governmental approval of our products, we choose to obtain certain third-party certifications to meet our customers’ needs. These certifications may expand our market opportunities in certain industries.

 

Effect of Governmental Regulations

 

We do not believe that, other than adjustments in tariffs imposed on imported products, any existing or proposed governmental regulations will have a material effect on our business.

 

Research and Development 

 

We invest in research and development programs to develop new products and to integrate state-of-the-art technology into our existing products. We undertake development projects based upon the identified specific needs of the markets we serve.  Our "Management's Discussion and Analysis of Financial Condition and Results of Operations” section describes the nature and amount of our Research and Development expenditures.

 

Our future success depends in part upon our ability to develop new products in our varying segments. Difficulties or delays in our ability to develop, produce, test and market new products could have a material adverse effect on future sales growth.

 

Compliance with Environmental Laws

 

Compliance with federal, state and local environmental laws has only a nominal effect on current or anticipated capital expenditures and has had no material effect on earnings or on our competitive position.

 

Human Capital 

 

As of December 31, 2020, the Company had 37 employees, all of whom are full-time and  based in the United States.  We consider our relations with our employees to be good. None of our employees are currently represented by a labor union.

 

The Company views its employees and culture as keys to its success.  The Company aims to attract and retain qualified personnel and provides wages and benefits that are competitive locally to reward employees for performance.  The Company values innovation, inclusion and diversity, safety and engagement as they attract, develop, and retain the best talent.

 

The health and safety of our employees is a top priority of our leaders.  During the COVID-19 pandemic, we allowed many employees to work from home and collaborate remotely.  For employees that were not able to work from home, we implemented procedures at the office to protect employees and minimize the potential risk of an outbreak within the Company.  We believe the Company has generally been successful implementing proactive measures to protect the health and safety of its employees while maintaining business continuity and high levels of service to our customers.

 

Our ability to maintain a competitive position and to continue to develop and market new products depends, in part, on our ability to retain key employees and qualified personnel. If we are unable to retain our key employees, or recruit and train others, our product development, marketing and sales could be adversely affected. 

 

Fluctuations in Operating Results

 

We have experienced fluctuations in our past operating results and expect to experience fluctuations in the future.  These fluctuations may affect the market price of our common stock. Sales can fluctuate as a result of a variety of factors, many of which are beyond our control. These factors include: product competition and acceptance, timing of customer orders, cancellation of orders, the mix of products sold, downturns in the markets we serve and economic disruptions such as weather related events or the effects of the COVID-19 pandemic. Because fluctuations may occur, we caution investors that results of our operations for recent periods may not accurately predict how we will perform in the future. We cannot ensure that we will achieve revenue or earnings growth.

 

Expending Funds for Changes in Industry Standards, Customer Preferences or Technology

 

Our business depends on periodically introducing new and enhanced products and solutions for customer needs. Our product development efforts require us to commit financial resources, personnel and time, usually in advance of significant market demand for these products. In order to compete, we must anticipate both future demand and the technology available to meet that demand. We cannot ensure that our research and development efforts will lead to new products or product innovations that can be made available to or will be accepted by the market.

 

Forward-Looking Statements

 

The Private Securities Litigation Reform Act of 1995 provides a safe harbor for forward-looking statements made by us or on our behalf. We have made, and may continue to make, forward-looking statements with respect to our business and financial matters, including statements contained in this document, other filings with the Securities and Exchange Commission, and reports to shareholders. Forward-looking statements generally include discussion of current expectations or forecasts of future events and can be identified by the use of terminology such as “believe,” “estimate,” “expect,” “intend,” “may,” “could,” “will,” and similar words or expressions. Any statement that does not relate solely to historical fact should be considered forward-looking.

 

Our forward-looking statements generally relate to our growth strategy, future financial results, product development and sales efforts. We make forward-looking statements throughout this Annual Report, but primarily in this Item 1 and Item 7 - Management’s Discussion and Analysis of Financial Condition and Results of Operations. These include statements relating to our beliefs and expectations and intentions with respect to (i) our growth and profitability, (ii) our marketing and product development, (iii) our ability to continue to obtain parts and materials for our products from various manufacturers and distributors in a timely manner and at reasonable prices, (iv) the value of our intellectual property, (v) our competitive position in the marketplace, (vi) the effect of governmental regulations on our business, (vii) our employee relations, (viii) the adequacy of our facilities, (ix) our intention to develop new products, (x) the possibility of us acquiring compatible businesses or product lines as part of our growth strategy, (xi) our future cash requirements and use of cash, and (xii) the effect that the continuing COVID-19 pandemic may have on the efficiency of our business operations, our customer base, and the domestic or worldwide economy.

 

Forward-looking statements cannot be guaranteed and our actual results may vary materially due to the uncertainties and risks, known and unknown, associated with these statements, including our ability to successfully develop new products and manage our cash requirements. We undertake no obligations to update any forward-looking statements. We wish to caution investors that the following important factors, among others, in some cases have affected and in the future could affect our actual results of operations and cause these results to differ materially from those anticipated in forward-looking statements made in this document and elsewhere by us or on our behalf. We cannot foresee or identify all factors that could cause actual results to differ from expected or historical results. As such, investors should not consider any list of these factors to be an exhaustive statement of all risks, uncertainties or potentially inaccurate assumptions. These factors include our ability to:

 

 

 

 

 

 

 

 

 

This item is not required for smaller reporting companies, but above under “Forward-Looking Statements,” we discuss some of the risk factors that are relevant to our business and operating results. 

 

 

We own and occupy a 25,400 square foot facility at 6111 Blue Circle Drive, Minnetonka, Minnesota 55343-9108. All our operations are conducted within this facility. The facility is in excellent condition and we continue to maintain and update the facility as necessary. We believe the facility will be adequate for our needs in 2021.

 

 

We are not the subject of any legal proceedings as of the date of this filing. We are not aware of any threatened litigation.

 

 

Not applicable. 

 

 

Our common stock trades on the Nasdaq Capital Market of The Nasdaq Stock Market® under the symbol “ELSE.”

 

Based on data provided by our transfer agent, as of February 26, 2021, we had 65 shareholders of record who held 876,893 shares of the Company’s common stock. In addition, nominees held an additional 2,518,628 shares for approximately 1,503 shareholders holding shares in street name.

 

From time to time, we may be required to repurchase some of our equity securities as a result of obligations described in Note 10 to our 2020 financial statements. We did not repurchase any equity securities during the years ended December 31, 2020 and 2019.

 

The information required by Item 201(d) of SEC Regulation S-K is set forth in Item 12 of this Form 10-K.

 

 

Not required for smaller reporting companies

 

 

 

 

The following discussion should be read in conjunction with our financial statements and related notes. This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated due to various factors discussed under “Forward-Looking Statements” elsewhere in this Annual Report on Form 10-K.

 

RESULTS OF OPERATIONS

 

The following table contains selected financial information, for the periods indicated, from our statements of comprehensive income (loss) expressed as a percentage of net sales.

 

 

The following paragraphs discuss the Company’s performance for years ended December 31, 2020 and 2019.

 

Comparison of 2020 vs. 2019 (dollars in thousands)

 

Net Sales

 

Net sales for 2020 were $7,621, a decrease of $637, or 7.7%, from $8,258 in 2019.  We believe sales during the year were negatively impacted by the global pandemic, during which customers continued to spend cautiously and defer certain planned strategic projects.  The decrease in sales was most prominent in our HazardPRO product family where projects tend to be larger and have a longer-term focus.  International sales during the year comprised 11.6% of our revenue, down from 12% in the prior year period.  

Gross Profit

 

Gross profit for 2020 decreased $436, or 10.0%, to $3,930 from $4,366 in 2019.  Gross margin in 2020 was 51.6% compared to 52.9% in 2019. The decrease in gross margin was primarily due to idle staff time and related overhead expense.

 

Operating Expenses

 

Total operating expenses decreased $263, or 6.0%, to $4,134 in 2020 from $4,397 in 2019, but increased as a percentage of net sales to 54.3% from 53.3%.  The decrease in operating expenses was primarily due to decreases in outside representative compensation, travel expenses, and trade show expenses.

 

 

 

 

Operating Loss

 

Our operating loss increased $173 to $204 in 2020 compared to $31 in 2019.  The decrease was primarily related to the decrease in net sales.

 

Non-Operating Income (Expense)

 

Non-operating income decreased $185 to $32 in 2020 from $217 in 2019, primarily as a result of less interest income earned as a result of lower interest rates on Treasury Bills.

 

Equity securities are stated at fair value, and unrealized holding gains and losses are reported in our statement of comprehensive income (loss) in the non-operating income (expense) section.  All other available-for-sale securities are stated at fair value, and unrealized holding gains and losses, net of the related deferred tax effect, are reported as a separate component of stockholders’ equity.

 

Realized gains and losses, including losses from declines in value of specific securities determined by management to be other-than-temporary, are included in the statement of comprehensive income (loss). Realized gains and losses are determined on the basis of the specific securities sold.

 

Income Taxes

 

Income tax benefit was $48 in 2020 compared to $1 in 2019. The increase was due primarily to the net loss before income taxes.  Detailed information on our income taxes are described in Note 11 to our financial statements.

 

Net Income (Loss)

 

We reported a net loss of $124 in 2020 compared to net income of $187 in 2019, a decrease of $311, or 166.3%. Basic and diluted earnings per share were $-0.04 and $0.06 in 2020 and 2019, respectively.

 

OFF-BALANCE SHEET ARRANGEMENTS

 

We are not a party to any off-balance sheet transactions, arrangements or obligations that have, or are reasonably likely to have, a material effect on our financial condition, changes in the financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.

 

LIQUIDITY AND CAPITAL RESOURCES

 

Cash and cash equivalents were $1,090 and $8,785 at December 31, 2020 and 2019, respectively. The decrease was due to the fact that at December 31, 2020 we held substantially all available funds in assets defined as investments.  At December 31, 2019, we held substantially of our available funds in assets defined as cash and cash equivalents. Working capital was $11,323 at December 31, 2020 compared to $11,155 at December 31, 2019.

 

Cash generated from operating activities increased $179 from $152 in 2019 to $331 in 2020.  The increase was primarily due to net decreases in trade receivables and inventories, partially offset by the net loss in 2020.  The decrease in trade receivables and inventories were both primarily due to decreased net sales.  The 2020 net loss compared to the 2019 net income was due to decreased sales and reduced interest income.

 

Cash used in investing activities in 2020 was $8,020, compared to cash generated from investing activities $7,581 in 2019. The decrease was due to an increase in purchases of Treasury Bills classified as investments. In addition, we purchased $25 and $257 of property, equipment, and intangibles in 2020 and 2019, respectively.

 

Cash used in financing activities during 2020 was $6 compared to $5 in 2019. The cash used was for principal payments on a financing lease on right-to-use assets.  In addition, during the second quarter of 2020, the Company received and subsequently repaid a Payroll Protection Loan of $645 from the Small Business Administration, as discussed in the next paragraph.

As previously disclosed, on May 5, 2020, we entered into a U.S. Small Business Administration Paycheck Protection Program promissory note in the principal amount of $645 (the “PPP Loan”). The PPP Loan was unsecured and was evidenced by a note in favor of US Bank National Association as the lender. Subsequent to receipt of the loan, our Board of Directors continued to monitor both our ongoing performance and the routinely issued clarifying guidance provided by the government. As a result of this review, the Board determined that given the strength of our operations and the government issued clarifications, we would repay the entire amount of the PPP Loan. We repaid the PPP Loan in full on June 4, 2020. There were no prepayment penalties in connection with this voluntary repayment.

 

Subject to the following section, entitled COVID-19 Pandemic Discussion, the Company believes its ongoing cash usage requirements will be primarily for capital expenditures, potential acquisitions, investments we believe present good opportunities for the Company and its shareholders, research and development, working capital, and growth initiatives.  Management believes that cash on hand and any cash provided by operations will be sufficient to meet our cash requirements through at least the next 12 months.

COVID-19 Pandemic Discussion

 

As a result of the COVID-19 pandemic, we experienced weaker than anticipated performance in during 2020.  Due to the ongoing uncertainty about the severity and duration associated with the COVID-19 pandemic, we considered furloughing or eliminating employees and taking other measures to reduce operating costs until there was more certainty about the short-term and long-term effects of the COVID-19 pandemic on the nation’s economy and the Company’s business.

 

As of the end of December 2020, we have reduced our staff by five employees from its peak earlier in 2020.  We expect our 2021 financial results to continue to be negatively affected, potentially to a material degree, as the effects of the pandemic continue to permeate the economy.  We have not been able to offset reductions in our net sales with a comparable or proportional decrease in expenses, as we continue to incur cost related to employee compensation and operating expenses we believe are necessary to ensure the quality of our products and our ability to maintain or increase sales, resulting in a negative effect on the relationship between our net sales and expenses, resulting in a net loss.  

 

We typically have multiple sources for product components.  Although we have experienced some extended delivery times as vendors have difficulty sourcing components, we continue to believe we have adequate sources for our key components to meet anticipated demand.  We continue to closely watch lead times and availability of product components.  We continually assess our current inventory levels and take actions to minimize disruptions to our supply chain, although our actions may not be successful.

 

As of the date of this filing, we expect our business will continue to be negatively affected, but cannot currently determine the significance and duration of the pandemic on our business.

CRITICAL ACCOUNTING ESTIMATES 

 

The preparation of our financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make decisions based upon estimates, assumptions, and factors it considers relevant to the circumstances. Those decisions include the selection of applicable accounting principles and the use of judgment in their application, the results of which impact reported amounts and disclosures. Changes in economic conditions or other business circumstances may affect the outcomes of management’s estimates and assumptions.

 

 

Significant estimates, including the underlying assumptions, consist of the economic lives of long-lived assets, realizability of trade receivables, valuation of deferred tax assets/liabilities, inventory, investments, and stock compensation expense. It is at least reasonably possible that these estimates may change in the near term.

 

Economic lives of long-lived assets

We estimate the economic useful life of long-lived assets used in the business. Expected asset lives may be shortened or an impairment may be recorded based on a change in the expected use of the asset. If the expected life of an asset is shortened or an impairment recorded, it could result in an additional charge to depreciation expense.

 

Realizability of trade receivables

We estimate our allowance for doubtful accounts based on prior history and the aging of our trade receivables. We are unable to predict which, if any, of our customers will be unable to pay their open invoices at a future date. If an account becomes uncollectible and we are required to write off the balance, we would recognize the amount of the additional expense within general and administrative expenses.

 

Valuation of deferred tax assets/liabilities

We estimate our deferred tax assets and liabilities based on current tax laws and rates. The tax laws and rates could change in the future to either disallow the deductions or increase/decrease the tax rates. We recognize changes in deferred tax assets and liabilities in the period in which the tax law changes become effective. Any change in our deferred tax assets or liabilities could have a material negative or positive effect on our income tax expense.

 

Valuation of inventory

We purchase inventory based on estimated demand of products. It is possible that the inventory we have purchased will not be used in the products that our customers need or will not meet future technological requirements. If we are unable to use the inventory in our products and it does not meet future technological requirements, we would be required to remove the items from inventory and expense the amount in cost of goods sold.

 

Valuation of investments

Our investments in available-for-sale securities are valued at market prices in an open market. The prices are subject to the normal fluctuations that could be either negative or positive. Changes in value of our equity securities affect our profitability as the value fluctuates.  Any change in the value of our equity securities could have a material negative or positive effect on our profitability.  Changes in the value of our treasury bills do not affect our profitability until the treasury bill is sold.  At the time of sale, we recognize the interest earned on the treasury bill.

 

Valuation of stock-based compensation expense

We estimate the expected life and forfeiture rates of stock options granted when calculating the value of options using the Black-Scholes-Merton model. The actual life and forfeiture rate could differ from what we estimated. Changes in the life or forfeiture rate of stock options could have a negative or positive impact on our stock-based compensation.

 

Additional information regarding our significant accounting policies is provided below in Part II, Item 8, Financial Statements and Supplementary Data – Notes to Financial Statements, Note 1, Nature of Business and Significant Accounting Policies.

 

 

Not applicable.

 

 

 

INDEX TO FINANCIAL STATEMENTS 

 

 

 

 

 

 

 

To the Board of Directors and Stockholders of
Electro-Sensors, Inc.

 

Opinion on the Financial Statements

 

We have audited the accompanying balance sheets of Electro-Sensors, Inc. (the Company) as of December 31, 2020 and 2019, and the related statements of comprehensive income (loss), changes in stockholders’ equity, and cash flows for each of the years in the two-year period ended December 31, 2020, and the related notes (collectively referred to as the financial statements).  In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2020 and 2019, and the results of its operations and its cash flows for each of the years in the two-year period ended December 31, 2020, in conformity with accounting principles generally accepted in the United States of America.

 

Basis for Opinion

 

These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company's financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

 

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits, we are required to obtain an understanding of internal control over financial reporting, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. 

 

Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.   

Critical Audit Matters

The critical audit matters communicated below are matters arising from the current period audit of the financial statements that were communicated or required to be communicated to the audit committee and that: (1) relate to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matters below, providing separate opinions on the critical audit matters or on the accounts or disclosures to which they relate.

Revenue Recognition

Description of the Matter

As described in Note 1 to the financial statements, the Company recognizes revenue when control of the promised goods or services is transferred to customers, in an amount that reflects the consideration the Company expects to be entitled to in exchange for those goods or services.

The Company enters into certain contracts with its customers that may contain multiple performance obligations. Significant judgment may be required by the Company in determining revenue recognition specific to these contracts with multiple performance obligations, and includes the following:

·         Determination of whether products and services are considered distinct performance obligations that should be accounted for separately or combined as one unit of accounting.

·         Determination of stand-alone selling prices for each distinct performance obligation, particularly for products and services not sold separately.   

Given these factors, the related audit effort in evaluating management’s judgments in determining revenue recognition for these customer agreements was extensive and required a high degree of auditor judgment. 

How We Addressed the Matter in Our Audit

Our audit procedures related to product sales included the following, among others:

·         We evaluated the Company’s accounting policies and related disclosures for compliance with applicable revenue recognition accounting guidance. 

·         We obtained an understanding of the design and implementation of internal controls related to the Company’s revenue recognition process, including the identification of performance obligations and allocation of transaction price.

·         We performed analytical procedures to test the reasonableness of recorded balances. 

·         We performed procedures to test the transactions were recorded in the appropriate accounting period. 

·         We performed a proof of cash analysis comparing cash receipts to revenue recognized through the year.

 

/s/ Boulay PLLP

We have served as the Company's auditor since 2006.

 

Minneapolis, Minnesota

March 25, 2021

 

ELECTRO-SENSORS, INC.

(in thousands except share and per share amounts) 

See Notes to Financial Statements

ELECTRO-SENSORS, INC.

(in thousands except share and per share amounts)

See Notes to Financial Statements

 

(in thousands except share and per share amounts)

 

See Notes to Financial Statements

 

 

(in thousands)

See Notes to Financial Statements

YEARS ENDED DECEMBER 31, 2020 AND 2019 

(in thousands except share and per share amounts)

 

Note 1. Nature of Business and Significant Accounting Policies 

 

Nature of business:

Electro-Sensors, Inc. manufactures and markets a complete line of monitoring and control systems for a variety of industrial machinery. The Company uses leading-edge technology to continuously improve its products, with the ultimate goal of manufacturing the industry-preferred product for each market served. The Company sells these products through an internal sales staff, manufacturer’s representatives, and distributors to a wide variety of industries that use the products in a variety of applications to monitor process machinery operations. The Company markets its products to customers located throughout the United States, Canada, Latin America, Europe, and Asia.

In addition, we may periodically make strategic investments in other businesses and companies, including investments that we believe would facilitate the development of new relationships, or technology complementary to our existing products, or other investments that we believe present good opportunities for the Company and its shareholders. See Note 2 for additional information regarding the Company’s investments. The Company’s investments in securities are subject to normal market risks.

 

Significant accounting policies of the Company are summarized below:

 

Use of estimates

The preparation of financial statements in accordance with accounting principles generally accepted in the United States of America (US GAAP) requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. Significant estimates, including the underlying assumptions, consist of the economic lives of long-lived assets, realizability of trade receivables, valuation of deferred tax assets/liabilities, inventory, investments, stock compensation expense, and the potential estimated impact on operations due to the COVID-19 pandemic as it relates to disruptions to our supply chain and customer demand. It is at least reasonably possible that these estimates may change in the near term.

Cash and cash equivalents

The Company considers all highly liquid debt instruments purchased with a maturity of three months or less to be cash equivalents. Cash equivalents are invested in commercial paper, money market accounts and may, also, be invested in three-month Treasury Bills. Cash equivalents are carried at fair value.

 

The Company maintains its cash and cash equivalents primarily in two bank deposit accounts, which, at times, may exceed federally insured limits. The Company has not experienced any losses on these accounts. The Company believes it is not exposed to any significant credit risk on cash.

 

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ELECTRO-SENSORS, INC.
NOTES TO FINANCIAL STATEMENTS

YEARS ENDED DECEMBER 31, 2020 AND 2019 

(in thousands except share and per share amounts)

 

Trade receivables and credit policies

 

Trade receivables are uncollateralized customer obligations due under normal trade terms generally requiring payment within 30 days from the invoice date. Trade receivables are stated at the amount billed to the customer. Customer account balances with invoices over 90 days are considered delinquent. The Company does not accrue interest on delinquent trade receivables.

 

Payments of trade receivables are allocated to the specific invoices identified on the customer’s remittance advice or, if unspecified, are applied to the earliest unpaid invoices.

 

The carrying amount of trade receivables is reduced by an allowance for doubtful accounts that reflects management’s best estimate of the amounts that will not be collected. Management individually reviews all trade receivable balances that exceed 90 days from the invoice due date and based on an assessment of current creditworthiness, estimates the portion, if any, of the balance that may not be collected. Management uses this information to estimate the allowance.

As of December 31, 2020, the Company had two customers that accounted for approximately 21% of outstanding accounts receivable.  As of December 31, 2019, there was one customer that accounted for approximately 19% of the accounts receivable balance.

 

Investments

 

Substantially all the Company’s current investments consist of government debt securities. The estimated fair value of publicly traded securities is based on reported market prices or management’s estimate of a reasonable market price when quoted prices are not available, and therefore subject to the inherent risk of market fluctuations.

 

Management determines the appropriate classification of securities at the date individual investments are acquired and evaluates the appropriateness of this classification at each balance sheet date.

 

Since the Company generally does not make investments in anticipation of short-term fluctuations in market price, the Company classifies its investments in treasury bills as available-for-sale. Treasury bills with readily determinable values are stated at fair value, and unrealized holding gains and losses, net of the related deferred tax effect, are reported as a separate component of stockholders’ equity and within accumulated other comprehensive gain.  Equity securities with readily determinable values are stated at fair value. Unrealized gains and losses on equity securities are reported in the statement of comprehensive income in non-operating income.

 

Realized gains and losses on securities, including losses from declines in value of specific securities determined by management to be other-than-temporary, are included in the statement of comprehensive income in non-operating income. Realized gains and losses are determined on the basis of the specific securities sold. There were no other-than-temporary impairments recognized in the years ended December 31, 2020 and 2019.

  

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ELECTRO-SENSORS, INC.
NOTES TO FINANCIAL STATEMENTS 

YEARS ENDED DECEMBER 31, 2020 AND 2019 

(in thousands except share and per share amounts)

 

Fair value measurements

 

The Company’s policies incorporate the guidance for accounting for fair value measurements of financial assets and financial liabilities and for fair value measurements of nonfinancial items that are recognized or disclosed at fair value in the financial statements on a recurring basis. These policies also incorporate the guidance for fair value measurement related to nonfinancial items that are recognized and disclosed at fair value in the financial statements on a nonrecurring basis. The guidance establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to measurements involving significant unobservable inputs (Level 3 measurements). The three levels of the fair value hierarchy are as follows:

 

 

The level in the fair value hierarchy within which a fair measurement in its entirety falls is based on the lowest level input that is significant to the fair value measurement in its entirety. The Company currently has no nonfinancial or financial items that are measured on a nonrecurring basis.

 

The carrying value of cash equivalents, trade receivables, accounts payable, and other financial working capital items approximate fair value at December 31, 2020 and 2019 due to the short term maturity nature of these instruments.

 

Inventories

 

Inventories include material, labor and overhead and are valued at the lower of cost (first-in, first-out) or net realizable value.

 

Property and equipment

 

Property and equipment are stated at cost. Depreciation is provided over estimated useful lives by use of the straight-line method. Maintenance and repairs are expensed as incurred. Major improvements and betterments are capitalized.

 

Long-lived assets, such as property and equipment and intangible assets, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. If circumstances require the Company to test a long-lived asset for possible impairment, the Company first compares undiscounted cash flows expected to be generated by an asset to the carrying value of the asset. If the carrying value of the long-lived asset is not recoverable on an undiscounted cash flow basis, the Company recognizes impairment to the extent that the carrying value of an asset exceeds its fair value. The Company determines fair value through various valuation techniques including, but not limited to, discounted cash flow models, quoted market values and third-party independent appraisals.

 

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ELECTRO-SENSORS, INC.
NOTES TO FINANCIAL STATEMENTS 

YEARS ENDED DECEMBER 31, 2020 AND 2019 

(in thousands except share and per share amounts)

 

Intangible assets

 

Intangible assets are comprised of the HazardPRO technology and a communication technology. The Company amortizes the cost of these intangible assets on a straight-line method over the estimated useful lives.  The Company also had a non-compete agreement that expired in February 2019.

 

Revenue recognition

 

At contract inception, the Company assesses the goods and services promised to a customer and identifies a performance obligation for each distinct promised good or service.   We also determine the transaction price for each performance obligation at contract inception.  Our contracts, generally in the form of a purchase order, specify the product or service that is promised to the customer. The typical contract life is less than one month and contains a single performance obligation, to provide conforming goods or services to the customer.  On some contracts, we have a second performance obligation, which typically is the initialization of the HazardPRO product.  For contracts that have multiple performance obligations, we allocate the transaction price to each performance obligation using the relative stand-alone selling price.  We generally determine stand-alone selling prices based on the observable stand-alone prices charged to customers.  We recognize product revenue at the point in time when control of the product is transferred to the customer, which typically occurs when we ship the products.  We recognize service revenue at the point in time when we have provided the service.

 

Advertising costs

 

The Company expenses advertising costs as incurred. Total advertising expense was $45 and $61 in 2020 and 2019, respectively.

 

Research and development

 

Expenditures for research and development are expensed as incurred. The Company incurred expenses of $836 and $811 in 2020 and 2019, respectively.

 

Income taxes

 

The Company presents deferred income taxes on an asset and liability approach to financial accounting and reporting for income taxes. The Company annually determines the difference between the financial reporting and tax bases of assets and liabilities. The Company computes deferred income tax assets and liabilities for those differences that have future tax consequences using the currently enacted tax laws and rates that apply to the periods in which these laws are expected to affect taxable income. Income tax expense is the current tax payable or refundable for the period plus or minus the net change in the deferred tax assets and liabilities, excluding the portion of the deferred asset or liability allocated to other comprehensive gain (loss). Deferred taxes are reduced by a valuation allowance to the extent that realization of the related deferred tax asset is not certain.  We recorded a valuation allowance on our deferred tax asset of $186 and $121 at December 31, 2020 and 2019, respectively. 

 

The Company recognizes the effect of income tax positions only if those positions are more likely than not to be sustained. The Company recognizes income tax positions at the largest amount that is more likely than not to be realized. The Company reflects changes in recognition or measurement in the period in which the Company's change in judgment occurs.

 

The Company records interest and penalties related to unrecognized tax benefits in income tax expense.

 

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ELECTRO-SENSORS, INC.
NOTES TO FINANCIAL STATEMENTS 

YEARS ENDED DECEMBER 31, 2020 AND 2019 

(in thousands except share and per share amounts)

 

Net income (loss) per common share

Basic earnings per share (EPS) excludes dilution and is determined by dividing net income by the weighted average number of common shares outstanding during the period. Diluted EPS reflects the potential dilution that could occur if securities such as options and other contracts to issue common stock were exercised or converted into common stock.  For the years ending December 31, 2020 and 2019, respectively, options to purchase 332,500 and 329,986 weighted average common shares have been excluded from the diluted weighted average shares because their effect would be anti-dilutive.

 

The following information presents the Company’s computations of basic and diluted EPS for the periods presented in the statements of comprehensive income (loss).

 

		Income (loss)				Shares				Per share amount
2020:
Basic EPS		$	(124	)			3,395,521			$	(0.04	)
Effect of dilutive stock options							0				0.00
Diluted EPS		$	(124	)			3,395,521			$	(0.04	)
2019:
Basic EPS		$	187				3,395,521			$	0.06
Effect of dilutive stock options							2,514				0.00
Diluted EPS		$	187				3,398,035			$	0.06

Stock-based compensation

The Company records compensation expense for stock options based on the estimated fair value of the options on the date of grant using the Black-Scholes-Merton (“BSM”) model. The Company uses historical data, among other factors, to estimate the expected price volatility, the expected option life and the expected forfeiture rate. The risk-free rate is based on the U.S. Treasury yield curve in effect at the time of grant for the estimated life of the option. At December 31, 2020, the Company had two stock-based compensation plans.

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