PASSUR Aerospace, Inc. - Annual Report: 2016 (Form 10-K)

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 FORM 10‑K

 

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

 

For the fiscal year ended October 31, 2016

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 0-7642

Securities registered pursuant to Section 12(b) of the Act: None

Securities registered pursuant to Section 12(g) of the Act:

Common Stock, par value $0.01 per share

Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes [  ]   No [X]

Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act. Yes [  ]   No [X]

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 [X]   No [  ]

Indicate by check mark whether the Registrant has submitted electronically and posted on its corporate Website, 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 [X]   No [  ]

Indicate by checkmark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this form 10-K or any amendment to this Form 10-K. [  ]

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See the definitions of "accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check one):

 

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes [  ]   No [X]

The aggregate market value of the voting shares of the Registrant held by non-affiliates as of April 30, 2016, was $6,582,000

The number of shares of common stock, $0.01 par value, outstanding as of December 31, 2016, was 7,690,199

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Registrant's Definitive Proxy Statement for the 2017 Annual Meeting of Stockholders, to be filed with the Securities and Exchange Commission within 120 days of October 31, 2016, are incorporated by reference into Part III of this Form 10-K.

 

The consolidated financial information provided in this Annual Report on Form 10-K (including, without limitation, "Management's Discussion and Analysis of Financial Condition and Results of Operations", and "Liquidity and Capital Resources", below) contains "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995 regarding the Company's future plans, objectives, and expected performance. The words "believe," "may," "will," "could," "should," "would," "anticipate," "estimate," "expect," "project," "intend," "objective," "seek," "strive," "might," "likely result," "build," "grow," "plan," "goal," "expand," "position," or similar words, or the negatives of these words, or similar terminology, identify forward-looking statements. These statements are based on assumptions that the Company believes are reasonable, but are subject to a wide range of risks and uncertainties, and a number of factors could cause the Company's actual results to differ materially from those expressed in the forward-looking statements referred to above. These factors include, without limitation, the risks and uncertainties discussed under "Risk Factors" and "Management's Discussion and Analysis of Financial Condition and Results of Operations," the uncertainties related to the ability of the Company to sell its existing product and professional service lines, as well as in new products and professional services (due to potential competitive pressure from other companies or other products), as well as the potential for terrorist attacks, changes in fuel costs, airline bankruptcies and consolidations, economic conditions, and other risks detailed in the Company's periodic report filings with the SEC. Other uncertainties which could impact the Company include, without limitation, uncertainties with respect to future changes in governmental regulation and the impact that such changes in regulation will have on the Company's business. Additional uncertainties include, without limitation, uncertainties relating to: (1) the Company's ability to find and maintain the personnel necessary to sell, manufacture, and service its products; (2) its ability to adequately protect its intellectual property; and (3) its ability to secure future financing. Readers are cautioned not to place undue reliance on these forward-looking statements, which relate only to events as of the date on which the statements are made and which reflect management's analysis, judgments, belief, or expectation only as of such date. The Company undertakes no obligation to publicly update any forward-looking statements for any reason, even if new information becomes available or other events occur in the future. Readers are advised, however, to consult any further disclosures we make on related subjects in our Forms 10-Q and 8-K.

PART I

PASSUR Aerospace, Inc. ("PASSUR" or the "Company"), a New York corporation founded in 1967, is a leading business intelligence company, providing predictive analytics and decision support technology for the aviation industry primarily to improve the operational performance and cash flow of airlines and the airports where they operate. The Company is recognized as a leader in airline and airport operational efficiency and business aviation marketing and operational solutions, and is a pioneer in the successful use of big data, with an aviation intelligence platform and suite of web-based solutions that address the aviation industry's most intractable and costly challenges, including underutilization of airspace and airport capacity, delays, cancellations, and diversions, among others. Several independent studies have estimated the annual direct and indirect costs of such inefficiencies in the United States at over $30 billion annually. The Company's technology platform is supported by its Aviation Intelligence Center of Excellence, a team of subject matter experts with extensive experience in airline, airport, and business aviation operations, finance, air traffic management, systems automation, and data visualization, with specific expertise in the operational and business needs, requirements, objectives, and constraints of the aviation industry.

PASSUR's mission is to improve global air traffic efficiencies by connecting the world's aviation professionals onto a single aviation intelligence platform, making PASSUR an essential element in tackling the $30 billion of system-wide inefficiencies. We are an aviation intelligence company that makes air travel more predictable, gate-to-gate, by using predictive analytics generated from our own big data – to mitigate constraints for airlines and their customers. PASSUR's information solutions are used by the largest five North American airlines, more than 60 airport customers, including 22 of the top 30 North American airports (with PASSUR solutions also used at the remaining eight airports by one or more airline customers), hundreds of corporate aviation customers, as well as the U.S. government.

PASSUR provides data aggregation and consolidation, information, decision support, predictive analytics, collaborative solutions, and professional services. To enable this unique offering, PASSUR owns and operates the largest commercial passive radar network in the world that updates flight tracks every 1 to 4.6 seconds, powering a proprietary database that is accessible in real-time and delivers timely, accurate information and solutions via PASSUR's industry-leading algorithms and business logic included in its products.

Solutions offered by PASSUR help to ensure flight completion, covering the entire flight life cycle, from gate to gate, and result in reductions in overall costs and carbon emissions, while maximizing revenue opportunities, as well as improving operational efficiency and enhancing the passenger experience.

PASSUR's commercial solutions give aviation operators the ability to optimize performance in today's air traffic management system, while also achieving Next Generation Air Transportation System ("NextGen") objectives.

PASSUR integrates data from multiple sources, including its independent network of over 180 surveillance sensors installed throughout North America creating coast to coast coverage, as well as locations in Europe and Asia; government data; customer data; and data from third party partners. PASSUR's sensors receive aircraft and drone signals in Mode A, C, S, and Automatic Dependent Surveillance-Broadcast ("ADS-B"), providing position, altitude, beacon code, and tail number, among other information. PASSUR receives signals from aircraft that, when combined with our historical database of aircraft and airport behavior, including information recorded by our network over the last 10 years, allows the Company to know more about what has happened historically, and what is happening in real-time. In addition, the historical database allows the Company to predict how aircraft, the airspace, and airports are going to perform, and more importantly, how the aircraft, the airspace, and airport should perform.

The Company operates what it believes to be the largest and most extensive private commercial aircraft, airport, and airspace passive surveillance networks in the world. The PASSUR Network integrates additional key surveillance sources, to include ADS-B, ASDE-X, Mode S, En Route Radar, Airline OOOI data, ACARS, fleet databases, as well as other sources. PASSUR also integrates extensive amounts of data from its customer's systems, such as airline on-board communications messages ("ACARS") and Airport Operational Databases ("AODB").

The PASSUR Network and database creates a direct data feed of critical flight and airspace behavior and conditions, an essential precursor resource for predictive analytics, real-time decision support, and performance analysis tools.

All the surveillance data acquired by the PASSUR Network is integrated and correlated into specialized databases to support predictive, real-time, and post operational requirements. PASSUR databases consolidate multiple overlapping data sets to ensure completeness, accuracy, fulfillment of specific operational requirements, and the normalization of data for a single-source authoritative record of operational performance. The data processed in these master data repositories supports the key capabilities and attributes of the PASSUR software.

PASSUR decision support solutions are supported by predictive analytics algorithms, which use extensive historical data mining and pattern recognition, along with real-time surveillance data, to predict specific and detailed operating conditions. PASSUR predictive analytics are built on several core capabilities:

PASSUR Integrated Traffic Management ("PITM") is, in the Company's opinion, the industry's first fully integrated air traffic optimization suite. PITM is a metrics-focused, Key Performance Indicator ("KPI") driven solution suite allowing the customer to first view the most critical information for its operation, and then, as necessary, enabling the user to drill down for better visualization and analysis.

PITM helps airlines complete their mission, on time, by focusing on the major operational constraints such as diversions, arrival and departure flow congestion, and airport surface congestion – as well as major irregular operations like disruptive weather, construction closures, large public events, and emergency incidents. The platform connects multiple aviation stakeholders and missions onto one platform, providing a collaborative environment within and between organizations, to address decisions that can only be solved through the real-time exchange of information on a common operating platform. PITM is also a platform enabling PASSUR's partner companies to provide solutions which augment PASSUR capabilities to PASSUR's customers. PITM is fully web-delivered, allowing easy access from any web-enabled device.

Many PASSUR solutions are delivered in metrics-driven, dashboard format, simplifying and condensing extensive amounts of information into the most relevant operational and business metrics, thereby presenting those metrics in a manner that supports immediate performance assessment and actionable decisions. PASSUR solutions are designed so that users are alerted in real-time to specific conditions and recommended actions, especially during irregular operations, only when operations reach certain user-defined thresholds, thereby preventing information overload.

Many PASSUR solutions include a collaborative layer which allows for instant information sharing and coordination of effort to a wide range of users in the aviation community. These include industrial networking capabilities, which leverage new technologies for business uses in the aviation sector, such as PASSUR's Airport Information Network, a single North American-wide site for real time airport conditions, diversion management, and delay mitigation used by hundreds of aviation professionals. Other PASSUR collaborative capabilities include pre-departure sequencing and/or metering, arrival sequencing, and tarmac delay management.

The Company's Aviation Intelligence Center of Excellence ("CoE") is a team of subject matter experts with extensive experience in airline, airport and business aviation operations, finance, air traffic management, systems automation, and data visualization, with specific expertise in the operational and business needs, requirements, objectives, and constraints of the aviation industry.

These experts from the PASSUR CoE understand the National Airspace System ("NAS") and are able to translate these internal requirements and external conditions into information solutions that target specific, measurable problems with defined operational and financial performance metrics. These subject matter experts are complemented by a technical team of software engineers, data scientists, radar engineers, database architects, physicists, and statisticians who have years of expertise in managing complex surveillance networks (hardware and software), as well as interpreting and converting complex, live aviation data feeds into robust decision support software solutions.

The Company offers targeted solutions to help airlines complete missions on time:

 

 

		n	An accurate ETA data feed optimizes all existing airline and airport processes and systems that depend on knowing when an airplane is going to arrive, without requiring expensive or disruptive internal changes. Predictive flight arrival and departure times built on multiple sources, including PASSUR's live and historical surveillance of the airspace.	n	Benefits include completing connections (passengers, bags, and crew), reduced fuel consumption, more efficient staffing plans, greater on-time schedule completion, reduced gate holds, and helping airlines meet stricter "crew rest" regulations.
Flight Predictability (ETAs and ETDs)		n	Provides accurate gate-to-gate ETA and Estimated Time of Departure ("ETD").	n	Enables better overall planning and scheduling to maximize revenue opportunities.
		n	Primary customers: airlines and airports.	n	Missed connections alone at one airport can cost an airline in excess of $3 million per year.
				n	One airline has reported a $15 million per year cost recovery since implementing the PASSUR ETA.
		n	PASSUR Surface Management helps to reduce extended tarmac delays and taxi-in/taxi-out times, prioritize high-value flights, and facilitate an efficient turn management process (transition of an aircraft from arrival to departure).	n	Improves the efficiency of arrivals and departures, preserves schedule integrity, prioritizes high value flights, and reduces surface delays and fuel burn.
Surface Management		n	A suite of capabilities that combine air and ground surveillance data, visual tracking of aircraft in the airspace and on the airport surface, decision-support software, and key performance indicator dashboards.	n	Reduces the possibility of tarmac delay fines, which can exceed $3 million per event.
		n	PASSUR's new surface surveillance sensors allow airlines and airports to visualize parts of the airport otherwise not tracked and monitored.	n	At one airport using PASSUR Surface Management, over just one year, airlines reduced fuel costs by $10-$15 million, logged 48,000 fewer aircraft taxi hours, and released 48,000 fewer metric tons of carbon emissions into the atmosphere.
		n	Primary customers: airlines, airports, and government.
		n	Optimizes the transition of an aircraft from arrival to departure to ensure an on-time departure, schedule completion, and maximum asset utilization.	n	Minimizes the frequency, duration, and downstream effects of delays.
Turn Time Management		n	Minimizes the time required for a plane to unload from one flight and reload for the next flight by monitoring and proactively alerting to bottlenecks at each phase of the aircraft's cycle through arrival to departure, allowing flight and passenger handling resources to be adjusted to ensure an on-time process.	n	Ensures on-time schedule completion.
		n	Primary customers: airlines and airports	n	Excess staffing costs related to inefficient turn times are estimated at close to $1 million per airport per year for large networked airlines.

		n	Allows airports to communicate and coordinate with airlines and other key stakeholders to ensure that operations are optimized with airport-critical information that is otherwise unavailable.	n	Reduced tarmac delay fines and incidents.
Connectivity and Collaboration		n	Addresses one of the key missing pieces in connectivity and collaboration: the two-way flow of accurate, timely, and complete information between airport operators, airlines, and other key stakeholders.	n	Operational metrics directly affected by the lack of timely updates, including secondary/repeat deicing, delays, cancellations, and diversions.
		n	Primary customer: airports (with airlines as key influencer).	n	A large hub airport reduced costs by $12 million using PASSUR Connectivity and Collaboration capabilities.
		n	Reduces airlines' operating costs at the airport, and ensures all airlines pay the correct amount.	n	For airports, the program provides faster revenue capture, fiduciary accountability, revenue predictability, and more efficient and fair service to airline stakeholders.
Aviation Fees and Charges		n	Provides unique data independence, accuracy, and reliability – combined with proven reporting, audit, and billing services – to give airports and airlines the assurance that all billable weight is being captured, that the cost of the airfield is being distributed fairly and equitably, and that the process is transparent, automated, and standardized.	n	For airlines, the program ensures that they pay only their fair share. In addition, their fees could go down after the airport begins collecting all fees owed, and the time and effort required to manage their fees is reduced.
		n	Primary customer: airports (with airlines as key influencer).	n	PASSUR Landing Fee Management solution manages approximately $1.2 billion in aviation fees annually.

 

The Company believes its products, solutions, and services help its aviation customers generate significant returns by:

The Company currently owns 23 issued patents and has an additional 16 patent applications pending with the United States Patent Office. The issued patents expire in various years through 2031.

The Company also owns a federal trademark registration application in the mark PASSUR for use with both the PASSUR hardware system installation, and the software products which use the data derived from the PASSUR Network and other sources; and allowed federal trademark registrations for the marks NextGen² and NextGen³, for use with PASSUR Integrated Traffic Management modules and capabilities.

 

The Company believes its business opportunities come from the following industry conditions and demand drivers:

 

The Company's revenues are generated by selling: (1) subscription-based, real-time decision and solution information and (2) professional services. Under the subscription model, the customer typically signs a contract for access to the information services ranging from one year to five years. The agreement also provides that the information from the PASSUR Network cannot be resold, used by others, or used for unauthorized purposes.

The Company's direct sales force sells its products, as do authorized distributors or integrators who sell PASSUR's products as part of their total solution, e.g. for environmental management.

PASSUR has developed a full suite of capabilities to reduce inefficiencies and improve performance across the markets it serves. There is no other company, to PASSUR's knowledge, which offers these capabilities. There are, however, other forms of flight tracking, surveillance, and aviation business intelligence products. Depending on the end use of the Company's products, primary competitors include Sabre, Airbus, Saab, The Weather Company/IBM, and Harris Corporation. The Company also sells certain data solutions through systems integrators, including Bruel & Kjaer, some of which may also sell products that are competitive with those offered by the Company. Most of these companies have larger sales forces and greater financial resources than the Company.

The Company obtains its components from distributors and manufacturers throughout the United States. The Company has multiple sources from which to obtain a majority of its components.

Three customers accounted for 45%, or $6,698,000, of total revenues in fiscal year 2016. One customer accounted for 17% or $2,555,000, a second customer accounted for 17% or $2,460,000, and a third customer accounted for 11% or $1,683,000 of total revenues in fiscal year 2016. One of PASSUR'S customers, who accounted for 11% of total revenues during fiscal year 2016, did not renew a contract that expired on December 31, 2016.  However, PASSUR believes that the impact from the revenue to be recognized from new customer contracts previously signed during fiscal year 2016, and the anticipated revenues from either that company and/or new customer acquisitions in fiscal year 2017, is expected to offset the non-renewal of this agreement in fiscal year 2017. Three customers accounted for 41%, or $5,094,000, of total revenues in fiscal year 2015. One customer accounted for 14% or $1,740,000, a second customer accounted for 13% or $1,692,000, and a third customer accounted for 13% or $1,662,000 of total revenues in fiscal year 2015. As of October 31, 2016, the Company had three customers each of which accounted for 10% or more of the accounts receivable balance. One customer accounted for 30%, or $330,000, a second customer accounted for 19%, or $213,000, and a third customer accounted for 14%, or $157,000. As of October 31, 2015, the Company had two customers each of which accounted for 10% or more of the accounts receivable balance. One customer accounted for 17%, or $215,000, and a second customer accounted for 15%, or $192,000. There were no significant past due accounts receivable balances for any customers as of the fiscal year ended October 31, 2016.

The Company's research and development efforts include activities associated with the enhancement, maintenance, and improvement of the Company's existing hardware, software, and information products. These expenses amounted to $826,000 and $725,000 in fiscal years 2016 and 2015, respectively.

The Company is not aware of any environmental issues that would have a material adverse effect on future capital expenditures or current and future business operations.

The Company employed 49 employees, of which 43 were full-time, including three officers, as of October 31, 2016. None of its employees is subject to any collective bargaining agreements.

Stockholders may obtain copies of our filings with the SEC, free of charge from the website maintained by the SEC at www.sec.gov or from our website at www.passur.com. Further, a copy of this Annual Report on Form 10-K is located at the SEC's Public Reference Room at 100 F Street NE, Washington, D.C. 20549. Information on the operation of the Public Reference Room can be obtained by calling the SEC at 1-800-SEC-0330. Our filings will be available on our website as soon as reasonably practicable after we electronically file such materials with the SEC. However, the information from our website is not incorporated by reference into this report.

The Company's success is dependent on the aviation industry. If the Company does not execute its business plan, or if the market for its services fails to develop due to economic or other factors affecting the aviation industry, the Company's results of operations and financial results could be adversely affected.

The Company's revenues are solely derived from the aviation industry. The Company's future revenues and results of operations are dependent on its continued execution of its subscription-based revenue strategy and development of new software solutions and applications for the aviation industry. Due to economic and other factors affecting the aviation industry, there is no assurance that the Company will be able to continue to report growth in its subscription-based business or sustain its current subscription business. If the Company is unable to sustain and/or increase its levels of revenues, and if it is not successful in reducing costs, its cash requirements may increase and results of operations will be adversely affected.

Additionally, the aviation industry has been impacted by budgetary constraints, as well as airline bankruptcies and consolidations, changes in fuel costs, and the continued war on terrorism. The terrorist attacks of September 11, 2001, caused fundamental and permanent changes in the airline industry, including substantial revenue declines and cost increases, which resulted in industry-wide liquidity issues. Additional terrorist attacks, or fear of such attacks, even if not made directly, would negatively affect the airline industry (through, for example, increased security, insurance, and other costs, and lost revenue due to increased ticket refunds and decreased ticket sales), which would, in turn, negatively affect the Company.

The aviation industry is extensively regulated by government agencies, particularly the FAA and the National Transportation Safety Board. New air travel regulations have been, and management anticipates will continue to be, implemented that could have a negative impact on airline and airport revenues. Since substantially all of the Company's current revenues are derived from airport, airline, or related businesses, continued increased regulations of the aviation industry, or a continued downturn in the aviation industry's economic situation, could have a material adverse effect on the Company.

The software business for the aviation industry is highly competitive, and failure to adapt to the changing industry needs could adversely affect our results of operations, business, and financial condition.

The industry in which we compete is marked by rapid and substantial technology change, the steady emergence of new companies and products, as well as evolving industry standards and changing customer needs. We compete with many established companies in the industry we serve, and some of these companies may have substantially greater financial, marketing, and technology resources, larger distribution capabilities, earlier access to potential customers, and greater opportunities to address customers' various information technology requirements. As the aviation industry seeks to be more cost effective, product pricing becomes increasingly important for our customers. As a result, we may experience increased competition from certain low-priced competitors. We continue to develop new products, professional services, and existing product enhancements, but may still be unsuccessful in meeting the needs of our industry in light of other alternatives available in the market. In addition, the pricing of new products, professional services, and existing product enhancements may be above what is required by the marketplace. Our inability to bring new products, professional services, and existing product enhancements to the market in a timely manner, or the failure to achieve industry acceptance, could adversely affect our business, financial condition, operating results, and cash flow.

Reliance on the Company's quarterly operating results as an indication of future results is inappropriate due to potentially significant fluctuations.

The Company's future revenues and results of operations may fluctuate significantly due to a combination of factors, including:

Accordingly, quarter-to-quarter comparisons of the Company's results of operations should not be relied upon as an indication of performance.

The Company may be unable to raise additional funds to meet operating capital requirements in the future.

While the Company's operations were cash flow positive for the fiscal years ended October 31, 2016 and 2015, and it has a history of profitable operations for ten years, future liquidity and capital requirements are difficult to predict, as they depend on numerous factors, including the maintenance and growth of existing product lines and service offerings, as well as the ability to develop, provide, and sell new products and services in an industry for which liquidity and resources are already adversely affected.

In recent years, the Company has generated sufficient cash to meet its capital requirements. However, in future years, the Company may need to raise additional funds in order to support discretionary expenditures and execute its business plan. These funds, in some cases, may be beyond its scope and normal operating requirements. In such case, the Company may be required to seek alternate sources of financing (which may not be available on favorable terms or at all) or abandon such activities by: (1) terminating or eliminating certain operating activities; (2) terminating personnel; (3) eliminating marketing activities; and/or (4) eliminating research and development programs. If any of the aforementioned occurs, the Company's ability to expand could become adversely affected.

The Company has been profitable for the current and previous ten fiscal years, but, prior to that, incurred operating losses and negative cash flows from operations.

The Company has been profitable for the past ten years. The Company had income before taxes of $1,025,000 and $677,000 for fiscal years ended October 31, 2016 and 2015, respectively. The Company's ability to maintain profitability will depend upon its ability to generate significant increased revenues through new and existing customer agreements, additional services, and/or products offered to existing and new customers, as well as to deploy PASSUR Systems in inventory and control costs associated with business operations. There can be no assurance that the Company will be able to execute on these requirements. The Company may not be able to sustain or increase its profits on a quarterly or annual basis in the future. Also, should the Company's investment in capitalized software development costs become impaired, there would be a negative impact on the Company's profitability.

 

A limited number of customer contracts accounts for a high percentage of the Company's revenues, and the inability to replace a key customer contract could adversely affect its results of operations, business, and financial condition.

The Company relies on a small number of customer contracts for a large percentage of its revenues and expects that a significant percentage of its revenues will continue to be derived from a limited number of customer contracts. The Company's top five customers accounted for 55% of its revenue in fiscal year 2016. The Company's business plan is to obtain additional customers, but the Company anticipates that near-term revenues and operating results will continue to depend on large contracts from a small number of customers. One of the Company's customers, who accounted for 11% of total revenues during fiscal year 2016, did not renew a contract that expired on December 31, 2016.  However, the Company believes that the impact from the revenue to be recognized from new customer contracts previously signed during fiscal year 2016, and the anticipated revenues from either that company and/or new customer acquisitions in fiscal year 2017, is expected to offset the non-renewal of this agreement in fiscal year 2017.

Additionally, the aviation industry, particularly the airline sector, has experienced bankruptcies and consolidations recently. Bankruptcy filings or consolidations by our existing customers may adversely affect our ability to continue such services and collect payments due to the Company by such customers. As a result of this concentration of our customer base, an inability to replace one or more of these large customer contracts could materially adversely affect our business, financial condition, operating results, and cash flow.

The Company depends upon certain key personnel and may not be able to retain these employees.

The Company's future performance depends on the continued services of its key sales, technical, and engineering personnel. The Company continues to depend on the efforts of a limited number of key personnel. The employment of any of the Company's key personnel could cease at any time, which could have an adverse effect on our business.

The PASSUR Network could experience disruptions, which could affect the delivery of data.

AT&T hosts and maintains the Company's network infrastructure through an existing frame-relay and Multiprotocol Label Switching ("MPLS") network and the Company's wireless network is hosted and maintained by Sprint. If AT&T or Sprint experiences system failures, or fails to adequately maintain the frame-relay, MPLS, and wireless networks, the Company may experience interruption of delivery of data/software services and customers may terminate or elect not to continue to subscribe to these services in the future. The Company's network infrastructure may be vulnerable to computer viruses, break-ins, denial of service attacks, and similar disruptive problems. Computer viruses, break-ins, denial of service attacks, or other problems caused by third parties, could lead to interruptions, delays, or cessation in service to customers. There is currently no existing technology that provides absolute security. Such incidents could deter potential customers and adversely affect existing customer relationships.

Security breaches could expose the Company to liability and damage its reputation and business.

The Company processes, stores, and transmits large amounts of data and it is critical to its business strategy that its facilities and infrastructure, including those provided by customers and vendors, remain secure and are perceived by the marketplace to be secure. The Company's infrastructure may be vulnerable to physical break-ins, computer viruses, attacks by hackers or nefarious actors or similar disruptive problems. Any physical or electronic break-in or other security breach or compromise of the information handled by the Company or its service providers may jeopardize the security or integrity of information in the Company's computer systems and networks or those of its customers and cause significant interruptions and/or errors in the Company's products and solutions.

Any systems and processes that the Company has developed that are designed to protect customer information and prevent data loss and other security breaches cannot provide absolute security. In addition, the Company may not successfully implement remediation plans to address all potential exposures. It is possible that the Company may have to expend additional financial and other resources to address such problems. Failure to prevent or mitigate data loss or other security breaches could expose the Company or its customers to a risk of loss or misuse of such information, cause customers to lose confidence in the Company's data protection measures, damage the Company's reputation, adversely affect the Company's operating results or result in litigation or potential liability for the Company. While the Company maintains insurance coverage that may, subject to policy terms and conditions, cover certain aspects of cyber risks, such insurance coverage may be insufficient to cover all of its losses.

The Company may be subject to new government regulations relating to the distribution of flight-tracking data.

The Company currently maintains strict security regulations for its data in order to comply with current government regulations. Due to the continued growing safety needs and concerns of the aviation industry, new government regulations may be implemented. Such new regulations may, in some cases, hinder the Company's ability to provide current and/or additional services.

Unauthorized use of the Company's intellectual properties by third parties may damage and/or adversely affect its business.

The Company regards its trademarks, trade secrets, and all other intellectual property as critical to its future success. Unauthorized use of its intellectual property by third parties may damage and/or impair its business. The Company relies on trademarks, trade secrets, patent protection, and contracts, including confidentiality and non-exclusive license agreements with its customers, employees, consultants, strategic partners, and others to protect its intellectual property rights. Despite these precautions, it may be possible for third parties to obtain and use the Company's intellectual property without its prior knowledge and/or authorization. Prosecuting infringers could be time consuming and costly, and, irrespective of whether or not the Company is successful, could disrupt its business.

The Company currently owns twenty-three issued patents and has an additional sixteen patent applications which are pending with the United States Patent Office, some of which relate to newly developed internet-based software applications. The issued patents expire in various years through 2031. The Company intends to seek additional patents on its products, technological advances, and/or software applications, when appropriate. There can be no assurance that patents will be issued for any of its pending or future patent applications, or that any claims allowed from such applications will be of sufficient scope, or provide adequate protection or any commercial advantage to the Company. Additionally, competitors may be able to design around patents and possibly affect commercial interests.

The Company also owns a federal trademark registration application in the mark PASSUR for use with both the PASSUR hardware system installation, and the software products which use the data derived from the PASSUR Network and other sources; and allowed federal trademark registration for the marks NextGen² and NextGen³, for use with PASSUR Integrated Traffic Management modules and capabilities. The Company believes that the PASSUR NextGen² and NextGen³ federal registrations will allow the Company to enforce its rights in the marks in the federal court system. The registrations do not assure that others will be prevented from using similar trademarks in connection with related products and/or services.

Defending against intellectual property claims could pose significant legal and professional costs, and if unsuccessful, could adversely affect the Company.

The Company cannot guarantee that its future products, technologies, and software applications will not inadvertently infringe valid patents or other intellectual property rights held by third parties. The Company may be subject to legal proceedings and claims from time to time relating to the intellectual property of others. Investigation of any such claims from third parties alleging infringement of their intellectual property, whether with or without merit, can be expensive and could affect development, marketing, selling, or delivery of its products. Defending against intellectual property infringement claims could be time consuming and costly, and, irrespective of whether or not the Company is successful, could disrupt its business. The Company may incur substantial expenses in defending against these third party claims, regardless of their merit. Successful infringement claims against the Company may result in significant monetary liability and could adversely affect its business, financial condition, operating results, and cash flow.

None.

The Company's headquarters are located at One Landmark Square, Suite 1900, Stamford, Connecticut. Effective June 26, 2009, the Company entered into a five-year lease for 4,000 square feet of office space. This lease was modified during fiscal year 2010, extending the term of the original lease through January 31, 2018, and adding 1,300 square feet of office space, resulting in a total average annual rental rate of $234,000 and a total of 5,300 square feet.

The Company's hardware and software development and manufacturing facility is located in a one-story, 36,000 square foot building at 35 Orville Drive, Bohemia, New York. The Company, which renewed the lease through October 31, 2017, leases 12,000 square feet at an average annual rental rate of $134,000.

The Company's primary software development facility is located at 5750 Major Blvd, Suite 530, Orlando, Florida. Effective May 1, 2016, the Company expanded its offices and entered into a five-year lease for 3,445 square feet of office space at an average annual rental rate of $67,000.

The Company has a sales office in Bloomington, Minnesota.

The Company believes these rates are competitive and are at or below market rates. The Company's headquarters and software development and manufacturing facilities are suitable for its requirements.

The Company is not aware of any material pending legal proceedings to which the Company or its Subsidiary is a party or to which any of its properties are subject.

     

Not applicable.

PART II

The Company's Common Stock, par value $0.01 per share (the "Common Stock"), is traded on the over-the-counter bulletin board.

The following table sets forth the reported high and low sales prices for the Company's common stock for each quarterly period during the Company's last two fiscal years, as reported by the National Quotation Bureau, Inc.:

* The quotations represent prices on the over-the-counter bulletin board between dealers in securities and do not include retail markup, markdown, or commission. Further, the quotations do not necessarily represent actual transactions.

The number of registered equity security holders of record as of December 31, 2016 was 182, as shown in the records of the Company's transfer agent.

The Company has never paid cash dividends on its shares. The Company does not anticipate paying cash dividends in the foreseeable future.

Information with respect to securities authorized for issuance under the Company's equity compensation plans as of October 31, 2016, is as follows:

Not Required.

The Company's discussion and analysis of its financial condition and results of operations are based upon its consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires the Company to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues, expenses, and related disclosures of contingent assets and liabilities based upon accounting policies management has implemented. The Company has identified the policies and estimates below as critical to its business operations and the understanding of its results of operations. The impact and any associated risks related to these policies on the Company's business operations are discussed throughout Management's Discussion and Analysis of Financial Condition and Results of Operations, where such policies affect its reported financial results. The actual impact of these factors may differ under different assumptions or conditions.

The Company provides data aggregation and consolidation, information, decision support, predictive analytics, collaborative solutions, and professional services to airlines, airports, governments, and business aviation companies. To enable this unique offering, PASSUR owns and operates the largest commercial passive radar network in the world that updates flight tracks every 1 to 4.6 seconds, powering a proprietary database that is accessible in real-time and delivers timely, accurate information and solutions via PASSUR's industry-leading algorithms and business logic included in its products.

PASSUR's information solutions are used by the largest five North American airlines, more than 60 airport customers, including 22 of the top 30 North American airports (with PASSUR solutions also used at the remaining eight airports by one or more airline customers), hundreds of corporate aviation customers, as well as the U.S. government.

Our core business addresses some of aviation's most intractable and costly operational and financial challenges, including underutilization of airspace and airport capacity, delays, cancellations, and diversions. Several studies have estimated the annual direct costs to the system of such inefficiencies at over $30 billion.

Solutions offered by PASSUR help to ensure flight completion. They cover the entire flight life cycle, from gate to gate, and result in reductions in overall costs and emissions, while maximizing revenue opportunities, improving operational efficiency, and enhancing the passenger experience.

The Company's revenues are generated by selling: (1) subscription-based real-time decision and solutions information and (2) professional services.

The Company's major achievements during fiscal year 2016 are summarized below. The Company:

 

 

 

The Company's business plan is to continue to focus on increasing subscription-based revenues from its suite of software applications, and to develop new applications and professional services designed to address the needs of the aviation industry and the U.S. government. The Company's goal is to help solve problems faced by its customers and is built on the following product development objectives: (1) continue developing decision support solutions built on business intelligence, predictive analytics, and web-dashboard technology; (2) continue integrating multiple additional industry data sets into its integrated aviation database, including data from a variety of additional aircraft, airspace, and ground surveillance technologies, in order to ensure that PASSUR is the primary choice for data integration and management for large aviation organizations; (3) continue extending the reach of the PASSUR Network, which provides the proprietary backbone for many of the Company's solutions; and (4) continue developing the Company's professional service capabilities, in order to ensure that its solutions can be fully implemented in its customers' work environments, with minimal demand on customers' internal resources.

The Company shipped one Company-owned PASSUR System and installed 24 Company owned PASSUR and SMLAT Systems during fiscal year 2016 (installations include systems shipped in the current and previous fiscal year). The shipped and installed PASSUR and SMLAT Systems are capitalized as part of the Company-owned PASSUR Network. The Company will continue to expand the PASSUR Network by shipping and installing additional PASSUR and SMLAT Systems throughout fiscal year 2017. Management anticipates that future PASSUR sites will provide increased coverage for the PASSUR Network by increasing the Company's ability to contract with new customers at such locations, and by providing existing customers with additional data solutions. The Company will continue to market the business intelligence, predictive analytics, as well as decision support applications and solutions derived from the PASSUR Network, directly to the aviation industry and organizations that serve, or are served by, the aviation industry. There were over 180 Company-owned PASSUR Systems located at airports worldwide at the end of fiscal year 2016. Redundant PASSUR Systems have been installed at major customer locations.

Management concentrates its efforts on the sale of business intelligence, predictive analytics, and decision support product applications, utilizing data primarily derived from the PASSUR Network. Such efforts include the continued development of existing products, new product offerings and to a lesser extent, professional services.

In fiscal year 2016, total revenues increased $2,354,000, or 19%, to $14,893,000, as compared with $12,538,000 in fiscal year 2015. The increase in total revenues was primarily driven by the growth in subscription-based revenues from our installed base of customers totaling approximately $1,940,000 or 13% as compared with fiscal year 2015. In addition, during fiscal year 2016, our subscription-based revenues from new customers increased $368,000, as compared with fiscal year 2015.  Our subscription-based revenues from the airline and airport markets increased approximately 28% and 8% in fiscal year 2016, respectively, as compared with fiscal year 2015. Finally, one of the PASSUR'S customers, who accounted for 11% of total revenues during fiscal year 2016, did not renew a contract that expired on December 31, 2016.  However, PASSUR believes that the impact from the revenue to be recognized from new customer contracts previously signed during fiscal year 2016, and the anticipated revenues from either that company and/or new customer acquisitions in fiscal year 2017, is expected to offset the non-renewal of this agreement in fiscal year 2017.

Costs associated with subscription and maintenance revenues consist primarily of direct labor, depreciation of PASSUR and SMLAT Network Systems, amortization of capitalized software development costs, communication costs, data feeds, allocated overhead costs, travel and entertainment, and consulting fees. Also, included in cost of revenues are costs associated with upgrades to PASSUR and SMLAT Systems necessary to make such systems compatible with new software applications, as well as the ordinary repair and maintenance of existing PASSUR and SMLAT Systems. Additionally, cost of revenues in each reporting period is impacted by: (1) the number of PASSUR and SMLAT System units added to the PASSUR Network, which include the production, shipment, and installation of these assets, which are capitalized to the PASSUR Network; and (2) capitalized costs associated with software development and data center projects. Both of these are referred to as "Capitalized Assets", and are depreciated and/or amortized over their respective useful lives and charged to cost of revenues. The Company does not break down its costs by product.

Cost of revenues increased $944,000, or 17%, in fiscal year 2016, as compared with fiscal year 2015, due to an increase in amortization of software development projects of $283,000, an increase in consulting fees of $153,000, as well as lower capitalized labor and overhead of $371,000, due to lower manufacturing activity. In addition, data feeds and license fees increased $111,000.

When the Company uses its employees to manufacture PASSUR and SMLAT Systems, build capital assets, and ship and install PASSUR and SMLAT Systems in the field, there is a reduction in cost of revenues due to the fact that the labor-related costs for these systems are capitalized, rather than expensed and amortize over 7 years for PASSUR or 5 years for SMLAT systems typically.

Costs of revenues as a percentage of revenues was consistent at 43% in fiscal year 2016 and fiscal year 2015.

The Company's research and development efforts include activities associated with new product development, as well as the enhancement and improvement of the Company's existing hardware, software, and information products. Research and development expenses increased $102,000, or 14%, in fiscal year 2016, as compared to fiscal year 2015, primarily due to an increase in payroll and related costs of $132,000, which was partially offset by a reduction in travel and entertainment expenses of $43,000.

The Company anticipates that it will continue to invest in research and development to develop, maintain, and support existing and newly developed applications for its customers. There were no customer-sponsored research and development activities during fiscal years 2016 or 2015. Research and development expenses are funded by current operations.

Selling, general, and administrative expenses increased $1,003,000, or 18%, in fiscal year 2016, as compared to fiscal year 2015, primarily as a result of increased personnel related costs, partially offset by a decrease in consulting fees of $149,000. Our sales and marketing salary expense increased approximately $438,000 or 19%, as compared to the prior fiscal year, as a result of our continued investments in sales and marketing to achieve our present and future revenue growth objectives. In addition, our general and administrative salary expense increased approximately $450,000 or 29%, as compared to the prior fiscal year, due to hiring of several key employees.

Revenues increased $2,354,000, or 19%, to $14,893,000, total costs and expenses increased $2,048,000, or 18%, to $13,685,000, and income from operations increased $306,000, or 34%, to $1,208,000 in fiscal year 2016 as compared to fiscal year 2015.

Interest expense – related party decreased $41,000, or 18%, in fiscal year 2016, as compared to fiscal year 2015, due to a reduction in note payable of $800,000 during fiscal year 2016.

Income before income taxes increased $347,000, or 51%, to $1,025,000 in fiscal year 2016, as compared with fiscal year 2015.

The effective tax rate for fiscal year 2016 was 57.6%, as compared with 58.8% in fiscal year 2015. The statutory income tax expense at 34% for fiscal year 2016 was $349,000. This varies from actual income tax expense of $590,000 primarily due to permanent differences of meals and entertainment and ISO stock compensation of $139,000, state income of taxes of $33,000 (net of federal benefit), and a change to the state deferred tax rate of $69,000.

The Company's provision for income taxes in each year consists of current federal, state, and local minimum taxes.

At October 31, 2016, the Company had available a federal net operating loss carry-forward of $6,341,000 for income tax purposes, which will expire in various tax years from fiscal year 2022 through fiscal year 2033. The Company evaluates whether a valuation allowance related to deferred tax assets is required each reporting period. A valuation allowance is established if, based on the weight of available evidence, it is more likely than not that some portion or all of the deferred income tax asset will not be realized. The Company follows ASC 740, "Income Taxes," where tax benefits are recognized only for tax positions that are more likely than not to be sustained upon examination by tax authorities. The amount recognized is measured as the largest amount of benefit that is greater than 50% likely to be realized upon ultimate settlement. Unrecognized tax benefits are tax benefits claimed in tax returns that do not meet these recognition and measurement standards. At October 31, 2016 and 2015, the Company did not have any uncertain tax positions or a valuation allowance. As permitted by ASC 740-10, the Company's accounting policy is to prospectively classify accrued interest and penalties related to any unrecognized tax benefits in its income tax provision.

The Company's net income increased $156,000 or 56% to $435,000, or $0.06 per diluted share, in fiscal year 2016 as compared to net income of $279,000, or $0.04 per diluted share, in fiscal year 2015.

In the opinion of management, inflation has not had a material effect on the operations of the Company including selling prices, capital expenditures, and operating expenses.

The Company's current liabilities exceeded current assets by $1,200,000 at October 31, 2016. The note payable to a related party, G.S. Beckwith Gilbert, the Company's significant shareholder and Chairman, was $2,700,000 at October 31, 2016, with a maturity of November 1, 2017. The Company's stockholders' equity was $12,327,000 at October 31, 2016. The Company had net income of $435,000 for fiscal year 2016.

Management is addressing the Company's working capital deficiency by aggressively marketing the Company's PASSUR Network Systems information capabilities in its existing product and professional service lines, as well as in new products and professional services, which are continually being developed and deployed. Management believes that the continued development of its existing suite of software products and professional services, which address the wide array of needs of the aviation industry, will continue to lead to increased growth in the Company's customer-base and subscription-based revenues.

If the Company's business plan does not generate sufficient cash flows from operations to meet the Company's operating cash requirements, the Company will attempt to obtain external financing.

During fiscal year 2016, the Company paid interest to G.S. Beckwith Gilbert of $183,000, representing the entire fiscal year 2016 interest due, thereby meeting the payment requirements of the loan agreement. During fiscal year 2016, the Company made $800,000 in principal payments, bringing the principal amount of the note payable due to G.S. Beckwith Gilbert to $2,700,000 on October 31, 2016.

During fiscal year 2015, the Company paid interest to G.S. Beckwith Gilbert of $225,000, representing the entire fiscal year 2015 interest due, thereby meeting the payment requirements of the loan agreement. During fiscal year 2015, the Company made $365,000 in principal payments, bringing the principal amount of the note payable due to G.S. Beckwith Gilbert to $3,500,000 on October 31, 2015.

On January 6, 2017, the Company entered into a Third Debt Extension Agreement with G.S. Beckwith Gilbert, effective January 6, 2017, pursuant to which the Company and Mr. Gilbert agreed to modify certain terms and conditions of the existing debt agreement with Mr. Gilbert (the "Existing Gilbert Note"). The maturity date of the Existing Gilbert Note was due on November 1, 2017, and the total amount of principal and interest due and owing as of January 6, 2017, was $2,700,000. Pursuant to the Third Debt Extension Agreement, the Company issued a new note to Mr. Gilbert in the principal amount of $2,700,000 (the "Third Replacement Note") in exchange for the Existing Gilbert Note and the Company agreed to pay the accrued interest under the Existing Gilbert Note as of January 6, 2017, in an amount equal to $30,000, at the time and on the terms set forth in the Existing Gilbert Note. Under the terms of the Third Replacement Note, the maturity date was extended to November 1, 2018 and the annual interest rate remained at 6%. Interest payments under the Third Replacement Note shall be made annually at October 31st of each year. The note payable is secured by the Company's assets.

The Company believes that its liquidity is adequate to meet operating and investment requirements for the next twelve months.

Net cash provided by operating activities was $4,910,000 for fiscal year 2016, and consisted of net income of $435,000, depreciation and amortization of $3,341,000, stock-based compensation expense of $401,000, and the provision for deferred taxes of $541,000, with the balance consisting of an increase in operating assets and liabilities. Net cash used in investing activities was $3,530,000 for fiscal year 2016, expended primarily for capitalized software development costs, additions to the PASSUR Network, and a second data center at an off-site location. Net cash used in financing activities was $782,000 for fiscal year 2016, and primarily consisted of an $800,000 repayment on the note payable – related party, offset by $18,000 for employees' exercise of stock options. Net cash provided by operating activities decreased by $299,000 in fiscal year 2016 primarily due to the decrease of accounts payable during the year.

The Company actively monitors the costs associated with supporting the business, and continually seeks to identify and reduce any unnecessary costs as part of its cost reduction initiatives, while strategically reinvesting back into the business as part of its long-term plans. Additionally, the aviation market has been impacted by budgetary constraints, airline bankruptcies and consolidations, current economic conditions, the continued war on terrorism, and fluctuations in fuel costs. The aviation market is extensively regulated by government agencies, particularly the FAA and the National Transportation Safety Board, and management anticipates that new regulations relating to air travel may continue to be issued. Substantially all of the Company's revenues are derived from airlines, airports, and organizations that serve, or are served by, the aviation industry. Any new regulations or changes in the economic situation of the aviation industry could have an impact on the future operations of the Company, either positively or negatively.

Interest by potential customers in the information and decision support software products obtained from PASSUR Network Systems and its professional services remains strong. As a result, the Company believes that future revenues will continue to increase on an annualized basis. However, there are no guarantees that such annualized future revenue increases will occur. If revenues do not increase and the Company's cost-structure is not reflective to the revenue fluctuations, losses may occur. The extent of such profits or losses will be dependent on sales volume achieved and Company ability to optimize its cost structures.

None.

 

The Company's discussion and analysis of its financial condition and results of operations are based upon its consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires the Company to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities, based on accounting policies management has implemented. The Company has identified the policies and estimates below as critical to its business operations and the understanding of its results of operations. The impact and any associated risks related to these policies on the Company's business operations are discussed throughout Management's Discussion and Analysis of Financial Condition and Results of Operations, where such policies affect its reported financial results. The actual impact of these factors may differ under different assumptions or conditions. The Company's accounting policies that require management to apply significant judgment and estimates include:

As discussed further in Note (1) Description of Business and Significant Accounting Policies, to the Company's consolidated financial statements, the company recognizes revenue in accordance with the authoritative guidance issued by the FASB on revenue recognition, FASB ASC 605-15, ("Revenue Recognition in Financial Statements"). We recognize revenue when persuasive evidence of an arrangement exists, the fee is fixed or determinable, delivery has occurred, and collection of the resulting receivable is deemed probable.

 

The Company's revenues are generated by selling: (1) subscription-based, real-time decision and solution information and (2) professional services.

Revenues generated from subscription agreements are recognized over the term of such executed agreements and/or customer's receipt of such data or services. In accordance with ASC 605-15, the Company recognizes revenue when persuasive evidence of an arrangement exists which is evidenced by a signed agreement, the service has been deployed, as applicable, to its hosted servers, the fee is fixed or determinable, and collection of the resulting receivable is reasonably assured. The Company records revenues pursuant to individual contracts on a month-by-month basis, as outlined by the applicable agreement. In many cases, the Company may invoice respective customers in advance of the specified period, either quarterly or annually, which coincides with the terms of the agreement. In such cases, the Company will defer at the close of each month and/or reporting period, any subscription revenues invoiced for which services have yet to be rendered, in accordance with ASC 605-15. Revenues generated by professional services are recognized when services are provided.

The individual offerings that are included in arrangements with our customers are identified and priced separately to the customer based upon the stand-alone price for each individual element sold in the arrangement irrespective of the combination of products and services which are included in a particular arrangement.  As such, the units of accounting are based on each individual element sold, and revenue is allocated to each element based on selling price.  Selling price is determined using vendor-specific objective evidence ("VSOE") if available, third-party evidence ("TPE") if VSOE is not available, or best estimate of selling price ("BESP") if neither VSOE or TPE is available. BESP must be determined in a manner that is consistent with that used to determine the price to sell the specific elements on a standalone basis. The Company's BESP is established considering multiple factors including, but not limited to, pricing practices with different classes of customers, geographies and other factors contemplated in negotiating the arrangement with the customer.

From time to time, the Company will enter into an agreement with a customer to receive a one-time fee for rights including, but not limited to, the rights to use certain data at an agreed upon location(s) for a specific use and/or for an unlimited number of users, installation costs associated with the deployment of additions to the Company owned PASSUR Network, or set-up fees associated with new deployments of the Company software solutions. These fees are recognized as revenue ratably over the term of the agreement or relationship period of such arrangement, whichever is longer, but typically five years.

 

As discussed further in Note (1) Description of Business and Significant Accounting Policies, to the Company's consolidated financial statements, the Company capitalizes costs related to the development of internal use software in accordance with authoritative guidance issued by the FASB on internal-use software, ASC 350-40, "Internal-Use Software." The Company expenses all costs incurred during the preliminary project stage of its development, and capitalizes the costs incurred during the application development stage. Costs incurred relating to upgrades and enhancements to the software are capitalized if it is determined that these upgrades or enhancements add additional functionality to the software.

As of October 31, 2016 and 2015, the Company had $8,264,000 and $7,685,000, respectively, of software development costs, net of amortization. The Company has a formal program to determine when technological feasibility of a product is established and assumptions are used that reflect the Company's best estimates. Software development costs are reported at the lower of amortized cost or net realizable value. Net realizable value is computed as the estimated gross future revenue from each software solution less the amount of estimated future costs of completing and disposing of that product. Software costs are included in "Capitalized software development costs, net" on the Company's balance sheet and are depreciated using the straight-line method over their estimated useful life, generally five years.

As discussed further in Note (1) Description of Business and Significant Accounting Policies, to the Company's consolidated financial statements, the Company follows the provisions of FASB ASC 360-10, "Impairment and Disposal of Long-Lived Assets." The Company reviews long-lived assets for impairment when circumstances indicate the carrying amount of an asset may not be recoverable. Impairment is recognized to the extent the sum of undiscounted estimated future cash flows expected to result from the use of the asset is less than the carrying value. Assets to be disposed of are carried at the lower of their carrying value or fair value, less costs to sell. The Company evaluates the periods of amortization continually in determining whether later events and circumstances warrant revised estimates of useful lives. If estimates are changed, the unamortized costs will be allocated to the increased or decreased number of remaining periods in the revised life.

All of the Company's capitalized assets are recorded at cost (which may also include salaries and related overhead costs incurred during production and/or development) and depreciated and/or amortized over the asset's estimated useful life for financial statement purposes. The estimated useful life represents the projected period of time that the asset will be productively employed by the Company and is determined by management based on many factors, including historical experience with similar assets, technological life cycles, and industry standards for similar assets. Circumstances and events relating to these assets are monitored to ensure that changes in asset lives or impairments (see "Impairment of Long-Lived Assets" above) are identified and prospective depreciation or impairment expense is adjusted accordingly.

The Company's long-lived assets, which include the PASSUR Network and Property and equipment, totaled $6,927,000, and accounted for 35% of the Company's total assets as of October 31, 2016.

At each reporting period, management evaluates the carrying values of the Company's assets. The evaluation considers the undiscounted cash flows generated from current contractual revenue sources and the anticipated forecast revenue derived from each asset. The Company then evaluates these revenues on an overall basis to determine if any impairment issues exist. As of October 31, 2016, based upon management's evaluation of the above asset groups, no impairment of these asset groups exist. If these forecasts are not met, the Company may have to record impairment charges not previously recorded.

The PASSUR Network, net, Capitalized software development costs, net, and Property and equipment, net totaled $5,740,000, $8,264,000, and $1,187,000, respectively, as of October 31, 2016. As of October 31, 2015, the PASSUR Network, net, Capitalized software development costs, net, and Property and equipment, net totaled $5,903,000, $7,685,000, and $1,354,000, respectively. In management's judgment, the estimated depreciable lives used to calculate the annual depreciation and amortization expense are appropriate.

Depreciation and amortization are provided on the straight-line basis over the estimated useful lives of the assets, as follows:

The PASSUR Network is comprised of PASSUR and SMLAT Systems, which include the direct and indirect production, shipping, and installation costs incurred for each PASSUR and SMLAT System, which are recorded at cost, net of accumulated depreciation. Depreciation is charged to cost of revenues and is calculated using the straight-line method over the estimated useful life of the asset, which is estimated at five years for SMLAT Systems and seven years for PASSUR Systems. PASSUR and SMLAT Systems which are not installed, raw materials, work-in-process, and finished goods components are carried at cost and no depreciation is recorded.

Total depreciation and amortization expense was $3,341,000 in fiscal year 2016, and consisted of $939,000, $1,845,000, $496,000, and $61,000 for the PASSUR Network, Capitalized software development costs, Property and equipment, and one-time fees, respectively. During fiscal year 2015, total depreciation and amortization expense was $3,055,000 in fiscal year 2016, and consisted of $1,015,000, $1,562,000, $425,000, and $53,000 for the PASSUR Network, Capitalized software development costs, Property and equipment, and one-time fees, respectively.

As discussed further in Note (9) Stock-Based Compensation to the Company's consolidated financial statements, the Company accounts for share-based awards in accordance with the authoritative guidance issued by the FASB on stock compensation, FASB ASC 718, "Compensation-Stock Compensation," which requires measurement of compensation cost for all stock-based awards at fair value on date of grant, and recognition of stock-based compensation expense over the service period for awards expected to vest. The fair value of stock options was determined using the Black-Scholes option-pricing model to compute the estimated fair value of share-based compensation expense. The Black-Scholes option-pricing model includes assumptions regarding dividend yields, expected volatility, expected option term and risk-free interest rates. The assumptions used in computing the fair value of share-based compensation expense reflect the Company's best estimates, but involve uncertainties relating to market and other conditions, many of which are outside of the Company's control.  Additionally, the Company estimates forfeiture rates based primarily upon historical experience, adjusted when appropriate for known events or expected trends. Stock-based compensation expense was $401,000 and $341,000 in fiscal years 2016 and 2015, respectively, and was primarily included in selling, general, and administrative expenses.

See Note 1 of Notes to Consolidated Financial Statements.

Not Required.

See Part IV, Item 15(a)(1) of this Annual Report on Form 10-K for the Company's annual financial statements.

Not applicable.

As of the end of the period covered by this Annual Report on Form 10-K, management carried out an evaluation, under the supervision, and with the participation of, the Company's Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934 (the "Exchange Act")). The Company believes that a control system, no matter how well designed and operated, can provide only reasonable assurance, not absolute assurance, that the objectives of the control system are met. Based on their evaluation as of the end of the period covered by this Annual Report on Form 10-K, the Company's Chief Executive Officer and Chief Financial Officer have concluded that such controls and procedures were effective at a reasonable assurance level as of October 31, 2016.

The Company's management is responsible for establishing and maintaining adequate internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act). The Company's internal control over financial reporting is a process designed under the supervision of its Chief Executive Officer and Chief Financial Officer to provide reasonable assurance regarding the reliability of financial reporting and the preparation of the Company's financial statements for external reporting in accordance with accounting principles generally accepted in the United States. Management evaluates the effectiveness of the Company's internal control over financial reporting using the criteria set forth by the 1992 Committee of Sponsoring Organizations of the Treadway Commission ("COSO") in Internal Control Integrated Framework. Due to its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Therefore, even those systems determined to be effective can provide only reasonable assurance of achieving their control objectives. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

Management, under the supervision and with the participation of the Company's Chief Executive Officer and Chief Financial Officer, conducted an evaluation of the effectiveness of the Company's internal control over financial reporting as of October 31, 2016. Based on this evaluation, management concluded that the Company's internal control over financial reporting was effective as of October 31, 2016.

This Annual Report does not include an attestation report of our registered public accounting firm regarding internal control over financial reporting. Management's report was not subject to attestation by our registered public accounting firm pursuant to rules of the Securities and Exchange Commission that permit the Company to provide only management's report in this Annual Report.

There have not been any changes in the Company's internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) within the fourth fiscal quarter ended October 31, 2016, that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting.

As previously disclosed on Form 8-K filed by the Company on October 20, 2016, the Company has entered into an agreement with Louis J. Petrucelly, the Company's Senior Vice President, Chief Financial Officer, Treasurer and Secretary, pursuant to which Mr. Petrucelly will be paid twelve months base salary in the event a change in control of the Company causes, within twelve months of the change in control results in an involuntary or voluntary for "Good Reason" termination of his employment. The foregoing description of the agreement with Mr. Petrucelly is a summary. The full text of the agreement is filed as Exhibit 99.1 and incorporated herein by reference.

PART III

The following table sets forth the names and ages of the Company's directors, as well as the year each individual became a director, and the position(s) with the Company, if any, held by each individual.

 

Each director is elected to serve until the succeeding Annual Meeting of Stockholders and until his successor is duly elected and qualified.

The following table sets forth the names and ages of the Company's executive officers, as well as the office(s) held by each individual, and the year in which each executive officer began to serve in such capacity.

Each officer is elected to serve at the discretion of the Board of Directors.

None.

None.

The following sets forth the business experience of the Company's directors and executive officers:

 

 

 

 

 

The Company knows of no event which occurred during the past ten years and which is described in Item 401(f) of Regulation S-K relating to any director or executive officer of the Company.

Our Board of Directors has appointed an Audit Committee, consisting of four directors. All of the members of the Audit Committee are independent of our Company and management, as independence is defined under applicable Financial Industry Regulatory Authority ("FINRA") rules. The Audit Committee consists of Mr. Graziani, Mr. Ekert, Mr. Haver, and Mr. Stafford.

Our Board of Directors has determined that Mr. Graziani, Chairman of the Company's Audit Committee, meets the Securities and Exchange Commission's criteria of an "audit committee financial expert" as set forth in item 407(d)(5)(ii) of Regulation S-K. Mr. Graziani acquired the attributes necessary to meet such criteria by holding positions that provided relevant experience. Mr. Graziani is independent, as defined under applicable FINRA rules.

Section 16(a) of the Exchange Act requires the Company's directors, executive officers, and 10% stockholders to file reports of ownership and reports of change in ownership of the Company's Common Stock and other equity securities with the Securities and Exchange Commission. Directors, executive officers, and 10% stockholders are required to furnish the Company with copies of all Section 16(a) forms they file. Based on a review of the copies of such reports furnished, the Company believes that during the fiscal year ended October 31, 2016, the Company's directors, executive officers, and 10% stockholders filed on a timely basis all reports required by Section 16(a) of the Exchange Act.

There have not been any material changes to the procedures by which the Company's stockholders may recommend nominees to the Company's board of directors, as disclosed in the definitive proxy statement on Schedule 14A, filed on February 25, 2016, by the Company with the Securities and Exchange Commission in connection with the Company's 2016 Annual Meeting of Stockholders.

The Company hereby incorporates by reference into this Item the information contained under the heading "Code of Ethics" in the Company's definitive proxy statement that will be filed with the Securities and Exchange Commission within 120 days of October 31, 2016 (the "2017 Proxy Statement").

The Company hereby incorporates by reference into this Item the information contained under the heading "Executive Compensation" in the 2017 Proxy Statement.

The Company hereby incorporates by reference into this Item the information contained under the heading "Security Ownership of Certain Beneficial Owners and Management" in the 2017 Proxy Statement.

For information regarding securities authorized for issuance under the Company's equity compensation plans, see Item 5(d), above.

During fiscal year 2016, the Company paid interest to G.S. Beckwith Gilbert, the Company's significant shareholder and Chairman, of $183,000, representing the entire fiscal year 2016 interest due, thereby meeting the payment requirements of the loan agreement. During fiscal year 2016, the Company made $800,000 in principal payments, bringing the principal amount of the note payable due to G.S. Beckwith Gilbert to $2,700,000 on October 31, 2016.

During fiscal year 2015, the Company paid interest to G.S. Beckwith Gilbert of $225,000, representing the entire fiscal year 2015 interest due, thereby meeting the payment requirements of the loan agreement. During fiscal year 2015, the Company made $365,000 in principal payments, bringing the principal amount of the note payable due to G.S. Beckwith Gilbert to $3,500,000 on October 31, 2015.

On January 6, 2017, the Company entered into a Third Debt Extension Agreement with G.S. Beckwith Gilbert, effective January 6, 2017, pursuant to which the Company and Mr. Gilbert agreed to modify certain terms and conditions of the existing debt agreement with Mr. Gilbert (the "Existing Gilbert Note"). The maturity date of the Existing Gilbert Note was due on November 1, 2017, and the total amount of principal and interest due and owing as of January 6, 2017, was $2,700,000. Pursuant to the Third Debt Extension Agreement, the Company issued a new note to Mr. Gilbert in the principal amount of $2,700,000 (the "Third Replacement Note") in exchange for the Existing Gilbert Note and the Company agreed to pay the accrued interest under the Existing Gilbert Note as of January 6, 2017, in an amount equal to $30,000, at the time and on the terms set forth in the Existing Gilbert Note. Under the terms of the Third Replacement Note, the maturity date was extended to November 1, 2018, and the annual interest rate remained at 6%. Interest payments under the Third Replacement Note shall be made annually at October 31 of each year. The note payable is secured by the Company's assets.

During fiscal year 2016, the Company paid the son of an Executive Vice President and Director approximately $17,000 as a consultant to assist in the installation and maintenance of the PASSUR Network.

The Board of Directors had determined, after considering all the relevant facts and circumstances, that all named directors, except for Mr. Gilbert, Mr. Barry, and Mr. Keller, are independent directors, as "independence" is defined in accordance with the FINRA standards.
       

The Company hereby incorporates by reference into this Item the information contained under the heading "Principal Accounting Fees and Services" in the 2017 Proxy Statement.

PART IV

Schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission are not required under the related instructions or are inapplicable, and therefore have been omitted.

The following exhibits are required to be filed with this Annual Report on Form 10-K by Item 15(a)(3).

 

 

____________________

* Filed herewith.

** Furnished herewith.

 

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized.

PASSUR AEROSPACE, INC.

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the date indicated:

SIGNATURES (continued)

 

 

Report of Independent Registered Public Accounting Firm

 

Board of Directors and Stockholders

PASSUR Aerospace, Inc. and Subsidiary

We have audited the accompanying consolidated balance sheets of PASSUR Aerospace, Inc. and Subsidiary as of October 31, 2016 and 2015 and the related consolidated statements of income, stockholders' equity, and cash flows for the years then ended. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, 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. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of PASSUR Aerospace, Inc. and Subsidiary at October 31, 2016 and 2015, and the results of their operations and their cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States of America.

/s/ BDO USA, LLP

 

Melville, New York

January 9, 2017

F-1

PASSUR Aerospace, Inc. and Subsidiary

Consolidated Balance Sheets

October 31, 2016 and 2015

 

 

See accompanying notes to consolidated financial statements.

F-2

 

PASSUR Aerospace, Inc. and Subsidiary

Consolidated Statements of Income

Years Ended October 31, 2016 and 2015

      See accompanying notes to consolidated financial statements.

F-3

PASSUR Aerospace, Inc. and Subsidiary

Consolidated Statements of Stockholders' Equity

Years Ended October 31, 2016 and 2015

 

 

   See accompanying notes to consolidated financial statements.

F-4

PASSUR Aerospace, Inc. and Subsidiary

Consolidated Statements of Cash Flows

Years Ended October 31, 2016 and 2015

 

See accompanying notes to consolidated financial statements.

F-5

PASSUR Aerospace, Inc. and Subsidiary

Notes to Consolidated Financial Statements

October 31, 2016

1. Description of Business and Significant Accounting Policies

Nature of Business

The Company is a business intelligence company, providing predictive analytics and decision support technology for the aviation industry primarily to improve the operational performance and cash flow of airlines and the airports where they operate.

The Company's mission is to improve global air traffic efficiencies by connecting the world's aviation professionals onto a single aviation intelligence platform. The Company believes it operates in one operating segment.

Basis of Presentation

The consolidated financial statements include the accounts of PASSUR Aerospace, Inc. and its wholly-owned Subsidiary. All significant inter-company transactions and balances have been eliminated in consolidation.

Certain financial information in the footnotes has been rounded to the nearest thousand for presentation purposes.

Revenue Recognition Policy

The Company recognizes revenue in accordance with FASB ASC 605-15, ("Revenue Recognition in Financial Statements") which requires that four basic criteria must be met before revenues can be recognized: (1) persuasive evidence of an arrangement exists; (2) delivery has occurred or services have been rendered; (3) the fee is fixed or determinable; and (4) collectability is reasonably assured.

 

The Company's revenues are generated by selling: (1) subscription-based, real-time decision and solution information and (2) professional services.

Revenues generated from subscription agreements are recognized over the term of such executed agreements and/or customer's receipt of such data or services. In accordance with ASC 605-15, the Company recognizes revenue when persuasive evidence of an arrangement exists which is evidenced by a signed agreement, the service has been deployed, as applicable, to its hosted servers, the fee is fixed and determinable, and collection of the resulting receivable is reasonably assured. The Company records revenues pursuant to individual contracts on a month-by-month basis, as outlined by the applicable agreement. In many cases, the Company may invoice respective customers in advance of the specified period, either quarterly or annually, which coincides with the terms of the agreement. In such cases, the Company will defer at the close of each month and/or reporting period, any subscription revenues invoiced for which services have yet to be rendered, in accordance with ASC 605-15. Revenues generated by professional services are recognized when services are provided.

 

F-6

 

PASSUR Aerospace, Inc. and Subsidiary

             Notes to Consolidated Financial Statements (continued)

1. Description of Business and Significant Accounting Policies (continued)

Revenue Recognition Policy (continued)

The individual offerings that are included in arrangements with the Company's customers are identified and priced separately to the customer based upon the relative fair value for each individual element sold in the arrangement irrespective of the combination of products and services which are included in a particular arrangement.  As such, the units of accounting are based on each individual element sold, and revenue is allocated to each element based on selling price.  Selling price is determined using vendor-specific objective evidence ("VSOE") if available, third-party evidence ("TPE") if VSOE is not available, or best estimate of selling price ("BESP") if neither VSOE or TPE is available. BESP must be determined in a manner that is consistent with that used to determine the price to sell the specific elements on a standalone basis. Best estimate of selling price is established considering multiple factors including, but not limited to, pricing practices with different classes of customers, geographies and other factors contemplated in negotiating the arrangement with the customer. The Company uses either VSOE or BESP.

From time to time, the Company will enter into an agreement with a customer to receive a one-time fee for rights including, but not limited to, the rights to use certain data at an agreed upon location(s) for a specific use and/or for an unlimited number of users, installation costs associated with the deployment of additions to the Company owned PASSUR Network, or set-up fees associated with new deployments of the Company software solutions.  These fees are recognized as revenue ratably over the term of the agreement or relationship period of such arrangement, whichever is longer, but typically five years.

Deferred revenue is classified on the Company's balance sheet as a liability until such time as revenue from services is properly recognized as revenue in accordance with ASC 605-15 and the corresponding agreement. 

Use of Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. The Company's significant estimates include those related to revenue recognition, stock-based compensation, software development costs, the PASSUR Network and income taxes. Actual results could differ from those estimates.

Subsequent Events

Management has evaluated subsequent events after the balance sheet date, through the issuance of the financial statements, for appropriate accounting and disclosure.

Accounts Receivable

The Company has a history of successfully collecting all amounts due from its customers under the original terms of its subscription agreements without making concessions. The Company records accounts receivables for agreements where amounts due from customers are contractually required and are non-refundable. The carrying amount of accounts receivables is reduced by a valuation allowance that reflects the Company's best estimate of the amounts that will not be collected. Net accounts receivable is comprised of the monthly, quarterly, or annual committed amounts due from customers pursuant to the terms of each respective customer's agreement. Account receivable balances include amounts attributable to deferred revenues. The provision for doubtful accounts was $26,000 and $47,000 as of October 31, 2016, and 2015, respectively. In addition to reviewing delinquent accounts receivable, the Company considers many factors in estimating its reserve, including historical data, experience, customer types, credit worthiness, and economic trends. The Company monitors its outstanding accounts receivable balances and believes the provision is adequate.

 

F-7

PASSUR Aerospace, Inc. and Subsidiary

Notes to Consolidated Financial Statements (continued)

 

1. Description of Business and Significant Accounting Policies (continued)

Property and Equipment

Property and equipment are recorded at cost and are depreciated on a straight-line basis over the estimated useful lives of the related assets. Amortization of leasehold improvements is calculated on a straight-line basis over the estimated useful life of the improvements or the term of the lease, including renewal options expected to be exercised, whichever is shorter.

PASSUR Network

The PASSUR Network is comprised of PASSUR and SMLAT Systems, which include the direct and indirect production, shipping, and installation costs incurred for each PASSUR and SMLAT System, which are recorded at cost, net of accumulated depreciation. Depreciation is charged to cost of revenues and is recorded using the straight-line method over the estimated useful life of the asset, which is estimated at five years for SMLAT Systems and seven years for PASSUR Systems. PASSUR and SMLAT Systems which are not installed, raw materials, work-in-process, and finished goods components are carried at cost and no depreciation is recorded.

Capitalized Software Development Costs

The Company follows the provisions of ASC 350-40, "Internal Use Software." ASC 350-40 provides guidance for determining whether computer software is internal-use software, and on accounting for the proceeds of computer software originally developed or obtained for internal use and then subsequently sold to the public. It also provides guidance on capitalization of the costs incurred for computer software developed or obtained for internal use. The Company expenses all costs incurred during the preliminary project stage of its development, and capitalizes the costs incurred during the application development stage. Costs incurred relating to upgrades and enhancements to the software are capitalized if it is determined that these upgrades or enhancements add additional functionality to the software. Costs incurred to improve and support products after they become available are charged to expense as incurred. The Company records amortization of the software on a straight-line basis over the estimated useful life of the software, typically five years.

Long-Lived Assets

The Company reviews long-lived assets for impairment when circumstances indicate the carrying amount of an asset may not be recoverable. Impairment is recognized to the extent the sum of undiscounted estimated future cash flows expected to result from the use of the asset is less than the carrying value. Assets to be disposed of are carried at the lower of their carrying value or fair value, less costs to sell. The Company evaluates the periods of amortization continually in determining whether later events and circumstances warrant revised estimates of useful lives. If estimates are changed, the unamortized costs will be allocated to the increased or decreased number of remaining periods in the revised life. As of October 31, 2016, and 2015 based upon management's evaluation of the above asset groups, there is no impairment of these asset groups.

Cost of Revenues

Costs associated with subscription and maintenance revenues consist primarily of direct labor, depreciation of PASSUR and SMLAT Network Systems, amortization of capitalized software development costs, communication costs, data feeds, allocated overhead costs, travel and entertainment, and consulting fees. Also, included in cost of revenues are costs associated with upgrades to PASSUR and SMLAT Systems necessary to make such systems compatible with new software applications, as well as the ordinary repair and maintenance of existing PASSUR and SMLAT Systems. Additionally, cost of revenues in each reporting period is impacted by: (1) the number of PASSUR and SMLAT Systems added to the Network, which includes the cost of production, shipment, and installation of these assets, which are capitalized to the PASSUR Network; and (2) new capitalized costs associated with software development projects. Both of these are referred to as "Capitalized Assets" and are depreciated and/or amortized over their respective useful lives and charged to cost of revenues.

 

F-8

PASSUR Aerospace, Inc. and Subsidiary

Notes to Consolidated Financial Statements (continued)

 

1. Description of Business and Significant Accounting Policies (continued)

Income Taxes

The Company follows the liability method of accounting for income taxes. Deferred income taxes are recorded to reflect the temporary differences in the tax bases of the assets or liabilities and their reported amounts in the financial statements. The Company recognizes deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the Company's financial statements or tax returns. Under this method, deferred tax assets and liabilities are determined based on the difference between the financial statement and tax basis of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. Valuation allowances are established when necessary to reduce deferred tax assets to the amount currently estimated to be realized. The Company follows ASC 740, "Income Taxes," where tax benefits are recognized only for tax positions that are more likely than not to be sustained upon examination by tax authorities. The amount recognized is measured as the largest amount of benefit that is greater than 50% likely to be realized upon ultimate settlement. Unrecognized tax benefits are tax benefits claimed in tax returns that do not meet these recognition and measurement standards. At October 31, 2016 and 2015, the Company did not have any uncertain tax positions or a valuation allowance. As permitted by ASC 740-10, the Company's accounting policy is to prospectively classify accrued interest and penalties related to any unrecognized tax benefits in its income tax provision.

Research and Development Costs

Research and development costs are expensed as incurred.

Net Income per Share Information

Basic net income per share is computed based on the weighted average number of shares outstanding. Diluted earnings per share is computed similarly to basic earnings per share, except that it reflects the effect of common shares issuable upon exercise of stock options, using the treasury stock method in periods in which they have a dilutive effect. Shares used to calculate net income per share for fiscal years 2016 and 2015 are as follows:

 

Weighted average options to purchase 1,182,000 and 900,000 shares of common stock at prices ranging from $1.40 to $5.00 per share that were outstanding during fiscal years 2016 and 2015 were excluded from each respective year's computation of diluted earnings per share. In each of these years, such options' exercise prices exceeded the average market price of our common stock, thereby causing the effect of such options to be anti-dilutive.

Deferred Revenue

Deferred revenue includes amounts attributable to advances received or billings related to customer agreements, which are contractually required and are non-refundable, and may be prepaid either annually, quarterly, or monthly. Deferred revenues from such customer agreements are recognized as revenue ratably over the period that coincides with the respective agreement.

The Company recognizes initial set-up fee revenues and associated costs on a straight-line basis over the estimated life of the customer relationship period, typically five years.

 

F-9

PASSUR Aerospace, Inc. and Subsidiary

Notes to Consolidated Financial Statements (continued)

1. Description of Business and Significant Accounting Policies (continued)

Fair Value of Financial Instruments

The recorded amounts of the Company's cash, receivables, accounts payable, and accrued liabilities approximate their fair values principally because of the short-term nature of these items. The fair value of related party debt is not practicable to determine due primarily to the fact that the Company's related party debt is held by its Chairman and significant shareholder, and the Company does not have any third-party debt with which to compare.

Additionally, on a recurring basis, the Company uses fair value measures when analyzing asset impairments. Long-lived assets and certain identifiable 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 it is determined such indicators are present, and the review indicates that the assets will not be fully recoverable based on the undiscounted estimated future cash flows expected to result from the use of the asset, their carrying values are reduced to estimated fair value.

Stock-Based Compensation

The Company follows FASB ASC 718 "Compensation-Stock Compensation", which requires measurement of compensation cost for all stock-based awards at fair value on date of grant, and recognition of stock-based compensation expense over the service period for awards expected to vest. The fair value of stock options was determined using the Black-Scholes valuation model. Such fair value is recognized as an expense over the service period, net of forfeitures. Stock-based compensation expense was $401,000 and $341,000 in fiscal years 2016 and 2015, respectively, and was primarily included in selling, general, and administrative expenses.

Comprehensive Income

The Company's comprehensive income is equivalent to that of the Company's total net income for fiscal years 2016 and 2015.

Accounting Pronouncements issued but not yet adopted

In August 2016, the FASB issued new guidance on presentation and classification of eight specific items within the statement of cash flows, including (i) debt prepayment or debt extinguishment costs, (ii) settlement of zero-coupon debt instruments or other debt instruments with coupon rates that are insignificant in relation to the effective interest rate of the borrowing, (iii) contingent consideration payments made after a business combination, (iv) proceeds from the settlement of insurance claims, (v) proceeds from the settlement of corporate-owned life insurance policies, including bank-owned life insurance policies, (vi) distributions received from equity method investees, (vii) beneficial interests in securitization transactions, and (viii) separately identifiable cash flows and application of the predominance principle. This update is effective for annual reporting periods, and interim periods therein, beginning after December 15, 2017, which for the Company will be the beginning of the annual period ending October 31, 2019. Early adoption, including adoption in an interim period, is permitted. The Company does not expect the adoption of this guidance to have a material impact on its consolidated financial statements and related disclosures.

In March 2016, the FASB issued new guidance on accounting for employee share-based payment awards to simplify the accounting related to several aspects of accounting for share-based payment transactions, including income tax consequences of share-based payment transactions, classification of awards as either equity or liabilities, forfeitures, and classification on the statement of cash flows. The new standard is effective for the annual period beginning after December 15, 2016, including interim reporting periods within that period, which for the Company will be the beginning of the annual period ending October 31, 2018. Early adoption, including adoption in an interim period, is permitted. The standard requires the use of several transition methods including a modified retrospective transition method, retrospective method and prospective method. The Company is evaluating the effect that this new guidance will have on its consolidated financial statements and related disclosures.

 

F-10

 

PASSUR Aerospace, Inc. and Subsidiary

     Notes to Consolidated Financial Statements (continued)

In February 2016, the FASB issued new guidance on leases to increase transparency and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet and disclosing key information about leasing arrangements. This new guidance will replace existing guidance on leases in accounting principles generally accepted in the United States when it becomes effective. The new standard is effective for the annual period beginning after December 15, 2018, including interim reporting periods within that period, which for the Company will be the annual period ending October 31, 2020. Early application is permitted. The standard requires the use of a modified retrospective transition method; however, certain optional practical expedients may be applied. The Company is evaluating the effect that this new guidance will have on its consolidated financial statements and related disclosures.

In January 2016, the FASB issued new guidance on the recognition, measurement, presentation and disclosure of financial assets and financial liabilities. The standard (i) requires an entity to measure equity investments, except those accounted for under the equity method of accounting or those that result in consolidation of the investee, at fair value with changes in fair value recognized in net income, (ii) simplifies the impairment assessment of equity investments without readily determinable fair values by requiring an entity to perform a qualitative assessment to identify impairment, (iii) changes certain presentation and disclosure requirements related to financial assets and financial liabilities, and (iv) clarifies that an entity should evaluate the need for a valuation allowance on a deferred tax asset related to available-for-sale securities in combination with the entity's other deferred tax assets. The amendments in this update are effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2017, which for the Company will be the annual period ending October 31, 2019. Early adoption, including adoption in an interim period, is not permitted except for certain amendments in this update. The Company has not yet adopted this guidance and currently does not expect the adoption of the new guidance by the Company to have a significant impact on the Company's financial results.

In November 2015, the FASB issued new guidance which requires an entity to classify deferred tax liabilities and assets, along with any related valuation allowance, as non-current in its consolidated balance sheet. The amendments in this update may be applied either prospectively to all deferred tax liabilities and assets or retrospectively to all periods presented. The amendments in this update are effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2016, which for the Company will be the annual period ending October 31, 2018. Early adoption, including adoption in an interim period, is permitted. The Company has not yet adopted this guidance and currently does not expect the adoption of the new guidance by the Company to have a significant impact on the Company's financial results.

In May 2014, the FASB issued new guidance which requires an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. This new guidance will replace most existing revenue recognition guidance in Generally Accepted Accounting Principles in the United States when it becomes effective. The new standard is effective for the annual period beginning after December 15, 2017, including interim reporting periods within that period, which for the Company will be the annual period ending October 31, 2019. Early application as of January 1, 2017, is permitted. The standard permits the use of either the retrospective or cumulative effect transition method. The Company is evaluating the effect that this new guidance will have on its consolidated financial statements and related disclosures. The Company has not yet selected a transition method nor has it determined the effect of the standard on its financial reporting.

 

F-11

PASSUR Aerospace, Inc. and Subsidiary

     Notes to Consolidated Financial Statements (continued)

2. Property and Equipment

Property and equipment consist of the following as of October 31, 2016 and 2015:

The Company recorded depreciation expense on the assets included in Property and equipment of $496,000 and $425,000 for fiscal years 2016 and 2015, respectively.

3. PASSUR Network

PASSUR Network consist of the following as of October 31, 2016 and 2015:

 

 

The Company capitalized $776,000 and $1,489,000 of costs to the PASSUR Network during fiscal years 2016 and 2015, respectively. Depreciation expense related to the Company-owned PASSUR Network was $939,000 and $1,015,000 in fiscal years 2016 and 2015, respectively. Depreciation is charged to cost of revenues and is calculated using the straight-line method over the estimated useful life of the asset, which is estimated at seven and five years for PASSUR and SMLAT systems, respectively.

The net carrying balance of the PASSUR Network as of October 31, 2016 and October 31, 2015, was $5,740,000 and $5,903,000, respectively. Included in the net carrying balance as of October 31, 2016, were parts and finished goods for PASSUR and SMLAT Systems totaling $1,000,000 and $1,767,000, respectively, which have not yet been installed. As of October 31, 2015, $1,188,000 and $1,625,000 of parts and finished goods for PASSUR and SMLAT systems, respectively, were included in the net carrying balance of the PASSUR Network. PASSUR and SMLAT Systems which are not installed are carried at cost and not depreciated until installed.

 

F-12

PASSUR Aerospace, Inc. and Subsidiary

     Notes to Consolidated Financial Statements (continued)

4.  Capitalized Software Development Costs

PASSUR Software Development costs consist of the following as of October 31, 2016 and 2015:

 

The Company's capitalization of software development projects was $2,424,000 and $2,402,000 in fiscal years 2016 and 2015. Amortization related to capitalized software development projects was $1,845,000 and $1,562,000 in fiscal years 2016 and 2015, respectively.

As of October 31, 2016, amortization expense for capitalized software development costs where amortization has commenced is estimated to approximate $2,121,000, $2,058,000, $1,590,000, $1,409,000, and $896,000, for the fiscal years ended October 31, 2017, 2018, 2019, 2020 and 2021, respectively. As of October 31, 2016, the Company had $2,140,000 of capitalized software development costs relating to projects in development which are not yet subject to amortization. The Company did not record any impairments related to capitalized software development projects in fiscal years 2016 or 2015.

5. Accrued Expenses and Other Current Liabilities

Accrued expenses and other current liabilities consist of the following as of October 31, 2016 and 2015:

 

          

Effective for the Company’s fiscal year 2017, the Company converted its vacation policy to no longer allow for unused vacation days to be carried forward to future periods or paid if an employee separates from the Company. As a result of the change to the Company’s vacation policy, the Company no longer has an accrued vacation obligation and reversed the related accrual of $414,000 of which $176,000, $43,000, and $195,000 was recorded in cost of sales, research and development, and general and administrative expenses, respectively, in the accompanying consolidated income statement.

       

6. Notes Payable

During fiscal year 2016, the Company paid interest to G.S. Beckwith Gilbert of $183,000, representing the entire fiscal year 2016 interest due, thereby meeting the payment requirements of the loan agreement. During fiscal year 2016, the Company made $800,000 in principal payments, bringing the principal amount of the note payable due to G.S. Beckwith Gilbert to $2,700,000 on October 31, 2016.

During fiscal year 2015, the Company paid interest to G.S. Beckwith Gilbert of $225,000, representing the entire fiscal year 2015 interest due, thereby meeting the payment requirements of the loan agreement. During fiscal year 2015, the Company made $365,000 in principal payments, bringing the principal amount of the note payable due to G.S. Beckwith Gilbert to $3,500,000 on October 31, 2015.

 

F-13

 

PASSUR Aerospace, Inc. and Subsidiary

Notes to Consolidated Financial Statements (continued)

6. Notes Payable (continued)

On January 6, 2017, the Company entered into a Third Debt Extension Agreement with G.S. Beckwith Gilbert, effective January 6, 2017, pursuant to which the Company and Mr. Gilbert agreed to modify certain terms and conditions of the existing debt agreement with Mr. Gilbert (the "Existing Gilbert Note"). The maturity date of the Existing Gilbert Note was due on November 1, 2017, and the total amount of principal and interest due and owing as of January 6, 2017, was $2,700,000. Pursuant to the Third Debt Extension Agreement, the Company issued a new note to Mr. Gilbert in the principal amount of $2,700,000 (the "Third Replacement Note") in exchange for the Existing Gilbert Note and the Company agreed to pay the accrued interest under the Existing Gilbert Note as of January 6, 2017, in an amount equal to $30,000, at the time and on the terms set forth in the Existing Gilbert Note. Under the terms of the Third Replacement Note, the maturity date was extended to November 1, 2018, and the annual interest rate remained at 6%. Interest payments under the Third Replacement Note shall be made annually at October 31 of each year. The note payable is secured by the Company's assets.

7. Leases

The Company's headquarters, located in Stamford, Connecticut, are subject to a lease through January 31, 2018, at an average annual rental rate of $234,000. The Company's software development and manufacturing facility, located in Bohemia, New York, is subject to a lease through October 31, 2017, at an average annual rental rate of $134,000. These leases provide for additional payments of real estate taxes and other operating expenses over the base amount in the rental agreement. Other short-term operating leases are included below. All other operating leases are under a month-to-month arrangement. Rent expense, which includes utilities, was $590,000 and $439,000 for fiscal years 2016 and 2015, respectively.

8. Income Taxes

The Company's provision for income taxes in each fiscal year consists of current federal, state, and local minimum taxes.

A reconciliation of the U.S statutory tax rate to the Company's effective tax rate for fiscal years 2016 and 2015 is as follows:

 

The effective tax rate for fiscal year 2016 was 57.6%, as compared to 58.8% in fiscal year 2015. The statutory income tax expense at 34% for fiscal year 2016 was $349,000. This varies from actual income tax expense of $590,000 primarily due to permanent differences of meals and entertainment and ISO stock compensation of $139,000, state income of taxes of $33,000 (net of federal benefit), and a change to the state deferred tax rate of $69,000.

 

F-14

 

PASSUR Aerospace, Inc. and Subsidiary

Notes to Consolidated Financial Statements (continued)

8. Income Taxes (continued)

The tax effect of temporary differences that give rise to deferred tax assets and liabilities as of October 31, 2016 and 2015 is as follows:

 

In accordance with accounting standards, the Company has not recorded a deferred tax asset related to the net operating losses resulting from the exercise of disqualifying stock options in the accompanying financial statements. The cumulative amount of unrecognized tax benefits from the exercise of stock options at October 31, 2016 was approximately $1,485,000, and if the Company is able to utilize this benefit in the future, it would result in a credit to additional paid-in capital.

The income tax expense for fiscal years ended October 31, 2016 and 2015 is as follows:

At October 31, 2016, the Company had available a federal net operating loss carry-forward of $6,341,000 for income tax purposes, which will expire in various tax years from fiscal year 2022 through fiscal year 2033. The Company evaluates whether a valuation allowance related to deferred tax assets is required each reporting period. A valuation allowance is established if, based on the weight of available evidence, it is more likely than not that some portion or all of the deferred income tax asset will not be realized. At October 31, 2015, the Company had available a federal net operating loss carry-forward of $7,847,000 for income tax purposes, which will expire in various tax years from fiscal year 2022 through fiscal year 2033.

At October 31, 2016 and 2015, the Company did not have any uncertain tax positions. As permitted by ASC 740-10, the Company's accounting policy is to prospectively classify accrued interest and penalties related to any unrecognized tax benefits in its income tax provision. The Company's tax return years that are subject to examination by taxing authorities are fiscal years 2013 through 2016.

 

F-15

9. Stock-Based Compensation

In fiscal year 2009, the Company's Board of Directors approved the Company's 2009 stock option plan, which provides for the granting of stock options for up to 500,000 shares of the Company's common stock. During fiscal year 2010, the plan was amended to provide for the granting of another 500,000 stock option shares, for a total provision of 1,000,000 stock option shares of the Company's common stock as of October 31, 2010. During fiscal year 2011, the plan was amended for the granting of another 500,000 stock option shares, for a total provision of 1,500,000 stock option shares of the Company's common stock as of October 31, 2016, and 2015.

The Black-Scholes stock option valuation model was developed for use in estimating the fair value of traded stock options, which have no vesting restrictions and are fully transferable. In addition, stock option valuation models require the input of highly subjective assumptions including expected stock price volatility.

Information with respect to the Company's stock options for fiscal years 2016 and 2015 is as follows:

 

The weighted average grant date fair value of the Company's stock options granted during fiscal years 2016 and 2015 was $3.41 and $3.22, respectively. The total intrinsic value of stock options exercised was $77,000 and $558,000 during fiscal years 2016 and 2015, respectively.

The Company's stock options vest over a period of five years. The fair value for these stock options was estimated at the date of grant using a Black-Scholes stock option pricing model, with the following weighted average assumptions for fiscal years 2016 and 2015:

 

PASSUR Aerospace, Inc. and Subsidiary

Notes to Consolidated Financial Statements (continued)

9. Stock-Based Compensation (continued)

The Company recognized share-based compensation expense for all awards issued under the Company's stock equity plans in the following line items in the consolidated statement of operations:

 

The following table summarizes the plans under which the Company granted equity compensation as of October 31, 2016: 

 

The following table summarizes the Company's equity plans that have expired but that still have equity awards outstanding as of October 31, 2016:

 

All outstanding options granted under the Company's equity plans have terms of ten years. The Company's stock options vest over a period of five years.

There was $1,857,000 of unrecognized stock-based compensation costs expected to be recognized over a weighted average period of 3.9 years as of October 31, 2016. The Company had 708,000 shares in unvested stock-based options as of October 31, 2016.

 

F-17

PASSUR Aerospace, Inc. and Subsidiary

Notes to Consolidated Financial Statements (continued)

10. Major Customers

The Company's principal business is to provide predictive analytics and decision support technology for the aviation industry to primarily improve the operational performance and cash flow of airlines. The Company believes it operates in one operating segment. The Company performs ongoing credit evaluations of its customers and generally does not require collateral. Credit losses historically have been immaterial.

Three customers accounted for 45%, or $6,698,000, of total revenues in fiscal year 2016. One customer accounted for 17% or $2,555,000, a second customer accounted for 17% or $2,460,000, and a third customer accounted for 11% or $1,683,000 of total revenues in fiscal year 2016. One of the Company's customers, who accounted for 11% of total revenues during fiscal year 2016, did not renew a contract that expired on December 31, 2016.  Three customers accounted for 41%, or $5,094,000, of total revenues in fiscal year 2015. One customer accounted for 14% or $1,740,000, a second customer accounted for 13% or $1,692,000, and a third customer accounted for 13% or $1,662,000 of total revenues in fiscal year 2015. As of October 31, 2016, the Company had three customers each of which accounted for 10% or more of the accounts receivable balance. One customer accounted for 30%, or $330,000, a second customer accounted for 19%, or $213,000, and a third customer accounted for 14%, or $157,000. As of October 31, 2015, the Company had two customers each of which accounted for 10% or more of the accounts receivable balance. One customer accounted for 17%, or $215,000, and a second customer accounted for 15%, or $192,000. There were no significant past due accounts receivable balances for any customers as of the fiscal year ended October 31, 2016.

The Company had foreign sales of $220,000 and $162,000 in fiscal years 2016 and 2015, respectively. All sales, including foreign sales, are denominated in U.S. dollars.

 

F-18

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