QUALSTAR CORP - Quarter Report: 2017 September (Form 10-Q)

 

 

 

 

 

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

Form 10-Q

 

 

   

(Mark One)

 

☑

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended September 30, 2017

 

OR

 

☐

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the Transition Period From                   to   

 

Commission file number 001-35810

 

QUALSTAR CORPORATION

(Exact name of registrant as specified in its charter)

 

CALIFORNIA	95-3927330
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer
	Identification No.)

 

130 West Cochran Street, Unit C, Simi Valley, CA 93065

(Address of principal executive offices) (zip code)

(805) 583-7744

(Registrant’s telephone number, including area code)

 

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

 

Indicate by check mark whether the registrant has submitted electronically and posted on its 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 ☑  No☐

 

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

 

Large accelerated filer ☐	Accelerated filer ☐
Non-accelerated filer ☐	Smaller reporting company ☑
(do not check if smaller reporting company)	Emerging growth company ☐

 

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

 

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

 

At November 1, 2017, the issuer had 2,042,019 shares of common stock, no par value, issued and outstanding.

 

 

 

QUALSTAR CORPORATION

FORM 10-Q

FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2017

INDEX

 

 

PART I — FINANCIAL INFORMATION

 

Item 1.	Financial Statements
		●	Condensed Consolidated Balance Sheets — September 30, 2017 (unaudited) and December 31, 2016	1
		●	Unaudited Condensed Consolidated Statements of Operations — Three and Nine months ended September 30, 2017 and 2016	2
		●	Unaudited Condensed Consolidated Statements of Cash Flows — Nine months ended September 30, 2017 and 2016	3
		●	Notes to unaudited Condensed Consolidated Financial Statements	4
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations			15
Item 3.	Qualitative and Quantitative Disclosures About Market Risk			20
Item 4.	Controls and Procedures			20

 

PART II — OTHER INFORMATION
Item 1.	Legal Proceedings	21
Item 1A.	Risk Factors	21
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	21
Item 3.	Defaults Upon Senior Securities	21
Item 4.	Mine Safety Disclosures	21
Item 5.	Other Information	21
Item 6.	Exhibits	22
	Signatures	23

 

 

 

		September 30, 2017				December 31, 2016
		(Unaudited)
Assets
Current assets:
Cash and cash equivalents		$	4,663			$	3,691
Restricted cash			100				100
Accounts receivables, net			1,453				1,583
Inventories, net			1,082				1,360
Prepaid expenses and other current assets			171				166
Total current assets			7,469				6,900
Non-current assets:
Property and equipment, net			172				286
Other assets			70				77
Total assets		$	7,711			$	7,263
Liabilities and Shareholders’ Equity
Current liabilities:
Accounts payable		$	902			$	888
Accrued payroll and related liabilities			206				222
Deferred service revenue, short term			850				787
Other accrued liabilities			378				359
Total current liabilities			2,336				2,256
Long term liabilities:
Other long term liabilities			52				63
Deferred service revenue			102				105
Total long term liabilities			154				168
Total liabilities			2,490				2,424
Shareholders’ equity:
Preferred stock, no par value; 5,000 shares authorized; no shares issued			-				-
Common stock, no par value; 50,000 shares authorized, 2,042 shares issued and outstanding as of September 30, 2017 and December 31, 2016			19,476				19,063
Accumulated deficit			(14,255	)			(14,224	)
Total shareholders’ equity			5,221				4,839
Total liabilities and shareholders’ equity		$	7,711			$	7,263

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		Three Months Ended September 30,								Nine Months Ended September 30,
		2017				2016				2017				2016
Net revenues		$	2,755			$	2,666			$	7,461			$	7,186
Cost of goods sold			1,697				1,905				4,616				5,002
Gross profit			1,058				761				2,845				2,184
Operating expenses:
Engineering			131				232				427				850
Sales and marketing			360				276				886				933
General and administrative			715				306				1,563				1,194
Total operating expenses			1,206				814				2,876				2,977
Loss from operations			(148	)			(53	)			(31	)			(793	)
Other expenses			-				-				-				(10	)
Loss before income taxes			(148	)			(53	)			(31	)			(803	)
Provision for income taxes			-				-				-				-
Net Loss		$	(148	)		$	(53	)		$	(31	)		$	(803	)
Loss per common share:
Basic and diluted		$	(0.07	)		$	(0.03	)		$	(0.02	)		$	(0.39	)
Weighted average common shares outstanding:
Basic and diluted			2,042				2,042				2,042				2,042

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		Nine Months Ended September 30,
		2017				2016
Cash flows from operating activities:
Net loss		$	(31	)		$	(803	)
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
Depreciation and amortization			119				137
Loss on disposal of assets			5				15
Provision for inventory obsolescence			233				424
Recovery of bad debts and returns			(7	)			(23	)
Share based compensation			413				2
Changes in operating assets and liabilities:
Accounts receivable			137				(79	)
Inventories			45				468
Prepaid expenses and other current assets			2				(23	)
Accounts payable			14				(51	)
Accrued payroll and related liabilities			(16	)			(148	)
Deferred service revenue			60				(586	)
Other accrued liabilities			8				382
Total adjustments			1,013				518
Net cash provided by (used in) operating activities		$	982			$	(285	)
Cash flows from investing activities:
Purchases of equipment			(10	)			(27	)
Net cash used in investing activities		$	(10	)		$	(27	)
Net increase (decrease) in cash, restricted cash and cash equivalents		$	972			$	(312	)
Cash, restricted cash and cash equivalents at beginning of period		$	3,791			$	3,963
Cash, restricted cash and cash equivalents at end of period		$	4,763			$	3,651
Supplemental cash flow disclosures:
Income taxes paid		$	3			$	8

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NOTE 1 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

Basis of Presentation

 

The accompanying condensed consolidated balance sheet as of December 31, 2016, has been derived from audited consolidated financial statements. The accompanying unaudited interim condensed consolidated financial statements have been prepared on the same basis as our annual audited consolidated financial statements and in accordance with accounting principles generally accepted in the United States (“GAAP”) for interim financial information and the rules and regulations of the Securities and Exchange Commission (“SEC”) for interim financial statements.

 

Preparing condensed consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses.  Examples include estimates of loss contingencies, product life cycles and inventory obsolescence, bad debts, sales returns, share-based compensation, forfeiture rates, the potential outcome of future tax consequences of events that have been recognized in our financial statements or tax returns, and determining when investment impairments are other-than-temporary.  Actual results and outcomes may differ from management’s estimates and assumptions.

 

On June 5, 2017, a wholly-owned subsidiary of Qualstar Corporation, N2Power, Inc., was created to operate the Company’s internal business unit known as N2Power. The N2Power business unit is reflected in the Company’s SEC filings under the power supplies business segment. Following the establishment of N2Power, Inc., all assets (and liabilities) belonging to this subsidiary have been separated from the assets (and liabilities) of Qualstar.

 

The condensed consolidated financial statements include our accounts and the accounts of each of our wholly owned subsidiaries in Qualstar Corporation Singapore Private Limited and N2Power, Inc. All significant intercompany accounts and transactions have been eliminated in consolidation.

 

Interim results are not necessarily indicative of results for a full year.  The information included in this Form 10-Q should be read in conjunction with information included in the Qualstar Corporation Annual Report on Form 10-K for the year ended December 31, 2016, filed with the SEC on March 16, 2017.

 

 

Revenue Recognition

 

We recognize revenue in accordance with Accounting Standards Codification (“ASC”) 605, “Revenue Recognition,” when there is persuasive evidence that an arrangement exists, title and risk of loss have passed, delivery has occurred or the services have been rendered, the sales price is fixed or determinable and collection of the related receivable is reasonably assured.  Title and risk of loss generally pass to our customers upon shipment.  In limited circumstances where either title or risk of loss pass upon destination or acceptance or when collection is not reasonably assured, we defer revenue recognition until such events occur.

 

Service contracts are sold by Qualstar to customers for a period of time to provide product support after the warranty expires. The service contracts allow customers to call Qualstar for technical support, replace defective parts and to have onsite service provided by Qualstar’s third party contract service provider. The Company records revenues for contract services at the amount of the service contract, but such amount is deferred at the beginning of the service term and amortized ratably over the life of the contract.

 

Deferred service revenue is shown separately in the condensed consolidated balance sheets as current and long term.  At September 30, 2017, we had deferred service revenue of approximately $952,000.  At December 31, 2016, we had deferred service revenue of approximately $892,000.

 

 

 QUALSTAR CORPORATION AND SUBSIDIARIES

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-(Continued)

 

 

Allowance for Doubtful Accounts

 

We estimate our allowance for doubtful accounts based on an assessment of the collectability of specific accounts and the overall condition of accounts receivable. In evaluating the adequacy of the allowance for doubtful accounts, specific trade receivables, historical bad debts, customer credits, customer credit-worthiness and changes in customers’ payment terms and patterns are analyzed. If the financial condition of our customers were to deteriorate, resulting in an impairment of their ability to make additional payments, then additional allowances may be needed. Likewise, if it is determined that more of our receivables may be realized in the future than previously estimated, we would adjust the allowance to increase income in the period of this determination.

 

Inventory Valuation

 

We record inventories at the lower of cost (first-in, first-out basis) or market value. We assess the value of our inventories periodically based upon numerous factors including expected product or material demand, current market conditions, technological obsolescence, current cost and net realizable value. If necessary, we write down our inventory for estimated obsolescence, potential shrinkage, or unmarketable inventory equal to the difference between the cost of inventory and the estimated market value based upon assumptions about future demand and market conditions. If technology changes more rapidly than expected, or market conditions become less favorable than those projected by management, additional inventory write-downs may be required.

 

Warranty Obligations

 

We provide for the estimated cost of product warranties at the time the related revenue is recognized. We engage in extensive product quality programs and processes, including active monitoring and evaluation of product failure rates, material usage and estimation of service delivery costs incurred in correcting a product failure. However, should actual product failure rates, material usage, or service delivery costs differ from our estimates, then revisions to the estimated warranty liability would be required. Historically, our warranty costs have not been significant.

 

Legal and Other Contingencies

 

The outcomes of legal proceedings and claims brought against us are subject to significant uncertainty. An estimated loss from a loss contingency such as a legal proceeding or claim is accrued by a charge to income if it is probable that a liability has been incurred and the amount of the loss can be reasonably estimated. When legal costs that the entity expects to incur in defending itself in connection with a loss contingency accrual are expected to be material, the loss should factor in all costs and, if the legal costs are reasonably estimable, they should be accrued in accordance with ASC 450, regardless of whether a liability can be estimated for the contingency itself. Disclosure of a contingency is required if there is at least a reasonable possibility that a loss has been incurred. Changes in these factors could materially impact our condensed consolidated financial statements.

 

Reclassifications

 

Certain prior period amounts have been reclassified to conform to the current period presentation, with no changes to previously reported stockholders equity or net income (loss).

 

Fair Value of Financial Instruments

 

We measure fair value on all financial assets and liabilities and nonfinancial assets and liabilities that are recognized or disclosed at fair value in the condensed consolidated financial statements on a recurring basis (at least quarterly).

 

 

 QUALSTAR CORPORATION AND SUBSIDIARIES

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-(Continued)

 

 

Share-Based Compensation

 

Share-based compensation is accounted for in accordance with ASC 718, “Compensation – Stock Compensation.” The Black-Scholes option-pricing model is used to determine fair value of the award at the date of grant and recognize compensation expense over the vesting period. The inputs for the model require the use of judgment, estimates and assumptions regarding the expected volatility of the stock, the expected term the average employee will hold the option prior to the date of exercise, expected future dividends, and the amount of share-based awards that are expected to be forfeited. Changes in these inputs and assumptions could occur and actual results could differ from these estimates, and our results of operations could be impacted.

 

Accounting for Income Taxes

 

We estimate our tax liabilities based on current tax laws in the statutory jurisdictions in which we operate in accordance with ASC 740, “Income Taxes.” These estimates include judgments about deferred tax assets and liabilities resulting from temporary differences between assets and liabilities recognized for financial reporting purposes and such amounts recognized for tax purposes, as well as about the realization of deferred tax assets.  We may recognize the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained upon examination by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the financial statements from such a position should be measured based on the largest benefit that has a greater than 50% likelihood of being realized upon ultimate settlement. ASC 740 also provides guidance on derecognition of income tax assets and liabilities, classification of current and deferred income tax assets and liabilities, accounting for interest and penalties associated with tax positions, and income tax disclosures.

 

We maintain a valuation allowance to reduce our deferred tax assets due to the uncertainty surrounding the timing of realizing the benefits of net deferred tax assets in future years. We have considered future taxable income and ongoing prudent and feasible tax planning strategies in assessing the need for such a valuation allowance. In the event we were to determine that we would be able to realize all or part of our net deferred tax asset in the future, the valuation allowance would be decreased accordingly.

 

We may periodically undergo examinations by the federal and state regulatory authorities and the Internal Revenue Service. We may be assessed additional taxes and/or penalties contingent on the outcome of these examinations. Our previous examinations have not resulted in any unfavorable or significant assessments.

 

NOTE 2 – RECENT ACCOUNTING PRONOUNCEMENTS

 

Recent accounting guidance not yet adopted

 

In May 2014, the FASB issued ASU 2014-09 to clarify the principles for recognizing revenue and to develop a common revenue standard that will remove inconsistencies and weaknesses in revenue requirements, provide a more robust framework for addressing revenue issues, improve comparability of revenue recognition practices across entities, industries, jurisdictions, and capital markets, provide more useful information to users of financial statements through improved disclosure requirements, and simplify the preparation of financial statements by reducing the number of requirements to which an entity must refer. In August 2015, the FASB issued ASU 2015-14 as an update of ASU 2014-09. The purpose is to allow more time to implement the guidance in Update 2014-09. This Update defers the effective date of Update 2014-09 to annual reporting periods beginning after December 15, 2017. We are evaluating the impact Update 2014-09 may have on our condensed consolidated financial statements.

 

 

 QUALSTAR CORPORATION AND SUBSIDIARIES

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-(Continued)

 

In February 2016, the FASB issued ASU 2016-02 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. For related party leases, the basis will be the legally enforceable terms and conditions of the arrangement. This standard is effective for fiscal years beginning after December 15, 2018. We are evaluating the impact ASU 2016-02 may have on our condensed consolidated financial statements.

 

In August 2016, the FASB issued ASU 2016-15 to reduce the existing diversity in practice in how certain cash receipts and cash payments are presented and classified in the statement of cash flows. This standard is effective for fiscal years beginning after December 15, 2017, and is not expected to materially impact our condensed consolidated financial statements.

 

In October 2016, the FASB issued ASU 2016-16 to improve the accounting for the income tax consequences of intra-entity transfers of assets other than inventory. This standard is effective for fiscal years beginning after December 15, 2017, and is not expected to materially impact our consolidated financial statements.

 

In January 2017, the FASB issued ASU 2017-01 clarifying the definition of a business and adding guidance to evaluate whether transactions should be accounted for as acquisitions or disposals of assets or businesses. This standard is effective for fiscal years beginning after December 15, 2017, and is not expected to materially impact our consolidated financial statements.

 

In May 2017, the FASB issued ASU 2017-09 to provide clarity and reduce both diversity in practice and cost and complexity, when applying the guidance for stock compensation, to a change to the terms or conditions of a share-based payment award. This standard is effective for fiscal years beginning after December 15, 2017, and is not expected to materially impact our consolidated financial statements.

 

NOTE 3 – SIGNIFICANT CUSTOMERS, CONCENTRATION OF CREDIT RISK, AND GEOGRAPHIC INFORMATION

 

We have no outstanding debt nor do we utilize auction rate securities or derivative financial instruments in our investment portfolio. Cash and other investments may be in excess of FDIC insurance limits.

 

Our financial results could be affected by changes in foreign currency exchange rates or weak economic conditions in foreign markets. As all sales are currently made in U.S. dollars, a strengthening of the dollar could make our products less competitive in foreign markets.

 

 

One customer accounted for 14.6% of the Company’s net revenue for the three months ended September 30, 2017.   One customer accounted for 12.3% of the Company’s net revenue for the three months ended September 30, 2016.

 

One customer accounted for 15.0% of the Company’s net revenue for the nine months ended September 30, 2017.  The customer’s accounts receivable balance totaled 9.3% of net accounts receivable as of December 31, 2016.  One customer accounted for 10.7% of the Company’s net revenue for the nine months ended September 30, 2016.

 

 

 QUALSTAR CORPORATION AND SUBSIDIARIES

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-(Continued)

 

NOTE 4 – NET EARNINGS PER SHARE

 

Basic net earnings per share has been computed by dividing net income or loss by the weighted average number of common shares outstanding.   Diluted net earnings per share has been computed by dividing net earnings by the weighted average common shares outstanding plus dilutive securities or other contracts to issue common stock as if these securities were exercised or converted to common stock.

 

The following table sets forth the computation of basic and diluted net income or loss per share for the periods indicated, in thousands, except per share amounts.

 

 

For the three and nine months ended September 30, 2017 and 2016, 188,633 and 23,333 outstanding stock options, respectively, were excluded from the calculation of diluted net income per share as their inclusion would have been anti-dilutive.

 

NOTE 5 - BALANCE SHEET DETAILS

 

The following tables provide details of selected balance sheet accounts (in thousands):

 

Inventories

Inventories are stated at the lower of cost (first-in, first-out basis) or market. Inventories are comprised as follows (in thousands):

 

 

 

 QUALSTAR CORPORATION AND SUBSIDIARIES

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-(Continued)

 

 

Property and equipment, net

The components of property and equipment are as follows (in thousands):

 

 

Depreciation and amortization expense for the three months ended September 30, 2017 and 2016 was $36,000 and $44,000 (unaudited), respectively, and for the nine months ended September 30, 2017 and 2016 was $119,000 and $137,000 (unaudited), respectively.

 

Other Accrued Liabilities

The components of other liabilities are as follows (in thousands):

 

 

 

NOTE 6 –CONTINGENCIES

 

Accrued Warranty

 

We provide for the estimated costs of hardware warranties at the time the related revenue is recognized. We estimate the costs based on historical and projected product failure rates, historical and projected repair costs, and knowledge of specific product failures (if any). The specific hardware warranty terms and conditions for tape libraries generally include parts and labor over a three-year period. The warranty for power supplies is generally three years. We regularly re-evaluate our estimates to assess the adequacy of the recorded warranty liabilities and adjust the amounts as necessary.

 

Activity in the liability for product warranty, which is included in other accrued liabilities in the condensed consolidated balance sheets for the periods presented, is as follows (in thousands):

 

 

 

 QUALSTAR CORPORATION AND SUBSIDIARIES

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-(Continued)

 

NOTE 7 –COMMITMENTS

 

Lease Agreements

 

Qualstar’s lease agreement for its 15,160 square foot facility located in Simi Valley, California, expires February 28, 2018. On August 23, 2017, Qualstar exercised the option to extend the lease term for an additional three years expiring February 28, 2021. Rent on this facility is $11,000 per month with a step-up of 3% annually. Qualstar subleases a portion of the warehouse space to Interlink Electronics, Inc. (Interlink) and is reimbursed for the space and other related expenses on a monthly basis. As described in Note 13, Interlink is a related party.

 

Qualstar also leases approximately 5,400 square feet of office space in Westlake Village, California. Our lease on this facility expires on January 31, 2020.  Rent on this facility is $11,000 per month, with a step-up of 3% annually. On March 21, 2016, we signed a sublease agreement for the Westlake Village facility. The tenant pays Qualstar $12,000 per month with a step-up of 3% annually.

 

Effective April 1, 2016, a two year lease was signed for 1,359 square feet for $2,200 per month in Singapore, which expires on September 30, 2018.

 

The Company provides for rent expense on a straight-line basis over the lease terms.

 

Future minimum lease payments under these leases are as follows, in thousands, (unaudited):

 

 

Net rent expense for the three months ended September 30, 2017 and 2016 was $36,000 and $48,000, respectively and for the nine months ended September 30, 2017 and 2016 was $107,000 and $148,000, respectively.

 

NOTE 8 –STOCK INCENTIVE PLANS AND SHARE-BASED COMPENSATION

 

Share-Based Compensation

 

Share-based compensation expense associated with outstanding stock options during the three months ended September 30, 2017 was $413,000. During the three months ended September 30, 2016, the Company did not incur any share based compensation expenses. Share-based compensation expense for the nine months ended September 30, 2017 and 2016 was $413,000 and $2,000, respectively. No income tax benefit was recognized in the statements of comprehensive loss for share-based arrangements in any period presented.

 

 

 QUALSTAR CORPORATION AND SUBSIDIARIES

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-(Continued)

 

 

Stock Option Plan

 

The Company has three share-based compensation plans as described below.

 

Qualstar adopted the 1998 Stock Incentive Plan, (the “1998 Plan”) under which incentive and nonqualified stock options and restricted stock could be granted for shares of common stock. The 1998 Plan expired in 2008 and no additional options may be granted under that plan. However, 3,333 options that were previously granted under the 1998 Plan will continue under their terms.

 

Qualstar adopted the 2008 Stock Incentive Plan (the “2008 Plan”) under which incentive and nonqualified stock options and restricted stock may be granted for shares of common stock. The 2008 Plan expires in 2018 and no additional options may be granted under that plan. However, 20,000 options that were previously granted under the 2008 Plan will continue under their terms.

 

The 2017 Stock Incentive Plan (the “2017 Plan”) was approved by Qualstar shareholders on June 13, 2017. The 2017 Plan, permits the award of stock options (both incentive and non-qualified options), stock appreciation rights, restricted stock, restricted stock units, unrestricted stock, performance shares, dividend equivalent rights and cash-based awards to employees (including executive officers), directors and consultants of the Company and its subsidiaries. The 2017 Plan authorizes the issuance of an aggregate of 200,000 shares of common stock and the plan is administered by the Compensation Committee of the Company’s Board of Directors.

 

With respect to options, the fair value of each option award is estimated on the date of grant using the Black-Scholes option valuation model that uses the assumptions, such as volatility, expected term and risk-free interest rate. Expected volatilities are based on the historical volatility of the Company’s stock. The Company uses historical data to estimate option exercise and employee termination in determining forfeiture rates. The expected term of options granted is estimated based on the vesting term of the award, historical employee exercise behavior, expected volatility of the Company’s stock and an employee’s average length of service. The risk-free interest rate used in this model correlates to a U.S. constant rate Treasury security with a contractual life that approximates the expected term of the option award.

 

 

 

 

 

The following table summarizes stock option activity; the amounts shown have been retrospectively restated for the one-for-six reverse stock split, effective June 14, 2016:

 

 

 

NOTE 9 - STOCKHOLDERS’ EQUITY

 

On June 14, 2016, upon receiving approval from the majority of the Company’s shareholders at the 2016 Annual Meeting, the Company implemented a one-for-six reverse stock split (the “Reverse Split”) of all outstanding shares of common stock, effective as of the close of business on June 14, 2016. The reverse split decreased the number of outstanding shares of common stock from 12,253,117 to approximately 2,042,020. The Company’s authorized number of shares of common stock remains at 50,000,000 and the authorized number of shares of preferred stock of the Company remains at 5,000,000. All share amounts in these financial statements reflect the Reverse Split of our issued and outstanding common stock, retroactively.

 

NOTE 10 – LEGAL PROCEEDINGS

 

The Company is subject to a variety of claims and legal proceedings that arise from time to time in the ordinary course of our business. Although management currently believes that resolving claims against us, individually or in the aggregate, will not have a material adverse impact on our condensed consolidated financial statements, these matters are subject to inherent uncertainties and management’s view of these matters may change in the future. We accrue loss contingencies in connection with our commitments and contingencies, including litigation, when it is probable that a loss has occurred and the amount of the loss can be reasonably estimated. As of September 30, 2017, we had accrued aggregate current liabilities of $39,000 in probable fees and costs related to legal matters.

 

NOTE 11 – INCOME TAXES

 

We did not record a provision or benefit for income taxes for either the three or nine months ended September 30, 2017 or September 30, 2016, due to our prior year operating losses.   The Company has recorded a full valuation allowance against its net deferred tax assets based on the Company’s assessment regarding the realizable nature of these net deferred tax assets in future periods.

 

NOTE 12 – SEGMENT INFORMATION

 

In its operation of the business, management reviews certain financial information, including segmented internal profit and loss statements prepared on a basis consistent with U.S. GAAP. Our two segments are Power Supplies and Data Storage. The two segments discussed in this analysis are presented in the way we internally manage and monitor performance for the three and nine months ended September 30, 2017 and 2016. Allocations for internal resources were made to the business segments for the three and nine months ended September 30, 2017 and 2016. The power supplies segment tracks certain assets separately, and all others are recorded in the storage segment for internal reporting presentations.  The types of products and services provided by each segment are summarized below:

 

 

 

 

 

Power Supplies — The Company designs and markets high-efficiency switching power supplies. We utilize contract manufacturers in Asia to produce the power supply products. These power supplies are used to convert AC line voltage to DC voltages, or DC voltages to other DC voltages for use in a wide variety of electronic equipment such as communications equipment, industrial machine tools, wireless systems, as well as medical and gaming devices. We sell our products globally through authorized resellers and directly to original equipment manufacturers (“OEMs”).

 

Storage — The data storage industry is experiencing a tremendous increase in newly generated digital data due to Rich Media Content, Internet of Things, Data Mining and the Cloud. Tape based storage solution providers enable businesses to manage the massive growth of digital data assets in a cost-effective manner. For over 30 years, Qualstar’s innovations and customer-oriented focus has led to products that solved our customer’s needs for simplicity, scalability, reliability and affordable solutions. Our tape based data storage product lines address long-term archive, backup and recovery of electronic data. These products consist of networked libraries that store and move high density tape cartridges and high speed tape drives that stream data to and from the tape cartridges. These optimized solutions allow the video centric markets such as media and entertainment, oil and gas, surveillance, digital security and medical imaging to achieve targeted data workflows.

 

Segment revenue, income (loss) before taxes and total assets were as follows (in thousands):

 

 

 

 

 QUALSTAR CORPORATION AND SUBSIDIARIES

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-(Continued)

 

 

 

 

NOTE 13 – RELATED PARTY TRANSACTIONS

 

Steven N. Bronson is the Company’s CEO and is also the President and CEO and a majority shareholder of Interlink Electronics, Inc. (“Interlink”). Interlink reimburses Qualstar for leased space at the Simi Valley facility and for other administrative expenses paid by or on behalf of the Company. The total amount charged to Interlink for the three months ended September 30, 2017 and 2016 was $3,000 and $10,000, respectively. The total amount charged to Interlink for the nine months ended September 30, 2017 and 2016 was $8,000 and $30,000, respectively. Interlink owed Qualstar $1,000 and $1,000 at September 30, 2017 and December 31, 2016, respectively.

 

The Company reimburses Interlink for expenses paid on the Company’s behalf. Interlink occasionally pays travel and other expenses incurred by Qualstar. The Company reimbursed Interlink $1,000 and $4,000 for the three months ended September 30, 2017 and 2016, respectively. The Company reimbursed Interlink $8,000 and $11,000 for the nine months ended September 30, 2017 and 2016, respectively. Qualstar did not have a balance due to Interlink at September 30, 2017. At December 31, 2016, Qualstar owed Interlink $2,000.

 

NOTE 14 – SUBSEQUENT EVENTS

 

None

 

 

 

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