YUNHONG GREEN CTI LTD. - Quarter Report: 2018 September (Form 10-Q)

 

 

Table of Contents

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, 2018
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

000-23115

CTI INDUSTRIES CORPORATION

(Exact name of Registrant as specified in its charter)

 

Illinois		36-2848943
(State or other jurisdiction of		(I.R.S. Employer Identification Number)
incorporation or organization)
22160 N. Pepper Road
Lake Barrington, Illinois		60010
(Address of principal executive offices)		(Zip Code)

 

(847) 382-1000

(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 corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ☑     No ☐

 

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

 

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

 

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

   

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

 

The number of shares outstanding of the Registrant’s common stock as of November 1, 2018 was 3,530,227.

 

 

 

INDEX

 

Part I – Financial Information
Item No. 1.	Financial Statements
	Condensed Consolidated Balance Sheets at September 30, 2018 (unaudited) and December 31, 2017	1
	Condensed Consolidated Statements of Comprehensive Income (unaudited) for the three and nine months ended September 30, 2018 and September 30, 2017	2
	Condensed Consolidated Statements of Cash Flows (unaudited) for the nine months ended September 30, 2018 and September 30, 2017	3
	Notes to Condensed Consolidated Financial Statements (unaudited)	4
Item No. 2	Management’s Discussion and Analysis of Financial Condition and Results of Operations	14
Item No. 3	Quantitative and Qualitative Disclosures Regarding Market Risk	19
Item No. 4	Controls and Procedures	19
Part II – Other Information
Item No. 1	Legal Proceedings	19
Item No. 1A	Risk Factors	20
Item No. 2	Unregistered Sales of Equity Securities and Use of Proceeds	20
Item No. 3	Defaults Upon Senior Securities	20
Item No. 4	Submission of Matters to a Vote of Security Holders	20
Item No. 5	Other Information	20
Item No. 6	Exhibits	21
	Signatures
	Exhibit 31.1
	Exhibit 31.2
	Exhibit 32

 

 

 

		September 30, 2018				December 31, 2017
		(unaudited)
ASSETS
Current assets:
Cash and cash equivalents (VIE $2,000 and $2,000, respectively)		$	273,839			$	181,026
Accounts receivable, (less allowance for doubtful accounts of $76,000 and $114,000, respectively)			9,676,660				11,235,834
Inventories, net (VIE $459,000 and $498,000, respectively)			19,831,819				18,865,932
Prepaid expenses (VIE $162,000 and $80,000, respectively)			1,458,860				887,885
Other current assets			1,397,204				1,120,808
Total current assets			32,638,382				32,291,485
Property, plant and equipment:
Machinery and equipment			23,582,048				23,439,781
Building			3,367,082				3,367,082
Office furniture and equipment (VIE $303,000 and $268,000, respectively)			2,662,556				2,591,159
Intellectual property			752,044				752,044
Land			250,000				250,000
Leasehold improvements			410,683				402,963
Fixtures and equipment at customer locations			518,450				518,450
Projects under construction			360,827				121,241
			31,903,690				31,442,720
Less : accumulated depreciation and amortization (VIE $91,000 and $36,000, respectively)			(27,925,082	)			(26,886,139	)
Total property, plant and equipment, net			3,978,608				4,556,581
Other assets:
Goodwill (VIE $440,000 and $440,000, respectively)			1,473,176				1,473,176
Net deferred income tax asset (VIE $105,000 and $52,000, respectively)			1,431,634				1,102,467
Other assets			537,806				560,329
Total other assets			3,442,616				3,135,972
TOTAL ASSETS		$	40,059,606			$	39,984,038
LIABILITIES AND EQUITY
Current liabilities:
Checks written in excess of bank balance (VIE $11,000 and $16,000, respectively)		$	604,297			$	454,850
Trade payables (VIE $258,000 and $144,000, respectively)			5,925,071				5,414,497
Line of credit (VIE $285,000 and $338,000, respectively)			14,616,666				13,783,930
Notes payable - current portion			4,867,924				942,533
Notes payable affiliates - current portion			11,028				9,615
Capital Lease - current portion			-				7,562
Accrued liabilities (VIE $91,000 and $92,000, respectively)			2,116,742				2,047,893
Total current liabilities			28,141,728				22,660,880
Long-term liabilities:
Notes payable - affiliates			192,737				212,545
Notes payable, net of current portion (VIE $38,000 and $83,000, respectively)			356,356				4,951,581
Notes payable - officers, subordinated			1,573,302				1,507,362
Deferred gain (non current)			133,447				207,410
Deferred income tax liability			-				-
Total long-term debt, net of current portion			2,255,842				6,878,898
Total long-term liabilities			2,255,842				6,878,898
Equity:
CTI Industries Corporation stockholders' equity:
Preferred Stock -- no par value, 3,000,000 shares authorized, 0 shares issued and outstanding			-				-
Common stock - no par value, 15,000,000 shares authorized, 3,573,885 shares issued and 3,530,227 shares outstanding			13,898,494				13,898,494
Paid-in-capital			2,410,711				2,271,261
Accumulated earnings			(51,877	)			720,223
Accumulated other comprehensive loss			(5,475,969	)			(5,365,364	)
Less: Treasury stock, 43,658 shares			(160,784	)			(160,784	)
Total CTI Industries Corporation stockholders' equity			10,620,575				11,363,830
Noncontrolling interest			(958,539	)			(919,570	)
Total Equity			9,662,036				10,444,260
TOTAL LIABILITIES AND EQUITY		$	40,059,606			$	39,984,038

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		For the Three Months Ended September 30,								For the Nine Months Ended September 30,
		2018				2017				2018				2017
Net Sales		$	11,525,469			$	13,225,954			$	41,489,372			$	41,397,288
Cost of Sales			9,336,935				10,039,044				32,636,925				31,475,520
Gross profit			2,188,534				3,186,910				8,852,447				9,921,768
Operating expenses:
General and administrative			1,509,804				1,923,315				5,074,340				5,691,186
Selling			728,303				861,856				2,545,635				2,771,150
Advertising and marketing			302,985				454,927				931,475				1,548,709
Gain on sale of assets			(24,061	)			(27,426	)			(71,474	)			(119,127	)
Other operating income							-								(1,416	)
Total operating expenses			2,517,031				3,212,672				8,479,976				9,890,502
(Loss) Income from operations			(328,497	)			(25,762	)			372,471				31,266
Other (expense) income:
Interest expense			(471,268	)			(367,391	)			(1,586,108	)			(1,100,038	)
Interest income			5,423								16,467
Change in fair value of warrants							(3,809	)							19,999
Foreign currency loss			35,528				(11,430	)			53,311				(92,382	)
Total other expense, net			(430,317	)			(382,630	)			(1,516,330	)			(1,172,421	)
Net (loss) before taxes			(758,814	)			(408,392	)			(1,143,859	)			(1,141,155	)
Income tax expense			(212,589	)			(125,678	)			(332,791	)			(313,151	)
Net (loss)			(546,225	)			(282,714	)			(811,068	)			(828,004	)
Less: Net (loss) income attributable to noncontrolling interest			13,072				(8,014	)			(38,968	)			(85,645	)
Net loss attributable to CTI Industries Corporation		$	(559,297	)		$	(274,700	)		$	(772,100	)		$	(742,359	)
Other Comprehensive Income (Loss)
Foreign currency adjustment			231,827				(260,469	)			(110,605	)			492,900
Comprehensive Income (Loss)		$	(327,470	)		$	(535,169	)		$	(882,705	)		$	(249,459	)
Basic loss per common share		$	(0.16	)		$	(0.08	)		$	(0.22	)		$	(0.20	)
Diluted loss per common share		$	(0.16	)		$	(0.08	)		$	(0.22	)		$	(0.20	)
Weighted average number of shares and equivalent shares of common stock outstanding:
Basic			3,530,227				3,641,439				3,530,227				3,641,439
Diluted			3,530,227				3,641,439				3,530,227				3,789,081

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		For the Nine Months Ended September 30,
		2018				2017
Cash flows from operating activities:
Net (loss) income		$	(811,068	)		$	(828,004	)
Depreciation and amortization			981,449				1,163,736
Amortization of debt discount			-				112,622
Change in fair value of warrants			-				(19,999	)
Stock based compensation			139,450				-
Amortization of deferred gain on sale/leaseback			(83,394	)			(84,759	)
Provision for losses on accounts receivable			(40,924	)			(20,882	)
Provision for losses on inventories			14,250				94,518
Deferred income taxes			(347,725	)			(409,621	)
Change in assets and liabilities:
Accounts receivable			1,717,018				5,864,010
Inventories			(819,293	)			(324,813	)
Prepaid expenses and other assets			(776,294	)			16,362
Trade payables			385,715				(60,770	)
Accrued liabilities			(267,938	)			(272,183	)
Net cash provided by operating activities		$	91,246			$	5,230,217
Cash flows from investing activities:
Purchases of property, plant and equipment			(323,785	)			(735,567	)
Net cash used in investing activities		$	(323,785	)		$	(735,567	)
Cash flows from financing activities:
Change in checks written in excess of bank balance			149,447				(1,170,599	)
Net change in revolving line of credit			821,390				(2,758,809	)
Repayment of long-term debt (related parties $17,000 and $0)			(697,040	)			(466,638	)
Cash paid for deferred financing fees			(32,805	)			(20,298	)
Net cash (used in) provided by financing activities		$	240,992			$	(4,416,344	)
Effect of exchange rate changes on cash			84,360				(316,637	)
Net increase (decrease) in cash and cash equivalents			92,813				(238,331	)
Cash and cash equivalents at beginning of period			181,026				563,043
Cash and cash equivalents at end of period		$	273,839			$	324,712
Supplemental disclosure of cash flow information:
Cash payments for interest			1,381,149				934,057
Cash payments for taxes			-				300,000
Supplemental Disclosure of non-cash investing and financing activity
Exchange of Note Payable for Warrants							797,881
Property, Plant & Equipment acquisitions funded by liabilities		$	39,319			$	19,580

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Note 1 - Basis of Presentation

 

The accompanying condensed (a) consolidated balance sheet as of December 31, 2017, which has been derived from audited consolidated financial statements, and (b) the unaudited interim condensed consolidated financial statements have been prepared and, in the opinion of management, contain all the adjustments (consisting of those of a normal recurring nature) considered necessary to present fairly the consolidated financial position and the consolidated statements of comprehensive income and consolidated cash flows for the periods presented in conformity with generally accepted accounting principles for interim consolidated financial information and the instructions to Form 10-Q and Article 8 of Regulation S-X. Accordingly, they do not include all the information and footnotes required by accounting principles generally accepted in the United States of America. Operating results for the three months ended September 30, 2018 are not necessarily indicative of the results that may be expected for the fiscal year ending December 31, 2018. It is suggested that these condensed consolidated financial statements be read in conjunction with the consolidated financial statements and notes thereto included in the Company's annual report on Form 10-K for the fiscal year ended December 31, 2017.

 

Principles of consolidation and nature of operations:

 

The condensed consolidated financial statements include the accounts of CTI Industries Corporation and its wholly-owned subsidiaries, CTI Balloons Limited and CTI Supply, Inc., its majority-owned subsidiaries, Flexo Universal, S. de R.L. de C.V. and CTI Europe gmbH, as well as the accounts of Venture Leasing S. A. de R. L., Venture Leasing L.L.C and Clever Container Company, L.L.C. (the “Company”). The last three entities have been consolidated as variable interest entities. All significant intercompany transactions and accounts have been eliminated in consolidation. The Company (i) designs, manufactures and distributes balloon and related novelty (candy and party related) products throughout the world, (ii) operates systems for the production, lamination, coating and printing of films used for food packaging and other commercial uses and for conversion of films to flexible packaging containers and other products, and (iii) distributes vacuum sealing products and home organization products in the United States.

 

Variable Interest Entities (“VIE’s”):

 

The determination of whether or not to consolidate a variable interest entity under U.S. GAAP requires a significant amount of judgment concerning the degree of control over an entity by its holders of variable interest. To make these judgments, management has conducted an analysis of the relationship of the holders of variable interest to each other, the design of the entity, the expected operations of the entity, which holder of variable interests is most “closely associated” to the entity and which holder of variable interests is the primary beneficiary required to consolidate the entity. Upon the occurrence of certain events, management reviews and reconsiders its previous conclusion regarding the status of an entity as a variable interest entity. There are three entities that have been consolidated as variable interest entities.

 

 

Use of estimates:

 

In preparing condensed consolidated financial statements in conformity with accounting principles generally accepted in the United States of America, management makes estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements and the reported amount of revenue and expenses during the reporting period in the condensed consolidated financial statements and accompanying notes. Actual results may differ from those estimates. The Company’s significant estimates include reserves for doubtful accounts, reserves for the lower of cost or market of inventory, reserves for deferred tax assets and recovery value of goodwill.

 

Earnings per share:

 

Basic earnings per share is computed by dividing net income by the weighted average number of shares of common stock outstanding during each period.

 

Diluted earnings per share is computed by dividing the net income by the weighted average number of shares of common stock and equivalents (stock options and warrants), unless anti-dilutive, during each period.

 

As of September 30, 2018 and 2017, shares to be issued upon the exercise of options and warrants aggregated 471,000 and 205,000, respectively.  The number of shares included in the determination of earnings on a diluted basis for the three months ended September 30, 2018 and 2017 were 25,000 and 282,000, respectively.  For the nine months ended September 30, 2018 and 2017, the same share disclosure was 25,000 and 178,000, respectively. 

 

Significant Accounting Policies:

 

The Company’s significant accounting policies are summarized in Note 2 of the Company’s consolidated financial statements for the year ended December 31, 2017. There were no significant changes to these accounting policies during the three or nine months ended September 30, 2018, respectively, except for the adoption of Accounting Standards Codification (ASC) Topic 606, Revenue from Contracts with Customers. On January 1, 2018, we adopted ASC 606 using the modified retrospective method. The adoption of ASC 606 did not have a material impact on our consolidated financial position or results of operations, as our revenue arrangements generally consist of a single performance obligation to transfer promised goods at a fixed price.

 

Net sales include revenues from sales of products and shipping and handling charges, net of estimates for product returns. Revenue is measured at the amount of consideration the Company expects to receive in exchange for the transferred products. Revenue is recognized at the point in time when we transfer the promised products to the customer and the customer obtains control over the products. The Company recognizes revenue for shipping and handling charges at the time the goods are shipped to the customer, and the costs of outbound freight are included in cost of sales, as we have elected the practical expedient included in ASC 606.

 

 

The Company provides for product returns based on historical return rates. While we incur costs for sales commissions to our sales employees and outside agents, we recognize commission costs concurrent with the related revenue, as the amortization period is less than one year and we have elected the practical expedient included in ASC 606. We do not incur incremental costs to obtain contracts with our customers. Our product warranties are assurance-type warranties, which promise the customer that the products are as specified in the contract. Therefore, the product warranties are not a separate performance obligation and are accounted for as described herein. Sales taxes assessed by governmental authorities are accounted for on a net basis and are excluded from net sales.

 

Recent Accounting Pronouncements: 

 

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842), aimed at making leasing activities more transparent and comparable. The new standard requires substantially all leases be recognized by lessees on their balance sheet as a right-of-use asset and corresponding lease liability, including today’s operating leases. For public business entities, the standard is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. For all other entities, the standard is effective for fiscal years beginning after December 15, 2019, and interim periods within fiscal years beginning after December 15, 2020. Early application is permitted for all entities. While we are currently evaluating the potential impact of this new standard, we expect that our property, plant and equipment will increase significantly due to the addition of assets currently under lease, and the lease liabilities will correspondingly increase.

 

 

 

Note 2 - Debt

 

Until December 2017, we had in place a series of credit facility and related agreements with BMO Harris Bank, N.A. and BMO Private Equity (U.S.), (collectively, “BMO”), in the aggregate amount of approximately $17 million. During December 2017, we terminated those agreements and fully repaid all amounts owed BMO under those agreements, including associated fees and costs related to termination, as we entered in new financing agreements with PNC Bank, National Association (“PNC”). The “PNC Agreements” include a $6 million term loan and an $18 million revolving credit facility, with a termination date of December 2022.

 

Available credit under the Revolving Credit facility is determined by eligible receivables and inventory at CTI Industries (U.S.) and Flexo Universal (Mexico). We notified PNC of our failure to meet two financial covenants as of March 31, 2018. On June 8, 2018, we entered into Waiver and Amendment No. 1 (the “Amendment 1”) to our PNC Agreements. The Amendment modified certain covenants, added others, waived our failure to comply as previously reported, and included an amendment fee and temporary increase in interest rate. During September 2018, we filed a preliminary prospectus on Form S-1 for a planned equity issuance. On October 8, 2018, we entered into Consent and Amendment No. 2 (the “Amendment 2”) to our PNC Agreements. Amendment 2 reduced the amount of new funding proceeds that must be used to repay the term loan from $5 million to $2 million and waived the calculation of financial ratios for the period ended September 30, 2018, in exchange for a new covenant committing to raise at least $7.5 million in gross proceeds from our equity issuance by November 15, 2018 and pay an amendment fee. As of the date of this filing market conditions have forced us to postpone the offering, and thus any ultimate proceeds would occur after November 15, 2018. We intend to engage our bank to resolve this impending failure to meet our amended covenant. As we expect to be out of compliance with this requirement, we have reclassified long-term bank debt to current liabilities on our balance sheet. See Note 3 for a related discussion of the impact of this event.

 

 

Certain terms of the PNC Agreements, as amended, include:

 

●

Restrictive Covenants: The Credit Agreement includes several restrictive covenants under which we are prohibited from, or restricted in our ability to:

o

Borrow money;

o

Pay dividends and make distributions;

o

Make certain investments;

o

Use assets as security in other transactions;

o

Create liens;

o

Enter into affiliate transactions;

o

Merge or consolidate; or

o

Transfer and sell assets.

 

●

Financial Covenants: The Credit Agreement, as amended, includes a series of financial covenants we are required to meet including:

o

We are required to maintain a "Leverage Ratio", which is defined as the ratio of (a) Funded Debt (other than the Shareholder Subordinated Loan) as of such date of determination to (b) EBITDA (as defined in the PNC Agreements, as amended) for the applicable period then ended. The highest values for this ratio allowed by the PNC Agreements are:

 

 

o

We are required to maintain a "Fixed Charge Coverage Ratio", which is defined as the ratio of (a) EBITDA for such fiscal period, as amended, minus Unfinanced Capital Expenditures made during such period, minus distributions (including tax distributions) and dividends made during such period, minus cash taxes paid during such period to (b) all Debt Payments made during such period. This ratio must not exceed 1.1 : 1.0 for any quarterly calculation. Amendment 2 eliminated the calculation of this ratio for the period ended September 30, 2018.

 

o

Under Amendment 1, we were required to maintain EBITDA during the fiscal month ended April 30, 2018 of no less than $300,000, and for the two fiscal months ended May 31, 2018 of no less than $750,000. Under Amendment 2 we are required to raise at least $7.5 million in gross proceeds from our equity issuance by November 15, 2018.

 

 

Meeting the above covenants are stipulated as a condition of the PNC Agreements. Failing to meet them could result in increased costs, and potentially, the loss of the credit facility. Any such failure could add financial stress to the Company, up to and including its ability to continue as a going concern.

 

The Amendment 1 fee was a one-time payment of $58,750. Additionally, the rate of interest increased by 2% until such time as the Fixed Charge Coverage Ratio for a twelve month period is greater than or equal to 1.10 to 1.00. The Amendment 2 fee was $34,500.

 

The credit agreement provides for interest at varying rates in excess of the prime rate, depending on the level of senior debt to EBITDA over time. We also entered into a swap agreement with PNC Bank to fix the interest for $3 million over 3 years. This contract was made at market value upon December 2017 execution and accounted for as a hedge.

 

As of December 2017, Mr. John Schwan was owed a total of approximately $1.1 million, with additional accrued interest of $400,000, by the Company. As part of the December 2017 financing with PNC, Mr. Schwan executed a subordination agreement related to these amounts due him, as evidenced by a related note representing the amount owed to Mr. Schwan. No payments were issued to Mr. Schwan during the three months ended September 30, 2018, with $23,000 of interest recorded as an expense.

 

 

 

Note 3 – Going Concern

 

The Company’s primary sources of liquidity are cash and cash equivalents as well as availability under the Credit Agreement with PNC (see Note 2).  As noted in Note 2, we initiated an equity issuance process and entered into an amendment with PNC that would have allowed us more flexibility in the use of any equity proceeds, and committed us to raise at least $7.5 million by November 15, 2018.  As we believe that condition will not be met, we expect to be in violation of our Agreement, as amended. 

 

Management’s plans include:

 

(1)     Working with our bank to resolve this anticipated compliance failure,

(2)     Exploring alternative funding sources,

(3)     Evaluating and potentially executing a sale/leaseback transaction of our facility in Lake Barrington, IL, and

(4)     Continuing with the equity raise at the first opportunity that we think it likely to be successful.

 

 

Management Assessment

 

Based upon our historical ability to obtain necessary financing and our current expectations of future cash flow from operations, we believe we are likely to obtain necessary amendments and/or financing that will allow us to meet current obligations and to continue operating as a going concern.  We do not have firm commitments from lenders or other investors at this time for a resolution.

 

 

 

Note 4 - Stock-Based Compensation; Changes in Equity

 

The Company has adopted Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) Topic 718 which requires all share-based payments to employees, including grants of employee stock options, to be recognized in the condensed consolidated financial statements based on their grant-date fair values.

 

The Company has applied the Black-Scholes model to value stock-based awards and issued warrants related to notes payable. That model incorporates various assumptions in the valuation of stock-based awards relating to the risk-free rate of interest to be applied, the estimated dividend yield and expected volatility of our common stock. The risk-free rate of interest is the related U.S. Treasury yield curve for periods within the expected term of the option at the time of grant. The dividend yield on our common stock is estimated to be 0%, as the Company did not issue dividends during 2018 and 2017. The expected volatility is based on historical volatility of the Company’s common stock.

 

The Company’s net loss for the three months ended September 30, 2018 and net loss for the three months ended September 30, 2017 includes approximately $34,000 and $2,000, respectively, of compensation costs related to share based payments. The Company’s net loss for the nine months ended September 30, 2018 and 2017 includes approximately $139,000 and $12,000 respectively, of compensation costs related to share based payments. As of September 30, 2018, there is $225,000 of unrecognized compensation expense related to non-vested stock option grants and stock grants. We expect approximately $32,000 of additional stock-based compensation expense to be recognized over the remainder of 2018, $92,000 to be recognized during 2019, and $56,000 to be recognized during 2020.

 

On April 10, 2009, the Board of Directors approved for adoption, and on June 5, 2009, the shareholders of the Corporation approved, a 2009 Stock Incentive Plan (“2009 Plan”). The 2009 Plan and subsequent awards categorized as inducement of employment authorized the issuance of up to 510,000 shares of stock or options to purchase stock of the Company (including cancelled shares reissued under the plan.) As of September 30, 2018, all underlying awards under the 2009 Plan had been granted and options for 471,144 shares remain outstanding.

 

On June 8, 2018, our shareholders approved the 2018 Stock Incentive Plan (“2018 Plan”). The 2018 Plan authorizes the issuance of up to 300,000 shares of our common stock in the form of equity-based awards.

 

 

A summary of the Company’s stock option activity, which includes grants of restricted stock, non-qualified stock options, incentive stock options, warrants and related information, is as follows:

 

 

 

The instruments above have an aggregate intrinsic value of $83,000, which represents the total pre-tax intrinsic value (the difference between the closing price of the Company’s common stock on the last trading day of the quarter ended September 30, 2018 and the exercise price, multiplied by the number of in-the-money options) that would have been received by the option holders had all the holders exercised their options on September 30, 2018.

 

 

Note 5 - Legal Proceedings

 

The Company may be party to certain lawsuits or claims arising in the normal course of business. The ultimate outcome of these matters is unknown but, in the opinion of management, we do not believe any of these proceedings will have, individually or in the aggregate, a material adverse effect upon our financial condition, cash flows or future results of operation.

 

In July, 2017, God’s Little Gift, Inc. (d\b\a) Helium and Balloons Across America and Gary Page (“Claimants”) filed an action against the Company in the North Carolina State Court. This action was removed to the United States District Court in North Carolina. The Company filed an answer and motion to dismiss this action. The Court stayed the action based upon an arbitration clause in the agreement on which part of the action was based. On December 18, 2017, Claimants filed an arbitration claim against the Company before the American Arbitration Association in Chicago, Illinois. The Statement of Claim includes claims for alleged breach of two agreements among the parties, essentially for alleged failure by the Company to pay disputed commission amounts. Claimants also included counts for alleged unjust enrichment and tortious interference with contract. The Company has filed a response to the Statement of Claim denying all of the claims. The Company believes the claims are without merit and intends to defend all of the claims vigorously. The Company has not accrued any amounts in respect of this matter and cannot estimate the possible loss, if any, that the Company many incur with respect to it.

 

 

 

Note 6 - Other Comprehensive Income

 

In the nine months ended September 30, 2018, the Company incurred other comprehensive loss of approximately $111,000, all from foreign currency translation adjustments.

 

The following table sets forth the accumulated balance of other comprehensive income and each component.

 

 

 

Note 7 - Inventories, Net

 

 

 

 

Note 8 - Geographic Segment Data

 

The Company has determined that it operates primarily in one business segment that designs, manufactures and distributes film and film related products for use in packaging, storage and novelty balloon products. The Company operates in foreign and domestic regions. Information about the Company's operations by geographic area is as follows:

 

 

 

 

 

 

Note 9 - Concentration of Credit Risk

 

Concentration of credit risk with respect to trade accounts receivable is generally limited due to the large number of entities comprising the Company's customer base. The Company performs ongoing credit evaluations and provides an allowance for potential credit losses against the portion of accounts receivable which is estimated to be uncollectible. Such losses have historically been within management's expectations. During the three and nine months ended September 30, 2018 and 2017, there were two customers whose purchases represented more than 10% of the Company’s consolidated net sales, respectively. Sales to these customers for the three months ended September 30, 2018 and 2017 are as follows:

 

 

 

Sales to these customers for the nine months ended September 30, 2018 and 2017 are as follows:

 

 

As of September 30, 2018, the total amounts owed to the Company by these customers were approximately $1,702,000 or 17.6% and $2,241,000 or 23.2%, of the Company’s consolidated net accounts receivable, respectively. The amounts owed at September 30, 2017 by these customers were approximately $1,491,000 or 19.6%, and $1,631,000 or 21.5% of the Company’s consolidated net accounts receivable, respectively.

 

 

Note 10 - Related Party Transactions

 

Until March 31, 2018, Stephen M. Merrick, Chief Executive Officer of the Company, was of counsel to the law firm of Vanasco Genelly and Miller PC, which provided legal services to the Company. Legal fees paid by the Company to this firm for the three months ended September 30, 2018 and 2017, respectively, were $0 and $29,000. Legal fees paid by the Company to this firm for the nine months ended September 30, 2018 and 2017, respectively, were $88,000 and $93,000.

 

John H. Schwan, through an investment entity, and Stephen M. Merrick, Chief Executive Officer of the Company, also through an investment entity own, in aggregate, a 50% interest in Clever Container Company L.L.C., an Illinois limited liability company (“Clever Container”). During the three months ended September 30, 2018 and 2017, Clever Container purchased various products from the Company in the amount of $198,000 and $262,000, respectively. During the nine months ended September 30, 2018 and 2017, Clever Container purchased various products from the Company in the amount of $640,000 and $716,000, respectively. As of September 30, 2018 and 2017, the balance of accounts receivable from Clever Container to the Company were $1,278,000 and $924,000, respectively. The Company owns a 28.5% interest in Clever Container.

 

 

Note 11 - Derivative Instruments; Fair Value

 

The Company accounts for derivative instruments in accordance with U.S. GAAP, which requires that all derivative instruments be recognized on the balance sheet at fair value. We may enter into interest rate swaps to fix the interest rate on a portion of our variable interest rate debt to reduce the potential volatility in our interest expense that would otherwise result from changes in market interest rates. Our derivative instruments are recorded at fair value and are included in accrued liabilities of our consolidated balance sheet. Our accounting policies for these instruments are based on whether they meet our criteria for designation as hedging transactions, which include the instrument’s effectiveness, risk reduction and, in most cases, a one-to-one matching of the derivative instrument to our underlying transaction. As of September 30, 2018 and December 31, 2017, we had one derivative instrument accounted for as a hedge, compared to no such instrument as of September 30, 2017. Gains and losses from changes in fair values of derivatives that are not designated as hedges for accounting purposes are recognized in the consolidated statement of operations. We have no such derivative financial instruments as of December 31, 2017. Changes in fair value for the respective periods were recognized in the consolidated statement of operations.

 

The interest rate swap we entered into December 14, 2017 had a three year term (ending December 14, 2020) and a notional amount of $3 million. The Company purchased a 2.25% fixed rate in exchange for the variable rate on a portion of the notes payable under the PNC Agreements, which was 1.47% at time of execution. The fair value of the swap was insignificant as of September 30, 2018 and December 31, 2017.

 

 

 

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