UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-K
(Mark One) | |
☑ | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND EXCHANGE ACT OF 1934 |
| For the Fiscal Year Ended December 31 |
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☐ | 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 001-37584
CPI Card Group Inc.
(Exact name of the registrant as specified in its charter)
Delaware | 26-0344657 |
(State or other jurisdiction of incorporation or organization) | (I.R.S. employer identification no.) |
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Littleton, CO | 80127 |
(Address of principal executive offices) | (Zip Code) |
Registrant’s telephone number, including area code (303) 973-9311(720) 681-6304
Securities registered pursuant to Section 12(b) of the Act:
Title of | Trading Symbol(s) | Name of |
Common Stock, $0.001 par value | PMTS |
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Securities registered pursuant to sectionSection 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Yes ☐ No ☑
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
Yes ☐ No ☑
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☑ No ☐
Indicate by check mark whether the registrant has submitted electronically 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 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 if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (section 229.405 of this Chapter) is not contained herein, and will not be contained, to the best of 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, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer ☐ | Accelerated filer☑ | Non-accelerated filer ☐ | Smaller reporting company ☑ |
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| 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 has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report. ☑
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☑
The aggregate market value of the Registrant’sregistrant’s common stock held by non-affiliates was $58.1$86.8 million on June 30, 20172021 computed based on the closing sale price of the Registrant’sregistrant’s common stock of $14.25$19.24 as reported on NASDAQthe Nasdaq Global Market on that date.
As of February 22, 2018,2022, the number of shares outstanding of the Registrant’sregistrant’s common stock was 11,134,714.11,255,466.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant’s definitive Proxy Statement for its 20182022 Annual Meeting of Stockholders are incorporated by reference into Part III of this Form 10-K.
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Management’s Discussion and Analysis of Financial Condition and Results of Operations | 35 | ||
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Changes In and Disagreements With Accountants on Accounting and Financial Disclosure | |||
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Disclosure Regarding Foreign Jurisdictions that Prevent Inspections | 79 | ||
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Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters | 79 | ||
Certain Relationships and Related Transactions, and Director Independence | 79 | ||
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Cautionary Statement Regarding Forward-Looking Information
Certain statements and information in this Annual Report on Form 10-K (as well as information included in other written or oral statements we make from time to time) may contain or constitute “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995, Section 27A of the Securities Act of 1933, as amended (the “1933“Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “1934“Exchange Act”). The words “believe,” “estimate,” “project,” “expect,” “anticipate,” “plan,” “intend,” “foresee,” “should,” “would,” “could”“could,” “continue,” “committed,” “attempt,” “target,” “guides,” “seek,” “focus,” “provides guidance,” “provides outlook” or other similar expressions are intended to identify forward-looking statements, which are generally not historical in nature. These forward-looking statements, including statements about our strategic initiatives and market opportunities, are based on our current expectations and beliefs concerning future developments and their potential effect on us and other information currently available. Such statements reflect our current views with respect to future events and are subject to certain risks, uncertainties and assumptions. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results may vary materially from those described herein as anticipated, believed, estimated, expected or intended. We are making investors aware that such forward-looking statements, because they relate to future events, are by their very nature subject to many important factorsrisks and uncertainties that could cause actual results or other events to differ materially from those contemplated.
These risks and uncertainties include, but are not limited to: the potential effects of COVID-19 and responses thereto on our business, including our supply chain, customer demand, workforce, operations and ability to comply with certain covenants related to our indebtedness; our transition to being an accelerated filer and complying with Section 404 of the Sarbanes-Oxley Act of 2002 and the costs associated with such compliance and implementation of procedures thereunder; our failure to maintain effective internal control over financial reporting or remediate material weaknesses; our inability to recruit, retain and develop qualified personnel, including key personnel; a disruption or other failure in our supply chain or labor pool resulting in increased costs and inability to pass those costs on to our customers and extended production lead times and difficulty meeting customers’ delivery expectations; our failure to retain our existing customers or identify and attract new customers;system security risks, data protection breaches and cyber-attacks; interruptions in our operations, including our IT systems; defects in our software; failure to identify and attract new customers or to retain our existing customers; problems in production quality and process; failure to meet our customers’ demands in a timely manner; a loss of market share or a decline in profitability resulting from competition; developing technologies that make our existing technology solutions and products less relevant or a failure to introduce new products and services in a timely manner; disruptions relating to the development and execution of our strategy, or a failure to realize the anticipated benefits of such strategy; our inability to sell, exit, reconfigure or consolidate businesses or facilities that no longer meet with our strategy; our inability to develop, introduce and commercialize new products; our substantial indebtedness, including inability to make debt service payments or refinance such indebtedness; the restrictive terms of our credit facilityindebtedness and covenants of future agreements governing indebtedness;indebtedness and the resulting restraints on our limited ability to raise capitalpursue our business strategies; interruptions in our operations, including our information technology (“IT”) systems, or in the future;operations of the third parties that operate the data centers or computing infrastructure on which we rely; disruptions in production at one or more of our facilities; environmental, social and governance preferences and demands of various stakeholders and our ability to conform to such preferences and demands and to comply with any related regulatory requirements; the effects of climate change, negative perceptions of our products due to the impact of plastic on the environment, social unrest, and other ESG-related risks; our inability to adequately protect our trade secrets and intellectual property rights from misappropriation, or infringement;infringement claims brought against us and risks related to open source software; defects in our dependence on the timely supply of materials, products and specialized equipment from third-party suppliers; a competitive disadvantage resulting from chip operating systems developed bysoftware; our competitors; price erosionlimited ability to raise capital in the future; problems in production quality, materials and process; our inability to develop, introduce and commercialize new products; costs and impacts to our financial payment card industry; failureresults relating to accurately predict demandthe obligatory collection of sales tax and claims for uncollected sales tax in states that impose sales tax collection requirements on out-of-state businesses, as well as potential new U.S. tax legislation increasing the corporate income tax rate and challenges to our products and services; quarterly variation inincome tax positions; our operating results; the effect of legal and regulatory proceedings; infringement ofinability to successfully execute on our intellectual property rights,divestitures or claims that our technology is infringing on third-party intellectual property;acquisitions; our inability to realize the full value of our long-lived assets; costs relating to product defects and any related product liability and/or warranty claims; our inability to renew licenses with key technology licensors; the impacthighly competitive, saturated and consolidated nature of U.S. tax reform legislation;our marketplace; the effects of delays or interruptions in our ability to source raw materials and components used in our products from foreign countries; failure to comply with regulations, customer contractual requirements and evolving industry standards regarding consumer privacy and data use and security; new and developing technologies that make our existing technology solutions and products obsolete or less relevant or our failure to introduce new products and services in a timely manner; quarterly variation in our operating results; our failure to operate our business in accordance with data privacy laws, the PCIPayment Card Industry Security Standards Council (“PCI”) security standards or other industry standards such as Payment Card Brand certification standards; costs relating to product defects; a decline in U.S. and global market and economic conditions; potential imposition of tariffs and/or trade restrictions on goods imported into the United States; economic conditions and regulatory changes leading upresulting decreases in consumer and business spending and ongoing inflation; our failure to comply with environmental, health and followingsafety laws and regulations, including climate change regulations that apply to our products and the United Kingdom’s exit fromraw materials we use in our production processes; risks associated with the European Union;majority stockholders’ ownership of our dependence on licensing arrangements; inabilitystock; potential conflicts of interest that may arise due to renew leasesour board of directors being comprised in part of directors who are principals of our majority stockholders; the influence of securities analysts over the trading market for and price of our facilities or renew leases at existing terms; dependence on our senior leadership team; inabilitycommon stock; failure to recruit, retain and develop qualified personnel;meet the continued viabilitylisting standards of the Payment Card Brands; non-complianceNasdaq Global Market; certain provisions of our organizational documents and other contractual provisions that may delay or prevent a change in control and make it difficult for stockholders other than our majority stockholders to change the composition of our board of directors; our ability to comply with a wide variety of complex laws and changes in, laws in regulations and
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the United States and in foreign jurisdictions in which we operate and sell our products;exposure to liability for any failure to maintain our listing oncomply; the NASDAQ effect of legal and regulatory proceedings; and other risks that are described in Part I, Item 1A, – Risk Factors in this Annual Report on Form 10-K and our other reports filed from time to time with the Securities and Exchange Commission (the “SEC”).
Readers are cautionedWe caution and advise readers not to place undue reliance on forward-looking statements, which speak only as of the date hereof. These statements are based on assumptions that may not be realized and involve risks and uncertainties that could cause actual results or other events to differ materially from the expectations and beliefs contained herein. We undertake no obligation to publicly update or revise any forward-looking statements after the date they are made, whether as a result of new information, future events or otherwise.
EMV® is a registered trademark or trademark of EMVCo LLC in the United States and other countries.
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PART I
Item 1. | Business |
As used herein, “CPI,” “we,” “our” and similar terms refer to CPI Card Group Inc. and its subsidiaries, unless the context indicates otherwise.
Overview
Overview
We are a payment technology company and leading provider of comprehensive Financial Payment Card solutions in the United States. We define “Financial Payment Cards” as credit, debit and Prepaid Debit Cards issued on the networks of the “Payment Card Brands” (Visa, Mastercard®, American Express® and Discover)Discover® in the United States and Interac, (inin Canada). We define “Prepaid Debit Cards” as debit cards issued on the networks of the Payment Card Brands, but not linked to a traditional bank account. We also offer an instant card issuance solution, which provides card issuing bank customers the ability to issue a personalized debit or credit card within the bank branch to individual cardholders. We have established a leading position in the Financial Payment Card solutions market through more than 20 years of experienceexperience.
We serve a diverse set of several thousand customers which includes direct customers and are focused primarily on this attractive subsector of the financial technology market.indirect customer relationships whereby CPI provides Financial Payment Card solutions to a customer through a Group Service Provider (as defined below). Our customers include leading nationalsome of the largest issuers of debit and regional banks,credit cards in the United States, the largest Prepaid Debit Card program managers in the United States, numerous financial technology companies (“FinTechs”), as well as independent community banks, credit unions managers of prepaid debit programs,and Group Service Providers. We define “Group Service Providers” (organizationsas reseller or card processor organizations that assist small card issuers, such as credit unions, with managing their credit and debit card programs, including managing the Financial Payment Card issuance process)process, core banking operations and card processors. We serve a diverse set of over 4,000 direct and indirect customers, including some of the largest issuers of debit and credit cards in the United States and Canada, and the largest U.S. Prepaid Debit Card program managers, as well as thousands of independent community banks, credit unions, Group Service Providers and card processors.other financial services.
We serve our customers through a network of high-security production and card services facilities including high-security facilities in the United States, and Canada, each of which is certified by one or more of the Payment Card Brands and Interac (in Canada) and, where required by our customers, certified to be inaudited for compliance with the standards of the Payment Card Industry Security Standards Council (the “PCI Security Standards Council”). We have a by one or more of the Payment Card Brands. Many of our customers require us to comply with PCI Security Standards Council requirements that relate to the provision of our products and services. Our leading network of high-security production facilities in the United States and Canada, allowingallows us to optimize our solutions offerings and to serve the needs of our diverse customer base.
WeDriven by a combination of our strong relationships, quality, technology, and innovation, we believe we have:have strong positions in the following markets:
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In addition to our high-security facilities in the United States and Canada, we have facilities in the United Kingdom that produce retail cards, such as gift and loyalty cards, as well as provide personalization, packaging and fulfillment services. Retail cards produced at our facilities in the United Kingdom are not issued on the networks of the Payment Card Brands.
In 2017, we generated:
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Our business consists of the following reportable segments: U.S. Debit and Credit, which primarily produces Financial Payment Cards and provides integrated card services to card-issuing banks in the United States; U.S. Prepaid Debit, which primarily provides integrated card services to Prepaid Debit Card issuers in the United States; and U.K.
| ● | Debit and Credit, which primarily produces Financial Payment Cards and provides integrated card services to card-issuing banks primarily in the United States; |
| ● | Prepaid Debit, which primarily provides integrated prepaid card services to Prepaid Debit Card program managers primarily in the United States; and |
| ● | “Other,” which includes corporate expenses. |
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Limited, which primarily produces retail cards, such as gift and loyalty cards for customers in the United Kingdom and continental Europe, and which are not certified by any of the Payment Card Brands or to be in compliance with the standards of the PCI Security Standards Council, but are certified to be in compliance with International Organization for Standardization (“ISO”) 27001 standards. Businesses not considered part of these segments are categorized as "Other" and include our operations in Ontario, Canada and, through 2015, Petersfield, United Kingdom.
During February 2018, we made the decision to consolidate our three personalization operations in the United States into two facilities to better enable us to optimize operations and achieve market-leading quality and service with a cost-competitive business model. We plan to be substantially complete with the transition in the third quarter of 2018. In August 2015, we completed the shut-down and closure of our operations at our Petersfield, United Kingdom facility. The Petersfield, United Kingdom facility was not material to our business. Also included in “Other” are corporate activities.
For information regarding our net sales by geographic location and additional details regarding our segments, see Part II, Item 8, Financial Statements and Supplementary Data, Note 1618 "Segment Reporting," and Part II, Item 7, Management's Discussion and Analysis of Financial Condition and Results of Operations in this Annual Report on Form 10-K.
COVID-19 Update
The COVID-19 pandemic has impacted, and continues to impact, the global economy and the locations where we, our customers and our suppliers conduct business. The long-term implications of COVID-19 on the Company’s results of operations and overall financial performance remain uncertain. The health and safety of CPI employees remains paramount, and the Company continues to follow response protocols based on precautions and other appropriate measures recommended by the Centers for Disease Control and Prevention, as well as various state and local executive orders, health orders and guidelines. All of CPI’s operations have remained open during the pandemic and provide direct and essential support to the financial services industry.
The Company believes the global impacts from COVID-19 have contributed to certain adverse effects on its supply chain, including increased lead times for, and higher costs of, certain raw materials and components, such as microchips, which are expected to continue in the future. CPI closely monitors its supply chain and has purchased and may continue to purchase additional inventory to help mitigate supply chain constraints. The current environment has also affected the available labor pool in the areas in which the Company operates, which has resulted in increased labor cost and turnover in our facilities, challenges hiring production employees and shipping delays.On November 4, 2021, the Occupational Safety and Health Administration (“OSHA”) issued an Emergency Temporary Standard (“ETS”) mandating certain employers to require either full vaccination against COVID-19 or weekly testing of employees. The United States Supreme Court upheld a stay on enforcement of the ETS mandate, and on January 25, 2022, OSHA announced that it would withdraw the ETS to focus on finalizing a permanent COVID-19 Healthcare Standard. At this time, it is not possible to predict the impact a permanent COVID-19 Healthcare Standard, or any corresponding mandates from federal, state or local governmental entities would have on us or on our workforce. Federal, state or local mandates could result in increased costs as well as labor disruptions, employee attrition and/or difficulty recruiting new employees which could compound the labor shortage already impacting the Company.
The Company believes the labor and supply chain challenges described above, and the associated costs, may continue to increase throughout 2022 and possibly beyond. The Company may not be able to pass all of these costs through to its customers. The Company also believes the increased production lead times described above are likely to continue throughout 2022 and possibly beyond, depending on the duration of the labor and supply chain challenges and the level of demand from its customers. The Company will continue to monitor and respond as the situation evolves, including mitigation efforts such as purchasing additional inventory and attempting to hire additional production employees. See Part I, Item 1A, Risk Factors in this Annual Report on Form 10-K for further discussion of the possible impact of the COVID-19 pandemic on the Company.
On March 27, 2020, the Coronavirus Aid, Relief, and Economic Security (“CARES”) Act was signed into law. The CARES Act, among other things, included provisions relating to refundable payroll tax credits, deferment of employer social security payments, changes in net operating loss carryback periods, alternative minimum tax credit refunds, modifications to the net interest deduction limitation and technical corrections to tax depreciation methods for qualified improvement property. We deferred employer social security payments in 2020 in accordance with the CARES Act, and the first installment repayment was made in the fourth quarter of 2021. The second installment payment is permitted to be paid no later than the fourth quarter of 2022. Refer to Part II, Item 8, Financial Statements and Supplementary Data, Note 12 “Income Taxes”for a discussion of the historical CARES Act income tax impacts on the Company.
Our Competitive Strengths
| Strong Market Position with Long-Term Customer Relationships. |
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| integration. As a result, our customers are selective about working with partners they can trust |
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| Comprehensive End-to-End Card Solutions. The foundation of our |
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| Financial Payment Card Capabilities, Industry Experience, and Proprietary and Patented Solutions. |
We continuously work to enhance our offerings and to create and deliver next generation products and solutions that meet the demands of the marketplace and our customers. CPI’s Second Wave® payment cards featuring a core made with recovered ocean-bound plastic (“ROBP”), and EarthwiseTM cards made with upcycled plastic address customer demands for more eco-focused card options. We also sell CPI Metals®, a premium encased metal card. Our offerings also include Card@Once, our proprietary and patented instant card issuance system and software-as-a-service solution. We believe that our technological and operational capabilities, combined with our specific focus on the Financial Payment Solutions market, gives us a competitive advantage.
| ● | Experienced Leadership Team. We have an experienced leadership team that has energized the organization to focus on |
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EMV® is a registered trademark or tradename of EMVCo LLC in the United States and other countries.
Our Strategy
We are a payment technologiestechnology company providingthat provides end-to-end debit, credit and prepaid payment solutions delivered physically, digitally and on-demand. Our strategyvision is to be theour customers’ partner of choice by providing market-leading quality products, customer service and service,continuous innovation with a cost-competitivemarket-competitive business model. Our client is atWe believe we are well-positioned for success given our diversified business model, history of innovation and ability to evolve with the centerneeds and expectations of all thatour customers. By helping our customers elevate their customers’ experience, we do. While consumers have a rational and emotional need for the payment transactions that power their lives, our clients are working to be the choice to facilitate those transactions. Our goal is to help our clients foster compelling connections between people and build their brands with their customers viatechnology through traditional and next generation solutions that build brands and enhance people’s everyday lives. To achieve our vision, we focus on our four strategic priorities: deep customer focus, market-leading quality products and customer service, continuous innovation, and market competitive business model.
Deep Customer Focus
Our focus isWe are committed to have platformskeeping our customers at the center of everything we do. By partnering with our customers and exceptional service that make working with us easyallowing their needs to inform our business, we enhance our ability to deliver value and help redefinetheir businesses thrive. We aim to inspire and satisfy our customers by redefining experiences that may have traditionally seemed rigid and complex. Providing flexibility in timing, design, product options, and overall utility creates efficiencies, choice and control forWith our clients. We aim to inspire and delight our clients with market-leading quality and service. By cultivating an environment with dedicated and passionate employees, we deliver superior quality products through collaboration, a laser-focus on service and accountability.
We are determined to build a strong foundation for growth, invest in innovation and quality, and are improving cost efficiencies to achieve profitability through supply chain improvements, an optimized footprint, automation, process enhancements, and inventive ways to cost-effectively produce and deliver high quality premium products. We believe we are well-positioned in the market given our diversified business model, and have scaled a full and expanding suite of catalytic and competitively differentiated products and services. solutions, we offer our customers choice, convenience and control.
Market-Leading Quality Products and Customer Service
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dedicated, passionate employees embrace a culture of collaboration and steadfast focus on delivering superior products and exceptional customer service which has helped build us into a leading solutions provider. With a focus on market-leading quality products and customer service, we are committed to operational excellence and adapting to market dynamics to help our customers achieve top-of-wallet status and build their businesses. We listen to the voices of our customers and focus on helping them deliver unique and differentiated solutions that elevate their customers’ experience. We are accountable for our actions, and work synergistically to deliver results for our customers, our employees and our stockholders.
Continuous Innovation
With innovation as a core competency, we strategically invest to support continued growth and expand our opportunities to partner purposefully with our current and potential customers. We strive to enhance our offerings and to create and deliver next generation products and solutions that meet the demands of the marketplace and exceed customers’ expectations. Continuous innovation aims to win new business and help our customers differentiate themselves with distinctive products and solutions, build their brands, and achieve top-of-wallet status.
Market-Competitive Business Model
By creating a dynamic and efficient operating model, we have positioned ourselves to better serve our customers. We aim to streamline our operations, which enables us to allocate resources focused on providing our customers with unmatched solutions, innovation and exceptional service. We have also developed standards of excellence and target metrics regarding the quality, reliability and on-time delivery of our products. We invest in equipment advancements and technology in order to create broader capabilities as well as improve the quality and efficiencies of, and the customer satisfaction with, our offerings. We continue to focus on driving top-line performance, profitability, and operational efficiency.
Our Products and Services
EMV Financial Payment Cards (Contact and Contactless Dual-Interface)
We produce both plastic EMV cards, including our eco-focused solutions that we describe further below, and encased metal contact EMV cards. These EMV cards which feature an integrated circuit that interfaces with an EMV payment
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terminal over a contact plate on the surface of the card when inserted into an EMV-enabled payment terminal. We also produce dual-interfacecontactless EMV cards which feature both the contact EMV technology and an RFIDa radio-frequency identification (“RFID”) antenna that utilizes near field communications (“NFC”) technology to allow transactions to also be processedprocess on a contactless basis when the card is brought within the requisite proximity to aan NFC-enabled payment terminal. Dual-interface EMV cards also have contact EMV technology, and we generally refer to all cards we produce with an RFID antenna as ‘contactless’ cards.
Earth ElementsTM Eco-Focused Cards
We believe we are a leading provider of eco-focused card solutions in the U.S., having sold nearly 50 million eco-focused contactless payment cards since launch in 2019. Our Earth Elements portfolio offers eco-focused solutions, including our Second Wave cards that feature a core made with ROBP and our Earthwise cards made with upcycled plastic. Dependent upon design and card construction, Earth Elements cards incorporate varying types and amounts of upcycled plastic content, including ROBP, recycled PVC and recycled PET-G. We offer an Earthwise card that incorporates up to 98% upcycled plastic content, dependent on design. Cards in the Earth Elements portfolio are available in all forms of EMV Financial Payment Cards (contact and contactless dual-interface), and have been approved by two of the major Payment Card Brands. These solutions aim to satisfy increasing consumer demand for more eco-focused products and help support our and our customers’ environmental, social and governance (“ESG”) objectives.
Non-EMV Financial Payment Cards and Retail Gift Cards
We produce non-EMV cards that utilize magnetic stripes, contactless cards whichthat utilize NFC technology, and cards that include both magnetic stripes and NFC technology. In addition, we produce non-EMV cards that are issued on the networks of the Payment Card Brands, including prepaid debit cards. In 2021 and 2020 we produced non-EMV cards for the purpose of government disbursement in the U.S., and have produced non-EMV transit cards. We also produce retail gift cards (whichthat are not issued on the networknetworks of the Payment Card Brands) primarily in the U.K.Brands.
Card Data Personalization and Fulfillment
We provide data preparation and card data personalization solutions for debit, credit and Prepaid Debit Cards in contact, EMV,contactless, and dual-interface EMV, and non-EMV card formats. Our personalization services are technology-driven with full color printing and edge-to-edge coverage, and provide a wide range of card customization options, using advanced processes to personalize (encode, program and emboss or print with data such as cardholder name and account number) and fulfill cards to individual cardholders. Our services provide customers with an inventory of their card stock and fulfillment materials. In addition, we provide EMV data script developmentpreparation services for our customers and in certain cases generate PIN numbers and mailers on their behalf. We offer patented card design software, known as MYCA™, which provides our customers and their cardholders the ability to design cards on the internet and customize cards with individualized digital images. We also provide consultation and card design services to further assist customers in card customization.
CPI On-Demand®Solutions
Through our CPI On-Demand® services, we are able to produce images, personalized payment cards and related collateral on a one-by-one, on-demand basis for our customers, enabling individualized offerings and reducing inventory. Our service offering includes online ordering of a customized payment card through a program manager, with direct fulfillment to a consumer. We believe the CPI On-Demand solution further differentiates us with our financial institution and prepaid debit card program manager customers and enables us to access new, business-to-business and business-to-consumer verticals such as healthcare, transit, payroll, corporate incentives, government disbursement, benefits and insurance.
Tamper-Evident SecuritySecure Packaging Solutions
We offer specialized and innovative tamper-evident securitysecure packaging products and services to customers with a Prepaid Debit Card offering that reduceaimed at reducing fraud for Prepaid Debit Cards sold through the retail channel. The majority of the tamper-evident security packaging we produce is protected by our patents. In certain cases, we also manage the fulfillment of fully-completed Prepaid Debit Card packages to retail locations on behalf of our customers utilizing this solution.
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Instant Card Issuance Systems and Services
We offer Card@Once,®, our proprietary and patented instant card issuance system and services,software-as-a-service, which provides our card issuing bankissuing-bank customers the ability to issue a completely personalized, permanent debit or credit card within the bank branch to individual cardholders upon demand. Our instant issuance system is enabled by cloud-based software that securely transfers data from our servers to the card branch to encode a magnetic stripe, ana contact EMV card or a contactless dual-interface EMV card, and personalizes the card on a desktop output terminal in a process which is certifiedprinter solution provided by Mastercard® and Visa.CPI. These processes are audited for PCI data security standards compliance annually. Our instant issuance system generates both systeminitial sales revenue for the printer solution and recurring revenue from software as a service, card personalization and sales of cards and consumables. In addition, we provide instant issuance of debit cards to large financial institutions whereby we provide fully-personalized temporary debit cardsWe offer multiple Card@Once solutions, including our latest innovation, which are issued to card holders upon opening a new account, and we manage the fulfillment and replenishment of these fully personalized cards directly to thousands of individual bank branches.
CPI on DemandTM Solutions
Throughis our CPI on DemandTM services, we are ablepremium Spectrum solution that enables issuers to produce images, personalizeda higher resolution payment cards and related collateral on a one-by-one, on demand basis for our customers, enabling individualized offerings and reducing waste. While not significant to our 2017 financial results, we believe the CPI on DemandTM solution will further differentiate uscard with our financial institution customers, and we believe it will enable us to further penetrate new, business-to-business and business-to-consumer verticals of the prepaid market such as healthcare, transit, payroll, corporate incentives, benefits and insurance.over-the-edge printing capability.
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Digital Services
While not currently significant to our financial results, we are focusing on enabling payments for the emergingprovide digital payment marketplace,services and issuance technologies, including self-serviceonline card customization, on demand fulfillment,ordering, order lifecycle management, customer inventory management, EMV key management,self-service card customization, and other innovative solutions, such as digitizing and securely delivering payment credentials as a virtual payment method.solutions.
Suppliers
Suppliers
One of the most important components of our products is the EMV microchip. While we have developed constructive relationships with our suppliers and, in general, receive a high level of cooperation and support from them, the objective of our procurement strategy is not to depend on any single supplier. We obtainHowever, certain components are only available from a single supplier, or substituting a component from a different supplier may require additional time and investment. Some of the most important components of our components from multipleproducts include the EMV/ contactless microchips and antennas. Our main suppliers locatedof EMV/ contactless microchips and antennas include four leading international manufacturers with locations in Germany, Thailand, Netherlands, South Korea, France,and Singapore. For the United Statesyear ended December 31, 2021 approximately 92% of our purchased microchips and Singapore,antennas came from these four main suppliers, and approximately 64% came from one supplier, primarily on a purchase order basis. Our main suppliers of EMV microchips are four leading international manufacturers, including one supplier that is also owned by a competitor. Approximately 90% of our purchased EMV microchips for the year ended December 31, 2017 came from these four main suppliers. The other key components for our products are substrates (such as PVC), antennas and inlaysinlays. Additionally, our Second Wave® payment cards feature a core made with ROBP, which we alsocurrently source from multiple suppliers. one supplier in Haiti.
We continuously monitor supply chain risks and evaluate alternative suppliers based on numerous attributes including quality, performance, service, scalability, features, innovation, resiliency and price.Surges in demand for certain raw materials and components, as well as other factors such as staffing challenges, have continued to strain the global supply chain network, which has resulted in increased costs of such raw materials and components, increased shipping costs, freight and logistics delays, longer lead times and unpredictability. Although we strive to place orders for materials and components sufficiently in advance to compile buffer stock to mitigate the impacts of freight and logistics delays and to bolster our access to raw materials and components, it is difficult to predict the ability of our suppliers to continue to fulfill such orders, and it is possible that such delays as well as costs to obtain such raw materials and components will increase in 2022. If suppliers cannot fulfill our microchip orders this can constrain our ability to support customer demand and negatively impact net sales in 2022. We significantly increased inventory levels in 2021 to mitigate the supply chain constraints discussed above.
Customers
Customers
In the United States, weWe categorize our customers as follows: large issuers, small to mid-sized issuers, FinTechs, prepaid debit issuers and program managers and Group Service Providers and card processors.Providers. Our diverse customer base includes some of the largest issuers of credit and debit cards in the United States and the largest U.S. Prepaid Debit Card program managers. Our topThe Company had one customer represented 12.4%that accounted for 10% or more of its net sales in 2021. Net sales from this customer was approximately 18% of total net sales for the year ended December 31, 2021. We have been serving this customer for greater than 10 years. In addition, nearly two-thirds of our net sales for the year ended December 31, 2017. Our2021 were from our top fiveten direct customers, represented approximately 28.5% of our net sales for the year ended December 31, 2017, and wewhich includes certain Group Service Providers. We have been serving these top ten direct customers for an average of greater than 10 years. In addition, through our direct and indirect customer relationships, approximately two-thirds of our annual net sales in our Debit and Credit segment are derived from small- to mid-sized issuers and FinTechs. Individually, many of these customers represent minor amounts of our annual net sales as these
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small- to mid-sized issuers, including independent community banks and credit unions, do not require a significant amount of annual replenishment of Financial Payment Cards or ongoing card data personalization.
We generally enter into master purchase or service agreements that govern the general terms and conditions of our commercial relationships. We then enter into a purchase order or other short-term arrangements that define the prices and the quantities of products to be delivered or services rendered, and services rendered. Usually,other terms specific to the order as appropriate. In most cases, our contractual arrangements include neither exclusivity clauses nor commitments from our customers to order any given quantities of products on a medium or long-term basis.
Production and Services
Our production and services strategy has several key facets. We have a large network of integrated high-security facilities that we leverage to balance customer orders, expand the array of products and services available to our customers and provide consistent supply and execute short lead times. Oursupply. We have designed our facilities and operating processes are designed to provide a differentiated level oftarget providing exceptional service to each of our key customer sets. For example, we have the processes andall customers, with capabilities to:
| execute high-volume production runs that allow us to |
| execute lower-volume |
| meet the specific needs of our Prepaid Debit Card customers, as an industry leader in tamper-evident secure card packaging, and through our expertise and capabilities specifically designed for this prepaid retail |
WeAs of December 31, 2021, we operate facilities comprising approximately 500,000386,000 square feet of facilities in the United States Canada and the United Kingdom, where we focus on Financial Payment Card production, personalization services, card printer provisioning and personalizationfulfillment, card packaging and fulfillment services. See Part I, Item 2, “Properties” ofProperties in this Annual Report on Form 10-K for information on the operations of each facility.
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We rely on secure ground and secure air freight to deliver finished products to our banking customers. Due to the high-security nature of the Financial Payment Card products we provide to our banking customers, productcertain products must be shipped to these customers via a secure method, such as armored vehicle. With respect to customers for whom we fulfill individual and personalized debit and credit cards, we primarily utilize the U.S., Canadian postal service and U.K. postalother express shipping services to deliver these cards directly to individual cardholders. For other customers, we predominately deliver our products via regular ground and air freight.
In addition, we seek to embrace practices and solutions at our facilities designed to limit our impact on the environment, preserve natural resources and create innovative and responsible products. Our key areas of focus in this area include: incorporating environmental sustainability practices as and where feasible in alignment with our business model, values and customer needs; engaging employees; and communicating and promoting our commitment and contribution to more sustainable practices and products.
Sales and Marketing
We market ourselves as a leader and trusted partner in payments, seeking to meet or exceed the needs of our customers through high quality, flexibility and meaningful, innovative products at competitive prices.value-driven pricing. We work to strategize and collaborate with our customers to bring them valuable and innovative solutions. We have approximately 30 field-based sales representatives, customer relationships and partners that give usprovide a wide geographic reach across the United States the United Kingdomto sell and Canada.market our solutions. Our sales representatives offer a complete end-to-end solution that incorporates the full spectrum of our products and services from concept to delivery. Our sales and marketing strategy focuses on strengthening our relationships with existing customers through a consultative approach that includes cross-selling expanded services.services and sharing expertise to enhance customers’ card programs. We leverage the strength of our full-service offerings to attract new customers. Our marketing efforts focus on the needs of our specific types of customers. By tailoring our marketing strategy to different customer groups,segments, we are able to provide relevant targeted solutions to meet theirour customer’s individual needs. We utilizeuse an array of different marketing communications and thought leadership across various industry publications, editorial white papers, case studies, conferences and trade shows, print and digital advertisements, and educational webinars, podcasts, and blogs to introduce our existing customers and new customers to innovations in the
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payments market. ThroughWe also strive to meet customer demand for new or enhanced products by innovating through research and development activities. We believe these efforts we drive customer retention and satisfaction, and have been able to attract new customers.
Competition
The market for products and services in the payment card industry is highly competitive. Some of our competitors possess substantially greater financial, sales and marketing resources than we do, and therefore have substantial flexibility in competing with us, including through the use of integrated product offerings, innovation, and competitive pricing. Competitive factors for our business include product quality, durability, security, service reliability, product line comprehensiveness and integration, timely introduction of new products and features, and price.
Our products and services compete with other card manufacturers and card solutions providers. We believe our primary competitors are IDEMIA (formerly known as Oberthur Technologies S.A.), Giesecke & Devrient GmbH, Valid S.A., Gemalto NV, CompoSecure L.L.C., and Multi Packaging Solutions, Inc. Certain existing and potential customers also have the ability to produce and/or personalize Financial Payment Cards in-house. In addition,Accordingly, we compete with certain of our customers, including those that offer transaction processing products and services to financial institutions. We believe we are in competition with Arroweye, CompoSecure L.L.C., Entrust, FIS, Fiserv, Giesecke & Devrient GmbH, HID Global, IDEMIA (formerly known as Oberthur Technologies S.A.), Perfect Plastic, Thales (formerly known as Gemalto NV), Travel Tags, Valid S.A., and WestRock (Multi Packaging Solutions), among others.
Intellectual Property
We own, and control or license various intellectual property rights, such as patents, trade secrets, confidential information, trademarks, service marks, tradenames, copyrights and applications. We are also a party to certain patent cross-license arrangements with industry participants and may, from time to time, enter into similar commercial agreements should we consider it necessary or beneficial for our business.
We rely on a combination of statutory (copyright, trademark and trade secret) and contractual safeguards forto protect our intellectual property protection throughout the world. As of December 31, 2017,2021, we had 3556 U.S. and foreign trademark registrations and applications, 2037 existing U.S. patents, 1033 existing foreign patents, as well as 2728 pending U.S. and foreign patent applications. Our U.S. and foreign patents and applications have an average remaining maturity of 12approximately 13 years, and our trademarks will be due for renewal for additional ten or fifteen-yearyear periods on an ongoing basis.
Regulation
Environmental Protection
Our manufacturing operations are subject to environmental protection regulations, including those governing the emissions of pollutants into the air, wastewater discharges, the use and handling of hazardous substances, waste disposal, the investigation and remediation of soil and groundwater contamination. We are also required to obtain environmental permits from governmental authorities for certain of our operations.
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Regulation
Privacy and Data Security
In the course of our business, we receive personally identifiable information of cardholders from our customers, either from a financial institution or through a card processor on behalf of a financial institution. Such information includes names, email and physical addresses, card account numbers and expiration dates. In some cases, we receive a cardholder’s PIN number. As a service provider to financial institutions in the United States, we are subject to certain Federal Trade Commission requirements, thecertain privacy provisions of the Gramm‑Leach‑BlileyGramm-Leach-Bliley Act (the “GLBA”) and its implementing regulations, and, as applicable, with various other federal and state privacy statutes and regulations, and certain of the PCI Security Standards Council’s Data Security Standards,requirements, each of which is subject to change at any time. Outside of the United States, we are subject to privacy laws and regulations of numerouscertain countries and jurisdictions, including the General Data Protection Regulation (the “GDPR”) in the European Union.jurisdictions. The interpretation and application of these privacy and data protection laws in the United States, Europe and elsewhere are often uncertain and in a state of flux.
Furthermore, many of our customers are subject to privacy and data protection laws, and our customers often impose contractual obligations on us related to their obligations. In order to comply with our obligations under the GLBA, applicable stateprivacy laws and regulations and our contractual agreements with our customers, we are required to implement adequate policies and safeguards to protect the privacy of personally identifiable information we receive. As part of their compliance with these
Under the PCI Security Standards Council’s requirements, each of our U.S. customers is expected to have a program in place for protecting personally identifiable information and responding to unauthorized access to, or use of, personally identifiable information that could result in substantial harm or inconvenience to consumers, as required by law. A majority of U.S. states have enacted security breach legislation, requiring varying levels of consumer notification in the event of a security breach, which could result in significant costs to us and significant damage to our reputation.
In May 2016, the European Union adopted the GDPR, which is a comprehensive general data privacy regulation that will replace the current EU Data Protection Directive and related country-specific legislation. The GDPR will become fully effective in May 2018. The regulation will impose more stringent operational requirements for processors and controllers of personal data of residents of the European Union, including, for example, expanded disclosures about how personal information is to be used, limitations on retention of information, mandatory data breach notification requirements and higher standards for data controllers to demonstrate that they have obtained valid consent for certain data processing activities. The regulation will also include significant penalties for non-compliance.
We are also subject to requirements from the Payment Card Brands, which require us towe must meet certain security standards in order to achieve certificationcompliance that allows us to produce and personalize Financial Payment Cards issued on their networks. These standards include extensive requirements with respect to the physical characteristics of our facilities, as well as our electronic treatment and storage of cardholder data. We believe that we have developed significant expertise in acquiringachieving and maintaining these certifications,compliance with the requirements from the Payment Card Brands, and have invested significant capital to obtainachieve and retain these designations,compliance, which areis regularly verified by both the Payment Card Brands and our customers. We
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believe the long, complexcomplexity involved and costly certification process servesinvestment needed to obtain and retain these compliance designations may serve as a significant barrier to new entrants tointo our market.
The status and interpretation of pending and existing laws and regulations is evolving and therefore, these laws and regulations may be applied inconsistently.inconsistently, and the obligations imposed upon us by our customers can vary. It is possible that our current data protection policies and practices may be deemed inconsistent with new legal requirements or interpretations thereof, and breaches in the security of our systems and technology could result in a violation of these laws and regulations.regulations and contractual requirements. Changes to these laws and regulations, as well as any associated inquiries or investigations or any other government actions, and additional requirements imposed by our customers may be costly to comply with and may delay or impede the development of new products, result in negative publicity, increase our operating costs, require significant management time and attention, and subject us to remedies that may harm our business, including reputational harm, fines, or demands or orders that we modify or cease existing business practices.
Financial Services
We are generally not directly subject to federal or state regulations specifically applicable to financial institutions such as banks, thrifts and credit unions. However, as a provider of products and services to these financial institutions, our operations may be examined by various state and federal regulatory authorities and representatives of the Federal Financial Institutions Examination Council, which is a formal inter-agency body empowered to prescribe uniform principles, standards and report forms for the federal examination of financial institutions and to make recommendations to promote uniformity in the supervision of financial institutions. Also, state and federal regulations
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require our financial institution clientscustomers to include certain provisions in their contracts with service providers like us and to conduct ongoing monitoring and risk management for third party relationships. In addition, we engage independent auditors annually to review certain of our operations to provide internal control evaluations for our clients’customers’ auditors.
In conducting certain aspects of our card services, we are directly subject to various federal and state laws and regulations including those relating to the movement of money.and contractual obligations. In order to comply with our obligations under applicable laws, we are required, among other things, to comply with licensing and reporting requirements, to implement operating policies and procedures to comply with anti-money laundering laws,Office of Foreign Assets Control requirements, to protect the privacy and security of our clients’customers’ information and to undergo periodic audits and examinations.
In 2010, the Dodd-Frank Act was enacted. The Dodd-Frank Act introduced substantial reforms to the supervision and operation of the financial services industry, including introducing changes that: affect the oversight and supervision of financial institutions; provide for a new resolution procedure for large financial companies; introduce more stringent regulatory capital requirements; implement changes to corporate governance and executive compensation practices; and require significant rule-making. The Dodd-Frank Act has generated numerous new regulations that have imposed compliance costs and, in some cases, limited revenue sources for us and our clients.costs. The Dodd-Frank Act established the Consumer Financial Protection Bureau (“CFPB”) which is empowered to conduct rule-making and supervision related to, and enforcement of, federal consumer financial protection laws. The CFPB has issued guidance that applies to “supervised service providers” which the CFPB has defined to include service providers like us toas well as CFPB supervised banks and nonbanks. The CFPB has in the past and may in the future issue regulations that may require us to make compliance investments and/or limit our fees or other revenue sources. We do not currently anticipate a materially adverse impact on our business, results of operations or financial condition due to these regulations, but itinvestments. It is difficult to predict with certainty the extent to which the Dodd-Frank Act, the CFPB or the resulting regulations will impact our business or the businesses of our current and potential clients.customers.
Environmental Protection
EmployeesOur operations are subject to environmental protection regulations, including those governing the emissions of pollutants into the air, wastewater discharges, the use and Laborhandling of hazardous substances, waste disposal, and the investigation and remediation of soil and groundwater contamination. We are also required to obtain environmental permits from governmental authorities for certain of our operations.
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Human Capital
Our leadership team has significant experience in the payments industry, and many of our employees possess career-long expertise and knowledge that is unique to the Financial Payment Card industry. Our compensation programs are designed to attract and retain individuals with the unique skill sets that are fundamental to our business. We provide our employees with competitive salaries and incentives, access to health insurance and paid time off, in addition to other benefits. As part of our promotion and retention efforts, we also invest in ongoing leadership development and conduct employee surveys to measure employee engagement and identify areas of focus.
Employee health and safety in the workplace is one of the Company’s core values. Throughout the COVID-19 pandemic, the health and safety of our employees has remained paramount. We continue to follow response protocols based on precautions and other appropriate measures recommended by the Centers for Disease Control and Prevention, as well as various state and local orders and guidelines. Our office-based employees moved to a primarily remote work environment beginning in March 2020.
We are committed to a diverse and inclusive workplace, in which we promote honest, ethical and respectful conduct. Our Code of Business Conduct and Ethics sets the standards for appropriate behavior, and employees are required to follow these standards and participate in related training. We encourage employees to bring forward issues and concerns. In addition, we periodically analyze our employment procedures and pay practices to help ensure individuals are provided with equal employment opportunities and equitable pay. We also focus on a variety of community initiatives to enhance the lives of people in the communities where we operate through volunteerism, charitable giving and economic support.
As of December 31, 2017, our businesses2021, CPI employed approximately 1,200 employees.1,150 full-time employees, roughly 57% male and 43% female. Approximately 52% of the employee base identifies as being within a minority category. Approximately 72% of our full-time employees are production and service facility staff. Additionally, we use the services of temporary workers to provide flexibility for our business needs. None of our employees are represented by labor unions. We have never experienced any work stoppages or strikes as a result of labor disputes. We considerbelieve that our relations with our employees to be good.are positive.
Available Information
CPI Card Group Inc. is a Delaware corporation. We were initially formed as CPI Holdings I, Inc. in June 2007 and changed our name to CPI Card Group Inc. in August 2015. Our principal executive offices are located at 10026 W. San Juan Way – Suite 200,10368 West Centennial Road, Littleton, CO 80127,, telephone (303) 973-9311.(720) 681-6304. The Company's Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and amendments to those reports are available free of charge through the "Investor Relations"“Investor Relations” portion of the Company's website (www.cpicardgroup.com), as soon as reasonably practical after they are filed with, or furnished to, the SEC. Our website and the information contained on that site, or connected to that site, are not incorporated into and are not a part of this report. The SEC also maintains a web site, www.sec.gov,website (www.sec.gov), which contains reports and information statements, and other information filed electronically with the SEC by the Company.
CPI Card Group Inc. qualifies as a smaller reporting company in accordance with Rule 12b-2 under the Exchange Act, and has elected to follow certain of the scaled back disclosure accommodations within this Annual Report on Form 10-K. As of June 30, 2021, the market value of outstanding shares of our common stock owned by non-affiliates exceeded $75 million, which triggered the Company being classified as an accelerated filer with respect to SEC regulations and filing requirements effective December 31, 2021.
There are many factors that affect our business, financial condition, results of operations and cash flows, some of which are beyond our control. The following is a description of some important factors that may cause our business, financial condition, results of operations and cash flows in future periods to differ materially from those currently expected or desired. Factors not currently known to us or that we currently deem to be immaterial may also materiallyand adversely affect our business, financial condition, results of operations and cash flows. You should carefully consider all of these risks described below, together with the other information included in this Annual Report on Form 10-K, before investing in our securities. As a result of any of these risks, known or unknown, you may lose all or part of your investment in our securities.
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Risk Factors Summary
Risks RelatedRelating to COVID-19
| ● | The effects of the COVID-19 pandemic and responsive government measures as well as related economic disruptions adversely affecting our supply chain, workforce, overall operations and financial condition and ability to market and sell our products. |
Risks Relating to our Business
| ● | Costs associated with our recent transition to being an accelerated filer and compliance with Section 404 of the Sarbanes-Oxley Act of 2002 as well as our inability to remediate material weaknesses in internal control over financial reporting and as a result of such material weaknesses, our inability to detect errors on a timely basis and the loss of investor confidence in our financial reporting. |
| ● | Failure to recruit, retain and develop qualified new and replacement personnel amidst labor shortages and in competitive labor markets. |
| ● | Disruptions, delays and increasing costs and inflationary pressures in our supply chain, including with respect to single-source suppliers, or the failure or inability of our suppliers to comply with our codes of conduct or contractual requirements. |
| ● | Failure to retain existing key customers and attract new customers due to competitive products, pricing pressures, extended production lead times, financial health of our customers and macroeconomic conditions affecting our industry or our customers. |
| ● | A cyber-attack or breach of our information technology systems resulting in losses of our intellectual property and/or sensitive cardholder data, harm to our competitive position and a loss of customer trust and confidence, and, as threats evolve, the necessity to invest in significant additional resources to enhance our information security and controls. |
| ● | Our substantial indebtedness and the covenants and restrictions in the agreements governing our indebtedness limiting our ability to use our cash flow in certain areas of our business, capitalize on certain business opportunities and pursue our business strategies, all of which could increase if we incur additional debt. |
| ● | Any interruption of our information technology systems, including disruptions or failures of our third-party data centers, inhibiting our ability to service our customers. |
| ● | A disruption at any of our production facilities and our inability to recover quickly or otherwise provide continuity of production in order to meet customer requirements. |
| ● | The impact of the increasing focus on environmental, social and governance (“ESG”) factors on our ability to access capital, manufacture our products in conformity with stakeholder preferences, and comply with stakeholder demands as well as comply with any new ESG related regulatory requirements. |
| ● | The effects of climate change on our business. |
| ● | Our inability to protect our trade secrets, intellectual property and proprietary software, to obtain additional intellectual property rights in the future, and to ensure our products are not infringing the intellectual property rights of others. |
| ● | Defects in our software and computing systems, resulting in errors or delays in the processing of transactions and other interruptions in our business operations. |
| ● | The effects of the low trading volume and fluctuating trading price of our common stock as well as terms of our outstanding indebtedness and market conditions on our ability to access capital markets. |
| ● | Problems in our production processes, including as a result of mechanical or technological failures, which could lead to reduced production capacity and quality. |
| ● | Our inability to undertake time-consuming and costly research and development activities in order to develop new or enhanced products. |
| ● | An increased number of states seeking to apply sales tax “nexus” laws or future increases in U.S. federal or state income taxes, resulting in additional tax expenses in the event we are unable to pass such expenses along to our customers. |
| ● | Our inability to divest or consolidate certain non-strategic businesses, and our inability to execute successfully on an acquisition strategy. |
| ● | A write-down of our long-lived assets, which represent a significant portion of our total assets. |
| ● | Defects in our products that may give rise to products recalls, product liability and warranty claims as well as damage to our reputation. |
| ● | Our inability to renew licenses with key technology licensors, resulting in our loss of access to certain technologies upon which we rely to develop certain of our products. |
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Risks Relating to our Industry
| ● | The highly competitive, saturated and consolidated nature of our marketplace. |
| ● | The effects of delays or interruptions in our ability to source raw materials and components used in our products from foreign countries due to economic downturns or disruptions, including as a result of responses to continued outbreaks of COVID-19 and tariffs and trade restrictions. |
| ● | Challenges, costs and potential liabilities associated with compliance or failure to comply with existing or future data privacy and security laws, regulations and requirements. |
| ● | The widespread adoption of technological changes, new products or industry standards, such as digital payment systems or mobile payments, which may render our products obsolete or irrelevant, and our failure to develop and introduce innovative products to address the evolving needs of our customers. |
| ● | The unpredictability of our operating results due to the varying cyclicality of the financial card and electronic payment industries, capital requirements, competition, new product developments, technological changes and other factors. |
| ● | Our failure to comply with the standards of the PCI Security Standards Council, including due to an inability to continue to make investments in our facilities necessary to maintain compliance with such standards. |
| ● | A deterioration in general economic conditions, including rising inflation, resulting in reduced consumer confidence and consumer and business spending. |
| ● | Our failure to comply with environmental, health and safety laws and regulations, including climate change regulations, that apply to our products and the raw materials we use in our production processes. |
Risks Relating to Ownership of our Common Stock
| ● | Our majority stockholders’ continued concentrated ownership of our shares and ability to control decisions regarding our business direction and policies as well as the potential conflicts of interest that may arise between our majority stockholders and our other stockholders. |
| ● | The influence of securities analysts over the trading market for and price of our common stock, particularly due to the lack of substantial research coverage of our common stock. |
| ● | Our failure to maintain our listing on the Nasdaq Global Market (“Nasdaq”) due to failure to comply with Nasdaq listing standards. |
| ● | Certain provisions of our organizational documents and other contractual provisions that may delay or prevent a change in control and make it difficult for stockholders other than our majority stockholders to change the composition of our board of directors. |
General Risk Factors
| ● | Our inability to comply with numerous evolving and complex laws and regulations relating to financial reporting standards, corporate governance, data privacy, tax, trade regulations, environmental regulations and permit requirements, export controls, competitive practices, labor and health and safety. |
| ● | Legal costs, insurance expenses, settlement costs and the risk of an adverse decision related to legal or regulatory proceedings or litigation. |
Risks Relating to COVID-19
The ongoing COVID-19 pandemic and responses thereto may, or may continue to, adversely affect our supply chain, workforce, overall operations and financial condition, each of which may have a material adverse effect on our business.
The COVID-19 pandemic has caused significant economic disruption and adversely impacted the global economy. Since the beginning of the COVID-19 pandemic in early 2020, we have experienced, and expect to continue to experience, delays in the supply of, and increased costs of, materials necessary to operate our business, and challenges hiring and retaining workers as well as increased labor costs. Federal, state and local government measures in response to the COVID-19 pandemic, including the institution of orders, restrictions and guidelines relating to the operation of our facilities, travel bans and restrictions, quarantines and shutdowns, have impacted and may continue to impact our workforce, sales and marketing efforts, and our operations and have caused and may continue to cause us to incur significant costs and have a negative impact on our sales and results of operations. For example, our sales and customer relationship personnel have been and may in the future be unable to engage in in-person meetings and interaction with our customers. Although certain restrictions related to the COVID-19 pandemic have eased, uncertainty continues to exist regarding the duration of such measures and potential future measures. Current material and component shortages,
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logistics constraints and labor inefficiencies have led to and may continue to lead to increased costs and challenges meeting customer demand, which could have a material adverse effect on our business, results of operations and/or financial condition.
The COVID-19 pandemic has also significantly increased economic and customer demand uncertainty and has caused inflationary pressure in the U.S. and elsewhere as well as supply chain disruptions. Economic uncertainties could continue to adversely affect the financial condition and credit risk of our customers as well as customer demand for the Company’s products and services, particularly if credit card issuers reduce credit limits, close accounts and become more selective in determining to whom they issue credit cards as a result thereof. A prolonged economic contraction or recession may also result in our customers seeking to reduce their costs and expenditures, which could result in lower demand for our products or a shift to demand for lower margin products. If our sales decline, or if such lost sales are not recoverable in the future, our business and results of operations will be significantly adversely affected.
Continued uncertainties related to the magnitude, duration and persistent effects of the COVID-19 pandemic may adversely affect our business. These uncertainties include, among other things: the duration and impact of the resurgence in COVID-19 cases in any country, state, or region; the emergence, contagiousness, and threat of new and different strains of the virus; the availability, acceptance, and effectiveness of vaccines; prolonged reduction or closure of the Company’s operations; disruptions in the global supply chain; increased labor cost and turnover in our facilities as well as challenges hiring production employees; the impact of the pandemic on the Company’s customers and suppliers; the impact of disruptions in the global capital markets and/or declines in our financial performance, which could impact the Company’s ability to obtain financing in the future; and the impact of the pandemic on customer demand for our products and services as discussed above. All of these factors could materially and adversely affect our business, results of operations and/or financial condition.
The global outbreak of COVID-19 continues to evolve. The ultimate impact of the COVID-19 outbreak remains uncertain and subject to change, and we cannot predict its future impacts on our business or the economy as a whole. However, these effects may harm our business, financial condition and results of operations in the near term and could have a continuing material impact on our operations, sales, and liquidity.
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Risks Relating to our Business
Our Businesstransition to being an accelerated filer and compliance with Section 404 of the Sarbanes-Oxley Act of 2002 has been and will continue to be time consuming and costly, and because we have identified material weaknesses in our internal control over financial reporting, our inability to maintain effective internal controls could result in investors losing confidence in the accuracy and completeness of our financial reports or our inability to accurately or timely produce our financial reports, any of which could negatively affect the market price of our common stock, perhaps significantly.
As a public company, we are required to maintain internal control over financial reporting and to report any material weaknesses in such internal controls. Because we became an accelerated filer effective for the year ended December 31, 2021, Section 404 of the Sarbanes-Oxley Act of 2002 (the “Sarbanes-Oxley Act”) requires our independent registered public accounting firm to attest to the effectiveness of our internal control over financial reporting. Our transition to becoming subject to additional requirements of Section 404 of the Sarbanes-Oxley Act has been and will continue to be time-consuming. Further, the costs associated with compliance with and implementation of procedures under these and future laws and related rules could have a material impact on our results of operations.
Management has assessed the effectiveness of the Company’s internal control over financial reporting as of December 31, 2021 based on the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission in Internal Control-Integrated Framework (2013). Based on that assessment, we identified several material weaknesses in internal control over financial reporting, as described in Part II, Item 9A, Controls and Procedures in this Annual Report on Form 10-K.
We are in the process of enhancing our internal controls to remediate the material weaknesses. However, we can give no assurance that these measures will be sufficient to remediate the material weaknesses, that additional material weaknesses or significant deficiencies in our internal controls will not be identified in the future or that we will otherwise be able to establish and maintain an effective system of internal controls. As a result of the material weaknesses in our internal control over financial reporting, we may not detect errors on a timely basis, our financial statements may be materially misstated, investors may lose confidence in the accuracy and completeness of our financial reports and we may be unable to timely produce our financial reports. Any of the foregoing could negatively affect the market price of our common stock, perhaps significantly. In addition, we could become subject to investigations by any stock exchange on which our securities are listed, the SEC or other regulatory authorities, or litigation or disputes with stockholders, which could require additional financial and management resources and result in more costly directors’ and officers’ insurance, which could have an adverse impact on our business.
The failure to effectively recruit, retain and develop qualified personnel and implement effective succession processes could adversely affect our success and could have a material adverse effect on our business, financial condition and results of operations.
Our business functions are complex and require wide-ranging expertise and intellectual capital. If we fail to recruit, retain and develop personnel who can provide the needed expertise across the entire spectrum of our expertise and intellectual capital needs, then the ability of our business to successfully compete and grow may be adversely affected. The market for qualified personnel is highly competitive and we have experienced labor availability issues in several of our facilities. This shortage of labor has resulted, and may continue to result, in increased compensation and recruiting expenses, which could have a material adverse effect on our profitability, particularly if we are unable to pass all of such expenses on to our customers. In addition, the loss of key personnel without adequate succession plans in place may cause a failure to maintain continuity in key business functions. We may not succeed in recruiting sufficient personnel to support our production needs or may fail to effectively replace current personnel who depart with qualified or effective successors. Personnel shortages have resulted, and may continue to result, in extended production lead times and difficulty in meeting customers’ delivery expectations, which could result in the loss of customers and damage to our reputation and have a material adverse effect on our business, financial condition and results of operations.
A disruption or other failure in our supply chain could adversely affect our business and financial results.
As a company engaged in manufacturing and distribution, we are subject to the risks inherent in such activities, including product quality control issues, disruptions or delays in our supply chain as well other external factors over which we have no control. Raw materials used in our products may be sourced from a few, or single, key suppliers.
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Specifically, certain key components for our Financial Payment Card products include EMV microchips, substrates (such as PVC), resin, modules, antennas and inlays, which we source from multiple suppliers located in Germany, Thailand, the Netherlands, South Korea, the United States, Haiti and Singapore, primarily on a purchase order basis. Though we obtain the microchips used in our Financial Payment Card products from multiple suppliers, we source the substantial majority of such microchips from one supplier. For the year ended December 31, 2021 approximately 92% of our purchased microchips and antennas came from four main suppliers, and approximately 64% came from one supplier. If such supplier is unable to fulfill our orders for microchips or is delayed in shipping microchips to us, we could fail to timely fulfill customer orders, which could damage our reputation and result in a loss of customers and customer opportunities and material harm to our financial results.
Additionally, our Second Wave® cards, featuring a core made with “recovered ocean bound plastic” rely on a largely international supply chain to source and provide such “recovered ocean bound plastic” in accordance with our defined parameters. It is difficult and costly to monitor suppliers of key components and their compliance with our parameters, our codes of conduct, and applicable laws. Any failure by our suppliers to so comply could adversely affect our ability to produce Second Wave payment cards or cards with EMV microchips at all or in a manner consistent with standards agreed upon with our customers, which could adversely affect our business, reputation and customer relationships. Moreover, in certain cases, such as with ROBP, microchip and resin suppliers, we may rely on suppliers for which there are not adequate and immediate or any replacements, which may result in our inability to continue to produce or a reduction in production of products that use components from these suppliers in the event the suppliers terminate their relationships with us, fail to deliver products or materials in required volumes or in required timeframes, or otherwise fail to meet their obligations to us. We generally do not maintain large volumes of inventory, which makes us even more susceptible to harm if a single-source supplier fails to deliver products or materials as required.
Also, changes in the financial or business condition of our suppliers, political instability, social or civil unrest, war or adverse market conditions in a supplier’s country (including relating to any continued outbreak of COVID-19), demand from other customers of such suppliers or failure to comply with our codes of conduct or other contractual requirements could render our suppliers unable to provide us with, or render us unable or unwilling to accept, the components we need to produce our products and thus subject us to losses or adversely affect our ability to bring products to market. Further, the failure of our suppliers to deliver goods and services in sufficient quantities, in compliance with applicable standards, contract requirements, or laws and regulations, and in a timely manner could adversely affect our customer service levels, our reputation and our overall business. For example, we have in the past experienced delays in our supply chain, which made it difficult to produce our products in a timely manner. In addition, any increases in the costs of goods and services for our business, including as a result of inflationary pressures, may adversely affect our profit margins if we are unable to pass along any higher costs in the form of price increases or otherwise achieve cost efficiencies in our operations. If a company in our supply chain engages in illegal, unethical or other questionable conduct, we may not have visibility to these practices and we, and our customers, may face reputational harm in addition to interruptions to our supply chain.
Failure to retain our existing customers or identify and attract new customers would have a material adverse effect on our business.
A substantial portion of our net sales is derived from several large customers. The Company had one customer that accounted for 10% or more of its net sales in 2021. Net sales from this customer was approximately 18% of total net sales for the year ended December 31, 2021. We have been serving this customer for greater than 10 years. In addition, nearly two-thirds of our net sales for the year ended December 31, 2021 were from our top ten direct customers, which includes certain Group Service Providers. We have been serving these top ten direct customers for an average of greater than 10 years. If one or more of our key customer relationships ends, it could have a material adverse effect on our business and financial results. Our ability to provide products and services to these customers and our other customers and meet very high quality standards in a timely manner is critical to our business success. For example, one of the key services that we offer our customers is the prompt and timely production and delivery of replacement debit or credit cards. Orders for replacement debit or credit cards often are placed on short notice and may require personalization. If we are unable to offer these and our other products and services in a high quality and timely manner, our relationships with our customers may be adversely affected and customers may terminate their contracts with us.
In addition, our continued business relationship with our customers may be impacted by several factors beyond our control, including more attractive product offerings from our competitors, pricing and inflationary pressures, the financial health of our customers and macroeconomic conditions affecting the Financial Payment Card industry or our
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financial institution and other customers. Because our contractual arrangements with customers generally do not include exclusivity clauses or commitments to order specified quantities of products on a medium or long-term basis, there is no guarantee that we will receive orders on a consistent basis or on favorable terms, or be able to renew contracts or purchase orders in a given year on favorable terms or at all. Additionally, as a result of labor shortages and supply chain constraints, the Company has experienced extended production lead times in some areas of the business and difficulty meeting some customers’ delivery expectations. While we continue to proactively monitor, assess and take steps to minimize disruptions and delays in production, these disruptions and delays have caused, and may continue to cause, the Company to lose or delay customer opportunities.
If we experience difficulty attracting and retaining customers, our business, financial condition and results of operations would be materially and adversely affected.
System security risks, data protection breaches, and cyber-attacks could compromise our proprietary information, impair customer and vendor relationships, disrupt our internal operations, and harm perception of our products and expose us to litigation and/or regulatory penalties, which could have a material adverse effect on our business and our reputation.
In operating a Financial Payment Card business, we manage large amounts of personally identifiable information of cardholders, including cardholder names, account numbers and similar information. The reliability and security of our information technology (“IT”)IT infrastructure and our ability to protect sensitive and confidential information for our customers, which include many financial institutions, is critical to our business. Our handling of such information makes usWe have been and may continue to be a potential target of cyber-attacks or cyber intrusions via the Internet, computer viruses, break-ins, malware, phishing attacks, ransomware attacks, hacking, denial-of-service attacks or other attacks and similar disruptions from unauthorized use of or access to computer systems (including from internal and external sources). Any system or network disruptionA breach of our security defenses could result in a loss of our intellectual property, the release of sensitive cardholder information and customer, consumer or employee
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personal data, or the loss of production capabilities at one or more of our production facilities. TheseIn recent years these types of incidents have become more prevalent and pervasive across industries, including in our industry.
In addition, our encryption systems are at risk of being breached or decoded. SmartWe use encryption technology to protect sensitive data while in transit and at rest. Also, smart cards are equipped with keys that encrypt and decode messages in order to secure transactions and maintain the confidentiality of data. The security afforded by this technology depends on the integrity of the encryption keys and the complexity of the algorithms used to encrypt and decode information. Any significant advances in technology that enable the breach of cryptographic systems, malicious software infiltration or that allow for the exploitation of weaknesses in such systems could result in a decline in the security we are able to provide through this technology. Any material breach of our secured systems could harm our competitive position, result in a loss of customer trust and confidence, and cause us to incur significant costs to remedy the damages caused by system or network disruptions, whether caused by cyber-attacks, security breaches, internal control failures, or otherwise, which could ultimately have a material adverse effect on our business, financial condition and results of operations.
The protective measures we have implemented to protect against data and security breaches and cyber-attacks may not prevent system or network disruptions and may be insufficient to prevent or limit the damage from any future security breaches. We regularly evaluate, assess and test our systems and the controls, processes and practices to protect those systems. The evaluations, assessments and testing identify areas of weakness in, and suggested improvements to, the maturity of our systems, processes, and risk management framework as well as vulnerabilities in those areas that could be attacked and exploited to access and acquire proprietary and confidential information. Although cybersecurity and the continued development and enhancement of our controls, processes and practices designed to protect our systems, computers, software, data and networks from attack, damage or unauthorized access are a high priority for us, ourOur activities and investment in protective measures may not be deployed sufficiently quickly enough or successfully in order to protect our system or network against disruptions and may be insufficient tonot prevent or limit the damage from any future security breaches. In addition, as these threats continue to evolve, we may be required to invest significant additional resources to modify and enhance our information security and controls or to investigate and remediate any security vulnerabilities.
The covenants and restrictions contained in agreements governing our indebtedness may adversely affect our business and results of operations, may restrict our ability to grow and could make it difficult or impossible to timely make our debt service payments or refinance our debt when it comes due.
We maintain a substantial amount of debt, and we may incur additional debt in the future to help fund our business. The agreements governing our indebtedness do not fully prohibit us or our subsidiaries from incurring additional indebtedness in the future, and to the extent that we incur additional indebtedness, the risks associated with our substantial indebtedness described below, including our possible inability to service our debt, may increase. Our substantial indebtedness and interest expense could have important consequences to us, including:
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| ● | limiting our ability to use a substantial portion of our cash flow from operations in other areas of our business, including for working capital, research and development, expanding our infrastructure, capital expenditures and other general business activities and investment opportunities in our company, because we must dedicate a substantial portion of these funds to pay interest, make principal payments and/or otherwise service our debt; |
| ● | impacting our cash flows, results of operations and financial condition when interest rates rise, because the interest rate on our revolving credit facility is a floating rate that varies depending on market interest rates from time to time; |
| ● | limiting our ability to retain or attract customers and our ability to attract or retain qualified employees due to our significant amount of debt and the related implications of such debt for the Company’s long-term financial condition; |
| ● | limiting our ability to obtain additional financing in the future for working capital, capital expenditures, debt service requirements, acquisitions and the execution of our strategy, and other expenses or investments planned by us; |
| ● | limiting our flexibility and our ability to capitalize on business opportunities and to react to competitive pressures and adverse changes in government regulation, our business and our industry; |
| ● | limiting our ability to timely make our debt service payments or to satisfy our other obligations under our indebtedness (which could result in an event of default and acceleration if we fail to comply with the requirements of our indebtedness); |
| ● | increasing our vulnerability to a downturn in our business and to adverse economic and industry conditions generally; and |
| ● | placing us at a competitive disadvantage as compared to our competitors that are less leveraged. |
Additionally, the terms of the agreements governing our indebtedness restrict, and any additional indebtedness we may incur in the future could similarly restrict, our ability to operate our business and to pursue our business strategies. Among other things, these agreements restrict our ability to:
| ● | incur additional indebtedness; |
| ● | create liens or use assets as security in other transactions; |
| ● | enter into certain asset sale transactions or other dispositions of assets; |
| ● | declare or pay dividends, repurchase or redeem stock, or make other distributions to stockholders; |
| ● | make investments in other businesses or joint ventures; |
| ● | merge or consolidate, or sell, transfer, lease or dispose of substantially all of our assets; and |
| ● | enter into transactions with affiliates. |
Interruptions in our operations, particularly in our IT systems, could have a material adverse effect on our business and reputation.
Our business is dependent upon our ability to execute, in an efficient and uninterrupted fashion, necessary business functions, including the operation of complex IT applications.systems. In addition, a significant portion of the communication between our employees, customers, and suppliers around the world depends on our IT systems. The reliability of our IT infrastructure and software, and our ability to expand and continually update technologies in response to our changing needs, are critical to our business. An
In order to serve our customers and operate certain aspects of our business, we depend on data centers and computing infrastructure that is both our own as well as provided by third party vendors. To the extent applications and data used in our business are hosted by third party vendors at their facilities, we do not control the operation of such facilities or in some cases the hardware and infrastructure within them. Any disruption of, interference at, or inability to keep up with our needs for capacity by our third-party data centers or hosted infrastructure partners could interrupt our business operations. In addition, any problems faced by our third-party data center operations or hosted infrastructure partners with the telecommunications network providers with whom we or they contract, or with the systems by which our telecommunications providers allocate capacity among their customers, including us, could adversely affect the experience of our customers. Our ability to service our customers also largely depends on the efficient and uninterrupted operation of our own computer information systems residing at our leased facilities. The proper functioning of such systems can be adversely affected by the increasing age and usage of such systems, among other things. Any interruption in our business applications, systems or networks, including, but not limited to, new system implementations, server
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downtime, facility issues, natural disasters or energy blackouts, could have a material adverse impact on our operations, sales and operating results. Additionally, we have a limited number of employees with the expertise required to operate such internal applications, systems and networks as well as remediate them in the event of a failure, and thus the attrition of such employees could result in our inability to quickly and effectively resolve future IT issues that may arise.
Not only wouldcould we suffer damage to our brand and reputation in the event of a system outage or data loss or interruption, but we may also be liable to third parties, including our customers. Some of our contractual agreements with financial institutions require the payment of penalties if our systems do not meet certain operating standards, and failure to operate in accordance with the standards of one or more of the Payment Card Brands could result in a loss of the certificationcompliance of our facilities, any of which could have a material adverse effect on our business.
In addition, to successfully operate our business, we must be able to protect our processing and other systems from interruption, including from events that may be beyond our control. WeProtective measures we have established certain protective measures in an effort to ensure thefor continuation of core business operations in the event that normal operations could not be performed due toof a catastrophic event. However, these measuresevent may be insufficient to prevent or limit the damage from any future disruptions, and any such disruption could have a material adverse effect on our business, financial condition and results of operations.
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Weour facilities may experience software defects, which could harm our business and reputation and expose us to potential liability.
Our services are based on sophisticated software and computing systems, and the software underlying our services may contain undetected errors or defects when first introduced or when new versions are released. In addition, we may experience difficulties in installing or integrating our technology on systems used by our clients. Defects in our software, errors or delays in the processing of electronic transactions or other difficulties could result in the interruption of business operations, delays in market acceptance, additional development and remediation costs, diversion of technical and other resources, loss of clients, negative publicity or exposure to liability claims. Although we attempt to limit our potential liability through disclaimers and limitation of liability provisions in our license and client agreements, we cannot be certain that these measures will successfully limit our liability.
Failure to identify and attract new customers or a failure to retain our customers could have a material adverse effectimpact on our business.
Our business, is dependent upon our ability to identify and attract new customers and to retain our existing customers. Building and maintaining these critical relationships requires us to consistently deliver high-quality products at competitive prices. If our customers experience a decline in their business or Financial Payment Card needs, or if our operations suffer from production, quality, pricing or other issues, we may be unable to attract new customers or retain our existing customers. In addition, any actual or perceived deterioration in our financial condition or loss of our market share may discourage existing or potential customers from doing business with us. If we experience difficulty attracting and retaining customers, our business, financial condition and results of operations may be materially and adversely affected.and/or financial condition.
A substantial portion of our net sales is derived from several large customers. Our top five customers accounted for approximately 28.5% of our net sales for the year ended December 31, 2017. Our continued business relationship with these customers may be impacted by several factors beyond our control, including more attractive product offerings from our competitors, pricing pressures or the financial health of these customers. Many of our customers operate in competitive businesses, and their demand and market positions may vary considerably. These customers depend on favorable macroeconomic conditions and are impacted by the availability of affordable credit and capital, the level and volatility of interest rates, inflation, employment levels and consumer confidence, among other factors.
We generally enter into master agreements that govern the general terms and conditions of our commercial relationships. We then enter into purchase order or other short‑term agreements that define the prices and the quantities of products to be delivered. Usually, our contractual arrangements include neither exclusivity clauses nor commitments from our customers to order any given quantities of products on a medium or long-term basis.
In addition, there is no guarantee that we will be able to renew or win contracts or purchase orders in a given year, or whether we will have the operating capacity or capabilities to deliver on significant new contracts or purchase orders won, which could result in the loss of future business. If we were to lose important programs for our products with any of our customers, or if customers were to reduce or change their buying patterns with us, seek alternate suppliers, increase their product returns or become unable or otherwise fail to meet payment obligations, our business, financial condition and results of operations could be materially adversely affected.
Our business could suffer from problems in production quality and process.
We produce our products using processes that are highly complex, require advanced and costly equipment and must continually be modified to improve yields and performance. Difficulties in the production process can reduce product yields, reduce product quality or interrupt production altogether. As a result of such problems, we may not be able to deliver products, or may be able to deliver products, but in a less timely or cost‑effective manner or at a lower than expected quality level, or we may be required to rework or replace products. As the complexity of both our products and our technological processes has become more advanced, production tolerances have been reduced and requirements for precision have become more demanding. If we do not advance our production processes at the market rate, we may experience a lower production quality than the market standard. We may suffer disruptions in our production, either due to production difficulties, such as machinery or technology failures, or as a result of external factors beyond our control, such as delay of, or quality issues with, materials provided by suppliers, interruption of our electrical service or a natural
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disaster. Any such event could have a material adverse effect on our business, financial condition and results of operations.
If we fail to meet customer demands in a timely manner, we could lose certain critical business relationships.
Our ability to provide products and services and meet very high quality standards in a timely manner is critical to our business success. For example, one of the key services that we offer our customers is the prompt and timely production and delivery of replacement debit or credit cards. Orders for replacement debit or credit cards often are placed on short notice and may require personalization. If we are unable to offer these and our other products and services in a timely manner or due to software malfunction, logistical impedimentsserious disruption at any of our facilities, or economic, social, political or other challenges impacting the industry as a whole, our relationships with our customers may be adversely affected and we may lose contracts, all of which could have a material adverse effect on our business, financial condition and results of operations.
We face competition that has resulted in and may continue to result in a loss of our market share and/or a decline in our profitability.
Our marketplace is highly competitive and relatively saturated, and we expect these market dynamics to continue as new product markets develop, companies develop lower-cost production processes and other competitors attempt to enter the markets in which we operate. In addition, we expect to encounter further consolidation in the markets in which we operate.
Some of our competitors have longer operating histories, and, when viewed globally, larger customer bases and significantly greater financial, sales and marketing, manufacturing, distribution, technical and other capabilities than we do. These competitors may be able to adapt more quickly to new or emerging technological requirements and changes in customer and/or regulatory requirements and to leverage their scale to develop techniques to lower production costs and,including as a result their prices. They may also be able to devote greater resources to the promotion and sale of their products and services. We also face competition from newly established competitors, suppliers of products and customers who choose to develop their own products and services.
Existing or new competitors may develop products, technologies or services that more effectively address our markets with enhanced features and functionality, greater levels of integration and/or lower cost. As the technological sophistication of our competitors and the size of the market increases, competing low‑cost producersCOVID-19 pandemic, severe weather conditions, climate change, natural disasters, hostilities, political instability, social unrest, network outages or terrorist activities, could emerge and grow stronger. If our customers prefer low‑cost alternatives to our products, our revenue and profitability could be materially adversely affected. Increased competition has historically resulted in, and is likely to continue to result in, declining average selling prices and reduced gross margins in certain of our businesses, and the loss of market share in certain markets. If we cannot sufficiently reduce our production costs, we may not be able to continue to compete successfully against current or new competitors. If we fail to compete successfully, we may lose market share or continue to lose market share in our existing markets, which could have a material adverse effect on our business, financial condition and results of operations.
New and developing technology solutions and products could make our existing technology solutions and products obsolete or irrelevant, and if we are unable to introduce new products and services in a timely manner, our business could be materially adversely affected.
The markets for our products and services are subject to technological changes, frequent introductions of new products and services and evolving industry standards. In particular, the rise in the adoption in wireless payment systems or mobile payments may make physical cards less attractive as a method of payment. Although to date we have not seen a meaningful reduction in card‑based payments in the U.S. resulting from the emergence of mobile payment applications, mobile payments offer consumers an alternative method to make purchases without the need to carry a physical card and could, if widely adopted, reduce the number of Financial Payment Cards issued to consumers. In addition, other new and developing technology solutions and products could make our existing technology solutions and products obsolete or irrelevant.
Our ability to enhance our current products and services and to develop and introduce innovative products and services that address the increasingly sophisticated needs of our customers will significantly affect our future success. We may not be successful in developing, marketing or selling new products and services that meet these changing demands. In addition, we may experience difficulties that could delay or prevent the successful development,
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introduction or marketing of these services, or our new services and enhancements may not adequately meet the demands of the marketplace or achieve market acceptance. We continually engage in efforts to innovate and upgrade our products and services. If we are unsuccessful in completing or gaining market acceptance of new products, services and technologies, it would likely have a material adverse effect onimpair our ability to retain existing customers or attract new ones. For example, one ofuse our growth opportunities is the potential adoption of dual-interface EMV cards by U.S. card issuing banks. Banks may be delayed in transitioning to the issuance of dual‑interface EMV cards due to increased costs and other factors. If these entities do not deploy dual‑interface EMV technology or do so less quickly and/or completely than we expect, our ability to grow could be significantly impacted which could have a material adverse effect on our business, financial condition and results of operations.
Our ability to develop and deliver new products and services successfully will depend on various factors, including our ability to:
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Additionally, opportunities to combine or package products and service offerings and the ability to cross‑sell products and services are critical to remaining competitive in our industry. As a result, part of our business strategy is to develop new products and services that may be used in conjunction with or in addition to our existing offerings. If we are unable to identify adequate opportunities to cross‑sell our products and services, this may have a material adverse effect on our business, financial condition and results of operations.
The process of developing and enhancing our strategies could be disruptive to our operationsfacilities and have a material adverse effectimpact on our resultsrevenues and increase our costs and expenses. In the event of operations and financial condition, and wea disruption in production at one of our facilities, our other facilities may not realize somehave sufficient capacity, may not have the specialized equipment necessary, may have higher production costs, may take significant time to increase production or allmay fail to meet our customers’ requirements, any of the anticipated benefits of this plan in the time frame anticipated or at all.
Duringwhich could negatively impact our quarterly earnings call on November 7, 2017, the Company announced the commencement of a comprehensive review of our business, to assess our strategies. The objective of this review is to enhance our strategies by executing key initiatives, further capitalizing on our addressable market, better serving the needs of our customers and delivering shareholder value. These strategic initiatives may result in actions affecting, among other things, leadership roles and responsibilities, our operational footprint, and the way our organization is structured to sell and market our products to our customers. The execution of our strategic review and initiatives may cause disruptions to our operations, make it difficult to attract or retain employees, result in higher than anticipated charges and otherwise have a material adverse effect on our results of operations and financial condition. In addition,Production disruptions may cause our customers to seek alternative supply, which could further adversely affect our profitability.
A significant amount of certain specialized manufacturing capacity is also concentrated in single-site locations. Due to the specialized nature of the assets used in the manufacturing process at each location, in the event a particular facility experiences disruption, it may not be possible to find replacement capacity quickly or substitute production from our other facilities. Accordingly, disruption at a single-site manufacturing operation could significantly impact our ability to implementsupply our strategiescustomers and achieve the anticipated benefits therefrom within the expected time framecould have a severe impact on us.
Additionally, all of our manufacturing facilities are currently leased, and we are subject to risks associated with our current and future real estate leases for such facilities. As each lease expires, we may fail to negotiate renewals, either on commercially acceptable terms or at all, is subject to estimates and assumptions and may vary materially from our expectations, including as a result of factors that are beyond our control. Furthermore, following implementation of our enhanced strategies, our business may not be more efficient or effective.
We may not be able to sell, exit or reconfigure businesses or facilities that we determine no longer meet with our strategy or that should be consolidated.
In executing our strategy, we will perform a comprehensive review of our business and operations and may, as a result, consider the consolidation of certain of our facilities and/or the divestiture of one or more of our businesses.
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Any such consolidation or divestiture could adversely affect our continuing business and expenses, revenues, results of operations, cash flows and financial position.
We may not be able to realize efficiencies and cost savings from any consolidation activities, and there is no assurance that our efforts will be successful. If we are not able to successfully manage any consolidation activities that we may undertake, expected efficiencies and benefits might be delayed or not realized, and our operations and business could be disrupted.
Divestitures have inherent risks, including selling expenses, the possibility that any anticipated sale will not occur, delays in closing any sale, the risk of lower-than-expected proceeds from the sale of the divested business, unexpected costs associated with the separation of the business to be sold from historical information technology and other operating systems, and potential post-closing claims for indemnification. Our ability to dispose of, exit or reconfigure businesses that may no longer be aligned with our strategy will depend on many factors, including the terms and conditions of any purchase and sale agreement, as well as industry, business and economic conditions. We cannot provide any assurance that we will be able to sell non-strategic businesses on terms that are acceptable to us, or at all. In addition, if the sale of any non-strategic business cannot be consummated or is not practical, alternative courses of action, including relocation of operations or closure, may not be available to us or may be more costly than anticipated.
Our future success depends upon our ability to develop, introduce and commercialize new products, which can be a lengthy and complex process. We may be unable to commercialize new or improved products we may develop on a timely basis, or at all.
The development of new or enhanced products is a complexfind replacement locations with adequate capacity for our unique equipment and uncertain process requiring the accurate anticipation of technological, market and industry trends, as well as precise technical execution. The successful development of new products may require us to undertake time-consuming and costly development activities,operational needs, and we may experience difficultiesdisruption or challenging market conditions thatsignificant cost in relocating, any of which could delay or prevent the successful development, commercialization and marketing of these new products, including, for example, limited market acceptance of dual-interface EMV technology in the United States. Before we can commercialize any new products, we may need to expend significant funds in order to conduct substantial research and development. For example, we have been experiencing customer interest in metal cards, however our ability to operationalize this business is progressing more slowly than expected. If we experience limited market opportunities for dual-interface EMV technology or continued difficulty with the production of metal cards, or if we have difficulty producing other innovative products, such as dual-interface EMV cards, there could be a materialan adverse effect on our revenue, resultsoperations, customer relationships and financial performance.
Expectations of operations, reputationstakeholders relating to environmental, social and business.
As we develop products, wegovernance matters may needimpose additional costs and expose us to make significant investments in product development,new risks as well as sales and marketing resources. Furthermore, if we are unable to develop and introduce new and innovative products in a cost‑effective and timely manner, our product and service offerings could be rendered obsolete. In addition, competitors may develop and commercialize competing products faster than we are able to do so. Any of these factors could have a material adverse effect on our business, financial condition and results of operations.
Our outstanding indebtedness may impact our business and our results of operations and may restrict our ability to grow, and future EBITDA declines, should they occur, could make it difficult or impossible to timely make our debt service payments or refinance our debt when it comes due.
As of December 31, 2017, we had $303.9 million of total indebtedness outstanding, net of unamortized discount and deferred financing costs of $8.6 million under our First Lien Term Loan Facility. See Part II, Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources.”
We may incur additional indebtedness in the future to help fund our business, subject to market and other conditions. Our substantial indebtedness and interest expense could have important consequences to us, including:
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The limitations described above could have a material adverse effect on our business, financial condition, results of operations, and prospects. Further, if we are unablecash flows.
There is an increasing focus from certain investors, regulators, customers and other stakeholders concerning corporate responsibility, specifically related to satisfy our obligations under our indebtedness as they become due, or if we are unableenvironmental, social and governance (“ESG”) matters. Some investors may use these factors to pay our interest obligations we would be rendered insolvent.
The terms of our First Lien Credit Facility restrict,guide their investment strategies and, covenants contained in agreements governing indebtednesssome cases, may choose not to invest in the futureCompany if they believe our practices relating to ESG are inadequate, which may restrict,hinder the Company’s access to capital. In addition, investment in funds that specialize in companies that perform well in such assessments are increasingly popular, and major institutional investors have publicly emphasized the importance of such ESG measures to their investment decisions. In addition to the topics typically considered in such assessments, for businesses in the card manufacturing industry, issues of emissions and plastic waste are of particular importance. For example, increased attention to conservation measures and negative consumer attitudes about plastic products or other components in our ability to operateproducts could have an adverse impact on demand for our products, which could adversely impact our business and to pursue our business strategies.
Our First Lien Credit Facilitycontains, and any future indebtednessresults of ours may contain, a number of restrictive covenants that impose customary operating and financial restrictions on us. Our First Lien Credit Facility places certain restrictions or limitations on our ability and the ability of our restricted subsidiaries, among other things, to:
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operations.
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In addition, asThere have also been changing consumer concerns and perceptions (whether accurate or inaccurate) regarding the potentially adverse environmental effects of substances present in certain consumer products, including substances and components the last dayCompany uses in its products, including PVC plastic. Potential consumer concerns may also extend to the sourcing of any fiscal quarter, if the amount we have drawn under the First Lien Revolving Credit Facility is greater than 50% of the aggregate principal amount of all commitments of the lenders thereunder, we are required to maintain a first lien net leverage ratio notcertain materials and labor and other conditions in excess of 7.0x Adjusted EBITDA, as defined in the agreement. Accordingly, as of December 31, 2017, the availability of our undrawn $40.0 million Revolving Credit Facility was limited to $20.0 million as our first lien net leverage ratio was 11.4x Adjusted EBITDA.
Our failure to comply with any of these covenants could result in an event of default which, if not cured or waived, could result in the acceleration of all of our indebtedness under the First Lien Credit Facility.
Our ability to raise capital in the future may be limited.
Our business and operations may consume resources faster than we anticipate. In the future, we may need to raise additional funds through the issuance of new equity securities, debt or a combination of both. As a result of our financial condition, additional financing may not be available on favorable terms, or at all. If adequate funds are not available on acceptable terms, wethose locations. We may be unable to fundmanufacture or procure our products in conformity with these preferences and concerns, or doing so may require significant research and development costs as well as increased costs associated with procuring alternative raw materials and components. We also may need to make changes to our operations that could require additional capital requirements. Anyexpenditures. This would adversely affect our financial condition, results of operations and cash flows.
Furthermore, customer, investor and consumer expectations in ESG areas have been varied, rapidly evolving and increasing. Specifically, certain customers are beginning to request that the Company provide information on its plans relating to certain environmental related matters such as greenhouse gas emissions, waste sent to landfills and energy usage. The enhanced stakeholder focus on ESG issues requires the continuous monitoring of various and evolving standards, which is time consuming and costly. In addition, in the event that we communicate certain initiatives or goals regarding ESG matters, we could fail, or be perceived to fail, in our achievement of such initiatives or goals, or we could be criticized for the scope of such initiatives or goals. A failure to achieve adequate funding will delayadequately meet these various stakeholder expectations and standards may result in reputational damage, the loss of business, diluted market valuation, an inability to attract customers or an inability to attract and retain top talent.
Additionally, the potential for future ESG and climate risk reporting requirements may result in additional costs to monitor, track and report sustainability measures. We have implemented or are considering implementing ESG strategies, including efforts to offer more eco-focused solutions to our product and services innovation and development and could leadcustomers. Our customers may request that changes be made to abandonment of oneour products or moreoperations, as well as other aspects of our strategic initiatives. Anyproduction processes. These strategies and customer requests could increase our operating costs and may require the investment of these eventscapital. The failure to implement ESG strategies, meet our ESG goals or evolving stakeholder expectations or standards or comply with any new ESG related regulations could materially harmadversely affect our reputation and our relationships with customers, which in turn could adversely affect our business, financial condition, results of operations and prospects.cash flows.
Climate change may adversely affect our operations and financial performance.
There is continuing concern from members of the scientific community and the general public that emissions of greenhouse gases (“GHG”) and other human activities have caused or will cause significant changes in weather patterns and increase the frequency and severity of extreme weather events, including, without limitation, droughts, wildfires, hurricanes and flooding. Extreme weather events have and may continue to adversely affect us because of their impact on the availability and cost of raw materials and components we need to manufacture our products and that we source from locations in the United States and internationally that have experienced and may continue to experience such events. In addition, extreme weather events could have an adverse impact on, among other things, our customers’ demand for our products and services due to impacts of such events on them as well as decreased consumer demand and spending power as a result of such events, and also on our insurance premiums, operating costs and ability to timely fulfill customer orders in the event of damage or disruption to one of our facilities resulting from such an event.
We may be unable to adequately protect our trade secrets and intellectual property rights against misappropriation or infringement, which may have a material adverse effect on our business.
Our success and future revenue growth will depend, in part, on our ability to protect our intellectual property.property is important to our business. We depend on patents and other intellectual property rights to protect our products, proprietary designs and technological processes against misappropriation by others. WeOur existing or future patents may be challenged, invalidated or circumvented. Our patents have been and may in the future be challenged as invalid. Furthermore, we may have difficulty obtaining additional patents and other intellectual property protection, andprotections in the future. The patents and intellectual property rights that we receive may be insufficient to provide us with meaningful protection or commercial advantage. EffectiveMoreover, effective patent, trademark, service mark, copyright and trade secret protection may not be available in every country in which ourwe provide services are made available. It is possible that competitors or other unauthorized third parties may obtain, copy, usesell or disclose our technologies and processes,license products.
Our efforts to prevent the misappropriation or confidential employee, customer or supplier data. Anyinfringement of our existing or future patents may be challenged, invalidated or circumvented. We engage, and are currently engaged, in litigation to enforce or defend our intellectual property rights,or the intellectual property of our customers may not succeed. We actively seek to protect our proprietary rights and trade secrets by engaging in litigation and determine the validity and scope of the proprietary rights of others, including our customers. We also enterby entering into confidentiality agreements with our employees, consultants, and strategic partners and controlcontrolling access to and distribution of our technologies, documentation and other proprietary information; however, such agreements may not be enforceable or provide us with an adequate remedy. Despite these efforts, internal or external
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information. Nevertheless, unauthorized parties may attempt to copy disclose,aspects of our products or technologies or to obtain orand use ourinformation that we regard as proprietary products, services or technology without our authorization and may use such information to interfere with our customers.business. Enforcing our intellectual property rights has in the past, and may in the future, cause us to incur significant costs. These costs and other consequences from the unauthorized use of our intellectual property could have a material adverse effect on our business, financial condition and results of operations.
Companies in our industry aggressively protect their intellectual property rights. Our products often contain technology provided to us by other parties such as suppliers or customers, and we compete in an industry that is highly active in generating intellectual property. We may have little or no ability to determine in advance whether such technology infringes the intellectual property rights of a third party. From time to time, we receive notices or are named in litigation that claim we have infringed upon, misappropriated or misused other parties’ proprietary rights or that challenge the validity of our patents. In addition ifto the costs and distraction that result from intellectual property litigation and infringement claims, an adverse outcome in these types of disputes could prevent us from offering some of our products and services or from enforcing our intellectual property rights. Settlements can involve royalty or other payments that could reduce our profit margins and may have a material adverse effect on our financial results. Our suppliers, customers and licensors may not be required to fully indemnify us for the costs of defending against infringement claims. In addition, we cannot adequately protect our technology, our competitors may be ablerequired to offer certainindemnify some customers and strategic partners related to allegations, regardless of merit, that our products and/or services similarinfringe on the intellectual property rights of others.
We also face risks related to ours.
Ouropen source software. Certain of our software may beis derived from open source software, which is generally made available to the public by its authors and/or other third parties. Open source software is often made available under licenses, which impose certain obligations in the event we distribute derivative works of the open source software. These obligations may require us to make source code for the derivative works available to the public and/or license such derivative works on terms different from those customarily used to protect our intellectual property. With respect to our proprietary software, we generally license such software under terms that prohibit combining it with open source software. Despite these restrictions, parties may combine our proprietary software with open source software without our authorization, in which case we might nonetheless be required to release the source code of our proprietary software. In addition to risks related to license requirements, usageUsage of open source software can lead to greater risks than the use of third‑partythird-party commercial software, as open source licensors generally do not provide warranties, controls on the origin or development of the software or remedies against the licensors. Many of the risks associated with usage of open source software cannot be eliminated and could have a material adverse effect on our business, financial condition and results of operations.
We may experience software defects, which could harm our business and reputation and expose us to potential liability.
Our effortsservices are based on sophisticated software and computing systems, and the software underlying our services may contain undetected errors or defects when first introduced or when new versions are released. In addition, we may experience difficulties in installing or integrating our technology on systems used by our customers. Defects in our software, errors or delays in the processing of electronic transactions or other difficulties could result in the interruption of business operations, delays in market acceptance, additional development and remediation costs, diversion of technical and other resources, loss of customers, negative publicity or exposure to preventliability claims.
Our ability to raise capital in the misappropriation or infringementfuture may be limited, which could lead to delays in innovation and abandonment of our intellectual propertystrategic initiatives.
In the future, we may need to raise additional funds through the issuance of new equity securities, debt or the intellectual propertya combination of both. The terms of our customers may not succeed. Although we actively seek to protect our proprietary rights, nevertheless, unauthorized parties may attempt to copy aspectsoutstanding indebtedness, low trading volume and the fluctuating trading price of our products or technologies or to obtain and use information that we regard as proprietary. Identifying unauthorized use of our products and technologies is difficult and time consuming. The initiation of litigation as a result of the misappropriation or infringement of our intellectual propertycommon stock may adversely affect our relationshipsability to access capital markets and agreements with certain customersany such financing may not be available on favorable terms, or at all. If adequate funds are not available on acceptable terms, we may be unable to fund our capital requirements. We may be unable to access capital due to unfavorable market conditions or other market factors outside of our control, and there can be no assurance that have a stakewe will be able to raise additional capital when needed. Any failure to achieve adequate funding will delay our products and services innovation and development and could lead to abandonment of one or more of our strategic initiatives. Any of these events could materially harm our business, financial condition and prospects.
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Our business could suffer from problems in production quality, materials and process, which could reduce, delay or interrupt production of our products, resulting in adverse impacts to our business and financial results.
We produce our products using processes that are highly complex, require complex and costly equipment and must continually be modified to improve yields and performance. Difficulties in the outcome ofproduction process can reduce product yields, reduce product quality or interrupt production altogether. We may not have adequate replacements for failing or malfunctioning machinery available in a timely fashion. Additionally, we have experienced malfunctions and errors, including human error, relating to the litigation proceedings. Litigation is very expensive and may divert the attention of management and other key employees from the
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operation of certain machinery and systems used in our production process that, in some instances, have resulted in the delivery to our customers of products that did not meet their standards or specifications or whose functionality in the marketplace was adversely impacted. Such problems may result in our inability to properly fulfill customer orders and/or our obligation or election to replace products at our cost and expense, provide credit to or reimburse customers for related damages. We may also be subject to claims relating to such issues. The occurrence of any of these risks could damage our reputation and result in the loss of business, all of which could have a materialan adverse effectimpact on our business, financial condition and results of operations. In addition to litigation costs, infringement on
As the complexity of both our products by competitors has caused, and may in the future cause, customer loss to parties offering infringing products.
We rely on the timely supply of materials and products and our business could suffer iftechnological processes has become more advanced, production tolerances have been reduced and requirements for precision have become more demanding. If we do not advance our suppliers fail to meet their delivery obligations or raise their prices.
Our production operations depend on deliveries of microchips and other materials inprocesses at the market rate, we may experience a timely manner and, in some cases, on a just‑in‑time basis. From time to time, suppliers may extend lead times, limitlower production quality than the amounts supplied to us or increase prices due to capacity constraints or other factors.market standard. We may not be able to meet the demands of our customers in a timely manner, or at all, due to shortages in the supply of critical materials. The supplies we purchase could also have latent quality issues, causing quality problems with the products we produce, increased costs due to scrap or rework, delays to our delivery timelines or loss of business. Additionally, certain product materials requiredsuffer disruptions in our production, operations are only available from a limited number of suppliers, and we may not be ableeither due to find an adequate replacement forproduction difficulties, such materials if our suppliers are unable to meet their delivery obligations to us. For example, we rely on a small group of suppliers for the provision of EMV microchips that we use in our Financial Payment Cards. For the year ended December 31, 2017, we obtained approximately 90% of our total purchased EMV microchips from four main suppliers. If any one of these EMV microchip suppliers,as machinery or any supplier of ourtechnology failures, human or other raw materials, fails to deliver our requirements,errors, or ceases supplying such raw materials to us for any reason, our production could be disrupted. In addition, as a result of a shortage, we may be compelled toexternal factors beyond our control, such as delay shipmentsof, or quality issues with, materials provided by suppliers, interruption of our products,electrical service or devote additional resourcesa natural disaster. We may also risk non-compliance with certain industry standards if we experience failure of certain required operations or processes, such as those related to maintaining higher levels of inventory. Consequently, wefacility security, which may experience substantial period‑to‑period fluctuations inimpede our cost of sales and in our future results of operations. If we are unableability to obtain adequate supplies of quality materials in a timely manner or if there are significant increases in the cost of these materials, there could be a material adverse effect on our business, financial condition and results of operations.
The chip operating systems developed by our competitors may put us at a competitive disadvantage.
Certain of our competitors have internally developed their own chip operating systems, including for use in EMV cards. Ownership of these internal operating systems may give our competitors a cost advantage over us, as we utilize the chip operating systems designed by our chip suppliers for use on their respective chips. If our competitors are able to reduce the prices of theirdeliver products and services as a result of the cost savings they might realize from using their own internally developed operating system, our profitability may be materially adversely affected. Additionally, customers may prefer the operating systems of our competitors over the operating systems that we utilize in our EMV cards. If customers are more attracted to our competitors’ internally developed operating systems, demand for our products and services may be reduced, whichcustomers. Any such event could have a material adverse effect on our business, financial condition and results of operations.
Our businessfuture success depends upon our ability to obtain specialized equipment from third‑party suppliers,develop, introduce and commercialize new products, which can be a lengthy and complex process. We may be unable to commercialize new or improved products we may develop on a timely basis or at all.
The development of new or enhanced products is a complex and uncertain process requiring the accurate anticipation of technological, market and industry trends, as well as precise technical execution, all of which could adversely affect our ability to meet customer demand for new or enhanced products. The successful development of new products may require us to undertake time-consuming and costly research and development activities, and we may experience difficulties or challenging market conditions that could delay or prevent the successful development, commercialization and marketing of these new products, including, for example, limited or delayed market acceptance of dual-interface EMV technology or eco-focused card solutions in the United States. Before we can commercialize any new products, we may need to expend significant funds in order to conduct substantial research and development. Additionally, we have limited research and development resources as compared to many of our competitors, which may result in an immature product development process and lengthy product roll-outs. If we have difficulty producing innovative products, there could be subjecta material adverse effect on our revenue, results of operations, reputation and business. New or enhanced product offerings may also expose us to delayed deliveries, future price increases,additional risks, such as new sources of supplies, increased regulation or reputational harm.
As we develop products, we may need to make significant investments in product development and specialized equipment that does not meetnew technology, as well as sales and marketing resources. Furthermore, if we are unable to develop and introduce new and innovative products in a cost-effective and timely manner, our standards or requirements.
Our production processes depend on specialized equipment that we purchase and/or lease from third party suppliers. At times during the business cycle, thereproduct and service offerings could be rendered obsolete. In addition, competitors may be high demand for such equipment, with extended lead timesable to obtain such equipment. Further, there are a limited numberdevelop and commercialize competing products more quickly and efficiently. Any of suppliers that manufacture and service the equipment we use. Should our current suppliers be unable or unwilling to provide the necessary equipment, fail to meet quality standards of our customers or otherwise fail to deliver or service such equipment in a timely manner, any resulting delays in our production processesthese factors could have a material adverse effect on our business, financial condition and results of operations. In addition, the prices
We may become subject to additional sales tax collection obligations and claims for uncollected amounts, new U.S. tax legislation could expose us to additional tax liabilities and our income tax positions may be challenged by relevant tax authorities, all of the equipment we use may risewhich could adversely affect our cash flows and financial results.
Several states have adopted legislation requiring out-of-state sellers to collect and remit sales tax on sales transactions into those states where they have no physical presence. States seeking to expand applicability of sales tax “nexus” laws could result in additional tax expenses in the future, and any future price increases for this type of equipment could negatively impactevent we are unable to pass these expenses along to our ability to purchase new equipment or to service existing equipment.
The financial payment card industry has been and may continue to be subject to price erosion, which could have a material adverse effect on our business.
Pricing pressure in the financial payment card industry can be intense, in particular for large credit and debit card issuers and large card processors. Our large credit and debit card issuer customers face continued competitive pressure and, in turn, continually seek to reduce their expenses, including the cost of cards. We may experience a decline in the prices at which our products can be sold and at which such services can be offered. For example, our average selling price on U.S. Debit and Credit segment sales of EMV cards declined from $0.95 during the year ended
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December 31, 2016customers and additional administrative burden to $0.86 duringcollect and remit sales tax in such jurisdictions. In 2020, we determined that sales tax was not properly collected from certain customers and remitted to the year ended December 31, 2017. appropriate state tax authorities, and we recorded an associated sales tax expense (see Part II Item 8, Financial Statements and Supplementary Data, Note 15 “Commitments and Contingencies” in this Annual Report on Form 10-K regarding the sales tax expense and liability recorded). Our sales tax positions may be challenged by relevant tax authorities and we may not be successful in defending against any such challenge, which may subject us to retroactive assessment of state or local sales taxes in such jurisdictions and adversely affect our future cash flows and financial results.
In such instances, in order to continue to supply these products and services at competitive prices, we must reduce our production costs. Typically,addition, we are ablesubject to accomplish this through leveragingU.S. federal and state income taxes. Our tax receivables may not be realized, and our tax expense and the tax positions included in our scalefinancial statements, which are subject to estimates, could be impacted by changes in rules or interpretations of existing tax laws and production efficiencies. However, ifchanges in U.S. federal and state tax legislation and tax rates. New legislation may be enacted which could increase income tax rates in jurisdictions where we cannot continue to improveoperate or have nexus and materially impact our efficiencies to a degree sufficient for maintaining the required margins,tax provision, cash tax liability and effective tax rate. Additionally, our income tax positions may be challenged by relevant tax authorities and we may no longernot be successful in defending against any such challenge, whichmay adversely affect our future cash flows and financial results.
We may not be able to generate a profit from the sale of these productssell, exit or reconfigure businesses or facilities that we determine no longer meet with our strategy or that should be consolidated, and services. Moreover, we may not be able to cease productionexecute on an acquisition strategy or integrate acquisitions successfully.
In executing our strategy, we have consolidated certain of our facilities and divested certain of our businesses. We will continue to evaluate such products, either due toopportunities. Any such consolidation or divestiture could adversely affect our ongoing contractual obligations or the risk of losing our existing customer relationships,continuing business and as a result may be required to bear a loss on such products. Further competition in our product and service markets may lead to price erosion, lower revenue and margins in the future. Should reductions in our production costs fail to keep pace with reductions in market prices for the products we sell, there could be a material adverse effect on our business, financial condition and results of operations.
If we fail to accurately project demand for our products and services, we may encounter problems of inadequate supply or oversupply, which would have a material adverse effect on our business, financial condition andexpenses, revenues, results of operations, as well as damage our reputation and brand.
Our customers typically order our products and services on a purchase-order basis. We project product demand based on, among other things, addressable market size, historical experience, customer feedback, pricing pressure and competition. However, the emerging nature of our industry, our lack of significant order backlog and the varying sales and purchasing cycles of our customers make it difficult for us to accurately forecast demand.
If we overestimate demand, we may have higher raw material or product component inventory levels, or may have higher staffing levels than required. If we underestimate demand, our third-party suppliers may have inadequate raw material or product component inventories or we may not have required staffing levels, which could interrupt our manufacturing and delay shipments, and could result in lost sales. In particular, we are seeking to manage our staffing, procurement and inventory costs by matching them closely with our projected manufacturing needs and by, from time to time, deferring our purchase of raw materials and components in anticipation of supplier price reductions. As we seek to balance inventory costs and production flexibility, we may fail to accurately forecast demand to predict and maintain appropriate staffing levels and levels of inventory reserve, which could cause uneven and unpredictable flow or could affect our ability to coordinate our procurement and production to meet demand on a timely basis. Our inability to accurately predict or timely meet demand could have a material adverse effect on our business, financial conditions and results of operations as well as damage our reputation and brand.
Our operating results are unpredictable and may vary significantly from quarter to quarter and annually, and may differ significantly from our expectations.
Our operating results are affected by a wide variety of factors that could materially and adversely affect revenue and profitability or lead to significant variability in our operating results. These factors include, among others, the cyclicality of the financial card and electronic payment industries, capital requirements, inventory management, the availability of funding, competition, new product developments, technological changes, production problems and other factors. For example, with the adoption of Accounting Standards Update (“ASU”) 2014-09, Revenue from Contracts with Customers, which became effective January 1, 2018, the timing of revenue recognition may change significantly from quarter to quarter, and the net sales and results of operations for a given quarter may be materially higher or lower than our net sales and results of operations under existing rules. In addition, the adoption of tax reform by the U.S. government will have a significant impact on our effective tax rate, and will result in limitations and eliminations of certain favorable tax incentives.
A number of other factors could lead to fluctuations in quarterly and annual operating results, including:
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Unfavorable changes related to certain of the above factors have in the past and any of the above factors may in the future have a material adverse effect on our operating results and on our reputation. Furthermore, in periods of industry overcapacity or when our customers encounter difficulties in their end‑markets, orders are more exposed to cancellations, reductions, price renegotiations or postponements, which in turn reduce our management’s ability to forecast the next quarter or full‑year production levels, net sales, profits and cash flows. For these reasons, our net sales and operating results and cash flows may differ materially from our expectations as visibility is reduced and may have a material adverse effect on our business, financial condition and results of operations.
Our business and financial results may be materially adversely affected by various legal and regulatory proceedings.position.
We are subject to legal proceedings, lawsuits and other claims in the normal course of business and could become subject to additional claims in the future, some of which could be material. The outcome of existing proceedings, lawsuits and claims may differ from our expectations because the outcomes of litigation are often difficult to reliably predict. Various factors or developments can lead us to change current estimates of liabilities and related insurance receivables where applicable, or permit us to make such estimates for matters previously not susceptible to reasonable estimates, such as a significant judicial ruling or judgment, a significant settlement, significant regulatory developments or changes in applicable law. A future adverse ruling, settlement or unfavorable development could result in charges that could have a material adverse effect on our business, operating results or financial condition. In addition, litigation can be costly, and the expenses and damages arising from any liability could harm our business. Furthermore, our insurance may not be adequateable to cover claims againstsell non-strategic businesses on terms that are acceptable to us, or at all. In addition, if the sale of any liabilitynon-strategic business cannot be consummated or is not practical, alternative courses of action, including relocation of operations or closure, may not be available to us or may be more costly than anticipated.
We intend to continue to seek additional acquisition opportunities to potentially expand into new markets and to enhance our position in existing markets. We cannot assure we will be able to successfully identify suitable acquisition opportunities, prevail against competing potential acquirers, negotiate appropriate acquisition terms, obtain financing that may be imposed on us. The likelihood of legal claims may be heightened in times of financial hardship. See Part I, Item 3, “Legal Proceedings” of this Annual Report on Form 10-K for information onneeded to consummate such acquisitions, complete proposed acquisitions, successfully integrate acquired businesses into our currently pending legal proceedings.
We may be required to defend against alleged infringement of the intellectual property rights of others.
Companies in our industry aggressively protect and pursue their intellectual property rights. Our products may contain technology provided to us by other parties such as suppliersexisting operations or customers. We may have little or no ability to determine in advance whether such technology infringes the intellectual property rights of a third party. From time to time, we receive notices or are named in litigation that claim we have infringed upon, misappropriated or misused other parties’ proprietary rights. Additionally, we receive notices that challenge the validity of our patents. Intellectual property litigation can be expensive, time consuming and distracting to management. An adverse determination inexpand into new markets. In addition, any of
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these types of disputes could prevent us from producing or offering some of our products and services or could prevent us from enforcing our intellectual property rights. Furthermore, settlements can involve royalty or other payments that could reduce our profit margins and may have a material adverse effect on our financial results. Our suppliers, customers and licensorsacquisition, once successfully integrated, may not perform as planned, be requiredaccretive to indemnify us in the event that a claim of infringement is asserted against us,earnings, or they mayprove to be requiredbeneficial to indemnify us only up to a maximum amount, above which we would be responsible for any further costs or damages. Any of these claims or litigation may have a material adverse effect on our business, financial conditionoperations and results of operations.cash flow.
We may also be required to indemnify some customers and strategic partners under our agreements if a third party alleges or if a court finds that our products or activities have infringed upon, misappropriated or misused another party’s proprietary rights. Indemnification provisions may, in some circumstances, extend our liability beyond the products we provide and may include consequential damages and/or lost profits. Even if claims or litigation against us are not valid or successfully asserted, these claims could, and often do, result in significant costs and the diversion of the attention of management and other key employees to defend.
Our long-lived assets represent a significant portion of our total assets, and we may never realize their full value.
Our long-lived assets recorded as of December 31, 2017 were $144.42021 include $47.3 million representing 61.7% of our total assets, of which we have recorded plant, equipment, and leasehold improvements and operating lease right-of-use assets, $21.9 million of $49.3net intangible assets, and $47.2 million as our operations require significant investments in machinery and equipment.of goodwill.
We perform goodwill impairment testing on an annual basis as of October 1 of each year. Other long-lived assets, such as identifiable intangible assets and plant, equipment and leasehold improvements are reviewed for impairment whenever events, changes or circumstances indicate that the carrying amount of an asset or asset group may not be recoverable. If we were to conclude that an additionala future write‑downwrite-down of our long-lived assets is necessary, we would have to record the appropriate charge, which could result in a material adverse effect on our results of operations. A write‑downwrite-down of our long-lived assets may result from, among other things, deterioration in our performance and a decline in expected future cash flows and could have a material adverse effect on our business, financial condition and results of operations.
During the fourth quarter of 2017, based on the goodwill impairment test performed annually as of October 1, we recorded goodwill impairment charges of $19.1 million, of which $17.2 million related to the U.S. Debit and Credit segment resulting from continued market softness in demand for EMV cards, including price erosion and loss of market share in the United States. The other impairment for $1.9 million related to Other which resulted from declines in net sales and operating losses incurred in our Canadian business. See Part II, Item 8, Financial Statements and Supplementary Data, Note 6 “Goodwill and Other Intangible Assets,” in this Annual Report on Form 10-K for more information.
The adoption of the comprehensive tax reform by the U.S. government may materially adversely impact our financial results.
On December 22, 2017, the U.S. government enacted comprehensive tax reform legislation that includes significant changes to taxation of business entities. These changes include, among others, (i) a permanent reduction to the corporate income tax rate, (ii) a partial limitation on the deductibility of business interest expense, (iii) elimination of deduction for income attributable to domestic production activities and (iv) a partial shift of the U.S. taxation of multinational corporations from a tax on worldwide income to a territorial system (along with a transitional rule that taxes certain historic foreign accumulated earnings and certain rules that aim to prevent erosion of U.S. income tax base). The Company is still evaluating the potential impact of the legislation on its financial results. In particular, however, given our substantial indebtedness and related interest expense, our inability to fully deduct our interest expense from our taxable income may result in an increase in the Company’s effective tax rate, thereby having a material adverse effect on our business, financial condition and results of operations.
Our failure to operate our business in accordance with the standards of the PCI Security Standards Council or other industry standards applicable to our customers, such as Payment Card Brand certification standards, could have a material adverse effect on our business.
Many of our customers issue their cards on the networks of the Payment Card Brands that are subject to the standards of the PCI Security Standards Council or other standards and criteria relating to service providers’ and manufacturers’ facilities, products and physical and logical security which we must satisfy in order to be eligible to
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supply products and services to such customers. Most of our contractual arrangements with our customers may be terminated if we fail to comply with these standards and criteria.
We make significant investments to our network of high‑security facilities in the United States and Canada in order to meet these standards and criteria, including investments required to satisfy changes adopted from time to time in their respective standards and criteria. Further investments may be costly, and if we are unable to continue to meet these standards and criteria, we may become ineligible to provide products and services that have constituted in the past an important part of our revenue and profitability. For the year ended December 31, 2017, the vast majority of the products we produced and services we provided were subject to certification with one or more of the Payment Card Brands. If we were to lose our certification from one or more of the Payment Card Brands, Interac (in Canada) or PCI certification for one or more of our facilities, we may lose the ability to produce cards for or provide services to banks issuing credit or debit cards on the networks of the Payment Card Brands. If we are not able to produce cards for or provide services to any or all of the issuers issuing debit or credit cards on such networks, we could lose a substantial number of our customers, which could have a material adverse effect on our business, financial condition and results of operations.
Our business may be materially adversely affected by costsCosts relating to product defects, and we could be faced withany related product liability and warranty claims.claims may materially adversely affect our business.
We offer highly complex services and products and, accordingly, from time to time, defects have occurred. Such defects can give rise to significant costs, including expenses relating to recalling products, replacing
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defective items, writing down defective inventory, the loss of potential sales and claims by third parties. In addition, the occurrence of such defects may give rise to product liability and warranty claims, including liability for damages caused by such defects. If we sell defective products into the market, our reputation could suffer, and we may lose sales opportunities and incur liability for damages, including damagedamages claims from customers in excess of the amounts they pay us for our products, including consequential damages. In addition, our customers may recall their products if they prove to be defective or make compensatory payments in accordance with industry or business practice or in order to maintain good customer relationships. If such a recall or payment is caused by a defect in one of our products, our customers may seek to recover all or a portion of their losses from us. If any of these risks materialize, our reputation would be harmed and there could be a material adverse effect on our business, financial condition and results of operations.
Demand for Financial Payment Cards may be materially adversely impacted by U.S. and global market and economic conditions.
For the foreseeable future, we expect to continue to derive most of our revenue from products and services we provide to the financial services industry. Given this concentration, we are exposed to the economic conditions affecting the financial services industry in the United States and Canada. For example, prolonged economic downturns typically have resulted in significant reductions in the demand for general purpose credit cards due to tightening credit conditions. A prolonged poor economic environment could result in significant decreases in demand by current and potential customers for our products and services, which could have a material adverse effect on our business, results of operations and financial condition.
If the U.S. government puts significant tariffs or other restrictions on goods imported into the United States, our revenue and results of operations may be materially harmed.
Most of our chips, as well as certain other raw materials, are imported from companies located outside of the United States. The U.S. government may restrict trade with certain countries and/or impose tariffs on imports from certain countries. The current U.S. administration has expressed antipathy towards certain existing international trade agreements, including NAFTA, and made comments suggesting that it supports significantly increasing tariffs on goods imported into the United States. As of the date of this Annual Report on Form 10-K, it remains unclear what actions, if any, the United States government will take with respect to NAFTA, other international trade agreements and tariffs on goods imported into the United States. If the United States were to withdraw from or materially modify NAFTA or other international trade agreements to which it is a party, or if tariffs are imposed on products that we import from our overseas suppliers, we may be required to raise our prices or find alternative suppliers, which may not be possible at the same cost or quality, which could have a material adverse effect on our business, financial condition and results of operations.
Economic conditions and regulatory changes leading up to and following the United Kingdom’s exit from the
European Union could have a material adverse effect on our business and results of operations.
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On June 23, 2016, the United Kingdom (the “U.K.”) held a referendum in which voters approved an exit from the European Union (the “E.U.”), commonly referred to as “Brexit.” As a result of the referendum, the negotiation process to determine the future terms of the U.K.’s withdrawal from the E.U. is ongoing, including the terms of trade between the U.K. and E.U. The results of these negotiations could adversely affect European or worldwide economic or market conditions and could contribute to instability in global financial markets. In addition, Brexit could lead to legal uncertainty and potentially divergent national laws and regulations as the U.K. determines which E.U. laws to replace or replicate. Furthermore, Brexit may result in additional tariffs both on raw materials imported into the U.K., as well as our products manufactured in the U.K. and sold elsewhere, resulting in competitive pricing pressures. Any of the foregoing could have a material adverse impact our U.K. operations, which accounted for 12.2% and 9.6% of our net sales for the years ended December 31, 2017 and 2016, respectively.
The terms under which the U.K. withdraws from the E.U., or the failure to reach terms that ensure a smooth exit, could cause significant volatility in global stock markets and currency exchange rate fluctuations, which could impact the strength of the U.S. dollar against foreign currencies in which we conduct business, including the British Pound. If other members of the E.U. consider exit as well, we could face further disruptions and uncertainty with respect to our business operations. The strengthening of the U.S. dollar relative to other currencies may materially adversely affect our operating results.
We rely on licensing arrangements in production and other fields, and actions taken by any of our licensing partners could have a material adverse effect on our business.
Many of our products integrate third‑partythird-party technologies that we license or otherwise obtain the right to use, including software relating to smart card operating systems used in products such as EMV cards. As part of our strategy, we have entered into licensing agreements with other leading industry participants that provide us with, among other benefits, access to technology owned by third parties. For example, we license Java card technology from Oracle and Multos card technology from Multos International, a subsidiary of a competitor, for use in certain of our products, including in EMV cards. This Java and Multos card technology provides a secure environment for applications on smart cards and other devices with limited memory and processing capabilities, and we rely on our commercial arrangements with Oracle and Multos Internationalthe licensors of such technology for the continued use of these platforms. Oracle and Multos InternationalThese licensors may not continue to renew their licenses with us on similar terms or at all, which could negatively impact our net sales. We have also entered into cross‑cross-licensing agreements with certain of our competitors that provide for an exchange of intellectual property, including the sharing of certain patent rights in our respective portfolios. We also may seek to enter into additional cross-licensing arrangements with certain competitors as we pursue additional growth initiatives. If we are unable to enter into new cross-licensing agreements or continue to successfully renew theseexisting cross-licensing agreements, we may lose our access to certain technologies that we rely upon to develop certain of our products and or be forced to cease or delay certain growth initiatives, which could have a material adverse effect on our operations.business.
MostRisks Relating to our Industry
We face competition that may result in a loss of our facilities are leased,market share and/or a decline in whole orour profitability.
Our marketplace is highly competitive, relatively saturated and increasingly consolidated. We expect these market dynamics to continue for new product innovations, and as competitors develop lower-cost production processes, competitors consolidate and other competitors attempt to enter the markets in part, and our inability to renew our leases on commercially acceptable terms or at all may have a material adverse effect on our results of operations.which we operate.
MostSome of our facilities are located, in whole or in part, on leased property. Wecompetitors have larger global customer bases and significantly greater financial, sales and marketing, manufacturing, distribution, technical and other capabilities than we do. These competitors may be unableable to renew such leases on commercially acceptable terms adapt more quickly to new technological requirements and changes in customer and/or at all. Our inabilityregulatory requirements to renewleverage their scale to lower production costs and prices, and utilize their global footprint to win certain customers with card needs in multiple markets. We also face competition from newly established competitors, suppliers of products and customers who choose to develop their own products and services.
Existing or new competitors may develop products, technologies or services that more effectively address our leases, markets with enhanced features and functionality, greater levels of integration and/or a renewallower cost. As the technological sophistication of our leases with a rental rate higher thancompetitors and the prevailing rate undersize of the applicable lease prior to expiration, may have a material adverse effect on our operations, including disrupting our operations or increasing our cost of operations. In the event of non‑renewal of any of our leases, we may be unable to locate suitable replacement properties for our facilities or we may experience delaysmarket increases, competing low-cost producers could emerge and grow stronger. These dynamics could result in relocation that could lead to a disruptiondeclining average selling prices and reduced gross margins in our operations. In addition, ifbusinesses. If we close a facility,cannot sufficiently reduce our production costs or develop new products, technologies or services, we may not be able to sublease the facility for terms that would cover our existing lease costs, orcompete successfully, and we may not be able to sublease the facility at alllose market share, which could have an adverse impact on our operating costs and cash flows. Any of these factors could have a material adverse effect on our business, financial condition and results of operations.
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Delays or interruptions in our ability to source raw materials and components used in our products from foreign countries, as well as trade restrictions on goods imported into the United States, could materially harm our senior leadership team.business, financial condition and results of operations.
Our future success depends to a significant extent on the effortsMost of our senior management. We believe there are only a limited number of available and qualified executives with substantial experiencemicrochips, as well as certain other raw materials used in our industry. Furthermore, most membersproducts, are imported from suppliers located outside of the United States. We have experienced and may continue to experience delays and interruptions in our senior leadership teamability to obtain materials imported into the United States due to global economic downturns and trade disruptions, including related to the COVID-19 pandemic. We may also experience such delays and interruptions in our supply chain due to political instability, civil unrest or war in countries from which we directly or indirectly source raw materials and components used in our products. Additionally, the U.S. government has imposed tariffs on imports from certain countries, including countries in which our suppliers are located, and may impose further tariffs and/or trade restrictions. The future status of certain existing international trade agreements to which the United States is party is also uncertain, and such trade agreements could be terminated or replaced. Any of these factors could depress economic activity, restrict our access to suppliers and have a relatively short tenure in their respective positions with the Company, and additional turnover within the management team in the near term could delay or prevent us from fully implementing our business strategy and, consequently, having a material adverse effect on our business, financial condition and results of operations.
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If any member of senior management diesuncertainties as they are implemented, including future adjustments and changes to the products covered by additional tariffs and to the countries included or becomes incapacitated,excluded from such tariffs. Changes in U.S. trade policy have resulted in one or leaves the Companymore foreign governments, including China, adopting responsive trade policies that make it more difficult or costly for us to pursue employment opportunities elsewhere, weimport our products, or to purchase products which include components, from those countries. Additional trade restrictions may needlead to locate an adequate replacement. To the extent thatincreased prices to our customers, which may reduce demand, or, if we are unable to hire an adequate replacement, or are unable to do so within a reasonable period of time, there could be a material adverse effectachieve increased prices, result in lowering our margin on products sold and adversely affecting on our business.business, financial condition and results of operations.
The ability
We cannot predict the extent to recruit, retain and develop qualified personnel is critical to our success and ability to grow.
Our business functions are complex and require wide‑ranging expertise and intellectual capital. For us to successfully compete and grow, we must retain, recruit and develop personnel who can providewhich the needed expertise acrossU.S. or other countries will impose quotas, duties, tariffs, taxes or other similar restrictions on the entire spectrumimport or export of our intellectual capital needs. In addition, we must develop our personnel to provide succession plans capable of maintaining continuitygoods in the midstfuture, nor can we predict future trade policy or the terms of any renegotiated trade agreements and their impact on our business. The adoption and expansion of trade restrictions, the inevitable unpredictabilityoccurrence of human capital. However,a trade war, or other governmental action related to tariffs or trade agreements or policies has the marketpotential to adversely impact demand for qualified personnel is competitiveour products, our costs, our customers, our suppliers, and we may not succeedthe U.S. economy, which in recruiting additional personnel or may fail to effectively replace current personnel who depart with qualified or effective successors. Our efforts to retain and develop personnel may also result in significant additional expenses, whichturn could have a material adverse effect on our profitability. business, financial condition and results of operations.
Current and prospective regulations, changes in our product offerings and customer contractual requirements addressing consumer privacy and data use and security could increase our costs of operations, which could adversely affect our operations, results of operations and financial condition.
In operating a Financial Payment Card business, we manage large amounts of personally identifiable information of cardholders, including cardholder names, account numbers and similar information and are thus subject to laws and requirements relating to data privacy and security, which continue to evolve and may become increasingly difficult to comply with. For example, the California Consumer Privacy Act and the California Privacy Rights Act generally require companies like CPI, who process consumer personal information on behalf of their customers, to use, retain or disclose consumer personal information solely for certain limited purposes, including to provide services to our customers according to the terms of our customer contracts. Other states have enacted similar data privacy laws and regulations and/or amended their existing data privacy laws and regulations. Furthermore, to the extent these laws apply to our customers, our customers have imposed, and may continue to impose additional, privacy related contractual obligations on us, adherence to which may require additional investment in resources and internal processes. Additionally, as we continue to innovate our products and services offerings and expand into new lines of business and as the number of jurisdictions enacting privacy and related laws increases and the scope of these laws and enforcement efforts expand, we may become subject to additional data privacy and security legal requirements and regulations. New products and services we develop may also require that we obtain and retain more personally identifiable information for a longer period of time than we have done historically. We have incurred significant expenses to meet the obligations of current privacy-related laws and requirements, and we expect to continue to incur these as well as additional expenses if we become subject to additional privacy-related laws and regulations, which will continue to necessitate us making changes to our internal processes, procedures and systems. Failure to comply with existing or future data privacy and security laws, regulations and requirements to which we are or become subject could result in fines, sanctions, penalties, civil lawsuits or other adverse consequences as well as loss of customer and consumer confidence, which could materially adversely affect our results of operations, overall business and reputation. The legal, political and business environments in these areas are
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rapidly changing, and subsequent legislation, regulation, litigation, court rulings or other events could expose the Company to increased program costs, liability and reputational damage.
New and developing technology solutions and products could make our existing technology solutions and products obsolete or irrelevant, and if we are unable to introduce new products and services in a timely manner, our business could be materially adversely affected.
The markets for our products and services are subject to technological changes, frequent introductions of new products and services, evolving industry standards and changing customer preferences and demands. In particular, the rise in the adoption in digital payment systems or mobile payments may make physical cards less attractive as a method of payment. Mobile payments offer consumers an alternative method to make purchases without the need to carry a physical card and could, if widely adopted, reduce the number of Financial Payment Cards issued to consumers. In addition, other new and developing technology solutions and products could make our existing technology solutions and products obsolete or irrelevant.
Our key personnelability to enhance our current products and services and to develop and introduce innovative products and services that address the increasingly sophisticated needs of our customers will significantly affect our future success. We may not continue to be employedsuccessful in developing, marketing or selling new products and services that meet these changing demands. In addition, we may be unable to attractexperience difficulties that could delay or prevent the successful development, introduction or marketing of these services, or our new services and retain qualified personnel inenhancements may not adequately meet the future. Suchdemands of the marketplace or achieve market acceptance. If we do not complete or gain market acceptance of new products, services and technologies, it would likely have a failurematerial adverse effect on our ability to retain existing customers or attract key personnelnew ones. For example, one of our growth opportunities is the continued transition to dual-interface EMV cards by U.S. card issuing banks. Banks may be delayed in transitioning to the issuance of dual-interface EMV cards due to increased costs and other factors. If these entities do not deploy dual-interface EMV technology or do so less quickly and/or completely than we expect, our ability to grow could be significantly affected which could have a material adverse effect on our business, financial condition and results of operations.
Our business dependsability to develop and deliver new products and services successfully will depend on the continued viability of the card networks of the Payment Card Brands.various factors, including our ability to:
| ● | effectively identify and capitalize upon opportunities in new and emerging product markets; |
| ● | invest resources in innovation and research and development; |
| ● | complete and introduce new products and integrated services solutions in a timely manner; |
| ● | license any required third-party technology or intellectual property rights; |
| ● | qualify for and obtain required industry compliance for our products; |
| ● | effectively manage the supply chain and related risks; |
| ● | comply with applicable data protection regulations; and |
| ● | retain and hire personnel experienced in developing new products and services. |
The vast majority of cards we produceAdditionally, opportunities to combine or package products and service offerings and the ability to cross-sell products and services we provide are associated with one of the Payment Card Brands.critical to remaining competitive in our industry. As a result, part of our business strategy is to develop new products and services that may be used in conjunction with or in addition to our existing offerings. If we depend on the continued viability of the card networks of the Payment Card Brands, including their authorization, clearingare unable to identify adequate opportunities to cross-sell our products and settlement systems. If one or more of the Payment Card Brands were to discontinue their services, or otherwise experience a decline in the volume of cards bearing their brands, there could bethis may have a material adverse effect on our business, financial condition and results of operations.
WeOur operating results are requiredunpredictable and may vary significantly from quarter to comply with lawsquarter and regulationsannually, and may differ significantly from our expectations.
Our operating results are affected by a wide variety of factors that could materially and adversely affect revenue and profitability or lead to significant variability in our operating results. These factors include, among others, the varying cyclicality of the financial card and electronic payment industries, labor and supply challenges, capital requirements, Payment Card Brands standards and requirements, competition, new product developments, technological changes and other countries andfactors.
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Furthermore, in periods of industry overcapacity or when our customers encounter difficulties in their end-markets, orders are more exposed to business risks associated withcancellations, reductions, price renegotiations or postponements, which in turn reduce our international operations.
management’s ability to forecast the next quarter or full-year production levels, net sales, profits and cash flows. For the years ended December 31, 2017, 2016 and 2015, we derived 16.0%, 15.0%, and 15.5%, respectively, ofthese reasons, our net sales and operating results and cash flows may differ materially from outside the United States, primarily in Canada and the United Kingdom. As a result, we are subject to numerous evolving and complex laws and regulations which apply, among other things, to financial reporting standards, corporate governance, data privacy, tax, trade regulations, export controls, competitive practices, and labor and health and safety laws and regulations in each jurisdiction in which we operate. For example, the European Union adopted the General Data Protection Regulation (“GDPR”), which will go into effect in May 2018, and requires companies to satisfy new requirements regarding the handling of personal and sensitive data, including its use, protection and the ability of persons whose dataour expectations as visibility is stored to correct or delete such data about themselves. Complying with the GDPRreduced. This may cause us to incur substantial operational costs or require us to change our business practices. Despite our efforts to bring practices into compliance before the effective date of the GDPR, we may not be successful either due to internal or external factors such as resource allocation limitations or a lack of vendor cooperation. Non-compliance could result in proceedings against us by governmental entities or others and fines up to the greater of €20 million or 4% of annual global revenues. We may also experience difficulty retaining or obtaining new European or multi-national customers due to the compliance cost, potential risk exposure, and uncertainty for these entities. We may find it necessary to establish systems to maintain personal data originating from the European Union in the European Economic Area, which may involve substantial expense and distraction from other aspects of our business. In the meantime, there could be uncertainty as to how to comply with European Union privacy law.
We are also required to obtain environmental permits and other authorizations or licenses from governmental authorities for certain of our operations and must protect our intellectual property worldwide. In the jurisdictions in which we operate, we need to comply with various standards and practices of different regulatory, tax, judicial and administrative bodies.
There are a number of risks associated with international business operations, including political instability (e.g., the threat of war, terrorist attacks or civil unrest), inconsistent regulations across jurisdictions, unanticipated changes in the regulatory environment, and import and export restrictions. Any of these events may affect our
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employees, reputation, business or financial results as well as our ability to meet our objectives, including the following international business risks:
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We may not be in full compliance at all times with the laws and regulations to which we are subject. Likewise, we may not have obtained or may not be able to obtain the permits and other authorizations or licenses that we need. If we violate or fail to comply with laws, regulations, permits, health and safety regulations or other authorizations or licenses, we could be fined or otherwise sanctioned by regulators. In such a case, or if any of these international business risks were to materialize, there could be a material adverse effect on our business, financial condition and results of operations.
ChangesOur failure to operate our business in laws, regulations and enforcement activities relatingaccordance with the standards of the PCI Security Standards Council or other industry standards applicable to the financial services industry and our industry may adversely affect the products, services and markets in which we operate.
We and our customers, such as Payment Card Brand compliance standards, could have a material adverse effect on our business.
Many of our customers issue their cards on the networks of the Payment Card Brands that are subject to lawsthe standards of the PCI Security Standards Council or other standards and regulations that affect the financial services industrycriteria relating to service providers’ and manufacturers’ facilities, products and physical and logical security which we must satisfy in the many countries in which ourorder to be eligible to supply products and services are used. In particular,to such customers. Most of our contractual arrangements with our customers are subject to numerous laws and regulations applicable to banks, financial institutions and card issuers in the United States, Europe and other regions. The U.S. Government, for instance, has increased its scrutiny of a number of credit and debit card practices, from which some of ourmay be terminated, or customers derive significant revenue. Regulation of the payments industry, including the Dodd‑Frank Wall Street Reform and Consumer Protection Act (the “Dodd‑Frank Act”), privacy and data security regulations such as the GLBA, and other regulations applicable tomay cease doing business with us, and our customers, has increased significantly in recent years. Our failureif we fail to comply with these standards and criteria.
We make significant investments in our network of high-security facilities in order to meet these standards and criteria, including investments required to satisfy changes adopted from time to time in their respective standards and criteria. Further investments may be costly, and if we are unable to continue to meet these standards and criteria, we may become ineligible to provide products and services that have constituted in the lawspast an important part of our revenue and regulations applicableprofitability. For the year ended December 31, 2021, the vast majority of the products we produced and services we provided were subject to compliance with the standards of one or more of the Payment Card Brands. If we were to lose compliance with one or more of the standards of the Payment Card Brands or of the PCI Security Standards Council for one or more of our facilities, we may lose the ability to produce cards for or provide services to banks issuing credit or debit cards on the networks of the Payment Card Brands. Additionally, certain of our facilities operate under variances of certain of these standards. If such variances are not granted in the future or if we are required to move a facility in order to maintain compliance, we may incur significant costs and delays, or may lose our ability to offer services in that facility, which would be disruptive to our business mayand have an adverse effect on our customer relationships and financial results. If, as a result inof noncompliance with standards of the suspensionPCI Security Standards Council or revocationother standards of the Payment Card Brands, we are not able to produce cards for or provide services to any or all of the issuers issuing debit or credit cards on such networks, we could lose a substantial number of our licenses or registrations, the limitation, suspension or termination of our services, and/or the imposition of consent orders or civil and criminal penalties, including fines,customers, which could have a material adverse effect on our business, financial condition and results of operations.
Risks associated with reduced levels of consumer and business spending, ongoing inflation and the effects of an economic downturn on retailers could adversely affect our business, financial condition and results of operations.
Our business depends heavily on the overall level of consumer and business spending. Our revenue is exposed to general economic conditions that affect consumer confidence, consumer spending, consumer discretionary income or changes in consumer purchasing habits. A sustained deterioration in general economic conditions, particularly in the United States, or increases in interest rates may adversely affect our financial performance by reducing the demand for our Financial Payment Card solutions or reducing the purchase of our higher margin products. If an economic downturn occurs, credit card issuers may reduce credit limits, close accounts and become more selective with respect to whom they issue credit cards. Additionally, an economic downturn or the continued outbreak of the COVID-19 pandemic could result in extended voluntary or mandated closure of retail locations that sell certain of our products to consumers, including our Prepaid Debit Cards. These and other changes in economic conditions could therefore adversely impact our future revenues and profits and cause a materially adverse effect on our business, financial condition and results of operations.
Inflation, which increased significantly during 2021, has adversely affected us by increasing the costs of materials and labor needed to operate our business and could continue to adversely affect us in future periods. In the event inflation continues to increase, we may seek to increase the sales prices of our products and services in order to maintain satisfactory margins. However, such increases may result in customer pushback or attrition and be difficult or impossible in future periods, all of which may have an adverse effect on our financial condition and results of operations. Additionally, actions by the government to stimulate the economy may increase the risk of significant inflation, which may also have an adverse impact on our business or financial results.
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Environmental, health and safety laws and regulations, including climate change regulations, expose us to liability and any such liability may have a material adverse effect on our business.
We are subject to environmental, health and safety laws and regulations in each jurisdiction in which we operate. Such regulations govern, among other things, emissions of pollutants into the air, wastewater discharges, waste disposal, the investigation and remediation of soil and groundwater contamination, and the health and safety of our employees. For example, our productsthe handling of certain materials and the raw materialsequipment we use in our production processes areis subject to numeroushealth and safety and environmental laws and regulations. We are also required to obtain environmental permits from governmental authorities for certain of our operations. We may not be able to be at all times, in full compliance with such laws, regulations and permits. If we violate or fail to comply with these laws, regulations or permits, we could be fined or otherwise sanctioned by regulators.
As with other companies engaged in similar activities or that own or operatelease real property, we face inherent risks of environmental liability at our current and historical production facilities. Certain environmental laws impose strict and, in certain circumstances, joint and several liabilityliabilities on current or previous owners or operators of real property for the cost of the investigation, removal or remediation of hazardous substances as well as liability for related damages
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to natural resources. In addition, we may discover new facts or conditions that may change our expectations or be faced with changes in environmental laws or their enforcement that would increase our liabilities. Furthermore, our costs of complying with current and future environmental and health and safety laws, or our liabilities arising from past or future releases of, or exposure to, regulated materials, may have a material adverse effect on our business, financial condition and results of operations.
The scientific examinationincreasing concern over climate change has resulted in a broad range of political attention to,proposed and rulespromulgated federal, state and local regulations on issues surroundingaimed at mitigating the existence and extenteffects of climate change, including regulating emission of carbon dioxide, methane and other GHG emissions, mandating recycling of plastic materials, imposing energy or carbon or other waste taxes and effectuating other governmental charges and mandates. Because we use materials in many of our products and engage in manufacturing processes that may be the subject of certain of these regulations, if enacted, such regulations could result in an increaseadditional costs and adverse effects on our business in our costthe form of production due(i) additional taxes, (ii) potential fines for noncompliance, (iii) restrictions on output, (iv) additional expenditures to increaseseither purchase new, or modify existing, equipment or processes, (v) required acquisition or trading of emission allowances and/or (v) increased costs in the price of energy and/or the introduction of energyin procuring alternative or carbon taxes. A variety of regulatory developments have been introduced that focus on restricting or managing the emission of carbon dioxide, methane and other greenhouse gasses. Companies such as ours may need to purchase at higher costs new equipment oradditional raw materials with lower carbon footprints. from our suppliers.
Climate change regulation continues to evolve, and while it is not possible to accurately estimate either a timetable for implementation or our future compliance costs relating to implementation, such regulation could have a material adverse effect on our business, results of operations, financial position, capital expenditures and reputation.
These developments and further legislation that is likely to be enacted could negatively affect our operations. Changes in health and safety or environmental regulations could increase our production costs, which could have a material adverse effect on our business, financial condition and results of operations.
Certain natural disasters, such as flooding, earthquakes, nuclear disasters, certain weather conditions and other catastrophic events, such as fire, may negatively impact our business.
The occurrence of severe weather events, such as rain, snow, wind, storms, hurricanes or other natural disasters, such as flooding, earthquakes, nuclear disasters, fire or a combination thereof, may negatively impact our business. If certain natural disasters, extreme weather conditions or other events such as fire were to directly damage, destroy or disrupt our production facilities, it could disrupt our operations, delay new production and shipments of existing inventory or result in costly repairs, replacements or other costs, all of which would negatively impact our business. Even if our production facilities are not directly damaged, a large natural disaster or fire may result in disruptions in distribution channels or supply chains and significantly increase the prices of the raw materials we use in our production processes. The impact of any such natural disasters, weather changes or other disasters such as fire depends on the specific geographic circumstances but could be significant, and we cannot predict the economic impact, if any, of natural disasters or climate change. Any such disruptions could have a material adverse effect on our business, financial condition and results of operations.
Our insurance may be inadequate to cover future liabilities and our insurance premiums may increase substantially.
We may be subject to significant losses from claims, liabilities, hazards and disasters. While we currently maintain insurance which we believe is adequate and consistent with industry practice, we may experience losses in excess of our insurance coverage or claims not covered by our insurance. Furthermore, we may not be able to obtain insurance coverage in the future on acceptable terms, or at all. Any such losses not covered by insurance may have a material adverse effect on our business, financial condition and results of operations.
Consolidations in the banking, financial services and card processing industry could eliminate existing or potential clients.
Failures, mergers and consolidations of financial institutions and card processors may reduce the number of our clients and potential clients, which could have a material adverse effect on our net sales. Further, if our clients fail, merge with or are acquired by other entities that are not our clients, or that use fewer of our services, they may discontinue or reduce their use of our services. It is also possible that the larger financial institutions and card processors that result from mergers or consolidations would have greater leverage in negotiating terms with us or could decide to perform in‑house some or all of the services which we currently provide or could provide. Any of these developments could have a material adverse effect on our business, results of operations and financial condition.
We are subject to the credit risk that our customers may be unable to satisfy their obligations to us.
A significant portion of our net sales are on an open credit basis, with typical payment terms of 30 days, and up to 60 days in some cases, and we are subject to the credit risk of our customers being unable to make payments to us. If any of our customers experience a bankruptcy or are otherwise unable to satisfy their payment obligations to us, any related losses, if incurred, could have a material adverse effect on our business, financial condition and results of operations.
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If we are unable to implement and maintain effective internal controls over financial reporting, investors may lose confidence in the accuracy and completeness of our financial reports and the market price of our common stock may be negatively affected.
As a public company, we are required to maintain internal controls over financial reporting and to report any material weaknesses in such internal controls. A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of a company’s annual or interim financial statements will not be prevented or detected on a timely basis. Section 404 of the Sarbanes‑Oxley Act of 2002 (the “Sarbanes‑Oxley Act”) requires that we evaluate and determine the effectiveness of our internal controls over financial reporting and provide a management report on the internal controls over financial reporting. As an “emerging growth company” (as defined by the JOBS Act) we are not currently required to obtain an attestation from our independent public accounting firm on our management report on internal controls over financial reporting. See “We are an ‘emerging growth company’ and we cannot be certain if the reduced disclosure and other requirements applicable to emerging growth companies will make our common stock less attractive to investors” for a discussion of emerging growth company status. However, we will be required to obtain such an attestation when we are no longer an emerging growth company.
We have in the past, and may in the future, discover areas of our internal controls that need improvement. If we or our independent registered public accounting firm discover a material weakness in the future, the disclosure of that fact, even if quickly remediated, could reduce the market’s confidence in our financial statements and harm our stock price. We may not be able to effectively and timely implement necessary control changes and employee training to ensure continued compliance with the Sarbanes-Oxley Act and other regulatory and reporting requirements. If we fail to maintain effective internal controls, we could be subject to regulatory scrutiny and sanctions and investors could lose confidence in the accuracy and completeness of our financial reports.
Changes in accounting standards could materially affect how we report our financial condition and results of operations.
From time to time, the FASB and the SEC change the financial accounting and reporting standards or the interpretation of such standards that govern the preparation of our external financial statements. These changes are beyond our control, can be difficult to predict, may require extraordinary efforts or additional costs to implement and could materially impact how we report our financial condition and results of operations. It is possible that we may not be prepared to implement a new accounting standard when it is required to be implemented, which may lead to our financial statements being materially misstated, or to our identifying a material weakness in our internal controls over financial reporting. Additionally, the adoption of new standards could require changes to our business and accounting processes, systems and controls to support recognition and disclosure under the new guidance. This could also lead to investors losing confidence in the accuracy and completeness of our financial reports, and the market price of our common stock being negatively affected, and we could become the subject to investigations by the stock exchange on which our common stock is listed, the SEC, or other regulatory authorities, which could require additional financial and management resources.
The requirements of being a public company have increased certain of our costs and require significant management focus.
As a public company, our legal, accounting and other expenses associated with compliance related and other activities have increased significantly, and therefore, since our initial public offering, our management and other personnel have diverted attention from operational and other business matters to devote substantial time to implementing public company compliance requirements. In particular, we have incurred significant expenses and devoted substantial management effort toward ensuring compliance with the requirements of Section 404 of the Sarbanes-Oxley Act, which will increase when we are no longer an emerging growth company. We have hired additional accounting and financial staff with appropriate public company experience and technical accounting knowledge and we have established an internal audit function. Costs to obtain director and officer liability insurance also contribute to our increased costs.As a result of the associated liability, it may be more difficult for us to attract and retain qualified persons to serve on our board of directors or as executive officers. Advocacy efforts by stockholders and third parties may also prompt even more changes in governance and reporting requirements, which could further increase our compliance costs.
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We are an “emerging growth company” and we cannot be certain if the reduced disclosure and other requirements applicable to emerging growth companies will make our common stock less attractive to investors.
We are an “emerging growth company,” as defined in the JOBS Act, and we intend to take advantage of certain exemptions from various reporting requirements that are applicable to other public companies that are not “emerging growth companies” including, but not limited to, not being required to comply with the auditor attestation requirements of Section 404 of the Sarbanes‑Oxley Act with respect to our internal control over financial reporting, reduced disclosure obligations regarding executive compensation in our periodic reports and proxy statements, and exemptions from the requirements of holding a non‑binding advisory vote on executive compensation and stockholder approval of any golden parachute payments not previously approved. We may take advantage of these provisions for up to five years or such earlier time that we are no longer an “emerging growth company.” We would cease to be an emerging growth company upon the earliest to occur of (i)��the last day of the fiscal year (a) following the fifth anniversary of the completion of our initial public offering, (b) in which we have total annual gross revenue of at least $1.0 billion (adjusted for inflation) or (c) in which we become a large accelerated filer, which means that we have been public for at least 12 months, have filed at least one annual report and the market value of our common stock that is held by non‑affiliates exceeds $700 million as of the last day of our then most recently completed second fiscal quarter and (ii) the date on which we have issued more than $1.0 billion in non‑convertible debt during the prior three‑year period. We may choose to take advantage of some but not all of these reduced reporting and other burdens. To the extent we take advantage of any of the reduced reporting burdens in our periodic filings, the information that we provide our security holders may be different than the information such holders might get from other public companies in which they hold equity interests. We cannot predict if investors will find our common stock less attractive because we may rely on these exemptions. If some investors find our common stock less attractive as a result, there may be a less active trading market for our common stock and our stock price may be more volatile.
In addition, Section 107 of the JOBS Act provides that an “emerging growth company” can take advantage of the extended transition period provided in Section 7(a)(2)(B) of the Securities Act for complying with new or revised accounting standards. Stated another way, an “emerging growth company” can delay the adoption of certain accounting standards until those standards would otherwise apply to private companies. We have chosen to “opt out” of such extended transition period, however, and, as a result, we will comply with new or revised accounting standards on the relevant dates on which adoption of such standards is required for non‑emerging growth companies. Section 107 of the JOBS Act provides that our decision to opt out of the extended transition period for complying with new or revised accounting standards is irrevocable.
Risks RelatedRelating to Ownership of Ourour Common Stock
The price of our common stock may fluctuate significantly, and you could lose all or part of your investment.
Volatility in the market price of our common stock may prevent you from being able to sell your shares at or above the price you paid for them. The market price for our common stock could fluctuate significantly for various reasons, including:
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In addition, in recent years, the stock market has regularly experienced significant price and volume fluctuations. This volatility has had a significant impact on the market price of securities issued by many companies, including companies in our industry. The changes frequently appear to occur without regard to the operating performance of the affected companies. Hence, the price of our common stock could fluctuate based upon factors that have little or nothing to do with us and these fluctuations could materially reduce our share price.
If we fail to meet the continued listing standards of NASDAQ, our common stock may be delisted, which may adversely affect the market price and liquidity of our common stock.
Our common stock is currently traded on the NASDAQ Capital Market (“NASDAQ”). NASDAQ requires us to meet certain financial, public float, bid price and liquidity standards on an ongoing basis in order to continue the listing of our common stock, including that we maintain a minimum closing bid price of $1.00 per share. On December 20, 2017, we effected a one-for-five reverse stock split with the intent of increasing the market price per share of our common stock in order to comply with NASDAQ’s continued listing standards related to minimum bid price. In addition, NASDAQ requires satisfaction of additional continued listing standards, including relating to market capitalization and/or profitability. There can be no assurance that we will be able to maintain compliance with the requirements for continued listing our common stock on NASDAQ. If our common stock is delisted and we are unable to list our common stock on another U.S. national securities exchange, we expect our securities would be quoted on an over-the-counter market. If this were to occur, our stockholders could face significant material adverse consequences, including limited availability of market quotations for our common stock and reduced liquidity for the trading of our securities. Furthermore, if our common stock were delisted it could adversely affect our ability to obtain financing for the continuation of our operations and/or result in the loss of confidence by investors, customers, suppliers and employees.
Our majority stockholders have the ability to control significant corporate activities, which may result in the Company taking actions that other stockholders did not approve, and their ownership of a significant percentage of our outstanding common stock may adversely impact the liquidity and trading price of our stock.
Tricor Pacific Capital Partners (Fund IV), Limited Partnership and Tricor Pacific Capital Partners (Fund IV) US, Limited Partnership (collectively, the “Tricor Funds”), affiliated with Parallel49 Equity (formerly known as Tricor Pacific Capital), own approximately 37% and 22%58% of our common stock, respectively,in the aggregate, as of December 31, 2017. As2021. Continuation of this concentrated ownership could result in a limited amount of shares being available to be traded in the market, resulting in reduced liquidity. Additionally, the price of our common stock has experienced volatility due to the limited number of shares available to trade on the open market.
Also, as a result of their ownership, the Tricor Funds, so long as they collectively hold a majority of our outstanding shares, will have the ability to control the outcome of matters submitted to a vote of all stockholders and,
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through our board of directors, the ability to control decision‑makingdecision-making with respect to our business direction and policies.
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Matters over which the Tricor Funds, directly or indirectly, exercise control include:
| election of directors; |
| mergers and other business combination transactions, including proposed transactions that would result in our stockholders receiving a premium price for their shares; |
| other acquisitions or dispositions of businesses or assets; |
| incurrence of indebtedness and the issuance of equity securities; |
| repurchases of stock and payment of dividends; and |
| the issuance of shares to management under our incentive |
The shares of our common stock held by the Tricor Funds are registered for resale, which means that they may be offered and sold to the public now or in the future without regard to the volume limitations under Rule 144 of the Securities Act. If and when some or all of these shares are sold by the Tricor Funds or the participants in their funds, either through sale on the open market, through privately negotiated transactions or through a distribution to the participants in their funds, or if it is perceived that they will be sold, the market price of our common stock could decline.
Conflicts of interest may arise because directors who are principals of our largest stockholder constitute a substantial portion of our board of directors.
Messrs. Bradley Seaman and Nicholas Peters, and David Rowntree, who are officers or affiliates of Parallel49 Equity (and its predecessor), serve on our board of directors. The Tricor Funds, our majority stockholders, are funds controlled by Parallel49 Equity and its affiliates. Parallel49 Equity and entities controlled by it may in the future hold equity interests in entities that directly or indirectly compete with us, and companies in which it currently invests may begin directly or indirectly competing with us. As a result of these relationships, when conflicts between the interests of Parallel49 Equity, on the one hand, and of our other stockholders, on the other hand, arise, these directors may not be disinterested. Although our directors and officers have a duty of loyalty to us under Delaware law and our certificate of incorporation, transactions that we enter into in which a director or officer has a conflict of interest are generally permissible so long as (1) the material facts relating to the director’s or officer’s relationship or interest as to the transaction are disclosed to our board of directors and a majority of our disinterested directors approves the transaction, (2) the material facts relating to the director’s or officer’s relationship or interest as to the transaction are disclosed to our stockholders and a majority of our disinterested stockholders approve the transaction or (3) the transaction is otherwise fair to us. Our certificate of incorporation also provides that any principal, officer, member, manager and/or employee of Parallel49 Equity or any entity that controls, is controlled by or under common control with Parallel49 Equity (other than any company that is controlled by us) or any investment funds managed by Parallel49 Equity will not be required to offer any transaction opportunity of which they become aware to us and could take any such opportunity for themselves or offer it to other companies in which they have an investment, unless such opportunity is offered to them solely in their capacities as our directors.
Our board of directors has electedSecurities analysts may not publish favorable research or reports about our business or may publish no information at all, which could cause our stock price or trading volume to discontinuedecline.
The trading market for our quarterly dividendcommon stock could be influenced to some extent by the research and wereports that industry or financial analysts publish about the Company and our business. We do not control these analysts. Historically, we have not attracted substantial research coverage, and the analysts who publish information about our common stock may have relatively little experience with us, which could affect their ability to accurately forecast our results and could make it more likely that we fail to meet their estimates. In the event we obtain additional securities or industry analyst coverage, if any of the analysts who cover us provide inaccurate or unfavorable research or issue an adverse opinion regarding our stock price, our stock price could decline. If one or more of these analysts cease coverage of us or fail to publish reports covering us regularly, we could lose visibility in the market, which in turn could cause our stock price or trading volume to decline.
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If we fail to meet the continued listing standards of the Nasdaq Global Market, our common stock may be delisted, which may adversely affect the market price and liquidity of our common stock.
Our common stock is currently havetraded on the Nasdaq Global Market. In order to maintain our listing on Nasdaq, we must maintain certain financial and share distribution targets, including maintaining a stock repurchase programminimum number of public stockholders, a minimum number of publicly held shares, a minimum market value of publicly held shares and a minimum bid price, in place. If the board of directors electsaddition to reinstate the dividend or adopt a new stock repurchase program, theremeeting certain corporate governance requirements. There can be no assurancesassurance that we will pay regular dividendsbe able to maintain compliance with the requirements for continued listing of our common stock on Nasdaq. If our common stock is delisted and we are unable to list our common stock on another U.S. national securities exchange, we expect our securities would be quoted on an over-the-counter market.Any delisting from Nasdaq could result in significant material adverse consequences for our stockholders, or effect stock repurchases under our stock repurchase program.
During August 2017, the Company discontinued its quarterly dividend. In addition, the Company’s prior stock repurchase program expired in May 2017 and the boardincluding limited availability of directors has not approved a new stock repurchase plan. If, in the future, the board of directors reinstates the quarterly dividend or approves a new stock repurchase plan, our board may, in its sole discretion, change the amount or frequency of any dividends and stock repurchases, or discontinue the payment of dividends and stock repurchases entirely. In addition, because we are a holding company with no material direct operations, we are dependent on dividends and other payments from our operating subsidiaries to generate the funds necessary to pay any future dividends onmarket quotations for our common stock. We expect to causestock and reduced liquidity for the trading of our subsidiaries to make distributions to us insecurities. Other consequences could include a loss of confidence by investors, customers, suppliers and employees, and an amount sufficient for us to pay any future dividends and/or make stock repurchases. However, their ability to make such distributions will be subject to their operating results, cash requirements and financial condition, the applicable provisions of Delaware law that may limit the amount of funds available for distribution andadverse effect on our ability to pay cash dividends, and compliance with covenants and financial ratios relatedobtain financing to existing or future indebtedness and other agreements with third parties. In addition, each of the companies in our corporate chain must manage its assets, liabilities and working capital in order to meet all of its cash obligations, including the payment of any future dividends or distributions. As a consequence of these various limitations and restrictions, we may not reinstate, or, if reinstated, we may have to reduce or eliminate the future payment of dividends on our common stock and/or stock
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repurchases. Any change in the level of our dividends or the suspension of the payment thereof or change in the level of our stock repurchases or the suspension of the ability to make stock repurchases could have a material adverse effect the market price of our common stock.continue operations.
Certain provisions of our organizational documents and other contractual provisions may make it difficult for stockholders to change the composition of our board of directors and may discourage hostile takeover attempts that some of our stockholders may consider to be beneficial.
Certain provisions of our amended and restated certificate of incorporation and bylaws may have the effect of delaying or preventing changes in control if our board of directors determines that such changes in control are not in the best interests of us and our stockholders. The provisions in our amended and restated certificate of incorporation and bylaws include, among other things, the following:
| the ability of our board of directors to issue shares of preferred stock and to determine the price and other terms, including preferences and voting rights, of those shares without stockholder approval; |
| following the time that the Tricor Funds and their affiliates cease to beneficially own a majority of our common stock, stockholder action may only be taken at a special or regular meeting and not by written consent, and special meetings may only be called by a majority of the total number of directors that we would have if there were no vacancies on our board of directors; |
| advance notice procedures and information and disclosure requirements for nominating candidates to our board of directors or presenting matters at stockholder meetings; and |
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We have entered into a director nomination agreement (the “Director Nomination Agreement”) with the Tricor Funds that provides the Tricor Funds the right to designate nominees for election to our board of directors for so long as the Tricor Funds collectively beneficially own 5% or more of the total number of shares of our common stock then outstanding. The number of nominees that the Tricor Funds are entitled to designate under the Director Nomination Agreement bears the same proportion to the total number of members of our board of directors as the number of shares of common stock beneficially owned by the Tricor Funds bears to the total number of shares of common stock outstanding, rounded up to the nearest whole number. In addition, the Tricor Funds are entitled to designate the replacement for any of its board designees whose board service terminates prior to the end of such designee’s term regardless of the Tricor Funds’ beneficial ownership at such time. The Tricor Funds also have the right to have their designees participate on committees of our board of directors, subject to compliance with applicable law and stock exchange rules. The Director Nomination Agreement will terminate at such time aswhen the Tricor Funds collectively own less than 5% of our outstanding common stock.
We have elected in our certificate of incorporation not to be subject to Section 203 of the Delaware General Corporation Law, (the “DGCL”), an anti‑takeoveranti-takeover law. In general, Section 203 prohibits a publicly held Delaware corporation from engaging in a business combination, such as a merger, with a person or group owning 15% or more of the corporation’s voting stock for a period of three years following the date the person became an interested stockholder, unless (with certain exceptions) the business combination or the transaction in which the person became an interested stockholder is approved in a prescribed manner. Accordingly, we will not be subject to any anti‑takeoveranti-takeover effects of Section 203. However, our certificate of incorporation contains provisions that have the same effect as Section 203, except that they provide that the Tricor Funds, their affiliates (including any investment funds managed by Tricor) and any person that becomes an interested stockholder as a result of a transfer of 5% or more of our voting stock by the
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forgoing persons to such person are excluded from the “interested stockholder” definition in our certificate of incorporation and are therefore not subject to the restrictions set forth therein that have the same effect as Section 203.
While these provisions have the effect of encouraging persons seeking to acquire control of our companythe Company to negotiate with our board of directors, they could enable the board of directors to hinder or frustrate a transaction that some, or a majority, of our stockholders might believe to be in their best interests and, in that case, may prevent or discourage attempts to remove and replace incumbent directors. In addition, the potential issuance of preferred stock may delay or prevent a change in control of us or discourage bids for our common stock at a premium over the market price. It may also adversely affect the market price and the voting and other rights of the holders of our common stock as it could be issued with voting, liquidation, dividend and other rights superior to the rights of our common stock.
In addition, these provisions may frustrate or prevent any attempts by our stockholders to replace or remove our current management by making it more difficult for stockholders to replace members of our board of directors, which is responsible for appointing the members of our management.
General Risk Factors
We are required to comply with complex laws and regulations in the United States and other countries and are exposed to business risks associated with our international business.
We are subject to numerous evolving and complex laws and regulations which apply, among other things, to financial reporting standards, corporate governance, data privacy, tax, trade regulations, environmental regulations and permit requirements, export controls, competitive practices, and labor and health and safety laws and regulations in each jurisdiction in which we operate. Though we currently have limited international operations, the expansion thereof in the future may increasingly expose us to risks associated with international business operations, including political instability (e.g., the threat of or actual war, terrorist attacks or civil unrest), inconsistent regulations across jurisdictions, unanticipated changes in the regulatory environment, and import and export restrictions. Any issuance of preferred stockthese events may affect our employees, reputation, business or financial results as well as our ability to meet our objectives.
We may not be in full compliance at all times with the laws and regulations to which we are subject and we may not have obtained the permits, authorizations or licenses that we need. Any failure to comply with applicable laws or regulations could make it difficult for another companyresult in fines or sanctions. In such a case, or if any of these international business risks were to acquirematerialize, there could be a material adverse effect on our business, financial condition and results of operations.
Our business and financial results may be materially adversely affected by various legal and regulatory proceedings.
We are subject to legal proceedings, lawsuits and other claims in the normal course of business and could become subject to additional claims in the future, some of which could be material. A future adverse ruling, settlement or unfavorable development could result in charges that could have a material adverse effect on our business, operating results or financial condition. In addition, litigation can be costly, and the expenses and damages arising from any liability could harm our business. Furthermore, our insurance may not be adequate to cover claims against us or could otherwise adversely affect holders of our common stock, which could depress the price of our common stock.any liability that may be imposed on us.
Our board of directors has the authority to issue preferred stock and to determine the preferences, limitations and relative rights of shares of preferred stock and to fix the number of shares constituting any series and the designation of such series, without any further vote or action by our stockholders. Our preferred stock could be issued with voting, liquidation, dividend and other rights superior to the rights of our common stock. The potential issuance of preferred stock may delay or prevent a change in control of us, discouraging bids for our common stock at a premium over the market price, and adversely affect the market price and the voting and other rights of the holders of our common stock.
If securities or industry analysts do not publish research or publish inaccurate or unfavorable research about our business, our stock price and trading volume could decline.
The trading market for our common stock will, to some extent, depend on the research and reports that securities or industry analysts publish about us or our business. We do not have any control over these analysts. If one or more of the analysts who covers us downgrades our stock or publishes inaccurate or unfavorable research about our business, our stock price would likely decline. If one or more of these analysts ceases coverage of us or fails to publish reports on us regularly, demand for our stock could decrease, which could cause our stock price and trading volume to decline.
Item 1B. | Unresolved Staff Comments |
Item 1B.Unresolved Staff Comments
None.
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Item 2. | Properties |
Information regarding each of our facilities, which may include multiple leases at each location, is set forth below.
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Location | Operations |
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Littleton, Colorado |
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| Financial Payment Card production, |
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Roseville, Minnesota |
| Financial Payment Card production, card personalization services, card packaging services, |
| 205,000 |
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Fort Wayne, Indiana |
| Financial Payment Card production |
| 45,000 |
| Leased |
Nashville, Tennessee |
| Financial Payment Card personalization services, |
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| Leased |
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In Re CPI Card Group Inc. Securities Litigation, Case No. 1:16-CV-04531 (S.D.N.Y.)
On June 15, 2016, two purported CPI stockholders filed putative class action lawsuits captioned Vance, et al.Smart Packaging Solutions SA v. CPI Card Group Inc., et al. and Chipman, et al. v. CPI Card Group Inc.,in the United States District Court for the Southern District of New York against CPI, certain of its former officers and current and former directors, along with the sponsors of and the financial institutions who served as underwriters for CPI’s October 2015 initial public offering (“IPO”). The complaints, purportedly brought on behalf of all purchasers of CPI common stock pursuant to the October 8, 2015 Registration Statement filed in connection with the IPO, assert claims under §§11 and 15 of the Securities Act of 1933, as amended (the “Securities Act”) and seek, among other things, damages and costs. In particular, the complaints allege that the Registration Statement contained false or misleading statements or omissions regarding CPI’s customers’ (i) purchases of Europay, Mastercard®, and VISA chip cards (collectively, “EMV cards”) during the first half of fiscal year 2015 and resulting EMV card inventory levels, and (ii) capacity to purchase additional EMV cards in the fourth quarter of fiscal year 2015, and the remainder of the fiscal year ended December 31, 2015. The complaints allege that these actions artificially inflated the price of CPI common stock issued pursuant to the IPO.
On August 30, 2016, the Court consolidated the Vance and Chipman actions and appointed lead plaintiff and lead counsel pursuant to the Private Securities Litigation Reform Act (the “PSLRA”April 20, 2021, Smart Packaging Solutions, SA (“SPS”). On October 17, 2016, lead plaintiff filed a consolidated amended complaint, assertingpatent infringement lawsuit against the same claims for violations of §§11 and 15 of the Securities Act. The amended complaint is based principally on the same theories as the original complaints, but adds allegations that the Registration Statement contained inadequate risk disclosures and failed to disclose (i) small and mid-size issuers’ slower-than-anticipated conversion to EMV technology and (ii) increased pricing pressure and competition CPI faced in the EMV market.
On November 16, 2016, the Company filed a motion to dismiss the amended complaint, which was denied by the court on October 30, 2017. The defendants answered the amended complaint on January 12, 2018, and on January 19, 2018, the parties jointly submitted for the Court’s approval a proposed scheduling order governing the case.
The Company believes these claims are without merit and intends to defend the actions vigorously.
Heckermann v. Montross, et al., Case No. 1:17-CV-01673 (D. Del.)
On November 20, 2017, a purported CPI stockholder filed a shareholder derivative complaint in the United States District Court for the District of Delaware against certainseeking an unspecified amount of CPI’s former officers and current and former directors, along with the sponsors of CPI’s October 2015 IPO (with CPI named as the nominal defendant). The derivative complaint is based principally on the same set of factual allegations underlying In Re CPI Card Group Inc. Securities Litigation, and asserts claims under §§10(b) and 20(a) of the Securities Exchange Act of 1934, as amended, and Rule 10b-5 thereunder, and for, inter alia, purported breaches of fiduciary duties, unjust enrichment and waste of corporate assets. It alleges false or misleading statements and omissions in the Registration Statement filed by CPI in connection with its IPO and subsequent public filings and statements and seeks, among other things, injunctive relief, damages and costs.
The Company andequitable relief. In the individual defendants believe these claims are without merit and intend to defend the action vigorously.
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Gemalto S.A. v. CPI Card Group Inc. (2 cases)
First case. This suit was initially filed by Gemalto S.A. (“Gemalto”) against the Company in the United States District Court for the Western District of Texas in October 2015. The complaint, allegedSPS alleges that the Company infringed a now-expired Gemalto patent by incorporatingfour patents that SPS has exclusively licensed from Feinics AmaTech Teoranta. The patents all relate to antenna technology. SPS alleges that the Company incorporates the patented technology into the Company’sits products microchips that allegedly practice the EMV standard.use contactless communication. The Company successfully moved to transfer the lawsuit to the Districtdoes not manufacture antennas; it purchases certain antenna-related components from SPS and a number of Colorado, answeredother suppliers. The Company was served with the complaint and filed counterclaims that the asserted patent was invalid and unenforceable, and that Gemalto’s lawsuit was a “sham” intended to interfere with the Company’s IPO and business relationships. Gemalto answered the Company’s counterclaims in February 2016. In March 2016, Gemalto provided specific infringement contentions, which named CPI products that incorporate microchips supplied by two specific vendors.
On May 31, 2016, the Company filed an Inter Partes Review ("IPR") petition with the United States Patent & Trademark Office’s Patent Trial & Appeal Board (“PTAB”), seeking re-examination of Gemalto’s asserted patent. On July 11, 2016, the United States District Court for the District of Colorado granted the Company’s motion to stay the litigation pending the PTAB’s consideration of the Company’s challenge to the patentability of asserted claims. The petition was granted as to all of the independent claims of Gemalto’s patent on November 9, 2016. The PTAB also granted the Company’s petition as to certain dependent claims, which are claims that rely upon and incorporate an independent claim. The PTAB heard oral argument on the IPR on August 4, 2017.
Second case. On May 3, 2016, Gemalto filed a second patent infringement action against CPIis in the United States District Court for the Districtprocess of Colorado. The complaint alleged that the Company infringed a Gemalto patent on networked smartcard printing by way of the Company’s Card@Once offering. Gemalto provided initial infringement contentions to the Company in July 2016, and amended its contentions in October 2016. During May 2017, the Company filedpreparing an IPR petition with the PTAB, seeking re-examination of Gemalto’s asserted patent.
On September 28, 2017, the Company reached a settlement with Gemalto to resolve both lawsuits. Under the terms of the settlement, the Company made a one-time payment of $750,000 during the fourth quarter of 2017, which is recorded in “Selling, General and Administrative” expenses in the Consolidated Statement of Operations during the during year ended December 31, 2017. The settlement resulted in the dismissal of both lawsuits with prejudice, and also includes a mutual covenant not to sue for a period of 18 months.
CPI Card Group Inc. v. Multi Packaging Solutions, Inc.
First case. On October 11, 2016, the Company filed a patent infringement suit against Multi Packaging Solutions, Inc. (“MPS”) in the United States District Court for the District of Colorado. The complaint asserts that MPS ultrasecure gift card packages sold to at least one customer infringe a Company patent on ultrasecure gift card packages. The Company’s patent will expire in 2028. MPS has answered the complaint and counterclaimed for invalidity and noninfringement. The Company’s preliminary injunction request was denied without prejudice after MPS represented that it had voluntarily ceased using the accused technology and will notify CPI before it re-starts. Discovery is underway. MPS has moved to dismiss on the ground that the wrong Company subsidiary filed the suit, and the Company is moving to amend to add the applicable subsidiary. The case is stayed until that issue is resolved. If the case is dismissed, the Company's subsidiary will promptly re-file.
In June 2017, MPS filed an early motion for summary judgment and sought to stay discovery pending the outcome of that motion. Both motions were denied in August 2017. Also in June 2017, MPS filed an IPR petition with the PTAB. Also, the Company filed its preliminary opposition to the IPR Petition in October 2017. In September 2017, the Company filed a motion to replace the named plaintiff in the litigation with the Company’s wholly owned subsidiary, CPI Card Group-Minnesota, Inc.; MPS sought to dismiss the complaint for lack of standing on the same ground. That issue has been fully briefed and is awaiting decision. The PTAB instituted the IPR on January 9, 2018 and the Company is preparing the response for filing in April 2018.answer. The Company intends to vigorously assertinvestigate and pursue its intellectual property rights in connection withrelating to the claims and to defend the suit vigorously. However, no assurance can be given that this litigation and the IPR.
Second case. During the summer of 2017, the Company commenced a lawsuit in the District of Minnesota against a former employee, MPS, and two MPS employees (collectively, the Defendants). The former employee was a sales executive who left the Company in 2017 to join MPS. In the lawsuit, the Company alleges that the Defendants misappropriated the Company's trade secrets and confidential information, that the former employee violated his employment agreements with the Company, and that Defendants committed various related business torts. After some
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early discovery, the Company moved for a preliminary injunction, which the Court granted in December, 2017. The litigation is ongoing.
matter will be resolved favorably.
In addition to the mattersmatter described above, the Company ismay be subject to routine legal proceedings in the ordinary course of business. The Company believes that the ultimate resolution of theseany such matters will not have a material adverse effect on our business, financial condition or results of operations.
Item 4. | Mine Safety Disclosures |
Item 4.Mine Safety Disclosures
Not applicable.
PART IIII
Item 5. | Market for Registrant’s Common Equity, Related Stockholder Matters, and Issuer Purchases of Equity Securities |
Market
Item 5.Market for Registrant’s Common Equity, Related Stockholder Matters, and Issuer Purchases of Equity Securities
Market Information for Common Stock
OurIn August 2021 our common stock returned to listing and is listedcurrently traded on the NASDAQ and the TSXNasdaq Global Market under the symbol “PMTS”.
Holders
On December 20, 2017, we effected a one-for-five reverse stock split of our common stock, whereby each lot of five shares of common stock issued and outstanding immediately prior to the reverse stock split was converted into and became one share of common stock. In lieu of issuing any fractional shares, any stockholder entitled to receive less than one share of common stock received cash for such stockholder’s fractional share. Share and per share amounts reflect the one-for-five reverse stock split for all periods presented throughout this Annual Report on Form 10-K and the accompanying consolidated financial statements.
The following table sets forth for the indicated periods dividends declared and the high and low prices of our common stock as reported on the NASDAQ and TSX, as adjusted for the reverse stock split discussed above.
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2017 |
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First Quarter |
| $ | 0.225 |
| $ | 24.51 |
| $ | 20.36 |
| $ | 33.50 |
| $ | 27.90 |
Second Quarter |
| $ | 0.225 |
| $ | 20.61 |
| $ | 9.32 |
| $ | 28.10 |
| $ | 11.80 |
Third Quarter |
| $ | — |
| $ | 15.75 |
| $ | 4.53 |
| $ | 21.95 |
| $ | 5.50 |
Fourth Quarter |
| $ | — |
| $ | 7.25 |
| $ | 3.44 |
| $ | 9.60 |
| $ | 4.90 |
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| $ | 0.225 |
| $ | 51.89 |
| $ | 35.50 |
| $ | 78.00 |
| $ | 49.50 |
Second Quarter |
| $ | 0.225 |
| $ | 42.53 |
| $ | 16.91 |
| $ | 59.50 |
| $ | 22.55 |
Third Quarter |
| $ | 0.225 |
| $ | 29.09 |
| $ | 19.83 |
| $ | 40.25 |
| $ | 27.70 |
Fourth Quarter |
| $ | 0.225 |
| $ | 30.34 |
| $ | 16.54 |
| $ | 40.90 |
| $ | 22.00 |
Holders
There were ninetwenty-seven stockholders of record as of February 22, 2018.2022. This figure does not include an estimate of the indeterminate number of beneficial holders whose shares may be held of record by brokerage firms and clearing agencies.
Dividend
During the year ended December 31, 2017, the Company declared quarterly cash dividends of $0.225 per share payable on April 7 and July 7. The Company discontinued its quarterly dividend during August 2017. During the year
35
34
ended December 31, 2016,Dividends
We do not currently expect that any cash or other dividends will be paid to holders of our common stock in the Company declared quarterlynear future. Any future cash dividendsdividend or other dividend declarations are subject to the determination of $0.225 per share payable on April 7, July 7, October 7 and January 12, 2017. the Company’s board of directors.
Issuer Purchases of Equity Securities
Repurchases
There were no shares repurchased under the Company’s stock repurchase plan during the year ended December 31, 2017 and the stock repurchase plan expired by its terms during May 2017. During the year ended December 31, 2016, the Company repurchased 287,883 shares, as adjusted for the reverse stock split, for $6.0 million.
Item 6.Selected Financial Data
The financial information in this Annual Report on Form 10-K is presented on a consolidated basis and includes the accounts of the Company and our majority-owned subsidiaries. The consolidated statement of income data for the years ended December 31, 2017, 2016,2021, and 2015 and the consolidated balance sheet data as of December 31, 2017 and 2016 are derived from our audited consolidated financial statements included elsewhere in this Annual Report on Form 10-K. The consolidated statement of income data for the years ended December 31, 2014 and 2013, and the consolidated balance sheet data as of December 31, 2015, 2014 and 2013 are derived from our audited consolidated financial statements not included in this Annual Report on Form 10-K. Our selected historical financial data are not necessarily indicative of our future financial condition, future results of operations or future cash flows.2020.
Item 6.
[Reserved]
36
You should read the information set forth below in conjunction with our historical consolidated financial statements and the notes to those statements included elsewhere in this Annual Report on Form 10-K.
|
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|
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| |||||||
|
| Year Ended December 31, |
| |||||||||||||
Statement of Income Data(1) : |
| 2017 |
| 2016 |
| 2015 |
| 2014 |
| 2013 |
| |||||
|
| (in thousands except share and per share data) |
| |||||||||||||
Net sales |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Products |
| $ | 125,306 |
| $ | 168,510 |
| $ | 241,609 |
| $ | 159,220 |
| $ | 101,360 |
|
Services |
|
| 129,556 |
|
| 140,190 |
|
| 132,501 |
|
| 101,786 |
|
| 95,010 |
|
Total net sales |
|
| 254,862 |
|
| 308,700 |
|
| 374,110 |
|
| 261,006 |
|
| 196,370 |
|
Cost of sales |
|
| 179,871 |
|
| 206,802 |
|
| 238,289 |
|
| 179,279 |
|
| 136,874 |
|
Gross profit |
|
| 74,991 |
|
| 101,898 |
|
| 135,821 |
|
| 81,727 |
|
| 59,496 |
|
Operating expenses(2) |
|
| 93,096 |
|
| 72,916 |
|
| 68,101 |
|
| 47,255 |
|
| 33,347 |
|
(Loss) Income from operations(2) |
|
| (18,105) |
|
| 28,982 |
|
| 67,720 |
|
| 34,472 |
|
| 26,149 |
|
Other expense, net |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest, net(3) |
|
| (20,848) |
|
| (20,044) |
|
| (18,328) |
|
| (7,508) |
|
| (7,838) |
|
Foreign currency gain (loss) |
|
| 560 |
|
| (417) |
|
| 59 |
|
| (124) |
|
| (142) |
|
Loss on debt modification and early extinguishment |
|
| — |
|
| — |
|
| (703) |
|
| (476) |
|
| — |
|
Other income (expense), net |
|
| 11 |
|
| 20 |
|
| 359 |
|
| (101) |
|
| 18 |
|
(Loss) income before income taxes(2) |
|
| (38,382) |
|
| 8,541 |
|
| 49,107 |
|
| 26,263 |
|
| 18,187 |
|
Income tax benefit (expense) |
|
| 16,372 |
|
| (3,142) |
|
| (17,846) |
|
| (10,291) |
|
| (6,988) |
|
Net (loss) income from continuing operations(2) |
|
| (22,010) |
|
| 5,399 |
|
| 31,261 |
|
| 15,972 |
|
| 11,199 |
|
Loss from discontinued operations, net of taxes(4) |
|
| — |
|
| — |
|
| (606) |
|
| (2,670) |
|
| (2,612) |
|
Gain on sale of discontinued operation, net of taxes(4) |
|
| — |
|
| — |
|
| 208 |
|
| — |
|
| — |
|
Net (loss) income(2) |
| $ | (22,010) |
| $ | 5,399 |
| $ | 30,863 |
| $ | 13,302 |
| $ | 8,587 |
|
Basic and Diluted (loss) earnings per share:(4)(5) |
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|
|
|
|
|
|
|
|
|
|
Continuing Operations |
| $ | (1.98) |
| $ | 0.48 |
| $ | (0.15) |
| $ | (3.45) |
| $ | (2.95) |
|
Discontinued Operations |
|
| — |
|
| — |
|
| (0.04) |
|
| (0.35) |
|
| (0.30) |
|
|
| $ | (1.98) |
| $ | 0.48 |
| $ | (0.19) |
| $ | (3.80) |
| $ | (3.25) |
|
Weighted Average Shares Outstanding:(6) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic |
|
| 11,117,454 |
|
| 11,165,445 |
|
| 8,963,223 |
|
| 8,239,822 |
|
| 8,214,443 |
|
Diluted |
|
| 11,117,454 |
|
| 11,240,720 |
|
| 8,963,223 |
|
| 8,239,822 |
|
| 8,214,443 |
|
Other Financial Data: |
|
|
|
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|
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|
|
|
|
|
Depreciation and amortization |
| $ | 18,014 |
| $ | 16,927 |
| $ | 15,966 |
| $ | 14,198 |
| $ | 11,595 |
|
Cash flow provided by operating activities |
|
| 2,427 |
|
| 59,958 |
|
| 43,922 |
|
| 26,627 |
|
| 23,622 |
|
Capital expenditures |
| $ | 8,790 |
| $ | 14,294 |
| $ | 18,670 |
| $ | 16,956 |
| $ | 10,628 |
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|
| December 31, |
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| ||||||||||
Consolidated Balance Sheet Data: |
| 2017 |
| 2016 |
| 2015 |
| 2014 |
| 2013 |
| |||||
Cash and cash equivalents |
| $ | 23,205 |
| $ | 36,955 |
| $ | 13,606 |
| $ | 12,941 |
| $ | 9,702 |
|
Total current assets |
|
| 89,374 |
|
| 92,417 |
|
| 101,019 |
|
| 88,719 |
|
| 65,958 |
|
Plant, equipment and leasehold improvements, net |
|
| 49,300 |
|
| 53,419 |
|
| 52,113 |
|
| 44,772 |
|
| 36,650 |
|
Total assets |
|
| 234,005 |
|
| 264,420 |
|
| 280,353 |
|
| 266,010 |
|
| 171,867 |
|
Total debt |
|
| 303,869 |
|
| 301,922 |
|
| 309,000 |
|
| 178,810 |
|
| 122,306 |
|
Total stockholders’ deficit |
| $ | (119,574) |
| $ | (95,273) |
| $ | (86,610) |
| $ | (21,694) |
| $ | (36,896) |
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37
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Item 7. | Management’s Discussion and Analysis of Financial Condition and Results of Operations |
Item 7.Management’s Discussion and Analysis of Financial Condition and Results of Operations
You should read the following discussion in conjunction with the consolidatedfinancial statements and the notes to those statements included elsewhere in thisAnnual Report on Form 10-K. This discussion and analysis contains forward-looking statements that involve risks, uncertainties and assumptions. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of certain factors, including, but not limited to, thosesome of which are not within our control. See "Risk Factors" and “Forward-Looking“Cautionary Statement Regarding Forward-Looking Statements.”
Company Overview
We are a payment technology company and leading provider of comprehensive Financial Payment Card solutions in the United States. We define “Financial Payment Cards” as credit, debit and Prepaid Debit Cards issued on the networks of the “Payment Card Brands” (Visa, Mastercard®, American Express® and Discover® in the United States and Interac, in Canada). We define “Prepaid Debit Cards” as debit cards issued on the networks of the Payment Card Brands, but not linked to a traditional bank account. We also offer an instant card issuance solution, which provides card issuing bank customers the ability to issue a personalized debit or credit card within the bank branch to individual cardholders. We have established a leading position in the Financial Payment Card solutions market through more than 20 years of experience and are focused primarily on this attractive subsector of the financial technology market. Our customers include leading national and regional banks, independent community banks, credit unions, Prepaid Debit Card program managers, Group Service Providers and card transaction processors. experience.
We serve a diverse set of over 4,000several thousand customers which includes direct customers and indirect customer relationships whereby CPI provides Financial Payment Card solutions to a customer through a Group Service Provider (as defined below). Our customers includinginclude some of the largest issuers of debit and credit cards in the United States, and Canada, the largest U.S. Prepaid Debit Card program managers in the United States, numerous financial technology companies (“FinTechs”), as well as thousands of independent community banks, credit unions and Group Services Providers. We define “Group Service ProvidersProviders” as reseller or card processor organizations that assist small card issuers, such as credit unions, with managing their credit and debit card transaction processors.programs, including managing the Financial Payment Card issuance process, core banking operations and other financial services.
We serve our customers through a network of high-security production and card services facilities including high-security facilities in the United States, and Canada that are each certifiedof which is audited for compliance with the standards of the Payment Card Industry Security Standards Council (the “PCI Security Standards Council”) by one or more of the Payment Card Brands and Interac (in Canada) and, where required byBrands. Many of our customers certifiedrequire us to be in compliancecomply with the standards of the PCI Security Standards Council. We have aCouncil requirements that relate to the provision of our products and services. Our leading network of high-security production facilities in the United States and Canada, allowingallows us to optimize our solutions offerings and to serve the needs of our diverse customer base.
In addition toDriven by a combination of our high-security facilitiesstrong relationships, quality, technology, and innovation, we believe we have strong positions in the United Statesfollowing markets:
| ● | the U.S. prepaid debit market, serving many of the top U.S. Prepaid Debit Card program managers; |
| ● | the U.S. small to mid-sized issuer market, which includes independent community banks and credit unions; |
35
| ● | the U.S. large issuer market, serving some of the largest U.S. debit and credit card issuers; and |
| ● | the U.S. FinTech market, where we produce and personalize Financial Payment Cards for financial technology companies. |
Trends and Canada, weKey Factors Affecting our Financial Performance
We believe the following key factors may have facilities in the United Kingdom that produce retail cards, such as gifta meaningful impact on our business performance and loyalty cards, as well as provide personalization, packagingmay negatively influence our financial and fulfillment services. Retail cards produced at our facilities in the United Kingdom are not issued on the networksoperating results:
| ● | We have experienced, and expect to continue to experience, labor availability issues, particularly in the Company’s production facilities. In the year ended December 31, 2021, the Company incurred increased employee compensation and recruiting expenses in Cost of Sales and Operating Expenses, which we expect to continue to increase throughout 2022 and possibly beyond as the Company continues to actively recruit additional employees. Also as a result of labor shortages and supply chain constraints, as described below, the Company has experienced extended production lead times in some areas of the business and difficulty meeting some customers’ delivery expectations. We continue to proactively monitor, assess and take steps to minimize disruptions and delays in production; however, these disruptions and delays have caused the Company to lose or delay customer opportunities, and are likely to continue throughout 2022 and possibly beyond. |
| ● | Surges in demand for certain raw materials and components, as well as other factors such as staffing challenges, have continued to strain the global supply chain network, which has resulted in increased costs of certain raw materials and components, increased shipping costs, freight and logistics delays, longer lead times and unpredictability. In particular, shortages of raw materials and components that we use in many of our products is expected to continue for the foreseeable future and may adversely affect our ability to meet customer demand for our products. Although we strive to place orders for materials and components sufficiently in advance, to compile buffer stock to mitigate the impacts of freight and logistics delays and to bolster our access to raw materials and components, it is difficult to predict the ability of our suppliers to continue to fulfill such orders or to do so in a timely manner, and it is likely that such delays as well as costs to obtain such raw materials and components will increase in 2022 and possibly beyond. Additionally, certain microchip manufacturers recently indicated they plan to limit the types of microchips that they manufacture, which will affect our ability to continue to provide lower-cost contact microchips for certain of our customers. This could cause us and affected customers to migrate programs to more expensive microchip options or to contactless cards at a faster pace than expected, which may be costly and disruptive for the Company and affected customers. While we may be able to pass on some of our increased labor and material costs to our customers, we expect these factors will impact profitability in 2022 and possibly beyond. In addition, given that raw materials inventory is recognized on a first-in, first-out basis, we expect the impact of increasing raw materials costs to be realized into our statement of operations in 2022 and possibly beyond. |
| ● | Our Second Wave® payment cards feature a core made with recovered ocean-bound plastic (“ROBP”), which we source from Haiti and process using single source suppliers. Due to political instability and other factors in Haiti as well as the supply chain constraints described above, there is an increased likelihood that we may face challenges in obtaining an adequate supply of ROBP, which is necessary to meet customer demand for our Second Wave cards. The Company actively monitors and manages its supply chain, including compiling buffer stock of materials and seeking alternative suppliers and sources for ROBP, but it is uncertain how the current political climate in Haiti and other factors in the ROBP supply chain will affect our ability to continue obtaining sufficient ROBP. Additionally, to the extent we are able to secure one or more alternative suppliers of ROBP, we may be subject to increased shipping and materials costs, which we may not be able to pass through to our customers. |
| ● | As of June 30, 2021, the market value of outstanding shares of our common stock owned by non-affiliates exceeded $75 million, which triggered the Company being classified as an accelerated filer with respect to SEC regulations and filing requirements effective with the year ended December 31, 2021. As a result, our |
36
| annual assessment of the effectiveness of our internal control over financial reporting must be audited by our external audit firm in compliance with the provisions of Section 404 of the Sarbanes-Oxley Act of 2002. Preparations to comply and continued compliance with this new requirement has significantly increased our compensation expense, professional fees and other administrative costs during the year ended December 31, 2021. We expect these increased costs to continue in 2022 and possibly beyond. In connection with our evaluation and testing during 2021, management identified deficiencies that they determined resulted in material weaknesses in internal controls. For additional information, see Part II, Item 9A, Controls and Procedures in this Annual Report on Form 10-K. |
20172021 Summary of Financial Performance
During the year ended December 31, 2017,2021, net sales decreased 17.4%increased 20.2% from 2016,the prior year, to $254.9$375.1 million, and we incurred a lossrecorded income from operations of $18.1$59.5 million, compared to $29.0net sales of $312.2 million ofand income from operations of $38.4 million during 2016. The2020. Our operating loss margin for the year ended December 31, 2017 was 7.1%, a decrease from operating profit margin of 9.4%2021 increased to 15.9% compared to 12.3% in 2016.
38
the prior year. For the year ended December 31, 2017,2021, we generatedrecorded net loss from continuing operationsincome of $22.0$15.9 million, compared to net income of $5.4$16.1 million in 2016.
Included in loss from operations and net loss during the year ended December 31, 2017 were goodwill impairment charges2020, a decrease of $19.1 million, of which $17.2 million related to the U.S. Debit and Credit segment resulting from continued market softness in demand for EMV cards, including price erosion and loss of market share in the United States. The other impairment for $1.9 million related to Other which resulted from declines in net sales and operating losses incurred in our Canadian business. See Note 6 “Goodwill and Other Intangible Assets” in Part II, Item 8, “Financial Statements and Supplementary Data” and “Critical Accounting Policies and Estimates” in this Annual Report on Form 10-K for additional information.
$0.2 million.
Cash provided by operating activities for the year ended December 31, 20172021 was $2.4$20.2 million, representing a decrease of $1.9 million compared to cash provided by operating activities of $60.0$22.1 million during 2016.in the prior year.
Segment Overview
Our business consists of the following reportable segments: U.S. Debit and Credit, U.S. Prepaid Debit and U.K. Limited.
| ● | Debit and Credit; |
| ● | Prepaid Debit; and |
| ● | Other. |
U.S. Debit and Credit Segment
Our U.S. Debit and Credit segment primarily produces Financial Payment Cards and provides integrated card services to card-issuing banks primarily in the United States. Products manufactured by this segment primarily include EMV and non-EMV credit cards, debitFinancial Payment Cards, including contact and contactless (dual-interface) cards and Prepaid Debit Cards issued on the networks of the Payment Card Brands,plastic and encased metal cards, and Second Wave payment cards featuring a core made with ROBP. We also sell Card@Once, our proprietary and patented instant card issuance systemssystem and Private Label Credit Cardssoftware-as-a-service, and other private label credit cards that are not issued on the networks of the Payment Cards Brands (including general purpose reloadable, gift, payrollBrands. We provide CPI On-Demand services, where we produce images, personalized payment cards and employee benefit, government disbursement, incentive, and transit cards).related collateral on a one-by-one, on-demand basis for our customers. This segment also provides a variety of integrated card services, including card personalization and fulfillment services and instant issuance services. The U.S. Debit and Credit segment operations are each certifiedaudited for compliance by multiple globalone or more of the Payment Card Brands and, where required byBrands. Many of our customers certifiedrequire us to be in compliancecomply with the standards of the PCI Security Standards Council.
U.S. Prepaid Debit Segment
Our U.S. Prepaid Debit segment primarily provides integrated prepaid card services to Prepaid Debit Card providers in the United States. Services provided includeStates, including tamper-evident security packaging, card personalization and fulfillment and our CPI on Demand services, where we are able to produce all images, personalized payment cards and related collateral on a one-by-one, on demand basis for our customers, enabling individualized offerings and reducing waste.packaging. This segment also produces Financial Payment Cards issued on the networks of the Payment Card Brands that are included in the tamper-evident security packages mentioned above.packages. The U.S. Prepaid Debit segment operation is certifiedaudited for compliance by multiple globalone or more of the Payment Card Brands, and is certifiedBrands. Many of our customers require us to be in compliancecomply with the standards of the PCI Security Standards Council.
U.K. Limited Segment
Other
Our U.K. LimitedOther segment primarily produces retail cards, such as giftincludes corporate general and loyalty cards for customers in the United Kingdom and continental Europe. This segment also provides card personalization, packaging and fulfillment services. Neither of our operations in this segment are certified by the Payment Card Brands or to be in compliance with the standards of the PCI Security Standards Council, but are certified to be in compliance with International Organization for Standardization (“ISO”) 27001 standards.
Other
Our operations in Ontario, Canada and Petersfield, United Kingdom, and our corporate activities are reflected in “Other”. During February 2018 we made the decision to consolidate our three personalization operations in the United States into two facilities to better enable us to optimize operations and achieve market-leading quality and service with a cost-competitive business model. We plan to be substantially complete with the transition in the third quarter of 2018.
39
administrative expenses.
37
In August 2015, we completed the shut-down of the operations at our Petersfield facility. The Petersfield facility is not material to our business. See Note 16 “Segment Reporting” in Part II, Item 8, “Financial Statements and Supplementary Data” in this Annual Report on Form 10-K for certain additional information regarding our reporting segments.
Key Components of Results of Operations
Set forth below is a brief description of key line items of our consolidated statements of operations and comprehensive income.
Net Sales
Net sales reflect our revenue generated from the sale of products and services. Product net sales include the design and production of Financial Payment Cards, inincluding contact and contactless cards, and Second Wave® ROBP cards. ContactlessEMV dual-interfacecards have additional technology to process contactless transactions and generally have a higher selling price than contact-only EMV contactless and magnetic stripe formats. cards. We also generate product revenue from the sale of our Card@Once® instant issuance systems, Private Label Credit Cardssystem and consumables, private label credit cards and retail gift cards. Services net sales include revenue from the personalization and fulfillment of Financial Payment Cards, including CPI on DemandOn-Demand services, the provision of tamper-evident security packaging, fulfillment services and software as a service personalization of instant issuance Financial Payment cards. We also generate services revenue from personalizing retail gift cards (primarily in CanadaSee Part II, Item 8, Financial Statements and the United Kingdom).
Generally, we recognize net sales related to products upon shipment and services upon the provision of the service, when persuasive evidence of an arrangement exists, delivery has occurred, the fee is fixed or determinable, and collectability is reasonably assured. Accounting Standards Update (“ASU”) 2014-09, Revenue from Contracts with CustomersSupplementary Data, as amended by ASU 2016-12 Narrow-scope Improvements and Practical Expedients “ASU 2014-09” was adopted by the Company effective January 1, 2018. In accordance with this new standard, certain of our performance obligations are required to be recognized over time as the goods are produced rather than upon shipment, as required under applicable accounting guidance prior to ASU 2014-09, as those products provide value only to a specified customer, have no alternative use, and we have the right to payment for work completed on such items. This will accelerate the timing of revenue recognition for these arrangements, as revenue will be recognized as goods are produced rather than upon shipment or delivery of goods. See Note 2 “Summary of Significant Accounting Policies” inand Part II, Item 8, “7, Management’s Discussion and Analysis ofFinancial StatementsCondition and Supplementary Data” andResults of Operations, “Critical Accounting Policies and Estimates—Revenue Recognition.”Recognition” in this Annual Report on Form 10-K for additional information.further information and timing of revenue recognition for net sales. We include gross shipping and handling revenue in net sales.
Cost of Sales
Cost of sales includes the direct and indirect costs of the products we sell and the services that we provide. Product costs include the cost of raw materials, including microchips in the case ofand antennas for contactless EMV cards, and, additionally, RFID assemblies in the case of dual-interface EMV cards, labor costs, material costs, equipment and facilities costs, operation overhead, depreciation and amortization, leases and rental charges and transport costs. Product costs also include desktop card personalization terminals in the case of Card@Once® instant issuance system sales.printer costs. Services costs include the cost of labor, raw materials in the case of tamper-evident security packaging, and equipment and facilities costs, operation overhead, depreciation and amortization, leases and rental charges and transport costs. Cost of sales can be impacted by many factors, including volume, operational efficiencies, procurement costs, promotional activity, and employee relations. We include the costs of shipping and handling in cost of sales.
Gross Profit and Gross Margin
Gross profit consists of our net sales less our cost of sales. Gross margin is gross profit as a percentage of net sales.
Operating Expenses
Operating expenses are primarily comprised of selling, general and administrative expenses (“SG&A”) which generally consist of expenses for executive, finance, sales, marketing, legal, information technology, customer service, human resources, research and development and administrative personnel, including payroll, benefits and stock-based compensation expense, bad debt expense and outside legal and other advisory fees, including audit, tax advisoryconsulting, accounting, and consultingsoftware related fees. Operating expense also includes depreciation and amortization expense and may include impairment charges on tangible and intangible assets.assets, when necessary.
40
(Loss) Income from Operations and Operating Margin
(Loss) incomeIncome from operations consists of our gross profit less our net operating expenses. Operating margin is (loss) income from operations as a percentage of net sales.
Other Expense, net
Other expense, net consists primarily of interest expenseexpense.
38
Income tax (expense) benefit
Income tax (expense) benefit consists of our U.S. federal and state income taxes at statutory rates, including the impact of other items such as valuation allowances, tax credits, permanent items, and foreign currency gains and losses.taxes.
Net Income
Net (Loss) Income from Continuing Operations
Net (loss) income from continuing operations consists of our income from operations, less other expense, net, and income tax expense.taxes.
Results of Operations
Year Ended December 31, 20172021 Compared With Year Ended December 31, 2016
2020
The table below presents our results of operations for the years ended December 31, 20172021 and 2016:2020:
| | | | | | | | | | | | |
| | Year Ended December 31, | | |||||||||
| | 2021 | | 2020 | | $ Change | | % Change |
| |||
| | (dollars in thousands) |
| |||||||||
Net sales: | | | | | | | | | | | | |
Products |
| $ | 199,586 |
| $ | 171,968 |
| $ | 27,618 |
| 16.1 | % |
Services | | | 175,533 | |
| 140,221 | | | 35,312 |
| 25.2 | % |
Total net sales | | | 375,119 | | | 312,189 | | | 62,930 |
| 20.2 | % |
Cost of sales | | | 233,693 | |
| 201,881 | | | 31,812 |
| 15.8 | % |
Gross profit | | | 141,426 | | | 110,308 | | | 31,118 |
| 28.2 | % |
Operating expenses | | | 81,962 | |
| 71,917 | | | 10,045 |
| 14.0 | % |
Income from operations | | | 59,464 | | | 38,391 | | | 21,073 |
| 54.9 | % |
Other income (expense), net: | | | | | | �� | | | | | | |
Interest, net | | | (30,608) | |
| (25,397) | | | (5,211) |
| 20.5 | % |
Loss on debt extinguishment | | | (5,048) | |
| (92) | | | (4,956) |
| * | |
Other income (expense) | | | 14 | |
| (17) | | | 31 |
| * | |
Income before income taxes | | | 23,822 | | | 12,885 | | | 10,937 |
| * | |
Income tax (expense) benefit | | | (7,881) | |
| 3,305 | | | (11,186) |
| * | |
Net income from continuing operations | | $ | 15,941 | | $ | 16,190 | | $ | (249) |
| (1.5) | % |
Net loss from discontinued operations | | | — | | | (61) | | | 61 | | * | |
Net income | | $ | 15,941 | | $ | 16,129 | | $ | (188) |
| (1.2) | % |
* Not meaningful | | | | | | | | | | | | |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |||||
|
| Year Ended December 31, | ||||||||||
|
| 2017 |
| 2016 |
| $ Change |
| % Change |
| |||
|
| (dollars in thousands) |
| |||||||||
Net sales: |
|
|
|
|
|
|
|
|
|
|
|
|
Products |
| $ | 125,306 |
| $ | 168,510 |
| $ | (43,204) |
| (25.6) | % |
Services |
|
| 129,556 |
|
| 140,190 |
|
| (10,634) |
| (7.6) | % |
Total net sales |
|
| 254,862 |
|
| 308,700 |
|
| (53,838) |
| (17.4) | % |
Cost of sales |
|
| 179,871 |
|
| 206,802 |
|
| (26,931) |
| (13.0) | % |
Gross profit |
|
| 74,991 |
|
| 101,898 |
|
| (26,907) |
| (26.4) | % |
Operating expenses (exclusive of impairments shown below) |
|
| 74,022 |
|
| 70,216 |
|
| 3,806 |
| 5.4 | % |
Impairments |
|
| 19,074 |
|
| 2,700 |
|
| 16,374 |
| * |
|
(Loss) income from operations |
|
| (18,105) |
|
| 28,982 |
|
| (47,087) |
| (162.5) | % |
Other expense, net: |
|
|
|
|
|
|
|
|
|
|
|
|
Interest, net |
|
| (20,848) |
|
| (20,044) |
|
| (804) |
| 4.0 | % |
Foreign exchange gain (loss) |
|
| 560 |
|
| (417) |
|
| 977 |
| * |
|
Other income |
|
| 11 |
|
| 20 |
|
| (9) |
| (45.0) | % |
(Loss) income before income taxes |
|
| (38,382) |
|
| 8,541 |
|
| (46,923) |
| (549.4) | % |
Income tax benefit (expense) |
|
| 16,372 |
|
| (3,142) |
|
| 19,514 |
| * |
|
Net (loss) income |
| $ | (22,010) |
| $ | 5,399 |
| $ | (27,409) |
| (507.7) | % |
* Not meaningful |
|
|
|
|
|
|
|
|
|
|
|
|
Net Sales
| | | | | | | | | | | | |
| | Year Ended December 31, |
| |||||||||
| | 2021 | | 2020 | | $ Change | | % Change |
| |||
| | (dollars in thousands) |
| |||||||||
Net sales by segment: |
|
|
|
|
|
|
|
| | |||
Debit and Credit | | $ | 296,204 | | $ | 250,427 | | $ | 45,777 |
| 18.3 | % |
Prepaid Debit | |
| 79,213 | |
| 63,596 | |
| 15,617 |
| 24.6 | % |
Eliminations | | | (298) | |
| (1,834) | | | 1,536 |
| * | |
Total | | $ | 375,119 | | $ | 312,189 | | $ | 62,930 |
| 20.2 | % |
* Not meaningful | | | | | | | | | | | | |
41Debit and Credit:
Net sales for Debit and Credit increased $45.8 million, or 18.3%, due primarily to the ongoing transition to contactless cards and new customer growth. Product net sales increased due to higher volumes of contactless cards and higher Card@Once instant issuance sales. Additionally, net sales from card personalization services increased due to higher volumes of contactless cards and higher CPI On-Demand sales. The increases in product and services net sales benefited from significant new customer onboarding volumes in the first half of the year. Contactless EMV cards have additional technology to process contactless transactions and generally have a higher selling price than contact-only
39
EMV cards, which contributed more to the current year sales increases compared to the prior year. Debit and Credit net sales in the prior year were impacted by lower customer demand than expected, which we believe was primarily attributable to the COVID-19 pandemic.
Net SalesPrepaid Debit:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |||||
|
| Year Ended December 31, |
| |||||||||
|
| 2017 |
| 2016 |
| $ Change |
| % Change |
| |||
|
| (dollars in thousands) |
| |||||||||
Net sales by segment: |
|
|
|
|
|
|
|
|
| |||
U.S. Debit and Credit—Products |
| $ | 105,465 |
| $ | 146,333 |
| $ | (40,868) |
| (27.9) | % |
U.S. Debit and Credit—Services |
|
| 53,434 |
|
| 62,462 |
|
| (9,028) |
| (14.5) | % |
U.S. Debit and Credit—Total |
|
| 158,899 |
|
| 208,795 |
|
| (49,896) |
| (23.9) | % |
U.S. Prepaid Debit—Products |
|
| — |
|
| — |
|
| — |
| — |
|
U.S. Prepaid Debit—Services |
|
| 61,132 |
|
| 60,065 |
|
| 1,067 |
| 1.8 | % |
U.S. Prepaid Debit—Total |
|
| 61,132 |
|
| 60,065 |
|
| 1,067 |
| 1.8 | % |
U.K. Limited—Products |
|
| 20,600 |
|
| 17,468 |
|
| 3,132 |
| 17.9 | % |
U.K. Limited—Services |
|
| 10,519 |
|
| 12,221 |
|
| (1,702) |
| (13.9) | % |
U.K. Limited—Total |
|
| 31,119 |
|
| 29,689 |
|
| 1,430 |
| 4.8 | % |
Other—Products |
|
| 5,954 |
|
| 6,950 |
|
| (996) |
| (14.3) | % |
Other—Services |
|
| 5,095 |
|
| 6,160 |
|
| (1,065) |
| (17.3) | % |
Other—Total |
|
| 11,049 |
|
| 13,110 |
|
| (2,061) |
| (15.7) | % |
Eliminations |
|
| (7,337) |
|
| (2,959) |
|
| (4,378) |
| * |
|
Total |
| $ | 254,862 |
| $ | 308,700 |
| $ | (53,838) |
| (17.4) | % |
* Not meaningful |
|
|
|
|
|
|
|
|
|
|
|
|
Net sales for Prepaid Debit increased $15.6 million, or 24.6%, due primarily to higher volumes from existing customers which included the acquisition of new customer portfolios and the replenishment of inventory by our customers which had been maintained at lower levels in the prior year due to COVID-19 uncertainties.
Eliminations:
This includes the elimination of intercompany sales between segments in the consolidation of our financial statements. The decrease in eliminations for the year ended December 31, 2017 decreased $53.8 million, or 17.4%, to $254.9 million compared to $308.7 million for the year ended December 31, 2016. The decrease in net sales during 2017 was due to a 23.9% decrease in U.S. Debit and Credit and a 15.7% decrease in Other, partially offset by a 1.8% increase in U.S. Prepaid Debit and a 4.8% increase in U.K. Limited.
U.S. Debit and Credit
Net sales for U.S. Debit and Credit for the year ended December 31, 2017 decreased $49.9 million, or 23.9%, to $158.9 million compared to $208.8 million for the year ended December 31, 2016. The decrease in net sales was driven primarily by a $38.6 million decrease in EMV card revenue, an $8.5 million decrease in card personalization and fulfillment as well as a decrease in non-EMV and other sales.
The decrease in EMV revenue was the result of continued market softness in demand for EMV cards, including price erosion and loss of market share. For the year ended December 31, 2017, we sold 70.3 million EMV cards at an average selling price of $0.86 per card compared to 104.5 million EMV cards at an average selling price of $0.95 per card for the year ended December 31, 2016. The decrease in average selling price during the year ended December 31, 2017 compared to 2016 was due to lower prices across our customer base, including increased competition in the large issuer market, partially offset by favorable net pricing impacts of customer mix.
U.S. Prepaid Debit
Net sales for U.S. Prepaid Debit for the year ended December 31, 2017 increased $1.1 million, or 1.8%, to $61.1 million compared to $60.1 million for the year ended December 31, 2016. The increase in net sales was due primarily to an increase in sales related to our CPI on Demand services, partially offset by lower average selling prices with our retail prepaid debit customers. Retail prepaid volumes were consistent during the year ended December 31, 20172021 compared to the year ended December 31, 20162020 is due to two offsetting factors. Decreasedlower sales activity associated with the delay in the roll out of a packaging design refresh related to one of our large customers was more than offset by net volume increases across the remaining retail prepaid customer base.between segments.
Gross Profit and Gross Margin
| | | | | | | | | | | | | | | | |
| | Year Ended December 31, | | | | |
| |||||||||
| | | | % of | | | | % of | | | | |
| |||
| | 2021 | | net sales | | 2020 | | net sales | | $ Change | | % Change | | |||
| | (dollars in thousands) |
| |||||||||||||
Gross profit by segment: |
|
|
|
| |
|
|
|
|
|
|
| | |||
Debit and Credit |
| $ | 110,006 | | 37.1 | % | $ | 85,833 | | 34.3 | % | $ | 24,173 |
| 28.2 | % |
Prepaid Debit | | | 31,420 | | 39.7 | % |
| 24,475 | | 38.5 | % | | 6,945 |
| 28.4 | % |
Total |
| $ | 141,426 | | 37.7 | % | $ | 110,308 |
| 35.3 | % | $ | 31,118 |
| 28.2 | % |
U.K. LimitedDebit and Credit
Net salesGross profit for U.K. Limited for the year ended December 31, 2017Debit and Credit increased $1.4$24.2 million, or 4.8%28.2%, to $31.1 million compared to $29.7 million fordriven primarily by the year ended December 31, 2016. Increasednet sales were driven by an RFID
42
loyalty card order produced for a large U.K. retail customer,increase described above. The increase in net sales was partially offset by the impact of foreign currency exchange rate fluctuations and decreased sales activity of retail gift and other cards. Fluctuationshigher labor costs in the exchange rate between the United States dollar and the British Pound resulted in a $1.8 million reductioncurrent year. Gross profit margin increased to net sales for the year ended December 31, 2017 compared to the year ended December 31, 2016.
Other
Net sales in Other decreased $2.1 million, or 15.7%, from the year ended December 31, 2017 compared to the year ended December 31, 2016. During 2016, one of our largest Canadian customers refreshed its card designs which resulted in higher net sales37.1% during the year ended December 31, 20162021, compared to the year ended December 31, 2017. In addition, there were declines in net sales in Canada related to a few larger customers. These decreases were offset by $0.2 million of foreign currency exchange rate fluctuations between the United States dollar and Canadian dollar.
Cost of Sales
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |||||
|
| Year Ended December 31, |
| |||||||||
|
| 2017 |
| 2016 |
| $ Change |
| % Change |
| |||
|
| (dollars in thousands) |
| |||||||||
Cost of sales by segment: |
|
|
|
|
|
|
|
|
| |||
U.S. Debit and Credit |
| $ | 113,278 |
| $ | 138,939 |
| $ | (25,661) |
| (18.5) | % |
U.S. Prepaid Debit |
|
| 40,968 |
|
| 39,017 |
|
| 1,951 |
| 5.0 | % |
U.K. Limited |
|
| 24,327 |
|
| 21,713 |
|
| 2,614 |
| 12.0 | % |
Other |
|
| 8,742 |
|
| 10,007 |
|
| (1,265) |
| (12.6) | % |
Eliminations |
|
| (7,444) |
|
| (2,874) |
|
| (4,570) |
| * |
|
Total |
| $ | 179,871 |
| $ | 206,802 |
| $ | (26,931) |
| (13.0) | % |
* Not meaningful |
|
|
|
|
|
|
|
|
|
|
|
|
Cost of sales for the year ended December 31, 2017 decreased $26.9 million, or 13.0%, to $179.9 million compared to $206.8 million for the year ended December 31, 2016. The decrease in cost of sales was due to an 18.5% decrease in U.S. Debit and Credit and a 12.6% decrease in Other, partially offset by a 5.0% increase in U.S. Prepaid Debit and a 12.0% increase in U.K. Limited.
U.S. Debit and Credit
Cost of sales for U.S. Debit and Credit for the year ended December 31, 2017 decreased $25.7 million, or 18.5%, to $113.3 million compared to $138.9 million for the year ended December 31, 2016. The decrease was driven by lower EMV chip card sales volumes resulting in lower corresponding EMV manufacturing costs. Lower per unit EMV chip prices and decreases in card personalization and fulfillment sales also contributed to the decrease in cost of sales.
U.S. Prepaid Debit
Cost of sales for U.S. Prepaid Debit for the year ended December 31, 2017 increased $2.0 million, or 5.0%, to $41.0 million compared to $39.0 million for the year ended December 31, 2016. The increase was a result of increased sales volumes and costs related to the continued ramp-up of our CPI on Demand services.
U.K. Limited
Cost of sales for U.K. Limited for the year ended December 31, 2017 increased $2.6 million, or 12.0%, to $24.3 million compared to $21.7 million for the year ended December 31, 2016. The increase in cost of sales related to increased net sales activity resulting in higher manufacturing costs and higher material costs as a percent of sales due to product mix, partially offset by $1.3 million of foreign currency exchange rate fluctuations between the United States dollar and the British Pound.
43
Other
Other cost of sales decreased by $1.3 million, or 12.6%, to $8.7 million during the year ended December 31, 2017 compared to $10.0 million34.3% in the prior year, ended December 31, 2016due primarily to lower manufacturing costs corresponding to the decreasedoperating leverage from higher net sales, partially offset by by $0.2 million of foreign currency exchange rate fluctuations between the United States dollar and the Canadian dollar.labor cost increases.
Prepaid Debit
Gross Profit and Gross Profit Margin
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Year Ended December 31, |
|
|
|
|
| |||||||||
|
|
|
| % of |
|
|
| % of |
|
|
|
|
| |||
|
| 2017 |
| net sales |
| 2016 |
| net sales |
| $ Change |
| % Change |
| |||
|
| (dollars in thousands) |
| |||||||||||||
Gross profit by segment: |
|
|
|
|
|
|
|
|
|
|
|
|
| |||
U.S. Debit and Credit |
| $ | 45,621 |
| 28.7 | % | $ | 69,856 |
| 33.5 | % | $ | (24,235) |
| (34.7) | % |
U.S. Prepaid Debit |
|
| 20,164 |
| 33.0 | % |
| 21,048 |
| 35.0 | % |
| (884) |
| (4.2) | % |
U.K. Limited |
|
| 6,792 |
| 21.8 | % |
| 7,976 |
| 26.9 | % |
| (1,184) |
| (14.8) | % |
Other |
|
| 2,414 |
| 21.8 | % |
| 3,018 |
| 23.0 | % |
| (604) |
| (20.0) | % |
Total |
| $ | 74,991 |
| 29.4 | % | $ | 101,898 |
| 33.0 | % | $ | (26,907) |
| (26.4) | % |
Gross profit for the year ended December 31, 2017 decreased $26.9Prepaid Debit increased $6.9 million, or 26.4%28.4%, to $75.0 million compared to $101.9 million for the year ended December 31, 2016.prior year. Gross profit margin for the year ended December 31, 2017 decreased2021 increased to 29.4%39.7% compared to 33.0%38.5% for the year ended December 31, 2016.prior year. Gross profit and gross profit margin were driven primarily by the net sales increase described above and operating leverage, partially offset by increased labor costs.
U.S. Operating Expenses, net
| | | | | | | | | | | | | | | | |
| | Year Ended December 31, |
| |||||||||||||
| | 2021 | % of net sales | | | 2020 | % of net sales | | | $ Change | | % Change |
| |||
| | (dollars in thousands) |
| |||||||||||||
Operating expenses by segment: |
|
|
| | |
|
| | |
|
|
| | |||
Debit and Credit | | $ | 30,537 | 10.3 | % | | $ | 30,985 | 12.4 | % | | $ | (448) |
| (1.4) | % |
Prepaid Debit | | | 4,510 | 5.7 | % | |
| 4,533 | 7.1 | % | | | (23) |
| (0.5) | % |
Other | | | 46,915 | * | | | | 36,399 | * | | | | 10,516 | | 28.9 | % |
Total | | $ | 81,962 | 21.8 | % | | $ | 71,917 | 23.0 | % | | $ | 10,045 |
| 14.0 | % |
* Not meaningful
40
Debit and Credit
Gross profit for U.S. Debit and Credit for the year ended December 31, 2017operating expenses decreased $24.2$0.4 million, or 34.7%1.4%, to $45.6 million compared to $69.9 million for the prior year, ended December 31, 2016. The decreasedue primarily to a benefit recorded in gross profit for U.S. Debit2021 relating to estimated sales taxes, which is further described in Part II, Item 8, Financial Statements and Credit was primarily a resultSupplementary Data, Note 15, “Commitments and Contingencies” of decreased EMV revenues and decreased sales from our card personalization and fulfillment services. Gross profit margin for the U.S. Debit and Credit segment for the year ended December 31, 2017 decreased to 28.7% compared to 33.5% for the year ended December 31, 2016 due to lower overhead cost absorption attributed to reduced production volumes.
U.S. Prepaid Debit
Gross profit for U.S. Prepaid Debit for the year ended December 31, 2017 decreased $0.9 million, or 4.2%, to $20.2 million compared to $21.0 million for the year ended December 31, 2016. The decrease in gross profit was primarily due to the decrease in net sales to retail prepaid customers and increased costs to ramp up CPIthis Annual Report on Demand services. Gross profit margin for U.S. Prepaid Debit for the year ended December 31, 2017 decreased to 33.0% compared to 35.0% for the year ended December 31, 2016 due to increased costs to ramp up CPI on Demand services and lower overhead cost absorption during the first quarter of 2017.
U.K. Limited
Gross profit for U.K. Limited for the year ended December 31, 2017 decreased $1.2 million, or 14.8%, to $6.8 million compared to $8.0 million for the year ended December 31, 2016. The decrease in gross profit was driven by higher material costs as a percent of sales due to product mix and $0.5 million of foreign currency exchange rate fluctuations,Form 10-K, partially offset by the increase in net sales described above. Gross profit margin for U.K. Limited for the year ended December 31, 2017 decreased to 21.8% compared to 26.9% for the year ended December 31, 2016, primarily due to customer mix. increased compensation expense.
Other
Gross profit in Other decreased 20.0% in 2017 to $2.4 million from $3.0 million in 2016. The decrease was primarily due to decreased net sales in Canada.
44
Operating Expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |||||
|
| Year Ended December 31, |
| |||||||||
|
| 2017 |
| 2016 |
| $ Change |
| % Change |
| |||
|
| (dollars in thousands) |
| |||||||||
Operating expenses by segment: |
|
|
|
|
|
|
|
|
| |||
U.S. Debit and Credit |
| $ | 42,884 |
| $ | 26,100 |
| $ | 16,784 |
| 64.3 | % |
U.S. Prepaid Debit |
|
| 3,847 |
|
| 4,837 |
|
| (990) |
| (20.5) | % |
U.K. Limited |
|
| 5,382 |
|
| 5,572 |
|
| (190) |
| (3.4) | % |
Other |
|
| 40,983 |
|
| 36,407 |
|
| 4,576 |
| 12.6 | % |
Total |
| $ | 93,096 |
| $ | 72,916 |
| $ | 20,180 |
| 27.7 | % |
Goodwill Impairments
We perform goodwill impairment testing on an annual basis as of October 1 of each year or more frequently when an event occurs or circumstances change that indicates the carrying value may not be recoverable. Based on the goodwill impairment test performed as of October 1, 2017 we recorded an impairment charge of $19.1 million, of which $17.2 million related to U.S. Debit and Credit resulting from continued market softness in demand for EMV cards, including price erosion and loss of market share in the United States. The other impairment for $1.9 million related to Other which resulted from declines in net sales and operating losses incurred in our Canadian business.
U.S. Debit and Credit
The increase in operating expenses is primarily attributed to the goodwill impairment charge of $17.2 million, partially offset by lower general and administrative expenses.
U.S. Prepaid Debit
The $1.0 million decrease in U.S. Prepaid Debit operating expenses was primarily driven by lower administrative headcount.
U.K. Limited
U.K. Limited operating expenseswere essentially flat and decreased by $0.2less than $0.1 million, or 3.4%0.5%, as $0.3 million of foreign currency exchange rate fluctuations and lower marketing expenses were partially offset by higher labor costs incurred during the year ended December 31, 2017 compared to the year ended December 31, 2016.prior year.
Other
Other operating expenses increased $4.6$10.5 million, or 28.9%, due primarily to $7.4 million of compensation expenses including $3.3 million of salaries, payroll taxes, and other compensation related expenses, $1.6 million of healthcare expenses, $1.4 million of employee performance incentive compensation due to increased legal costsstrong business performance, and $1.1 million of $3.4 million, primarily relatedstock-based compensation expense, in addition to increased litigation expenses, $2.4$2.7 million of increased software, consulting,professional fees and net other expenses, and $1.2 million of increased compensation costs, including CEO transition expenses, partially offset by a decrease of $1.6 million in stock-based compensation expense during the year ended December 31, 2017. Included in Other operating expenses was a $1.9 million goodwill impairment charge during the year ended December 31, 2017 and a $2.7 million intangible asset impairment charge related to a trademark acquired in the EFT Source acquisition during the year ended December 31, 2016. The net impact of these two impairment charges in 2017 and 2016 also partially offset the above increases.compliance costs.
45
(Loss) Income from Operations and Operating Margin
| | | | | | | | | | | | | | | | |
| | Year Ended December 31, | | | | |
| |||||||||
| | | | % of | | | | % of | | | | |
| |||
| | 2021 | | net sales | | 2020 | | net sales | | $ Change | | % Change | | |||
| | (dollars in thousands) |
| |||||||||||||
Income (loss) from operations by segment: |
|
|
|
|
|
|
|
|
|
|
|
|
| |||
Debit and Credit | | $ | 79,469 |
| 26.8 | % | $ | 54,848 |
| 21.9 | % | $ | 24,621 |
| 44.9 | % |
Prepaid Debit | | | 26,910 |
| 34.0 | % |
| 19,942 |
| 31.4 | % | | 6,968 |
| 34.9 | % |
Other | | | (46,915) |
| * | |
| (36,399) |
| * | | | (10,516) |
| (28.9) | % |
Total | | $ | 59,464 |
| 15.9 | % | $ | 38,391 |
| 12.3 | % | $ | 21,073 |
| 54.9 | % |
* Not meaningful | | | | | | | | | | | | | | | | |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Year Ended December 31, |
|
|
|
|
| |||||||||
|
|
|
| % of |
|
|
| % of |
|
|
|
|
| |||
|
| 2017 |
| net sales |
| 2016 |
| net sales |
| $ Change |
| % Change |
| |||
|
| (dollars in thousands) |
| |||||||||||||
(Loss) income from operations by segment: |
|
|
|
|
|
|
|
|
|
|
|
|
| |||
U.S. Debit and Credit |
| $ | 2,737 |
| 1.7 | % | $ | 43,756 |
| 21.0 | % | $ | (41,019) |
| (93.7) | % |
U.S. Prepaid Debit |
|
| 16,317 |
| 26.7 | % |
| 16,211 |
| 27.0 | % |
| 106 |
| 0.7 | % |
U.K. Limited |
|
| 1,410 |
| 4.5 | % |
| 2,404 |
| 8.1 | % |
| (994) |
| (41.3) | % |
Other |
|
| (38,569) |
| * |
|
| (33,389) |
| * |
|
| (5,180) |
| * |
|
Total |
| $ | (18,105) |
| (7.1) | % | $ | 28,982 |
| 9.4 | % | $ | (47,087) |
| (162.5) | % |
* Not meaningful |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Debit and Credit
During the year ended December 31, 2017 we incurred a lossIncome from operations of $18.1for Debit and Credit increased $24.6 million, comparedor 44.9%, due primarily to income of $29.0 million for the year ended December 31, 2016. Included in the loss from operations during the year ended December 31, 2017 were the goodwill impairment charges discussed above, totaling $19.1 million.higher net sales and related gross profit as described above. Operating margins for the year ended December 31, 2017 decreased2021 increased to (7.1)%26.8% compared to 9.4%21.9% for the prior year, due to primarily higher net sales and operating leverage, partially offset by increased labor costs.
Prepaid Debit
Income from operations for Prepaid Debit increased $7.0 million, or 34.9%, due primarily to higher net sales and gross margin as described above. Operating margin for the year ended December 31, 2021 increased to 34.0% from 31.4% in 2020, due primarily to higher net sales and favorable operating leverage, partially offset by increased labor costs.
Other
The loss from operations in Other increased $10.5 million, or 28.9%, due to the increases in operating expenses discussed above.
41
Interest, net
Interest expense for the year ended December 31, 2016.
U.S. Debit and Credit
Income from operations for U.S. Debit and Credit for the year ended December 31, 2017 decreased $41.02021, increased $5.2 million or 93.7%, to $2.7$30.6 million compared to $43.8$25.4 million for the year ended December 31, 2016. Operating margins2020. Interest expense was higher in 2021 primarily due to higher interest rates on the Senior Notes (as defined below) issued in 2021, compared to the interest rates on our previous credit facilities in the prior year, and the “make-whole” interest premium of $2.6 million paid in connection with the termination of the Senior Credit Facility (as defined below). This increase was partially offset by lower debt principal outstanding in the current year compared to the prior year, and from interest income received of approximately $0.4 million in 2021 related to income tax refunds.
Income tax expense
For the year ended December 31, 2021, we recorded income tax expense of $7.9 million on pre-tax income of $23.8 million, representing an effective income tax rate of 33.1%. The effective tax rate differs from the federal U.S. statutory rate in 2021 primarily due to state income taxes, which had a tax rate impact of 7.4%. Other items impacting the effective tax rate in 2021 include permanent items and unrecognized tax benefits. During the year ended December 31, 2020, we recorded an income tax benefit of $3.3 million on pre-tax income of $12.9 million, representing an effective tax rate of (25.6)%. The CARES Act allowed net operating losses (“NOLs”) generated in 2018, 2019, or 2020 to be carried back for five years and temporarily eliminated the tax law provision that limits the use of NOLs to 80% of taxable income. The CARES Act increased the Internal Revenue Code Section 163(j) interest deduction limit for 2020 and 2019, and allowed for the acceleration of refunds of alternative minimum tax credits. For the year ended December 31, 2020, the Company recorded a tax benefit for certain provisions in the CARES Act including the carryback of losses and the increase to the interest deduction limitation, resulting in a tax rate benefit of 20.9%. In addition, we applied the 2018 proposed regulations relating to the Section 163(j) interest deduction limitation which contributed to a valuation allowance change and tax rate benefit of 41.1%.
Net income
Net income for the year ended December 31, 2017 decreased to 1.7%2021 was $15.9 million, compared to 21.0% for the year ended December 31, 2016 due primarily to the lower sales, lower overhead cost absorption attributed to the reduced sales volumes and the goodwill impairment charge discussed above.
U.S. Prepaid Debit
Income from operations for U.S. Prepaid Debit for the year ended December 31, 2017 increased $0.1 million, or 0.7%, to $16.3 million compared tonet income of $16.2 million for the year ended December 31, 2016. Operating margins for the year ended December 31, 2017 decreased2020. The decrease was primarily due to 26.7% compared to 27.0%increases in 2016. Increased sales and lowerincome tax expense, operating expenses, wereinterest and the loss on debt extinguishment, partially offset by costs incurredhigher net sales and gross profit.
Fourth Quarter
Our net sales increased 10.8% in connection with the ramp upfourth quarter of CPI on Demand services. Operating margins2021 to $93.2 million, compared to $84.1 million in the fourth quarter of 2020. Net sales for Debit and Credit increased by $7.8 million to $77.4 million, or 11.3%, in the fourth quarter of 2021 compared to the fourth quarter of 2020. The increase in net sales was primarily due to higher net sales volumes from contactless EMV cards, including Second Wave cards.
Net sales for our Prepaid Debit segment increased $1.0 million, or 6.4%, to $15.9 million in the fourth quarter of 2021 compared to $14.9 million in the fourth quarter of 2020. This increase in sales is primarily due to higher volumes from existing customers, including the acquisition of new portfolios, as compared to the prior year fourth quarter period.
Gross profit decreased as CPI on Demand ramp-upslightly to $30.9 million in the fourth quarter of 2021, compared to $31.0 million in the fourth quarter of 2020. Gross profit margin decreased to 33.2% during the fourth quarter of 2021, compared to 36.8% in the prior year period, due primarily to increased labor costs, were partially offset by decreasedincreased operating leverage from higher net sales.
Selling, general and administrative (exclusive of depreciation and amortization) expenses as discussed above.increased $3.4 million to $20.3 million in the fourth quarter of 2021 compared to $16.9 million in the fourth quarter 2020. The increase was due primarily to increased compensation expenses, including increased stock compensation and healthcare expenses, and professional fees and compliance costs.
42
U.K. LimitedTable of Contents
IncomeDuring the fourth quarter of 2021 we earned income from operations for U.K. Limited during the year ended December 31, 2017 decreased $1.0 million, or 41.3%, to $1.4of $9.2 million compared to $2.4$12.4 million forin the year ended December 31, 2016.fourth quarter of 2020. The decrease in income from operations was primarily due to higher material costs as a percent of sales due to product mix, higher operating expenses and $0.2 million of foreign currency exchange rate fluctuations, partially offset by the increase in net sales. Operating margins decreased to 4.5% during the year ended December 31, 2017 from 8.1% in the year ended December 31, 2016 primarily due to product mix and higher operating expenses, as discussed above.
Other
Loss from operations in Other of $38.6 million represented an increased loss of $5.2 million for the year ended December 31, 2017 compared to the year ended December 31, 2016. The increased loss was primarily attributable to the higher corporate expenses and the lower sales activity in Canada, partially offset by the net impact of the two impairment charges discussed above.
46
Interest, net
Interest expense for the year ended December 31, 2017 increased $0.8 million, or 4.0%, to $20.8 million compared to $20.0 million for the year ended December 31, 2016. The additional interest expense resulting from the higher average interest rate on the First Lien Term Loan during the year ended December 31, 2017 was partially offset by no interest expense associated with the Sellers’ Note related to the EFT Source acquisition, which was repaid during September 2016.
Income tax benefit (expense)
During the year ended December 31, 2017 there was an income tax benefit of $16.4 million compared with an income tax expense of $3.1 million for the year ended December 31, 2016 driven by the decrease in income before taxes of $46.9 million. The effective tax rate increased to 42.7% during the year ended December 31, 2017 from 36.8% for the year ended December 31, 2016. Our effective tax rate was higher during the year ended December 31, 2017 primarily due to the impact of remeasurement of the Company’s deferred tax liability under the new enacted United States federal tax rate of 21% from 35%, and the benefits derived from research and development tax credits. Partially offsetting these increases to our effective tax rate were the impact of $19.1 million of non-deductible goodwill impairment charges and unrecognized tax benefits recorded during the year ended December 31, 2017.
Net (loss) income
Net loss for the year ended December 31, 2017 was $22.0 million, compared to net income of $5.4 million for the year ended December 31, 2016. The decrease in net income was driven by several factors, including lower net sales and gross profit, and higher operating expenses, including the impairment charges described above, and higher interest costs.
Fourth Quarter
Our net sales decreased 3.6% in the fourth quarter of 2017 compared to the fourth quarter of 2016. Net sales for U.S. Debit and Credit decreased 13.4% in the fourth quarter of 2017 compared to fourth quarter of 2016 due to the continued decline in sales and average selling prices of EMV chip cards, and lower card personalization and fulfillment sales.
Net sales for our U.S. Prepaid Debit segment increased $6.3 million or 50.1%, to $19.0 million in the fourth quarter of 2017 compared to $12.6 million in the fourth quarter of 2016 as a result of net sales volume increases across our retail prepaid customer base and increased net sales related to our CPI on Demand services.
Net sales for our U.K. Limited segment decreased 4.1% in the fourth quarter of 2017 compared to the fourth quarter of 2016, due primarily to limited activity with some larger customers during the quarter, partially offset by $0.5 million in foreign currency exchange rates.
During the fourth quarter of 2017 there was a loss from operations of $21.8 million compared to a loss from operations of $0.9 million in the fourth quarter of 2016. The increased loss from operations was primarily due to the goodwill impairment charges of $19.1 million relating to reporting units within U.S. Debit and Credit and Other, as further described above. Decreased net sales in U.S. Debit and Credit were primarily due to the continued decline in EMV chip card demand and average selling prices, and lower sales in Canada contributed to the increased loss. Higher sales activity, with both retail prepaid and CPI on Demand, and lower operating expenses in U.S. Prepaid Debit partially offset these losses.
47
Year Ended December 31, 2016 Compared With Year Ended December 31, 2015
The table below presents our results of operations for the years ended December 31, 2016 and 2015:
|
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|
|
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| |||||
|
| Year Ended December 31, |
| |||||||||
|
| 2016 |
| 2015 |
| $ Change |
| % Change |
| |||
|
| (dollars in thousands) |
| |||||||||
Net sales: |
|
|
|
|
|
|
|
|
|
|
|
|
Products |
| $ | 168,510 |
| $ | 241,609 |
| $ | (73,099) |
| (30.3) | % |
Services |
|
| 140,190 |
|
| 132,501 |
|
| 7,689 |
| 5.8 | % |
Total net sales |
|
| 308,700 |
|
| 374,110 |
|
| (65,410) |
| (17.5) | % |
Cost of sales |
|
| 206,802 |
|
| 238,289 |
|
| (31,487) |
| (13.2) | % |
Gross profit |
|
| 101,898 |
|
| 135,821 |
|
| (33,923) |
| (25.0) | % |
Operating expenses |
|
| 72,916 |
|
| 68,101 |
|
| 4,815 |
| 7.1 | % |
Income from operations |
|
| 28,982 |
|
| 67,720 |
|
| (38,738) |
| (57.2) | % |
Other expense, net: |
|
|
|
|
|
|
|
|
|
|
|
|
Interest, net |
|
| (20,044) |
|
| (18,328) |
|
| (1,716) |
| 9.4 | % |
Foreign exchange gain (loss) |
|
| (417) |
|
| 59 |
|
| (476) |
| * |
|
Loss on debt modification and early extinguishment |
|
| — |
|
| (703) |
|
| 703 |
| * |
|
Other income (expense) |
|
| 20 |
|
| 359 |
|
| (339) |
| * |
|
Income before income taxes |
|
| 8,541 |
|
| 49,107 |
|
| (40,566) |
| (82.6) | % |
Income tax expense |
|
| (3,142) |
|
| (17,846) |
|
| 14,704 |
| (82.4) | % |
Net income from continuing operations |
|
| 5,399 |
|
| 31,261 |
|
| (25,862) |
| (82.7) | % |
Loss from discontinued operations |
|
| — |
|
| (398) |
|
| 398 |
| (100.0) | % |
Net income |
| $ | 5,399 |
| $ | 30,863 |
| $ | (25,464) |
| (82.5) | % |
* Not meaningful |
|
|
|
|
|
|
|
|
|
|
|
|
Net Sales
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |||||
|
| Year Ended December 31, |
| |||||||||
|
| 2016 |
| 2015 |
| $ Change |
| % Change |
| |||
|
| (dollars in thousands) |
| |||||||||
Net sales by segment: |
|
|
|
|
|
|
|
|
| |||
U.S. Debit and Credit—Products |
| $ | 146,333 |
| $ | 217,863 |
| $ | (71,530) |
| (32.8) | % |
U.S. Debit and Credit—Services |
|
| 62,462 |
|
| 45,805 |
|
| 16,657 |
| 36.4 | % |
U.S. Debit and Credit—Total |
|
| 208,795 |
|
| 263,668 |
|
| (54,873) |
| (20.8) | % |
U.S. Prepaid Debit—Products |
|
| — |
|
| — |
|
| — |
| — |
|
U.S. Prepaid Debit—Services |
|
| 60,065 |
|
| 65,878 |
|
| (5,813) |
| (8.8) | % |
U.S. Prepaid Debit—Total |
|
| 60,065 |
|
| 65,878 |
|
| (5,813) |
| (8.8) | % |
U.K. Limited—Products |
|
| 17,468 |
|
| 22,211 |
|
| (4,743) |
| (21.4) | % |
U.K. Limited—Services |
|
| 12,221 |
|
| 12,150 |
|
| 71 |
| 0.6 | % |
U.K. Limited—Total |
|
| 29,689 |
|
| 34,361 |
|
| (4,672) |
| (13.6) | % |
Other—Products |
|
| 6,950 |
|
| 9,321 |
|
| (2,371) |
| (25.4) | % |
Other—Services |
|
| 6,160 |
|
| 8,099 |
|
| (1,939) |
| (23.9) | % |
Other—Total |
|
| 13,110 |
|
| 17,420 |
|
| (4,310) |
| (24.7) | % |
Eliminations |
|
| (2,959) |
|
| (7,217) |
|
| 4,258 |
| (59.0) | % |
Total |
| $ | 308,700 |
| $ | 374,110 |
| $ | (65,410) |
| (17.5) | % |
|
|
|
|
|
|
|
|
|
|
|
|
|
Net sales for the year ended December 31, 2016 decreased $65.4 million, or 17.5%, to $308.7 million compared to $374.1 million for the year ended December 31, 2016. The decrease in net sales during 2016 was due to a 20.8% decrease in U.S. Debit and Credit, an 8.8% decrease in U.S. Prepaid Debit, a 13.6% decrease in U.K. Limited and a 24.7% decrease in Other.
48
U.S. Debit and Credit
Net sales for U.S. Debit and Credit for the year ended December 31, 2016 decreased $54.9 million, or 20.8%, to $208.8 million compared to $263.7 million for the year ended December 31, 2015. The decrease in net sales was driven by a $46.1 million decrease in EMV related revenue, a $24.9 million decrease in magnetic stripe card and other sales due to the ongoing shift of card issuing bank customers from magnetic stripe cards to EMV cards, partially offset by a $16.1 million net sales increase in card personalization, fulfillment and other services.
The decrease in EMV revenue is the result of continued softness in demand for EMV cards, particularly with large issuer and processor customers. For the year ended December 31, 2016, we sold 104.5 million EMV cards at an average selling price of $0.95 per card compared to 154.7 million EMV cards at an average selling price of $0.94 per card for the year ended December 31, 2015. The increase in average selling price for EMV cards during the year ended December 31, 2016 compared to 2015 is primarily due to customer mix.
U.S. Prepaid Debit
Net sales for U.S. Prepaid Debit for the year ended December 31, 2016 decreased $5.8 million, or 8.8%, to $60.1 million compared to $65.9 million for the year ended December 31, 2015. The decrease was due to net reductions in volumes, and lower average prices on our tamper-evident secured packaging services. The decrease in volumes included the impact of a large customer shifting some of its business to a competitor, who we believe was infringing on a Company patent, as further described in Part I, Item 3, “Legal Proceedings” of this Annual Report on Form 10-K.
U.K. Limited
Net sales for U.K. Limited for the year ended December 31, 2016 decreased $4.7 million, or 13.6%, to $29.7 million compared to $34.4 million for the year ended December 31, 2015. The decrease was primarily attributable to fluctuations in the exchange rate between the United States dollar and the British Pound, which resulted in a reduction to net sales for the year ended December 31, 2016 of $4.0 million compared to the previous year. A decrease in card sales also contributed to the decline.
Other
Net sales in Other decreased $4.3 million, or 24.7%, from the year ended 2016 to 2015. The decrease related primarily to the shut-down of the Petersfield, U.K. operation in August 2015, which contributed $4.1 million in net sales during the year ended December 31, 2015. Net sales in Canada decreased $0.2 million during the year ended December 31, 2016 compared 2015, as the impact of foreign currency exchange rates during the year more than offset an increase in sales of manufactured EMV cards and card personalization in Canada.
Cost of Sales
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| Year Ended December 31, |
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| 2016 |
| 2015 |
| $ Change |
| % Change |
| |||
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| (dollars in thousands) |
| |||||||||
Cost of sales by segment: |
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| |||
U.S. Debit and Credit |
| $ | 138,939 |
| $ | 166,551 |
| $ | (27,612) |
| (16.6) | % |
U.S. Prepaid Debit |
|
| 39,017 |
|
| 39,498 |
|
| (481) |
| (1.2) | % |
U.K. Limited |
|
| 21,713 |
|
| 25,234 |
|
| (3,521) |
| (14.0) | % |
Other |
|
| 10,007 |
|
| 14,427 |
|
| (4,420) |
| (30.6) | % |
Eliminations |
|
| (2,874) |
|
| (7,421) |
|
| 4,547 |
| * |
|
Total |
| $ | 206,802 |
| $ | 238,289 |
| $ | (31,487) |
| (13.2) | % |
* Not meaningful |
|
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|
|
|
|
|
|
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|
|
Cost of sales for the year ended December 31, 2016 decreased $31.5 million, or 13.2%, to $206.8 million compared to $238.3 million for the year ended December 31, 2015. The decrease in cost of sales was due to a 16.6% decrease in U.S. Debit and Credit, a 1.2% decrease in U.S. Prepaid Debit, a 14.0% decrease in U.K. Limited and a 30.6% decrease in Other.
49
U.S. Debit and Credit
Cost of sales for U.S. Debit and Credit for the year ended December 31, 2016 decreased $27.6 million, or 16.6%, to $138.9 million compared to $166.6 million for the year ended December 31, 2015. The decrease was driven by lower EMV chip and magnetic stripe card sales volumes resulting in lower corresponding manufacturing costs. Lower per unit EMV chip prices also contributed to the decreased cost of sales. Higher costs of sales from growth in card personalization, fulfillment and other services partially offset the above decreases.
U.S. Prepaid Debit
Cost of sales for U.S. Prepaid Debit for the year ended December 31, 2016 decreased $0.5 million, or 1.2%, to $39.0 million compared to $39.5 million for the year ended December 31, 2015. The decrease was primarily due to a decrease in materials, corresponding to the decrease in net sales described above, partially offset by increased labor and overhead costs incurred during the three months ended December 31, 2016, including costs to ramp up CPI on Demand services capabilities.
U.K. Limited
Cost of sales for U.K. Limited for the year ended December 31, 2016 decreased $3.5 million, or 14.0%, to $21.7 million compared to $25.2 million for the year ended December 31, 2015. The decrease in cost of sales was primarily due to foreign currency exchange rate fluctuations of $2.9 million and a decrease in cards sold, as discussed above.
Other
Other cost of sales decreased by $4.4 million, or 30.6%, to $10.0 million compared to $14.4 million in 2015. The decrease was primarily related to our Petersfield, U.K. operation, shut-down in August 2015, which incurred $4.1 million in cost of sales during the year ended December 31, 2015. Increased cost of sales related increased sales of manufactured EMV cards and card personalization in Canada, was offset by the impact of foreign currency exchange rate fluctuations.
Gross Profit and Gross Profit Margin
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| Year Ended December 31, |
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| |||||||||
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| % of |
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| % of |
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| |||
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| 2016 |
| net sales |
| 2015 |
| net sales |
| $ Change |
| % Change |
| |||
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| (dollars in thousands) | ||||||||||||||
Gross profit by segment: |
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| |||
U.S. Debit and Credit |
| $ | 69,856 |
| 33.5 | % | $ | 97,117 |
| 36.8 | % | $ | (27,261) |
| (28.1) | % |
U.S. Prepaid Debit |
|
| 21,048 |
| 35.0 | % |
| 26,380 |
| 40.0 | % |
| (5,332) |
| (20.2) | % |
U.K. Limited |
|
| 7,976 |
| 26.9 | % |
| 9,127 |
| 26.6 | % |
| (1,151) |
| (12.6) | % |
Other |
|
| 3,018 |
| 23.0 | % |
| 3,197 |
| 18.4 | % |
| (179) |
| (5.6) | % |
Total |
| $ | 101,898 |
| 33.0 | % | $ | 135,821 |
| 36.3 | % | $ | (33,923) |
| (25.0) | % |
Gross profit for the year ended December 31, 2016 decreased $33.9 million, or 25.0%, to $101.9 million compared to $135.8 million for the year ended December 31, 2015. Gross profit margin for the year ended December 31, 2016 decreased to 33.0% compared to 36.3% for the year ended December 31, 2015.
U.S. Debit and Credit
Gross profit for U.S. Debit and Credit for the year ended December 31, 2016 decreased $27.3 million, or 28.1%, to $69.9 million compared to $97.1 million for the year ended December 31, 2015. The decrease in gross profit was primarily a result of decreased EMV net sales offset by growth in our card personalization and fulfillment services. Gross profit margin for U.S. Debit and Credit for the year ended December 31, 2016 decreased to 33.5% compared to 36.8% for the year ended December 31, 2015 due to lower overhead cost absorption attributed to reduced sales volumes.
50
U.S. Prepaid Debit
Gross profit for U.S. Prepaid Debit for the year ended December 31, 2016 decreased $5.3 million, or 20.2%, to $21.0 million compared to $26.4 million for the year ended December 31, 2015. Gross profit margin for U.S. Prepaid Debit for the year ended December 31, 2016 decreased to 35.0% compared to 40.0% for the year ended December 31, 2015. The decreases in gross profit and gross profit margin were primarily due to decreased net sales, from net reductions in volumes, lower average prices on our tamper-evident secured packaging services, and increased fourth quarter labor and overhead costs, including costs to ramp up Print on Demand capabilities.
U.K. Limited
Gross profit for U.K. Limited for the year ended December 31, 2016 decreased $1.2 million, or 12.6%, to $8.0 million compared to $9.1 million for the year ended December 31, 2015, primarily due to foreign currency exchange rate fluctuations of $1.1 million. Gross profit margin for the U.K. Limited segment for the year ended December 31, 2016 increased to 26.9% compared to 26.6% for the year ended December 31, 2015.
Other
Gross profit in Other decreased 5.6% in 2016 to $3.0 million from $3.2 million in 2015. The decrease was primarily related to the impact of foreign currency exchange rate fluctuations.
Operating Expenses
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| |||||
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| Year Ended December 31, |
| |||||||||
|
| 2016 |
| 2015 |
| $ Change |
| % Change |
| |||
|
| (dollars in thousands) |
| |||||||||
Operating expenses by segment: |
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|
|
|
|
|
|
|
| |||
U.S. Debit and Credit |
| $ | 26,100 |
| $ | 25,562 |
| $ | 538 |
| 2.1 | % |
U.S. Prepaid Debit |
|
| 4,837 |
|
| 5,679 |
|
| (842) |
| (14.8) | % |
U.K. Limited |
|
| 5,572 |
|
| 6,417 |
|
| (845) |
| (13.2) | % |
Other |
|
| 36,407 |
|
| 30,443 |
|
| 5,964 |
| 19.6 | % |
Total |
| $ | 72,916 |
| $ | 68,101 |
| $ | 4,815 |
| 7.1 | % |
U.S. Debit and Credit
Included in Operating expenses for the year ended December 31, 2016 increased $4.8 million, or 7.1%, to $72.9 million compared to $68.1 million for the year ended December 31, 2015. The increase in operating expenses was due to a 19.6% increase in Other and a 2.1% increase in U.S. Debit and Credit, partially offset by a 14.8% decrease in U.S. Prepaid Debit and a 13.2% decrease in U.K. Limited.
U.S. Debit and Credit increased $0.5 million, primarily due to increased salaries and benefits to support growth in the card personalization business.
U.S. Prepaid Debit decreased $0.8 million, primarily due to cost reductions in sales and administrative salaries.
U.K. Limited decreased $0.8 million, primarily due to the impact of foreign currency exchange rate fluctuations of $0.7 million.
The $6.0 million increase in Other was primarily due to public company costs of $5.5 million, patent and shareholder litigation and related charges of $3.5 million, a $2.7 million intangible asset impairment charge related to the Company’s plans to discontinue the use of a trademark in its sales, marketing and other business practices, and a $1.5 million increase of other corporate expenses (primarily related to increases in insurance and information technology expenses). These cost increases were partially offset by a $6.1 million decrease in stock-based compensation expense, a $0.7 million reduction of expenses relating to the prior year restructuring charge due to shut-down of the Petersfield, U.K. operation, and a reduction of $0.4 million related to IPO transaction expenses. Stock-based compensation expense during the year ended December 31, 2015 included an $8.7 million charge in connection with the settlement of our obligation under the phantom stock plan in conjunction with our IPO.
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Public company costs included $1.6 million of legal and insurance costs, $1.5 million of accounting, reporting and public filing costs, and $2.4 million in salaries and benefits, board fees, contract labor and hiring expenses.
Income from Operations and Operating Margin
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| Year Ended December 31, |
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| % of |
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| 2016 |
| net sales |
| 2015 |
| net sales |
| $ Change |
| % Change |
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Income from operations by segment: |
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U.S. Debit and Credit |
| $ | 43,756 |
| 21.0 | % | $ | 71,555 |
| 27.1 | % | $ | (27,799) |
| (38.8) | % |
U.S. Prepaid Debit |
|
| 16,211 |
| 27.0 | % |
| 20,701 |
| 31.4 | % |
| (4,490) |
| (21.7) | % |
U.K. Limited |
|
| 2,404 |
| 8.1 | % |
| 2,710 |
| 7.9 | % |
| (306) |
| (11.3) | % |
Other |
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| (33,389) |
| * |
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| (27,246) |
| * |
|
| (6,143) |
| 22.5 | % |
Total |
| $ | 28,982 |
| 9.4 | % | $ | 67,720 |
| 18.1 | % | $ | (38,738) |
| (57.2) | % |
* Not meaningful |
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Income from operations for the year ended December 31, 2016 decreased $38.7 million, or 57.2%, to $29.0 million compared to $67.7 million for the year ended December 31, 2015. Operating margins for the year ended December 31, 2016 decreased to 9.4% compared to 18.1% for the year ended December 31, 2015.
U.S. Debit and Credit
Income from operations for U.S. Debit and Credit for the year ended December 31, 2016 decreased $27.8 million, or 38.8%, to $43.8 million compared to $71.6 million for the year ended December 31, 2015. Operating margins for the year ended December 31, 2016 decreased to 21.0% compared to 27.1% for the year ended December 31, 2015 due primarily to the lower sales, lower overhead cost absorption attributed to the reduced sales volumes and increased salaries and benefits to support growth in the card personalization business, as discussed above.
U.S. Prepaid Debit
Income from operations for U.S. Prepaid Debit for the year ended December 31, 2016 decreased $4.5 million, or 21.7%, to $16.2 million compared to $20.7 million for the year ended December 31, 2015. Operating margins for the year ended December 31, 2016 decreased to 27.0% compared to 31.4% in 2015. The decrease in income from operations and operating margins was due to decreased net sales, and increased fourth quarter labor and overhead costs, partially offset by the decreased operating expenses as discussed above.
U.K. Limited
Income from operations for the U.K. Limited segment for the year ended December 31, 2016 decreased $0.3 million, or 11.3%, to $2.4 million compared to $2.7 million for the year ended December 31, 2015 due primarily to the impact of foreign currency exchange rate fluctuations.
Other
Loss from operations in Other of $33.4 million represented an increase of $6.1 million for the year ended December 31, 2016 compared to the year ended December 31, 2015. The additional loss was driven primarily by the higher operating expenses discussed above.
Interest, net
Interest expense for the year ended December 31, 2016 increased $1.7 million, or 9.4%, to $20.0 million compared to $18.3 million for the year ended December 31, 2015. The increase in interest expense was driven by higher average debt balances outstanding relating to the $435.0 million First Lien Term Loan that we put in place in August 2015 in conjunction with the partial redemption of the Series A Preferred Stock. Interest expense in 2015 also includes $4.7 million of amortization of debt issuance cost and discount related to the early debt repayment of $112.5 million using proceeds from our IPO, and an additional fourth quarter debt repayment of $10.0 million.
52
Loss on debt modification and early extinguishment
Loss on debt modification and early extinguishment for the year ended December 31, 2015 was $0.7 million related to unamortized deferred financing costs and discount on our Senior Term Loan dated September 2, 2014, which was repaid with proceeds from our $435.0 million First Lien Term Loan. Refer to Note 8 “Long-Term Debt and Credit Facility”, in Part II, Item 8 “Financial Statements and Supplementary Data” of this Annual Report on Form 10-K.
Income tax expense
Income tax expense for the year ended December 31, 2016 decreased $14.7 million, to $3.1 million, compared to $17.8 million for the year ended December 31, 2015 driven by the decrease in income before taxes of $40.6 million. The effective tax rate increased to 36.8% during the year ended December 31, 2016 from 36.3% for the year ended December 31, 2015 due primarily to the impact of state income taxes.
Net income
Net income for the year ended December 31, 2016 decreased $25.5 million, to $5.4 million, compared to $30.9 million for the year ended December 31, 2015. The decrease in net income was driven by several factors, including lower net sales and gross profit, and higher operating expenses and interest cost, as described above.
Fourth Quarter
Our net sales decreased 28.0% in the fourth quarter 2016 compared to the fourth quarter of 2015. Net sales for our U.S. Debit and Credit segment decreased 35.2% in the fourth quarter of 2016 compared to fourth quarter of 2015 due to the continued decline in demand of EMV chip cards.
Net sales for our U.S. Prepaid Debit segment increased 2.0% in the fourth quarter of 2016 compared to the fourth quarter of 2015 as a result of net sales volume increases across our retail prepaid customer base, partially offset by a large customer shifting some of its business to a competitor, as previously discussed.
Net sales for our U.K. Limited segment decreased 27.7% in the fourth quarter of 2016 compared to the fourth quarter of 2015, due primarily to foreign currency exchange rates. Fluctuations in the exchange rate between the United States dollar and the British Pound resulted in a reduction to net sales for the three months ended December 31, 2016 of $1.7 million compared to the same period in the previous year. Also contributing to the decrease was a decline in cards sold.
During the fourth quarter of 2016 there was a loss from operations of $0.9 million compared to income from operations of $10.0 million in the fourth quarter of 2015. The decrease in income from operations during the three months ended December 31, 2016 compared to 2015 is primarily due to decreased net sales in U.S. Debit and Credit. The decrease in net sales has been primarily due to continued softness in demand for EMV cards, particularly with large issuer customers. Additionally, included in the loss from operations during the three months ended December 31, 2016 was a $2.7 million impairment charge for a Company trademark resulting from the Company’s plans to discontinue its use of the trademark in its sales, marketing and other business practices.
Liquidity and Capital Resources
As of December 31, 2017,2021, we had $23.2$20.7 million of cash and cash equivalents. Of this amount, $3.2 million was held in accounts outside of the United States.
Our ability to make investments in and grow our business, service our debt and improve our debt leverage ratios, while maintaining strong liquidity, will depend upon our ability to generate excess operating cash flows through our operating subsidiaries. Although we can provide no assurances, we believe that our cash flows from operations, combined with our current cash levels, and available borrowing capacity, will be adequate to fund debt service requirements and provide cash, as required, to support our ongoing operations, capital expenditures, lease obligations and working capital needs.
53
$310 million aggregate principal amount of 8.625% senior secured notes due 2026 (the “Senior Notes”) and related guarantees at an issue price of 100%. In addition, we entered into a credit agreement with Wells Fargo Bank, National Association, as lender, administrative agent and collateral agent, providing for an ABL revolver of up to $50 million (the “ABL Revolver”), subject to a borrowing base.
At December 31, 2017, there was $312.5 million outstanding
The Senior Notes bear interest at a rate of 8.625% per annum and mature on March 15, 2026. Interest is payable on the Senior Notes on March 15 and September 15 of each year, beginning on September 15, 2021. The ABL Revolver matures on the earliest to occur of March 15, 2026 and the date that is 90 days prior to the maturity of the Senior Notes. Borrowings under the First Lien Term Loan, and we had an undrawn $40.0 million Revolving Credit Facility, of which $20.0 million is undrawn and available for borrowing. Additional amounts may be available for borrowing duringABL Revolver bear interest at a rate per annum that ranges from the term of the Revolving Credit Facility, upLIBOR Rate plus 1.25% to the full $40.0 million,LIBOR Rate plus 1.75%, or the Base Rate plus 0.25% to the extent our net leverage ratio does not exceed 7.0 times Adjusted EBITDA,Base Rate plus 0.75%, based on the average daily borrowing capacity under the ABL Revolver over the most recently completed month. The Base Rate as defined in the agreement.ABL Revolver is the greater of the Federal Funds Rate plus 0.5%, the LIBOR Rate for a one month interest period plus 1.0%, or the Wells Fargo Bank, National Association “prime rate”. We may elect to apply either the LIBOR Rate or Base Rate interest to borrowings at our discretion. The First Lien Term Loan and Revolving Credit Facility (collectively, “First Lien Credit Facility”) matureunused portion of the ABL Revolver commitment accrues a commitment fee, which ranges from 0.375% to 0.50% per annum, based on August 17, 2022 and August 17, 2020, respectively.
Interest ratesthe average daily borrowing capacity under the First Lien Term Loan,ABL Revolver over the immediately preceding month.
While not impacting the year ended December 31, 2021, the ABL Revolver includes limitations on our ability to borrow in certain situations, including during periods in which the amount available to borrow under the ABL Revolver is less than $5 million. Commencing with the month immediately following a date on which borrowing availability is below $5 million until such time that borrowing availability equals or exceeds $5 million for 30 consecutive days, in order to borrow under the ABL Revolver, we must maintain a fixed charge coverage ratio (as defined in the credit agreement for the ABL Revolver) of at least 1.00 to 1.00, calculated for the trailing 12 months, tested monthly during such period. Borrowings under the ABL Revolver are also subject to limitations based on the borrowing base.
The Senior Notes and the ABL Revolver also contain covenants limiting the ability of the Company, the borrower and the Company’s election, are based on either a Eurodollar rate, subjectrestricted subsidiaries to, an interest rate floor of 1.0%, plus a margin of 4.5%, or a base rate plus a margin of 3.5%. As of December 31, 2017, the interest rate on our First Lien Term Loan was 5.96% and increased to 6.36% as the interest rate was reset on the First Lien Term Loan during January 2018.
The First Lien Credit Facility contains customary covenants, including among other things, incur or guarantee additional indebtedness or issue disqualified stock or certain restrictionspreferred stock; create or limitations on indebtedness, issuanceincur liens; pay dividends, redeem stock or make other distributions; make certain investments; pay dividends to the Company or make other intercompany transfers; transfer or sell assets; merge or consolidate; and enter into certain transactions with affiliates, subject to a number of liens, investments, dividends, redemptionsimportant exceptions and other distributionsqualifications, as set forth in the respective agreements.
Prior to equity holders, asset sales, certain mergersMarch 15, 2023, the Company may redeem some or consolidations, sales, transfers, leases or dispositions of substantially all of our assets,the Senior Notes at a “make-whole” redemption price, and affiliate transactions. Weon or after March 15, 2023, the Company may redeem some or all of the Senior Notes at a redemption price initially set at 104.313% of the principal amount of the notes to be redeemed, and reducing over time to 100%, in each case plus accrued and unpaid interest. Additionally, prior to March 15, 2023, the Company may redeem, on one or more occasions, up to 40% of the aggregate principal amount of the Senior Notes with the proceeds of certain equity offerings, at a redemption price equal to 108.625% of the principal amount of the notes to be redeemed, plus accrued and unpaid interest. Furthermore, prior to March 15, 2023, but not more than once during each consecutive twelve-month, the Company may also be requiredredeem up to 10% of the aggregate principal amount of the Senior Notes at a redemption price equal to 103% of the principal amount of the notes being redeemed, plus accrued and unpaid interest.
43
The Company has obligations to make repayments onan offer to repay the First Lien Term LoanSenior Notes, requiring prepayment in advance of the maturity date, upon the occurrence of certain events including a change of control, certain asset sales and based on a calculation ofan annual excess cash flows, as defined inflow calculation. The annual excess cash flow calculation is determined pursuant to the agreement,terms of the related indenture, with any required payments to be made after the issuance of the Company’s annual financial statements. We do not haveNo such payment is required based on the Company’s 2021 operating results.
In connection with the issuance of the Senior Notes and entry into the ABL Revolver, we terminated our previous credit facilities, consisting of a required excess$30 million senior credit agreement (the “Senior Credit Facility”), and a $435 million first lien term loan (the “First Lien Term Loan”).Net proceeds from the Senior Notes, together with cash flow paymenton hand and initial borrowings of $15 million under the ABL Revolver, were used to pay in full and terminate the Senior Credit Facility and First Lien Term Loan on March 15, 2021, and to pay related fees and expenses. During the three months ended March 31, 2021, prior to 2017, and we were in compliance with all covenants underthe termination of the First Lien Credit Facility asTerm Loan, we paid an excess free cash flow balance of $7.8 million pursuant to the terms of the debt agreements. As of December 31, 2017.
During2021, the year endedCompany had $310 million aggregate principal amount outstanding on the Senior Notes, plus accrued and unpaid interest. As of December 31, 2016, the Board of Directors approved a stock repurchase program authorizing repurchases of the Company’s common stock up to $20.0 million. There were no shares repurchased under this plan during the year ended December 31, 2017 and the stock repurchase plan expired by its terms during May 2017.
During August 2017,2021, the Company discontinued its quarterly dividend of $0.225 per share. The dividend discontinuation was part ofhad no borrowings outstanding and $50 million available for borrowing under the Company’s plan to utilize a greater portion of its available cash to reinvest back into the business to fund growth initiatives and to reduce debt. We remain focused on creating long-term shareholder value by making the strategic investments necessary to position the Company to return to sustainable profitable growth, while also strengthening our balance sheet and maintaining financial flexibility. By discontinuing the dividend, the Company will save approximately $10 million annually providing additional liquidity and financial flexibility.ABL Revolver.
Operating Activities
Cash provided by operating activities for the year ended December 31, 20172021 was $2.4$20.2 million compared to cash provided by operating activities of $60.0$22.1 million during the year ended December 31, 2016. The year over year decrease was primarily due to net working capital fluctuations, primarily accounts receivable and income taxes, and increased net losses incurred during the year ended December 31, 2017 compared to net income during the year ended December 31, 2016. Included in the $22.0 million net loss during the year ended December 31, 2017 and the $5.4 million of net income during the year ended December 31, 2016 were non-cash impairment charges of $19.2 million and $2.7 million, respectively, which did not impact cash flows from operating activities.
Cash provided by operating activities for the year ended December 31, 20162020. Cash generated by earnings was $60.0offset by a cash usage of $33.4 million and $6.1 million in 2021 and 2020, respectively, related to our investment in additional inventory to mitigate potential supply chain constraints and in anticipation of future demand. Additionally, the company had cash inflows related to income taxes of $10.0 million in 2021 compared to $43.9a cash usage from income taxes of $6.3 million during the year ended December 31, 2015. The increase in cash provided by operating activities was2020, primarily due to a net increasefederal tax refunds received in cash flows from2021. We had working capital particularly from decreasescash benefits related to accounts receivablepayable and inventories, partially offset by lower net income during the year ended December 31, 2016accrued expenses of $6.6 million and $10.4 million, respectively, in 2021, compared to 2015. $1.7 million and $3.0 million, respectively, in 2020.
Investing Activities
Cash used in investing activities for the year ended December 31, 20172021 was $8.8$9.9 million, all relatingcompared to capital expenditures. Capital expendituresa usage of $7.1 million during the year ended December 31, 20172020. Cash used in investing activities was related primarily to capital expenditures of $10.1 million and $7.1 million for the years ended December 31, 2021 and 2020, respectively, which included investments to support the business, such as machinery and equipment, including information technology equipment. As presented in our supplemental disclosures of non-cash information on the statement of cash flows, finance leases were $5.5executed for the acquisition of right-of-use machinery and equipment assets totaling $1.9 million lower thanand $1.7 million during the years ended December 31, 2021, and 2020, respectively. We anticipate capital expenditures to be higher in 2022 as compared to 2021 in order to increase production capacity, gain efficiencies, and expand capabilities to meet the emerging needs of our customers.
Financing Activities
During the year ended December 31, 2021, cash used in financing activities was $47.2 million compared to a cash inflow of $24.0 million during the year ended December 31, 2016 due2020. Proceeds from the new Senior Notes and ABL Revolver, net of discount, were $310 million and $14.8 million, respectively. We used proceeds from the Senior Notes and ABL Revolver, plus cash on hand from our balance sheet, to decreased capital requirements.
Cash usedpay in investing activities forfull and terminate the Senior Credit Facility balance of $30 million and the First Lien Term Loan balance of $304.7 million on March 15, 2021. During the year ended December 31, 2016 was $14.32021, we paid $9.5 million all relating to capital expenditures. Capital expenditures duringof debt issuance costs and $2.7 million of debt extinguishment costs, which included an early termination “make-whole” interest premium of $2.6 million on the Senior Credit Facility. During the year ended December 31, 2016 were lower than during2021, prior to the termination of the First Lien Term Loan, we made an excess free cash flow payment of $7.8 million pursuant to the terms of the debt agreement.
During the second quarter of 2021 we used $15 million of cash on hand to pay down the ABL Revolver to zero and had no borrowings thereunder as of December 31, 2021.
During the year ended December 31, 2015 ($18.7 million) as2020, we had elevated capital spending in 2015 in conjunction withentered into the U.S. EMV
54
Senior Credit Facility which provided $29.1 million of cash, net of discount, partially offset by $2.5 million of associated debt issuance costs. We also paid $2.2
44
conversionmillion and increased investment in our services business. We also received $5.0$2.6 million in cash from investing activitiesof principal on finance leases during the yearyears ended December 31, 2015 from the sale of our Nevada operation.2021 and 2020, respectively.
Financing Activities
Cash used in financing activities for the year ended December 31, 2017 was $7.9 million, primarily related to dividend payments of $7.5 million.
Cash used in financing activities for the year ended December 31, 2016 was $21.9 million, which primarily included the repayment of the $9.0 million subordinated, unsecured promissory note with certain sellers of EFT Source, $6.0 million of common stock repurchased under our stock repurchase program, and $7.5 million of dividends paid on our common stock.
Working Capital
Our working capital as of December 31, 20172021 was $54.8$80.9 million, compared to $57.1$95.6 million as of December 31, 2016.2020. During the year ended December 31, 2017,2021, accounts receivable increased by $6.4 million, our inventory balance increased $33.2 million to support the business, and the current portion of long-term debt decreased by $8.0 million as this balance was paid entirely in the first quarter of 2021. Partially offsetting these increases to working capital was a decrease in our cash balance decreased by $13.7 million. Offsetting the decrease in cash were netof $36.9 million and increases in other working capital, primarily accounts receivable reflecting the stronger fourth quarter performancepayable of the U.S. Prepaid Debit segment compared to the fourth quarter in 2016$7.6 million and income taxes receivable as a resultaccrued expenses of net losses incurred during the year ended December 31, 2017.$9.0 million.
Material Cash Requirements
Our working capital asmaterial cash requirements include interest payments on our long-term debt, operating and finance lease payments, and purchase obligations to support our operations.
Debt Service Requirements
As of December 31, 2016 was $57.12021, the total projected principal and interest payments on our borrowings were $431.4 million, comparedprimarily related to $59.0the Senior Notes, of which $27.0 million asof interest is expected to be paid in the next 12 months. The remaining interest payments are expected to be paid over the remaining term of the Senior Notes which mature in 2026, and the principal is due upon maturity. We have estimated our future interest payments assuming no borrowings under the ABL Revolver, no early redemptions of principal, and no debt issuances or renewals upon the maturity dates of our notes. However, we may borrow under the ABL Revolver, redeem principal on the Senior Notes early or refinance all or a portion of our borrowings in future periods.
Leases
We lease real property for production and services, in addition to equipment. Refer to Part II, Item 8, Financial Statements and Supplemental Data, Note 10, “Financing and Operating Leases” for details on our leasing arrangements, including future maturities of our operating lease liabilities.
Purchase Obligations
A purchase obligation is an agreement to purchase goods or services that is enforceable, legally binding, and specifies all significant terms. As of December 31, 2015. During the year ended December 31, 2016, our cash balance increased $23.3 million. Offsetting the increased cash were the $9.02021, we had approximately $33.7 million principal payment madeof outstanding purchase obligations, of which approximately $33.4 million is expected to certain sellers of EFT Source, and net decreases in other working capital accounts, primarily accounts receivable and inventories, reflecting the declinebe paid in the net sales from the prior year. next 12 months.
Contractual Obligations
The following table summarizes our material contractual obligations as of December 31, 2017:
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| Payments due by period—December 31, 2017 |
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| (in thousands) |
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| Less than |
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| More than |
| |||||
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| Total |
| 1 year |
| 1 - 3 Years |
| 3 - 5 Years |
| 5 Years |
| |||||
Long-term debt (1) |
| $ | 312,500 |
| $ | — |
|
| — |
|
| 312,500 |
|
| — |
|
Operating leases |
|
| 13,362 |
|
| 3,613 |
|
| 5,391 |
|
| 3,299 |
|
| 1,059 |
|
Interest payments (2) |
|
| 86,218 |
|
| 18,632 |
|
| 37,264 |
|
| 30,322 |
|
| — |
|
Non-cancellable purchase obligations (4) |
|
| 14,513 |
|
| 4,793 |
|
| 9,720 | (3) |
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|
|
|
|
Total contractual obligations |
| $ | 426,593 |
| $ | 27,038 |
| $ | 52,375 |
| $ | 346,121 |
| $ | 1,059 |
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(1) Principal payments only. |
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(2) Amounts are based on the applicable interest rate as of December 31, 2017. |
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(3) Relates to a single contract for the purchase of materials. |
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(4) This total does not include our unrecognized tax expense of $1.2 million because we are unable to make a reasonably reliable estimate as to when a cash settlement, if any, with the appropriate taxing authority may occur.
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Cyclical and Seasonal Nature of Business
Financial Payment Cards and Private Label Credit Cards are generally influenced by broader cyclical changes in the economy, with economic downturns potentially resulting in decreases in the demand for our products and services.services and economic upturns potentially resulting in increases in demand. In particular, prolonged economic downturns typically have resulted in significant reductions in the demand for general purpose credit cards due to tightening credit conditions. Our net sales are also influenced by Financial Payment Card renewal cycles and demand for new products, such as contactless cards. Additionally, we generally generatehistorically have generated higher net sales in the third and fourth quartersquarter of the year, as our sales of Prepaid Debit Card solutions and retail gift cards are more heavily weighted toward the second half of the year when consumers tend to purchase more of these products and services in anticipation of the holiday season in the United States.
55
Off-Balance Sheet Arrangements
We had no off-balance sheet arrangements at December 31, 2017 and 2016.
Critical Accounting Policies and Estimates
Our management’s discussion and analysis of financial condition and results of operations is based on our consolidated financial statements which have been prepared in accordance with accounting principles generally accepted in the United States of America. In preparing our financial statements, we make estimates, assumptions and judgments that can have a significant impact on our reported revenue,net sales, results of operations and net income, as well as on the value
45
of certain assets and liabilities on our balance sheet during and as of the reporting periods. These estimates, assumptions and judgments are necessary because future events and their effects on our results and the value of our assets cannot be determined with certainty and are made based on our historical experience and on other assumptions that we believe to be reasonable under the circumstances. These estimates may change as new events occur or additional information is obtained, and we may periodically be faced with uncertainties, the outcomes of which are not within our control and may not be known for a prolonged period of time. Because the use of estimates is inherent in the financial reporting process, actual results could differ from those estimates.
Revenue Recognition
Impairment Assessments of Goodwill and Long-Lived Assets
We account for business combinations usingProducts Net Sales: “Products” net sales are recognized when obligations under the acquisition method and allocate the acquisition price of acquired companies to the tangible and intangible assets acquired and liabilities assumed based upon their estimated fair values at the acquisition date. The difference between the acquisition price and the fair value of the net assets acquired is recorded as goodwill.
In determining the fair value of assets acquired and liabilities assumed in business combinations and for determining fair values in impairment tests, we use one of the following recognized valuation methods:
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We generally base our measurement of the fair valueterms of a reporting unit on a blended analysis of the present value of future discounted cash flows and the market valuation approach. The discounted cash flows model indicates the fair value of the reporting unit based on the present value of the cash flows that we expect the reporting unit to generate in the future. Our significant estimates in those fair value measurements include identifying business factors such as size, growth, profitability, risk and return on investment and assessing comparable revenue and earnings multiples. Further, when measuring fair value based on discounted cash flows, we make assumptions about future price levels, rates of increase in revenue, cost of revenue and operating expenses, weighted average cost of capital, rates of long term growth and income tax rates. We also consider our market capitalization, adjusted for unallocated monetary assets such as cash, debt, a control premium and other factors determined by management. Valuations are performed by management or third party valuation specialists under management’s supervision, where appropriate. We believe that the estimated fair values assigned to the assets acquired and liabilities assumed and for determining fair value in business combinations and impairment tests are based on reasonable assumptions that marketplace participants would use. However, such assumptions are inherently uncertain and actual results could differ from those estimates. Changes to or a failure to achieve our projected business assumptions, including growth and profitability, could result in a valuation that would trigger an impairment of goodwill.
Goodwill and other indefinite-lived intangible assets are not amortized, but instead are tested for impairment at least annually on October 1 or more frequently when an event occurs or circumstances change that indicates the carrying value may not be recoverable. For impairment evaluations, we first make a qualitative assessment with respect to both goodwill and other indefinite-lived intangibles. In 2017, we adopted ASU 2017-04, Intangibles – Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment (“ASU 2017-04”) in conjunction with our annual impairment testing effective October 1, 2017. In accordance with ASU 2017-04, an entity should perform its goodwill impairment test by comparing the fair value of the reporting unit with its carrying amount, and recognize an impairment charge for the amount by which the carrying amount of the reporting unit exceeds its fair value.
56
We completed our goodwill impairment testing as of October 1, 2017, and recorded impairment charges of $19.1 million, of which $17.2 million related to U.S. Debit and Credit resulting from continued market softness in demand for EMV cards, including price erosion and loss of market share in the United States. The other impairment for $1.9 million related to Other which resulted from declines in net sales and operating losses incurred in our Canadian business. There were no goodwill impairments recognized during the years ended December 31, 2016 and 2015.
Goodwill is allocated to our reporting units at the date the goodwill is initially recorded. Once goodwill has been allocated to a reporting unit, it no longer retains its identificationcontract with a particular acquisition and becomes identified with that reporting unit. Accordingly, the fair value of the reporting unit as a whole is available to support the recoverability of its goodwill. Goodwill of $53.6 million as of December 31, 2017 is attributable to the Company’s reportable segments as follows: U.S. Debit and Credit: $47.2 million and U.K. Limited: $6.5 million.
During the year ended December 31, 2016, we recognized a $2.7 million impairment related to a trademark acquired in the EFT Source acquisition. The impairment was a result of the Company’s plans to discontinue its use of the trademark in its sales, marketing and other business practices. Accordingly, the trademark was written down to its fair value of zero. The impaired asset is included in the U.S. Debit and Credit reportable segment for the year ended December 31, 2016. Subsequent tocustomer are satisfied. In most instances, this impairment, we evaluated the future utilization of our trademarks and updated our estimate to amortize these assets over lives ranging from 7.5 to 10 years. As a result, the Company has no remaining indefinite lived intangible assets as of December 31, 2017. There were no impairment of indefinite-lived intangible assets for the year ended December 31, 2015.
Refer to Note 6, “Goodwill and Other Intangible Assets” and Note 7 “Fair Value of Financial Instruments” in Part II, Item 8, “Financial Statements and Supplementary Data” in this Annual Report on Form 10-K for certain additional information on goodwill and intangible asset impairments and for further definition of valuation inputs.
Long-lived assets, such as property, equipment and software, and amortizable intangible assets, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset or asset group may not be recoverable. Plant, equipment, and leasehold improvements are recorded at cost. Accumulated depreciation is computed using the straight-line method over the lesser of the estimated useful life of the related assets (generally 3 to 10 years for equipment, furniture, and leasehold improvements) or, when applicable, the lease term. Maintenance and repairs that do not extend the useful life of the respective assets are charged to expense as incurred. If circumstances require that a long-lived asset or asset group be tested for possible impairment, we first compare the undiscounted cash flows expected to be generated by that long-lived asset or asset group to its carrying amount. If the carrying amount of the long-lived asset or asset group is not recoverable on an undiscounted cash flow basis, impairment is recognized to the extent that the carrying amount exceeds its fair value. There were no material long-lived asset impairments recorded for the years ended December 31, 2017, 2016, and 2015.
Future changes in our assumptions or the interrelationship of those assumptions may negatively impact future valuations. In future measurements of fair value, adverse changes in assumptions could result in an impairment of goodwill or long-lived assets that would require a non-cash charge to the consolidated statements of operations and may have a material effect on our financial condition and operating results.
Revenue Recognition
Generally, we recognize revenue related to sales of our products upon shipment, when persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, the fee is fixed or determinable, and collectability is reasonably assured. A provision for payment discounts, product return allowances and uncollectable accounts, which is estimated based upon our historical performance, management’s experience and current economic trends, is recorded as a reduction of sales in the same period that the revenue is recognized.
Accounting Standards Update (“ASU”) 2014-09, Revenue from Contracts with Customers, as amended by ASU 2016-12 Narrow-scope Improvements and Practical Expedients “ASU 2014-09” was adopted by the Company effective January 1, 2018. In accordance with this new standard, certain of our performance obligations are required to be recognizedoccurs over time as goodscards are produced rather than upon shipment, as required under applicable accounting guidance prior to 2014-09, as those products provide value only to a specified customer, have no alternative use,manufactured for specific customers and we have the right to payment for work completed on such items. This will accelerate the timing of revenue recognition for these arrangements, as revenue will be recognized as goods are produced rather than upon shipment or delivery of
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goods. See Note 2, “Summary of Significant Accounting Policies” in Part II, Item 8, “Financial Statements and Supplementary Data” in this Annual Report on Form 10-K for additional information.
Bill and Hold Transactions
In certain cases, at the customer’s request, we enter into bill-and-hold transactions whereby title transfers to the customer, but the product does not ship until a specified later date. We recognize revenue associated with bill-and-hold arrangements when the product is complete and ready to ship, hold criteria have been met, the amount due from the customer is fixed, and collectability of the related receivable is reasonably assured. All of the foregoing requires us to apply our judgment. Bill-and-hold arrangements most often occur when customers request that we ship complete tamper-evident security packages containing a Prepaid Debit Card to our secure fulfillment center until they provide us further instructions at a later date to ship those packages to numerous individual retail locations or distribution centers.
Multiple-Element Arrangements
We enter into warehouse, fulfillment and distribution service agreements with several customers, where we are engaged to store and handle completed cards and tamper-evident security packages on their behalf. For the sales arrangements that contain multiple deliverables, the arrangement is split into separate units of accounting and individually delivered elements have value to the customer on a standalone basis. When separate units of accounting exist, revenue is allocated to each element based on our best estimate of competitive market prices. At the point in which completed cards and packages are shipped to our warehouse, the product is billed and the revenue is recognized in accordance with our revenue recognition policy. Warehousing services are recognized monthly based on volume and handling requirements; fulfillment services are recognized when the product is handled in the manner specified by the customer for a unit or handling fee. All of the foregoing requires us to apply our judgment. Multiple-element arrangements most often occur when customers request that we ship complete tamper-evident security packages containing a Prepaid Debit Card to our secure fulfillment center until they provide us further instructions at a later date to ship those packages to numerous individual retail locations or distribution centers.
Inventory Valuation
Raw materials, work-in-process and finished goods inventories are valued at the lower of cost or net realizable value, with cost determined using a first-in, first-out, specific identification or weighted-average method. Cost is calculated based upon the price paid for an item at the time it is received by us, and also includes the capitalization of labor, overhead and other expenses in the case of work-in-process and finished goods inventory. This net inventory cost is recognized through cost of sales when the inventory is sold. It is impractical for us to assign specific allocated overhead costs to individual units of inventory. As such, to match net inventory costs against the related revenue, we estimate the net inventory costs to be deferred and recognized each period as the inventory is sold. Also, we must exercise significant judgment in the case of work-in-process inventory to allocate the appropriate costs to this unfinished product.
Stock-Based Compensation
During October 2015, we adopted the CPI Card Group Inc. Omnibus Incentive Plan (“Omnibus Plan”) and granted stock options to certain employees during the years ended December 31, 2017 and 2016. We estimate the fair value of option awards using a Black-Scholes option pricing model or other option pricing models, as we deem appropriate. Option-pricing models require us to estimate a number of key valuation inputs including expected volatility, expected dividend yield, expected term and risk-free interest rate. The most subjective estimate is the expected volatility of the underlying stock when determining the fair market value of an option granted. Based on the limited amount of trading history of our common stock, we utilized a peer group to estimate the volatility assumption when calculating the fair value of stock options granted during 2017 and 2016. As we obtain more trading history on our own common stock, our specific trading history, and associated volatility will gradually replace the peer group volatility assumption. As such, our volatility assumption in the future could be significantly different going forward than what we have estimated for our 2017 and 2016 grants, which could impact our stock-based compensation expense in future periods.
58
A 10% change in our stock-based compensation expense for the year ended December 31, 2017, would have affected pre-tax income by approximately $0.2 million. We include stock-based compensation expense in selling, general and administrative expenses in our consolidated statement of operations and comprehensive (loss) income.
Income Taxes
We record income tax expense using the liability method for taxes and are subject to income tax in many jurisdictions, including the United States, various states and localities, the United Kingdom, and Canada. A current tax asset or liability is recognized for the estimated taxes refundable or payable on the tax returns for the current year and a deferred tax asset or liability is recognized for the estimated future tax effects attributable to temporary differences and carryforwards. Deferred tax assets and liabilities are measured using enacted income tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect of a change in tax rates is recognized as income or expense in the period that includes the enactment date. A valuation allowance is recorded to reduce the carrying amounts of deferred tax assets unless it is more likely than not that such assets will be realized. In evaluating our ability to realize our deferred tax asset, we considered the following sources of future taxable income:
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Our evaluation regarding whether a valuation allowance is required or should be adjusted also considers, among other things, the nature, frequency and severity of recent losses, forecasts of future profitability and the duration of statutory carryforward periods. Our forecast of future profitability represents our best estimate of these future events. After conducting this assessment, the valuation allowance recorded, net of federal benefit, against our deferred tax assets was $4.7 and $4.9 million as of December 31, 2017 and December 31, 2016, respectively. If actual results differ from estimated results, or if we adjust these assumptions in the future, we may need to adjust our deferred tax assets or liabilities, which could impact our effective tax rate.
The amount of income taxes we pay could be subject to possible audits in the taxing jurisdictions in which we operate. In the event of these possible audits, the taxing authorities might challenge items on our tax returns. Because the tax matters challenged by tax authorities are typically complex, the ultimate outcome of these challenges is uncertain. We recognize tax benefits for uncertain positions only to the extent that we believe it is more likely than not that the tax position will be sustained. Our future results may include favorable or unfavorable adjustments to our unrecognized tax benefits due to closure of income tax audits, new regulatory or judicial pronouncements, or other relevant events. As a result, our effective tax rate may fluctuate significantly on a quarterly and annual basis.
Recent Accounting Pronouncements
The FASB issued ASU 2014-09, Revenue from Contracts with Customers, in May 2014, as amended by ASU 2016-12 Narrow-scope Improvements and Practical Expedients, in May 2016. ASU 2014-09, as amended, requires an entity to recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. An entity should also disclose sufficient quantitative and qualitative information to enable users of financial statements to understand the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers. In July 2015, the FASB deferred the effective date to annual reporting periods beginning after December 15, 2017, and interim reporting periods within those periods. The Company plans to implement the provisions of ASU 2014-09, as amended, as of January 1, 2018 using the modified retrospective transition method, with the cumulative effect of initial adoption recognized at the date of initial application.
The Company is finalizing the analysis of the effects of ASU 2014-09 on the consolidated financial statements, and subject to completion of this analysis, the Company expects to record a cumulative effective of adoption adjustment as of January 1, 2018 to increase accumulated earnings by a range of $3 to $4 million, reflecting the earnings the
59
Company would have recognized under ASU 2014-09 if applied as of December 31, 2017. The Company does not expect the application of ASU 2014-09 will have a material effect on the Consolidated Statement of Operations. Under the new guidance, the Company expects to recognize certain performance obligations over time as the goods are produced, since those products provide value to only a specified customer, have no alternative use and the Company has thean enforceable right to payment for work performed. For work performed but not completed on such items. This will accelerateand unbilled, we estimate net sales by taking actual costs incurred and applying historical margins for similar types of contracts. Margins across each business with similar contracts have been relatively consistent and we have not made changes to our methods and assumptions during 2021. Items included in “Products” net sales are manufactured Financial Payment Cards, including contact-EMV, Contactless EMV, Second Wave, contactless and magnetic stripe cards, private label credit cards and retail gift cards. Card@Once printers and consumables are also included in “Products” net sales, and their associated revenues are recognized at the timingtime of shipping.
Services Net Sales: Net sales are recognized for “Services” as the services are performed. Items included in “Services” net sales include the personalization and fulfillment of Financial Payment Cards, providing tamper-evident secure packaging and fulfillment services to Prepaid Debit Card program managers, and software-as-a-service personalization of instant issuance debit and credit cards. For work performed but not completed and billed, we estimate revenue recognitionby taking actual costs incurred and applying historical margins for these arrangements, as revenue will be recognized as goods are produced rather than upon shipment or deliverysimilar types of goods. In additioncontracts. Margins across each business with similar contracts have been relatively consistent and we have not made changes to accelerating the timing of recording revenue, the Company expects corresponding decreases in deferred revenue, work in processour methods and finished goods inventories, and an increase to accounts receivable. assumptions during 2021.
Customer Contracts: The Company often enters into Master Services Agreements (“MSAs”) with its customers. Generally, enforceable rights and obligations for goods and services occur only when a customer places a purchase order or statement of work to obtain goods or services under an MSA. Usually our contractual arrangements include neither exclusivity clauses nor commitments from our customers to order any given quantities of products on a medium or long-term basis. The contract term as defined by ASC 606, Revenue from Contracts with Customers, is the length of time it takes to deliver the goods or services promised under the purchase order or statement of work. As such, the Company's contracts are generally considered short term in nature.
Income Taxes
We are subject to income taxes in the process of implementingUnited States and refining thecertain foreign jurisdictions. Significant judgment is required changes to its businessin evaluating our tax positions and accounting processes, and internal controls to support recognition and disclosures under the new standard.
In February 2016, the FASB issued ASU 2016-02, Leases, which provides guidancedetermining our provision for accounting for leases. The new guidance requires companies to recognize theincome taxes. Deferred income tax assets and liabilities are computed annually for differences between the rightsfinancial statement and obligations created by leased assets. ASU 2016-02tax bases of assets and liabilities that will result in taxable or deductible amounts in the future based on enacted tax laws and rates applicable to the periods in which the differences are expected to affect taxable income.
The Company has deferred tax assets and liabilities and maintains valuation allowances where it is effective for annual and interim periods beginning after December 15, 2018 with early adoption permitted. The new standardmore likely than not that all or a portion of deferred tax assets will not be realized. Significant judgment is required in determining any valuation allowance recorded against deferred tax assets. The determination of the amount of valuation allowance to be adopted using a modified retrospective approach. The Company is inprovided on recorded deferred tax assets involves consideration of estimates regarding the processtiming and amount of assessingthe reversal of taxable temporary differences, expected future taxable income, and the impact of ASU 2016-02tax planning strategies. Changes in the relevant facts can significantly impact the judgment or need for valuation allowances. In the event we change our determination as to the amount of deferred tax assets that can be realized, we will adjust our valuation allowance with a corresponding impact to the provision for income taxes in the period in which such determination is made.
During the ordinary course of business, there are transactions and calculations for which the ultimate tax determination is uncertain. We establish reserves for tax-related uncertainties based on its resultsestimates of operations, financial positionwhether, and consolidated financial statements.the extent to which, additional taxes will be due. The reserves are established when we believe that certain positions are
46
likely to be challenged and may not be fully sustained on review by tax authorities. We adjust these reserves in light of changing facts and circumstances, such as the closing of a tax audit or refinement of an estimate. Although we believe our reserves are reasonable, no assurance can be given that the final outcome of these matters will be consistent with what is reflected in our historical income tax provisions and accruals. To the extent that the final tax outcome of these matters is different from the amounts recorded, such differences will impact the current provision for income taxes. We recognize interest and penalties related to unrecognized tax benefits as a component of income tax expense.
The Company’s valuation allowance recorded as of December 31, 2021 relates primarily to a capital loss realized on the sale of a foreign subsidiary whereby the Company does not anticipate a capital gain in the foreseeable future that would allow for the recognition of the capital loss carryover. In addition, the Company has a partial valuation allowance on certain state interest deduction limitations, which the Company estimates may not be fully utilized. As of December 31, 2021 the Company does not have a valuation allowance recorded on federal interest deduction limitations. However, the deductibility of interest expense becomes more limited beginning in 2022 as a result of Internal Revenue Code Section 163(j) provisions, which may require a partial valuation allowance to be recorded by the Company in future years. Additionally, other changes to the federal and state tax regulations can lead to variability in allowable deductions, which can impact the valuation allowance.
Recent Accounting Pronouncements
Refer to Part II, Item 8, Financial Statements and Supplementary Data, Note 2, “Summary of Significant Accounting Policies” for a discussion of recent accounting pronouncements.
Item 7A. Quantitative and Qualitative Disclosures about Market Risk
Not required due to smaller reporting company status.
Key Input Price Risks
Our profitability is dependent on, among other things, our ability to anticipate and react to changes in the costs of key operating resources, including EMV microchips, polyvinyl chloride (“PVC”), energy and other commodities. We have been able to generally offset cost increases, which have historically not been significant, by making operational adjustments that increase productivity. However, substantial increases in costs and expenses could impact our operating results to the extent that such increases cannot be offset by selling price increases.
Labor and Benefits Costs
We are exposed to inflation in wage and benefits costs which represented 16% of net sales for the year ended December 31, 2017. Due to the high-security nature of our business, the availability of potential applicants is limited by the security and other requirements of the Payment Card Brands, and applicants are required to undergo a background screening process. Due to these factors, we have historically provided a starting wage that is above the minimum wage in place for the particular states or provinces in which we do business to attract qualified applicants. We further believe that this enables us to attract a higher caliber employee, which we believe translates directly to higher quality and productivity. There can be no assurance that we will generate sales growth in an amount sufficient to offset increases in minimum wage or other inflationary pressures.
Interest Rate Risk
We are exposed to interest rate risk through fluctuations in interest rates on our term loan obligations. Our Revolving Credit Facility and our First Lien Term Loan carry interest at a floating rate. As of December 31, 2017, we had $312.5 million in outstanding floating rate debt obligations under our First Lien Term Loan. Net of unamortized debt and unamortized deferred financing costs of $8.6 million, our recorded debt balance was $303.9 million at December 31, 2017. Each quarter point increase or decrease in the interest rate on our First Lien Term Loan would change our annual interest expense by approximately $0.8 million. If $40 million under our Revolving Credit Facility were drawn, each quarter point increase or decrease in the interest rate on our Revolving Credit Facility would change our annual interest expense by approximately $0.1 million.
Foreign Currency Exchange Risk
We have foreign currency risks related to our revenue and operating expenses denominated in currencies other than the U.S. dollar, primarily the British Pound Sterling and the Canadian Dollar. Risk can be estimated by measuring the impact of a near-term adverse movement of 10% in foreign currency rates against the U.S. Dollar. A hypothetical 10% change in the British Pound Sterling and Canadian Dollar would have impacted our 2017 net sales by approximately $4.2 million, with the impact to income from operations being immaterial. Approximately83.5% of net
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sales for the year ended December 31, 2017 were in U.S. dollar functional currency subsidiaries, not subject to such foreign currency risk.
Pricing Risk
While we have been able to partially offset historical pricing pressure and other changes in the price of our products and services by offering higher-value added products and services, cross-selling additional products and services, coupled with more efficient purchasing practices, productivity improvements and greater economies of scale, there can be no assurance that we will be able to continue to do so in the future. From time to time, competitive conditions could limit our pricing flexibility and macroeconomic conditions could increase pricing pressure. There can be no assurance that future pricing pressure can be offset by our ability to reduce our costs. In addition, there can be no assurance that we will generate sales growth in an amount sufficient to offset pricing pressures.
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Item 8. | Financial Statements and Supplementary Data |
Item 8.Financial Statements and Supplementary Data
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
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CPI Card Group Inc. | |
As of December 31, | |
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Opinion on the Consolidated |
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52 | |
Consolidated Statements of Operations and Comprehensive |
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F-1
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Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors
CPI Card Group Inc.:
Opinion on the Consolidated Financial Statements
We have audited the accompanying consolidated balance sheets of CPI Card Group Inc. and subsidiaries (the Company) as of December 31, 20172021 and 2016, and2020, the related consolidated statements of operations and comprehensive (loss) income, stockholders’ deficit, and cash flows for each of the years in the three‑year periodthen ended December 31, 2017, and the related notes (collectively, the consolidated financial statements). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 20172021 and 2016,2020, and the results of its operations and its cash flows for each of the years in the three‑year periodthen ended, December 31, 2017, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company’s internal control over financial reporting as of December 31, 2021, based on criteria established in Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission, and our report dated March 8, 2022 expressed an adverse opinion on the effectiveness of the Company’s internal control over financial reporting.
Basis for Opinion
These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB)PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits, we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion.
Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that our audits provide a reasonable basis for our opinion.
Critical Audit Matter
The critical audit matter communicated below is a matter arising from the current period audit of the consolidated financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the consolidated financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of a critical audit matter does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.
As discussed in Note 12 to the consolidated financial statements, the Company has recorded compensation for certain covered employees in excess of $1.0 million per year. Under Internal Revenue Code (IRC) Section 162(m), the Company is prohibited from deducting for tax purposes compensation in excess of $1.0 million per year for each of these employees. The covered employees are defined as the Chief Executive Officer (CEO), Chief Financial
48
Officer (CFO), and the three next-highest-compensated officers of the Company. The Company considers the impact of the estimated IRC Section 162(m) limitations on the future deductibility of existing temporary differences.
We identified the evaluation of the Company’s assessment of non-deductible excess compensation under IRC Section 162(m) as a critical audit matter. Specifically, the evaluation of the estimated future compensation for each covered employee used to determine the amount of permanently disallowed compensation under IRC Section 162(m) involved subjective auditor judgment. In addition, the evaluation required the involvement of tax professionals with specialized skills and knowledge.
The following are the primary procedures we performed to address this critical audit matter. We evaluated the design and tested the operating effectiveness of certain internal controls related to the Company’s income tax process, including a control related to estimating future compensation for each covered employee. We evaluated the reasonableness of estimated future compensation included in the Company’s assessment by considering historical compensation figures for each covered employee and the potential impact to the Section 162(m) limitation if compensation increased or decreased in future years. We involved tax professionals with specialized skills and knowledge who assisted in evaluating the Company’s application of IRC Section 162(m) to determine the amount of permanently disallowed compensation under IRC Section 162(m) for United States tax purposes.
/s/ KPMG LLP
We have served as the Company’s auditor since 2014.
Denver, Colorado
March 8, 2022
49
Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors
CPI Card Group Inc.:
Opinion on Internal Control Over Financial Reporting
We have audited CPI Card Group Inc. and subsidiaries' (the Company) internal control over financial reporting as of December 31, 2021, based on criteria established in Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. In our opinion, because of the effect of the material weaknesses, described below, on the achievement of the objectives of the control criteria, the Company has not maintained effective internal control over financial reporting as of December 31, 2021, based on criteria established in Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the consolidated balance sheets of the Company as of December 31, 2021 and 2020, the related consolidated statements of operations and comprehensive income, stockholders’ deficit, and cash flows for the years then ended, and the related notes (collectively, the consolidated financial statements), and our report dated March 8, 2022 expressed an unqualified opinion on those consolidated financial statements.
A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the company’s annual or interim financial statements will not be prevented or detected on a timely basis. Material weaknesses have been identified related to risk assessment primarily due to an inadequate complement of personnel with requisite experience in the design and implementation of controls. This resulted in ineffective general information technology controls over user access administration within the revenue system at certain locations, and change management related to the development of customized reports. Due to the general information technology control deficiencies, certain process-level automated controls and manual controls that are dependent on the completeness and accuracy of information derived from the affected information technology systems were also ineffective because they could have been adversely impacted. The deficiencies in risk assessment also resulted in ineffective (i) journal entry controls due to inadequate review for segregation of duties on journal entries processed in batches, and (ii) controls over the accuracy of the sales price for sales in certain locations. A material weakness was also identified related to ineffective controls over review and authorization of certain transactions in the purchasing process due to inadequate communication and monitoring activities. The material weaknesses were considered in determining the nature, timing, and extent of audit tests applied in our audit of the 2021 consolidated financial statements, and this report does not affect our report on those consolidated financial statements.
Basis for Opinion
The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
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Definition and Limitations of Internal Control Over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. 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.
/s/ KPMG LLP
Denver, Colorado
March 12, 20188, 2022
F-2
51
CPI Card Group Inc. and Subsidiaries
(Dollars in Thousands, Except Shares and Per Share Amounts)
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| December 31, |
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| 2017 |
| 2016 |
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Assets |
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Current assets: |
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Cash and cash equivalents |
| $ | 23,205 |
| $ | 36,955 |
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Accounts receivable, net of allowances of $53 and $126, respectively |
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| 37,537 |
|
| 31,492 |
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Inventories |
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| 16,237 |
|
| 19,369 |
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Prepaid expenses and other current assets |
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| 3,960 |
|
| 4,601 |
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Income taxes receivable |
|
| 8,435 |
|
| — |
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Total current assets |
|
| 89,374 |
|
| 92,417 |
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Plant, equipment and leasehold improvements, net |
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| 49,300 |
|
| 53,419 |
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Intangible assets, net |
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| 41,472 |
|
| 46,348 |
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Goodwill |
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| 53,611 |
|
| 71,996 |
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Other assets |
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| 248 |
|
| 240 |
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Total assets |
| $ | 234,005 |
| $ | 264,420 |
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Liabilities and stockholders’ deficit |
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Current liabilities: |
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|
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Accounts payable |
| $ | 16,545 |
| $ | 10,996 |
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Accrued expenses |
|
| 13,820 |
|
| 17,487 |
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Income taxes payable |
|
| — |
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| 64 |
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Deferred revenue and customer deposits |
|
| 4,177 |
|
| 6,729 |
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Total current liabilities |
|
| 34,542 |
|
| 35,276 |
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Long-term debt, net of current maturities |
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| 303,869 |
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| 301,922 |
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Deferred income taxes |
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| 12,286 |
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| 21,261 |
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Other long-term liabilities |
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| 2,882 |
|
| 1,234 |
|
Total liabilities |
|
| 353,579 |
|
| 359,693 |
|
Commitments and contingencies (Note 13) |
|
|
|
|
|
|
|
Stockholders’ deficit: |
|
|
|
|
|
|
|
Common Stock; $0.001 par value—100,000,000 shares authorized; 11,134,714 shares issued and outstanding and 11,071,813 shares issued and outstanding at December 31, 2017 and 2016, respectively, giving retroactive effect to the 1-for-5 reverse stock split effected on December 20, 2017 |
|
| 11 |
|
| 11 |
|
Capital deficiency |
|
| (113,081) |
|
| (114,837) |
|
Accumulated (loss) earnings |
|
| (1,366) |
|
| 25,968 |
|
Accumulated other comprehensive loss |
|
| (5,138) |
|
| (6,415) |
|
Total stockholders’ deficit |
|
| (119,574) |
|
| (95,273) |
|
Total liabilities and stockholders’ deficit |
| $ | 234,005 |
| $ | 264,420 |
|
| | | | | | | |
| | December 31, |
| ||||
|
| 2021 |
| 2020 |
| ||
Assets | | | | | | | |
Current assets: | | | | | | | |
Cash and cash equivalents |
| $ | 20,683 | | $ | 57,603 | |
Accounts receivable, net of allowances of $86 and $289, respectively | | | 60,953 | |
| 54,592 | |
Inventories | | | 58,009 | |
| 24,796 | |
Prepaid expenses and other current assets | | | 5,522 | |
| 5,032 | |
Income taxes receivable | | | 534 | |
| 10,511 | |
Total current assets | | | 145,701 | |
| 152,534 | |
Plant, equipment, leasehold improvements and operating leases right-of-use assets, net | | | 47,251 | |
| 39,403 | |
Intangible assets, net | | | 21,854 | |
| 26,207 | |
Goodwill | | | 47,150 | |
| 47,150 | |
Other assets | | | 6,184 | |
| 857 | |
Total assets |
| $ | 268,140 | | $ | 266,151 | |
Liabilities and stockholders’ deficit | | | | | | | |
Current liabilities: | | | | | | | |
Accounts payable |
| $ | 26,443 | | $ | 18,883 | |
Accrued expenses | | | 37,150 | |
| 28,149 | |
Current portion of Long-term debt | | | — | | | 8,027 | |
Deferred revenue and customer deposits | | | 1,182 | |
| 1,868 | |
Total current liabilities | | | 64,775 | |
| 56,927 | |
Long-term debt | | | 303,626 | |
| 328,681 | |
Deferred income taxes | | | 5,253 | |
| 7,409 | |
Other long-term liabilities | | | 15,506 | |
| 11,171 | |
Total liabilities | | | 389,160 | |
| 404,188 | |
Commitments and contingencies (Note 15) | | | | | | | |
Series A Preferred Stock; $0.001 par value—100,000 shares authorized; 0 shares issued and outstanding at December 31, 2021 and 2020 | | | — | | | — | |
Stockholders’ deficit: | | | | | | | |
Common Stock; $0.001 par value—100,000,000 shares authorized; 11,255,466 and 11,230,482 shares issued and outstanding at December 31, 2021 and 2020, respectively | | | 11 | |
| 11 | |
Capital deficiency | | | (110,782) | |
| (111,858) | |
Accumulated loss | | | (10,249) | |
| (26,190) | |
Total stockholders’ deficit | | | (121,020) | |
| (138,037) | |
Total liabilities and stockholders' deficit |
| $ | 268,140 | | $ | 266,151 | |
See accompanying notes to consolidated financial statements
F-3
52
CPI Card Group Inc. and Subsidiaries
Consolidated Statements of Operations and Comprehensive (Loss) Income
(Dollars in Thousands, Except Share and Per Share Amounts)
|
|
|
|
|
|
|
|
|
|
|
|
| Year Ended December 31, |
| |||||||
|
| 2017 |
| 2016 |
| 2015 |
| |||
Net sales: |
|
|
|
|
|
|
|
|
|
|
Products |
| $ | 125,306 |
| $ | 168,510 |
| $ | 241,609 |
|
Services |
|
| 129,556 |
|
| 140,190 |
|
| 132,501 |
|
Total net sales |
|
| 254,862 |
|
| 308,700 |
|
| 374,110 |
|
Cost of sales: |
|
|
|
|
|
|
|
|
|
|
Products (exclusive of depreciation and amortization shown below) |
|
| 87,441 |
|
| 111,627 |
|
| 155,516 |
|
Services (exclusive of depreciation and amortization shown below) |
|
| 81,180 |
|
| 84,453 |
|
| 73,111 |
|
Depreciation and amortization |
|
| 11,250 |
|
| 10,722 |
|
| 9,662 |
|
Total cost of sales |
|
| 179,871 |
|
| 206,802 |
|
| 238,289 |
|
Gross profit |
|
| 74,991 |
|
| 101,898 |
|
| 135,821 |
|
Operating expenses: |
|
|
|
|
|
|
|
|
|
|
Selling, general and administrative (exclusive of depreciation, amortization and impairments shown below) |
|
| 67,258 |
|
| 64,011 |
|
| 61,116 |
|
Impairments |
|
| 19,074 |
|
| 2,700 |
|
| — |
|
Depreciation and amortization |
|
| 6,764 |
|
| 6,205 |
|
| 6,304 |
|
Restructuring charges |
|
| — |
|
| — |
|
| 681 |
|
Total operating expenses |
|
| 93,096 |
|
| 72,916 |
|
| 68,101 |
|
(Loss) income from operations |
|
| (18,105) |
|
| 28,982 |
|
| 67,720 |
|
Other expense, net: |
|
|
|
|
|
|
|
|
|
|
Interest, net |
|
| (20,848) |
|
| (20,044) |
|
| (18,328) |
|
Foreign currency gain (loss) |
|
| 560 |
|
| (417) |
|
| 59 |
|
Loss on debt modification and early extinguishment |
|
| — |
|
| — |
|
| (703) |
|
Other income, net |
|
| 11 |
|
| 20 |
|
| 359 |
|
Total other expense, net |
|
| (20,277) |
|
| (20,441) |
|
| (18,613) |
|
(Loss) income before income taxes |
|
| (38,382) |
|
| 8,541 |
|
| 49,107 |
|
Income tax benefit (expense) |
|
| 16,372 |
|
| (3,142) |
|
| (17,846) |
|
Net (loss) income from continuing operations |
|
| (22,010) |
|
| 5,399 |
|
| 31,261 |
|
Discontinued operations: |
|
|
|
|
|
|
|
|
|
|
Loss from a discontinued operation, net of taxes (Note 3) |
|
| — |
|
| — |
|
| (606) |
|
Gain on sale of a discontinued operation, net of taxes |
|
| — |
|
| — |
|
| 208 |
|
Net (loss) income |
| $ | (22,010) |
| $ | 5,399 |
| $ | 30,863 |
|
Preferred stock dividends |
|
| — |
|
| — |
|
| (32,548) |
|
Net (loss) income attributable to common stockholders |
| $ | (22,010) |
| $ | 5,399 |
| $ | (1,685) |
|
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted (loss) earnings per share: |
|
|
|
|
|
|
|
|
|
|
Continuing operations |
| $ | (1.98) |
| $ | 0.48 |
| $ | (0.15) |
|
Discontinued operation |
|
| - |
|
| — |
|
| (0.04) |
|
|
| $ | (1.98) |
| $ | 0.48 |
| $ | (0.19) |
|
|
|
|
|
|
|
|
|
|
|
|
Dividends declared per common share |
| $ | 0.45 |
| $ | 0.90 |
| $ | — |
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive (loss) income |
|
|
|
|
|
|
|
|
|
|
Net (loss) income |
|
| (22,010) |
|
| 5,399 |
|
| 30,863 |
|
Currency translation adjustment |
|
| 1,277 |
|
| (2,116) |
|
| (1,715) |
|
Total comprehensive (loss) income |
| $ | (20,733) |
| $ | 3,283 |
| $ | 29,148 |
|
| | | | | | | | |
| | Year Ended December 31, | |
| ||||
|
| 2021 |
| 2020 | |
| ||
Net sales: | | | | | | | | |
Products |
| $ | 199,586 | | $ | 171,968 | | |
Services | | | 175,533 | |
| 140,221 | | |
Total net sales | | | 375,119 | |
| 312,189 | | |
Cost of sales: | | | | | | | | |
Products (exclusive of depreciation and amortization shown below) | | | 121,601 | |
| 107,642 | | |
Services (exclusive of depreciation and amortization shown below) | | | 103,255 | |
| 83,538 | | |
Depreciation and amortization | | | 8,837 | |
| 10,701 | | |
Total cost of sales | | | 233,693 | |
| 201,881 | | |
Gross profit | | | 141,426 | |
| 110,308 | | |
Operating expenses: | | | | | | | | |
Selling, general and administrative (exclusive of depreciation and amortization shown below) | | | 75,701 | |
| 65,791 | | |
Depreciation and amortization | | | 6,261 | | | 6,126 | | |
Total operating expenses, net | | | 81,962 | |
| 71,917 | | |
Income from operations | | | 59,464 | |
| 38,391 | | |
Other (expense) income, net: | | | | | | | | |
Interest, net | | | (30,608) | |
| (25,397) | | |
Loss on debt extinguishment | | | (5,048) | | | (92) | | |
Other income (expense) | | | 14 | |
| (17) | | |
Total other expense, net | | | (35,642) | |
| (25,506) | | |
Income before income taxes | | | 23,822 | |
| 12,885 | | |
Income tax (expense) benefit | | | (7,881) | |
| 3,305 | | |
Net income from continuing operations | | | 15,941 | |
| 16,190 | | |
Net loss from discontinued operation, net of tax (Note 4) | | | — | |
| (61) | | |
Net income |
| $ | 15,941 | | $ | 16,129 | | |
| | | | | | | | |
Basic and diluted earnings per share: | | | | | | | | |
Basic earnings per share from continuing operations: | | $ | 1.42 | | $ | 1.44 | | |
Diluted earnings per share from continuing operations: |
| $ | 1.36 | | $ | 1.44 | | |
| | | | | | | | |
Basic earnings per share: | | $ | 1.42 | | $ | 1.44 | | |
Diluted earnings per share: | | $ | 1.36 | | $ | 1.44 | | |
| | | | | | | | |
Basic weighted-average shares outstanding: | | | 11,239,049 | | | 11,228,707 | | |
Diluted weighted-average shares outstanding: | | | 11,763,963 | | | 11,232,004 | | |
| | | | | | | | |
Comprehensive income | | | | | | | | |
Net income | | | 15,941 | | | 16,129 | | |
Total comprehensive income | | $ | 15,941 | | $ | 16,129 | | |
See accompanying notes to consolidated financial statements
F-4
53
CPI Card Group Inc. and Subsidiaries
Consolidated Statements of Stockholders’ Deficit
(Dollars in Thousands, Except Share Amounts)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Accumulated |
|
|
|
| |||||
|
|
|
|
|
|
|
|
|
|
| other |
| Employee |
|
| |||||
|
| Common Shares |
| Capital |
| Accumulated |
| comprehensive |
| notes |
|
| ||||||||
|
| Shares(1) |
| Amount(1) |
| deficiency |
| earnings (loss) |
| loss |
| receivable |
| Total | ||||||
December 31, 2014 |
| 8,274,216 |
| $ | 8 |
| $ | (24,808) |
| $ | 5,798 |
| $ | (2,584) |
| $ | (108) |
| $ | (21,694) |
Issuance of common stock upon public offering, net of offering costs |
| 3,000,000 |
|
| 3 |
|
| 135,301 |
|
| — |
|
| — |
|
| — |
|
| 135,304 |
Shares issued under stock-based compensation plans |
| 51,523 |
|
| — |
|
| — |
|
| — |
|
| — |
|
| — |
|
| — |
Stock-based compensation |
| — |
|
| — |
|
| 885 |
|
| — |
|
| — |
|
| — |
|
| 885 |
Redemption of common stock |
| (17,354) |
|
| — |
|
| (46) |
|
| — |
|
| — |
|
| — |
|
| (46) |
Dividend distribution on Series A Preferred Stock |
| — |
|
| — |
|
| (230,315) |
|
| — |
|
| — |
|
| — |
|
| (230,315) |
Repayment of employee note |
| — |
|
| — |
|
| — |
|
| — |
|
| — |
|
| 108 |
|
| 108 |
Components of comprehensive income (loss): |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| — |
Net income |
| — |
|
| — |
|
| — |
|
| 30,863 |
|
| — |
|
| — |
|
| 30,863 |
Currency translation adjustment |
| — |
|
| — |
|
| — |
|
| — |
|
| (1,715) |
|
| — |
|
| (1,715) |
December 31, 2015 |
| 11,308,385 |
| $ | 11 |
| $ | (118,983) |
| $ | 36,661 |
| $ | (4,299) |
| $ | — |
| $ | (86,610) |
Common stock dividends |
| — |
|
| — |
|
| — |
|
| (10,049) |
|
| — |
|
| — |
|
| (10,049) |
Common stock repurchased |
| (287,883) |
|
| — |
|
| (1) |
|
| (6,007) |
|
| — |
|
| — |
|
| (6,008) |
Shares issued under stock-based compensation plans |
| 51,311 |
|
| — |
|
| — |
|
| (36) |
|
| — |
|
| — |
|
| (36) |
Stock-based compensation |
| — |
|
| — |
|
| 3,579 |
|
| — |
|
| — |
|
| — |
|
| 3,579 |
Tax benefit attributable to stock-based compensation and other |
| — |
|
| — |
|
| 568 |
|
| — |
|
| — |
|
| — |
|
| 568 |
Components of comprehensive income (loss): |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| — |
Net income |
| — |
|
| — |
|
| — |
|
| 5,399 |
|
| — |
|
| — |
|
| 5,399 |
Currency translation adjustment |
| — |
|
| — |
|
| — |
|
| — |
|
| (2,116) |
|
| — |
|
| (2,116) |
December 31, 2016 |
| 11,071,813 |
| $ | 11 |
| $ | (114,837) |
| $ | 25,968 |
| $ | (6,415) |
| $ | — |
| $ | (95,273) |
Adoption of ASU 2016-09 |
| — |
|
| — |
|
| (38) |
|
| 38 |
|
| — |
|
| — |
|
| — |
Common stock dividends |
| — |
|
| — |
|
| — |
|
| (5,021) |
|
| — |
|
| — |
|
| (5,021) |
Shares issued under stock-based compensation plans |
| 62,901 |
|
| — |
|
| — |
|
| (341) |
|
| — |
|
| — |
|
| (341) |
Stock-based compensation |
| — |
|
| — |
|
| 1,794 |
|
| — |
|
| — |
|
| — |
|
| 1,794 |
Components of comprehensive (loss) income: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| — |
Net loss |
| — |
|
| — |
|
| — |
|
| (22,010) |
|
| — |
|
| — |
|
| (22,010) |
Currency translation adjustment |
| — |
|
| — |
|
| — |
|
| — |
|
| 1,277 |
|
| — |
|
| 1,277 |
December 31, 2017 |
| 11,134,714 |
| $ | 11 |
| $ | (113,081) |
| $ | (1,366) |
| $ | (5,138) |
| $ | — |
| $ | (119,574) |
(1) Common share and par value amounts have been adjusted to give retroactive effect to the 1-for-5 reverse stock split effected on December 20, 2017. |
|
|
| |||||||||||||||||
| | | | | | | | | | | | | | | | | |
| | | | | | | | | | | Accumulated | | | ||||
| | | | | | | | | | | other | | | ||||
| | Common Stock | | Capital | | Accumulated | | comprehensive | | Stockholders | |||||||
|
| Shares | | Amount | | deficiency | | loss | | loss | | Deficit | |||||
December 31, 2019 |
| 11,224,191 | | $ | 11 | | $ | (111,988) | | $ | (42,319) | | $ | — | | $ | (154,296) |
Shares issued under stock-based compensation plans | | 6,291 | | | — | | | — | | | — | | | — | | | — |
Stock-based compensation | | — | | | — | | | 130 | | | — | | | — | | | 130 |
Components of comprehensive income: | | | | | | | | | | | | | | | | | |
Net income |
| — | | | — | | | — | | | 16,129 | | | — | | | 16,129 |
December 31, 2020 |
| 11,230,482 | | $ | 11 | | $ | (111,858) | | $ | (26,190) | | $ | — | | $ | (138,037) |
Shares issued under stock-based compensation plans | | 24,984 | | | — | | | (174) | | | — | | | — | | | (174) |
Stock-based compensation | | — | | | — | | | 1,250 | | | — | | | — | | | 1,250 |
Components of comprehensive income: | | | | | | | | | | | | | | | | | |
Net income |
| — | | | — | | | — | | | 15,941 | | | — | | | 15,941 |
December 31, 2021 | | 11,255,466 | | $ | 11 | | $ | (110,782) | | $ | (10,249) | | $ | — | | $ | (121,020) |
See accompanying notes to consolidated financial statements
F-554
CPI Card Group Inc. and Subsidiaries
Consolidated Statements of Cash Flows
(Dollars in Thousands)
|
|
|
|
|
|
|
|
|
|
|
|
| Year Ended December 31, |
| |||||||
|
| 2017 |
| 2016 |
| 2015 |
| |||
Operating activities |
|
|
|
|
|
|
|
|
|
|
Net (loss) income |
| $ | (22,010) |
| $ | 5,399 |
| $ | 30,863 |
|
Adjustments to reconcile net (loss) income to net cash provided by operating activities: |
|
|
|
|
|
|
|
|
|
|
Impairments |
|
| 19,074 |
|
| 2,700 |
|
| — |
|
Depreciation and amortization expense |
|
| 18,014 |
|
| 16,927 |
|
| 15,995 |
|
Stock-based compensation expense |
|
| 1,989 |
|
| 3,579 |
|
| 9,633 |
|
Amortization of debt issuance costs and debt discount |
|
| 1,947 |
|
| 1,922 |
|
| 5,648 |
|
Loss on debt modification and extinguishment |
|
| — |
|
| — |
|
| 703 |
|
Loss on sale of a discontinued operation |
|
| — |
|
| — |
|
| 1,039 |
|
Excess tax benefits from stock-based compensation |
|
| — |
|
| (611) |
|
| — |
|
Deferred income tax |
|
| (9,095) |
|
| (1,829) |
|
| 10,914 |
|
Other, net |
|
| (230) |
|
| 448 |
|
| (45) |
|
Changes in operating assets and liabilities: |
|
|
|
|
|
|
|
|
|
|
Accounts receivable |
|
| (5,486) |
|
| 19,847 |
|
| (9,556) |
|
Inventories |
|
| 3,573 |
|
| 5,793 |
|
| (4,416) |
|
Prepaid expenses and other assets |
|
| 671 |
|
| (527) |
|
| (714) |
|
Income taxes |
|
| (8,489) |
|
| 5,429 |
|
| (4,975) |
|
Accounts payable |
|
| 5,319 |
|
| (6,394) |
|
| 1,663 |
|
Accrued expenses |
|
| (1,512) |
|
| 3,841 |
|
| 915 |
|
Deferred revenue and customer deposits |
|
| (2,964) |
|
| 3,037 |
|
| 699 |
|
Other liabilities |
|
| 1,626 |
|
| 397 |
|
| (14,444) |
|
Cash provided by operating activities |
|
| 2,427 |
|
| 59,958 |
|
| 43,922 |
|
Investing activities |
|
|
|
|
|
|
|
|
|
|
Acquisitions of plant, equipment and leasehold improvements |
|
| (8,790) |
|
| (14,294) |
|
| (18,670) |
|
Proceeds from sale of a discontinued operation |
|
| — |
|
| — |
|
| 5,000 |
|
Cash used in investing activities |
|
| (8,790) |
|
| (14,294) |
|
| (13,670) |
|
Financing activities |
|
|
|
|
|
|
|
|
|
|
Dividends paid on common stock |
|
| (7,540) |
|
| (7,519) |
|
| — |
|
Payment of Sellers' Note |
|
| — |
|
| (9,000) |
|
| — |
|
Common stock repurchased |
|
| — |
|
| (6,008) |
|
| — |
|
Net proceeds from an initial public offering of common stock |
|
| — |
|
| — |
|
| 135,304 |
|
Proceeds from First Lien Term Loan |
|
| — |
|
| — |
|
| 435,000 |
|
Payments on First Lien Term Loan |
|
| — |
|
| — |
|
| (122,500) |
|
Payments on long-term debt |
|
| — |
|
| — |
|
| (170,929) |
|
Loan issuance costs |
|
| — |
| �� | — |
|
| (17,773) |
|
Dividend distribution on Series A Preferred Stock |
|
| — |
|
| — |
|
| (230,315) |
|
Redemption of preferred and common stock |
|
| — |
|
| — |
|
| (58,296) |
|
Proceeds from employee note receivable |
|
| — |
|
| — |
|
| 108 |
|
Taxes withheld and paid on stock-based compensation awards |
|
| (341) |
|
| — |
|
| — |
|
Excess tax benefits from stock-based compensation awards |
|
| — |
|
| 611 |
|
| — |
|
Cash used in financing activities |
|
| (7,881) |
|
| (21,916) |
|
| (29,401) |
|
Effect of exchange rates on cash |
|
| 494 |
|
| (399) |
|
| (186) |
|
Net (decrease) increase in cash and cash equivalents: |
|
| (13,750) |
|
| 23,349 |
|
| 665 |
|
Cash and cash equivalents, beginning of period |
|
| 36,955 |
|
| 13,606 |
|
| 12,941 |
|
Cash and cash equivalents, end of period |
| $ | 23,205 |
| $ | 36,955 |
| $ | 13,606 |
|
Supplemental disclosures of cash flow information |
|
|
|
|
|
|
|
|
|
|
Cash paid (refunded) during the period for: |
|
|
|
|
|
|
|
|
|
|
Interest |
| $ | 18,466 |
| $ | 15,071 |
| $ | 11,986 |
|
Income taxes |
| $ | 30 |
| $ | (468) |
| $ | 10,136 |
|
| | | | | | |
| | Year Ended December 31, | ||||
|
| 2021 |
| 2020 | ||
Operating activities | | | | | | |
Net income |
| $ | 15,941 | | $ | 16,129 |
Adjustments to reconcile net income to net cash provided by operating activities: | | | | | | |
Loss from discontinued operations | | | — | | | 61 |
Depreciation and amortization expense | | | 15,098 | |
| 16,827 |
Stock-based compensation expense | | | 1,250 | |
| 136 |
Amortization of debt issuance costs and debt discount | | | 2,367 | | | 3,453 |
Deferred income tax | | | (2,156) | |
| 1,043 |
Loss on debt extinguishment | | | 5,048 | | | 92 |
Other, net | | | 213 | |
| 1,742 |
Changes in operating assets and liabilities: | | | | | | |
Accounts receivable | | | (6,361) | |
| (11,662) |
Inventories | | | (33,388) | |
| (6,105) |
Prepaid expenses and other assets | | | (4,062) | |
| 494 |
Income taxes | | | 9,977 | |
| (6,346) |
Accounts payable | | | 6,582 | |
| 1,657 |
Accrued expenses | | | 10,365 | |
| 2,958 |
Deferred revenue and customer deposits | | | (690) | |
| 1,404 |
Other liabilities | | | 45 | | | 192 |
Cash provided by operating activities - continuing operations | | | 20,229 | |
| 22,075 |
Cash used in operating activities -discontinued operations | | | — | | | (61) |
Investing activities | | | | | | |
Capital expenditures for plant, equipment and leasehold improvements | | | (10,074) | |
| (7,093) |
Other | | | 156 | | | — |
Cash used in investing activities | | | (9,918) | |
| (7,093) |
Financing activities | | | | | | |
Principal payments on First Lien Term Loan | | | (312,500) | | | — |
Principal payments on Senior Credit Facility | | | (30,000) | | | — |
Principal payments on ABL Revolver | | | (15,000) | | | — |
Proceeds from Senior Notes | | | 310,000 | | | — |
Proceeds from ABL Revolver, net of discount | | | 14,750 | | | — |
Proceeds from Senior Credit Facility, net of discount | | | — | | | 29,100 |
Debt issuance costs | | | (9,452) | | | (2,507) |
Payments on finance lease obligations | | | (2,171) | | | (2,616) |
Payments on debt extinguishment and other | | | (2,859) | | | — |
Cash (used in) provided by financing activities | | | (47,232) | |
| 23,977 |
Effect of exchange rates on cash | | | 1 | |
| 23 |
Net (decrease) increase in cash and cash equivalents | | | (36,920) | |
| 38,921 |
Cash and cash equivalents, beginning of period | | | 57,603 | |
| 18,682 |
Cash and cash equivalents, end of period |
| $ | 20,683 | | $ | 57,603 |
Supplemental disclosures of cash flow information | | | | | | |
Cash paid (refunded) during the period for: | | | | | | |
Interest |
| $ | 22,268 | | $ | 22,750 |
Income taxes paid | | $ | 9,792 | | | 1,302 |
Income taxes (refunded) | | $ | (9,846) | | $ | (259) |
Right-of-use assets obtained in exchange for lease obligations: | | | | | | |
Operating leases | | $ | 6,932 | | $ | 3,260 |
Financing leases | | $ | 1,897 | | $ | 1,718 |
Accounts payable and accrued expenses for capital expenditures for plant, equipment and leasehold improvements | | $ | 2,972 | | $ | 1,052 |
See accompanying notes to consolidated financial statements
F-6
55
CPI Card Group Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(Dollars in Thousands, Except Share and Per Share Amounts or as Otherwise Indicated)
1. Business
CPI Card Group Inc., formerly known as CPI Holdings I, Inc. (which, together with its subsidiary companies, is referred to herein as “CPI” or the “Company”) is a payment technology company and leading provider of comprehensive Financial Payment Card solutions in the United States. CPI is engaged in the design, production, data personalization, packaging and fulfillment of Financial Payment Cards, which the Company defines as credit, cards, debit cards and prepaid debit cardsPrepaid Debit Cards issued on the networks of the Payment Card Brands (Visa, MasterCard,Mastercard, American Express Discover and Interac (in Canada))Discover in the United States and Canada. The CompanyInterac, in Canada). CPI also is engagedoffers an instant card issuance solution, which provides card issuing bank customers the ability to issue a personalized debit or credit card within the bank branch to individual cardholders.
CPI serves its customers through a network of high-security production and card services facilities in the design, production, data personalization, packaging and fulfillment of retail gift and loyalty cards (primarily in Europe and Canada).
As a producer and provider of services for Financial Payment Cards,United States, each of which is audited for compliance with the Company’s secure facilities must be certifiedstandards of the PCI Security Standards Council by one or more of the Payment Card Brands and is therefore subject to specific requirements and conditions. Noncompliance with these requirements would prohibit the individualBrands. CPI’s leading network of high-security production facilities ofallows the Company from producing Financial Payment Cards for these entities’ payment card issuers.to optimize its solutions offerings and to serve its customers.
The Company’s business consists of the following reportable segments: U.S. Debit and Credit, U.S. Prepaid Debit and U.K. Limited.Other. The Debit and Credit segment primarily produces Financial Payment Cards and provides integrated card services to card-issuing banks primarily in the United States. The Prepaid Debit segment primarily provides integrated card services to Prepaid Debit Card program managers primarily in the United States. The Company’s “Other” segment includes corporate expenses.
|
|
|
|
|
|
COVID-19 Update
The COVID-19 pandemic has impacted economies and societies globally. The long-term implications of COVID-19 on the Company’s results of operations and overall financial performance remain uncertain. The health and safety of CPI employees remain paramount, and the Company continues to follow response protocols based on precautions and other appropriate measures recommended by the Centers for Disease Control and Prevention, as well as various state and local executive orders, health orders and guidelines. All of CPI’s operations have remained open and continue to provide direct and essential support to the financial services industry.
The Company believes the global impacts from COVID-19 have contributed to certain adverse effects on its supply chain, including increased lead times for, and higher costs of, certain raw materials and components, such as microprocessing chips, which are expected to continue in the future. CPI closely monitors its supply chain and has purchased and may continue to purchase additional inventory to help mitigate supply chain constraints. The current environment has also affected the available labor pool in the areas in which the Company operates, which has resulted in increased labor cost and turnover in our facilities, challenges hiring production employees and shipping delays. On November 4, 2021, the Occupational Safety and Health Administration (“OSHA”) issued an operationEmergency Temporary Standard (“ETS”) mandating certain employers to require either full vaccination against COVID-19 or weekly testing of employees. The United States Supreme Court upheld a stay on enforcement of the ETS mandate, and on January 25, 2022, OSHA announced that it would withdraw the ETS to focus on finalizing a permanent COVID-19 Healthcare Standard. At this time, it is not possible to predict the impact a permanent COVID-19 Healthcare Standard, or any corresponding mandates from federal, state or local governmental entities, would have on us or on our workforce. Federal, state or local mandates could result in Ontario, Canada that provides EMV and Prepaid Debit Cards and card services,increased costs as well as labor disruptions, employee attrition and/or difficulty recruiting new employees which is reflected in “Other”. See Note 16 “Segment Reporting”.could compound the labor shortage already impacting the Company.
The Company soldbelieves the labor and supply chain challenges described above, and the associated costs, may continue to increase throughout 2022 and possibly beyond. The Company may not be able to pass all of these costs through to its non-secure operation located in Nevada on January 12, 2015 (the “Nevada Sale”) under an asset purchase agreement for $5,000 in cash.customers. The Nevada operation primarily produced retail gift cards that are not issuedCompany is experiencing increased production lead times, which it believes is likely to continue throughout 2022 and possibly beyond, depending on the networksduration of the Payment Card Brands. Accordingly,staffing and supply chain challenges and the Company’s Consolidated Balance Sheetlevel of demand from its customers. The Company will continue to monitor and respond as of December 31, 2015, and Statements of Operations and Comprehensive Income for the year ended December 31, 2015
F-7
situation evolves.
56
has been reclassified
On March 27, 2020, the Coronavirus Aid, Relief, and Economic Security (“CARES”) Act was signed into law. The CARES Act, among other things, included provisions relating to presentrefundable payroll tax credits, deferment of employer social security payments, changes in net operating loss carryback periods, alternative minimum tax credit refunds, modifications to the Nevada operation asnet interest deduction limitation and technical corrections to tax depreciation methods for qualified improvement property. Refer to Note 12, “Income Taxes”for a discontinued operation. See Note 3 “Discontinued Operation and Disposition”.
In August 2015, the Company completed the shut-down and closure of its operation in Petersfield, United Kingdom. Petersfield primarily produced retail gift cards that are not issued on networksdiscussion of the Payment Card Brands.CARES Act income tax impacts on the Company. In connectionaddition, we deferred employer social security payments in 2020 in accordance with the shut-downCARES Act, and closure of the Petersfield, United Kingdom operation, the Company accrued facility contract termination costs of $681 during the year ended December 31, 2015.
On August 17, 2015, the Company entered into a first lien credit agreement ("First Lien Credit Facility") with a syndicate of lenders providing for a $435,000 first lien term loan facility ("First Lien Term Loan") and a $40,000 revolving credit facility ("Revolving Credit Facility"). The Company used proceeds from the First Lien Credit Facility to pay off the outstanding balance on our previous credit facility of $158,420, and to redeem 62,140 shares of Series A Preferred Stock for an aggregate price of $276,688. See Note 8 “Long-Term Debt and Credit Facility” and Note 10 “Series A Preferred Stock”.
On October 15, 2015, the Company completed its initial public offering (“IPO”) issuing 3,000,000 shares of common stock at a price of $50.00 per share (as adjusted for the one-for-five reverse stock split of our common stock discussed in “Basis of Presentation” below). The net proceeds from the IPO, after issuance costs, were utilized to (i) redeem all of our remaining Series A Preferred Stock for a total redemption price of $11,877, (ii) repay $112,500 of the amount outstanding under the First Lien Term Loan (as defined herein), and (iii) terminate and settle all outstanding obligations due under the Phantom Stock Plan (as defined herein) of $13,268. The proceeds of the IPO were net of deferred offering expenses of $7,196 and are reflected in “Capital deficiency”installment repayment was made in the Company’s Consolidated Balance Sheet and Consolidated Statementfourth quarter of Stockholders’ Deficit.2021. The second installment payment is permitted to be paid no later than the fourth quarter of 2022. Refer to Note 9 “Accrued Liabilities” for additional discussion.
2. Summary of Significant Accounting Policies
Basis of Presentation
The accompanying Consolidated Financial Statements include the Company and its wholly-owned subsidiaries. All significant intercompany accounts and transactions have been eliminated.
On December 18, 2017, the Company filed a Certificate of Amendment to the Company’s Third Amended and Restated Certificate of Incorporation with the Secretary of State of the State of Delaware to effect a one-for-five reverse stock split of the Company’s common stock. The reverse stock split became effective on December 20, 2017, at which time each lot of five shares of common stock issued and outstanding automatically and without any further action on the part of our stockholders, converted into and became one share of common stock. In lieu of issuing any fractional shares, any stockholder entitled to receive less than one share of common stock received cash for such stockholder’s fractional share. Share and per share amounts reflect the one-for-five reverse stock split for all periods presented throughout the accompanying consolidated financial statements and notes thereto.
Revenue Recognition
Generally, the Company recognizes revenue related to sales of its products upon shipment, when persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, the fee is fixed or determinable and collectability is reasonably assured.
In certain cases, at the customer’s request, the Company enters into bill-and-hold transactions whereby title transfers to the customer, but the product does not ship until a specified later date. The Company recognizes revenue associated with bill-and-hold arrangements when the product is complete and ready to ship, hold criteria have been met, the amount due from the customer is fixed and collectability of the related receivable is reasonably assured.
The company includes gross shipping and handling revenue and costs in net sales and cost of sales respectively.
Multiple-Element Arrangements
The Company enters into warehouse, fulfillment and distribution service agreements where customers engage the Company to store and handle completed cards and packages on their behalf. For the sales arrangements that contain
F-8
multiple deliverables, the arrangement is split into separate units of accounting, and individually delivered elements have value to the customer on a standalone basis. When separate units of accounting exist, revenue is allocated to each element based on the Company’s best estimate of competitive market prices. At the point in which completed cards and packages are shipped to the Company’s warehouses or secure vaults, the product is billed and the revenue is recognized in accordance with the Company’s revenue recognition policy. Warehousing services revenue is recognized monthly based on volume and handling requirements; fulfillment services revenue is recognized when the product is handled in the manner specified by the customer for a unit or handling fee.
Cash and Cash Equivalents
The Company considers all highly liquid investments with original maturities of three months or less to be cash equivalents and they are stated at cost, which approximates fair value.
Trade Accounts Receivable and Concentration of Credit Risk
Accounts receivable are stated at the amount management expects to collect from outstanding balances. The Company performs ongoing credit evaluations of its customers and generally requires no collateral to secure accounts receivable.
| | | | | | |
|
| December 31, 2021 |
| December 31, 2020 | ||
Trade accounts receivable |
| $ | 50,042 |
| $ | 44,305 |
Unbilled accounts receivable |
| | 10,997 |
| | 10,576 |
|
| | 61,039 |
| | 54,881 |
Less allowance for doubtful accounts | | | (86) | | | (289) |
| | $ | 60,953 | | $ | 54,592 |
The Company maintains an allowance for potentially uncollectible accounts receivable based upon its assessment of the collectability of accounts receivable. Accounts are written off against the allowance when it becomes probableis determined collection will not occur. The allowance for bad debt and credit activity for the years ended December 31, 20172021 and 20162020 is summarized as follows:
|
|
|
|
| ||||
Balance as of December 31, 2015 |
| $ | 212 |
| ||||
| | | | | ||||
Balance as of December 31, 2019 |
| $ | 395 |
| ||||
Bad debt expense |
|
| 12 |
| |
| (89) | |
Write-off of uncollectible accounts |
|
| (90) |
| |
| (2) | |
Currency translation adjustments |
|
| (8) |
| | | (15) | |
Balance as of December 31, 2016 |
| $ | 126 |
| ||||
Bad debt expense |
|
| (51) |
| ||||
Balance as of December 31, 2020 | | $ | 289 | | ||||
Write-off of uncollectible accounts |
|
| (26) |
| | | (203) | |
Currency translation adjustments |
|
| 4 |
| ||||
Balance as of December 31, 2017 |
| $ | 53 |
| ||||
Balance as of December 31, 2021 | | $ | 86 | | ||||
During 2021, the Company wrote-off uncollectible accounts primarily relating to reserves previously established for outstanding receivables from the Company’s Canadian operations that were disposed in 2019.
For the year ended December 31, 2017 one2021 1 customer represented 12.4%18% of the Company’s consolidated net sales.
57
For the yearsyear ended December 31, 2016 and 2015,2020 the Company did not havehad 2 customers that represented more than 10% of the Company’s consolidated net sales. Net sales to a single customer that exceeded 10%for these customers were approximately 15% and 14% of the Company’s consolidated net sales.
Inventories
Inventories
Inventories consist of raw materials, work-in-process and finished goods and are measured at the lower of cost or net realizable value (determined on the first-in, first-out, specific identification or weighted-average method basis) in accordance with the Financial Accounting Standards Board’s (“FASB”) Accounting Standards Update (“ASU”) 2015-11, Inventory—Simplifying the Measurement of Inventory, which the Company adopted on January 1, 2017.. Net realizable value is the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. Finished goods inventory represents primarily stock cards and Card@Once printers. The adoptionstock cards are not manufactured for a specific customer, but are ready to be personalized and sold as customer orders are received. The Company monitors inventory for events or circumstances that may indicate the net realizable value is less than the carrying value of this standard did not impactinventory, such as negative margins, expiration of material usage, and other forms of obsolescence, and records adjustments to the Company’s financial position, resultsvaluation of operations or cash flows.inventory, as necessary.
For the year ended December 31, 2021 approximately 92% of our purchased microchips and antennas came from 4 main suppliers, and approximately 64% came from 1 supplier. Approximately 95% of our purchased microchips and antennas for the year ended December 31, 2020 came from 4 main suppliers, and approximately 53% came from 1 supplier.
Plant, Equipment and Leasehold Improvements
Plant, equipment and leasehold improvements are recorded at cost. Accumulated depreciation is computed using the straight-line method over the lesser of the estimated useful life of the related assets (generally 3 to 10 years for machinery and equipment, furniture, computer equipment, and leasehold improvements) or, when applicable, the lease term. Maintenance and repairs that do not extend the useful life of the respective assets are charged to expense as incurred.
Long-lived assets with finite lives are reviewed for impairment whenever events indicate that the carrying amount of the asset or the carrying amounts of the asset group containing the asset may not be recoverable. In such
F-9
reviews, estimated undiscounted future cash flows associated with these assets or asset groups are compared with their carrying value to determine if a write-down to fair value is required.
Goodwill and Intangible Assets
Goodwill is not amortized, but instead is tested for impairment at least annually on October 1 or more frequently when an event occurs or circumstances change that indicates the carrying value may not be recoverable. For impairment evaluations, the Company may first makesmake a qualitative assessment with respect to both goodwill, and other indefinite-lived intangibles. During 2017, the Company early adopted ASU 2017-04, Intangibles – Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment (“ASU 2017-04”) in conjunction with its annual impairment testing effective October 1, 2017.if appropriate. In accordance with ASU 2017-04, an entity should performaccounting standards, the Company performs its goodwill impairment test by comparing the fair value of the reporting unit with its carrying amount, and recognizerecognizes an impairment charge for the amount by which the carrying amount of the reporting unit exceeds its fair value.
All of the Company’s goodwill is included in the Debit and Credit segment. The Company generally bases its measurement of the fair value of a reporting unit on a blended analysis of the present value of future discounted cash flows and the market valuation approach. The discounted cash flows model indicates the fair value of the reporting unit based on the present value of the cash flows that the Company expects the reporting unit to generate in the future. The Company's significant estimates in the discounted cash flows model include: its weighted average cost of capital; discrete and long-term rate of growth and profitability of the reporting unit's business; and working capital effects. The market valuation approach indicates the fair value of the business based on a comparison of the reporting unit to comparable publicly traded companies in similar lines of business. Significant estimates in the market valuation approach model include identifying similar companies with comparable business factors such as size, growth, profitability, risk and return on investment, and assessing comparable revenue and operating income multiples in estimating the fair value of the reporting unit.
The Company recorded goodwill impairment charges of $19,074 during the year ended December 31, 2017. Refer to Note 6 “Goodwill and Other Intangible Assets” for information.
Acquired finite-lived intangible assets are amortized on a straight-line basis over the estimated useful lives of the assets, and are reviewed for impairment whenever events indicate that the carrying amount of the asset may not be
58
recoverable. In such reviews, estimated undiscounted future cash flows associated with these assets are compared with their carrying value to determine if a write-downto fair value is required.
Sales Tax
The Company records sales tax collected from its customers on a net basis, and therefore excludes it from net sales as defined in ASC 606, Revenue from Contracts with Customers. Cash collected from customers is recorded in accrued expenses on the Company’s consolidated Balance Sheet and then remitted to the proper taxing authority. In addition, refer to Note 15 “Commitments and Contingencies” for discussion regarding an estimated sales tax liability the Company recorded in relation to historical activity in certain states.
Income Taxes
The Company accounts for income taxes using an asset and liability approach to financial accounting and reporting for income taxes. Deferred income tax assets and liabilities are computed annually for differences between the financial statement and tax bases of assets and liabilities that will result in taxable or deductible amounts in the future based on enacted tax laws and rates applicable to the periods in which the differences are expected to affect taxable income.
The Company has deferred tax assets and liabilities and maintains valuation allowances where it is more likely than not that all or a portion of deferred tax assets will not be realized. To the extent the Company determines that it will not realize the benefit of some or all of its deferred tax assets, then these deferred tax assets will be adjusted through the Company’s income tax expense in the period in which this determination is made.
The Company establishes reserves for tax-related uncertainties based on estimates of whether, and the extent to which, additional taxes will be due. The reserves are established when the Company believes that certain positions are likely to be challenged and may not be fully sustained on review by tax authorities. The Company adjusts uncertain tax positions in light of changing facts and circumstances, such as the closing of a tax audit or refinement of an estimate. The Company recognizes the tax benefits from uncertain tax positions only when it is more likely than not, based on the technical merits of the position, that the tax position will be sustained upon examination, including the resolution of any related appeals or litigation. The tax benefits recognized in the consolidated financial statements from such a position are measured as the largest benefit that has a greater than fifty percent likelihood of being realized upon ultimate resolution. The Company recognizes interest and penalties related to unrecognized tax benefits as a component of income tax expense.
Stock-Based Compensation
The Company accounts for stock-based compensation pursuant to ASC 718, Share-Based Payments. All stock-based compensation to employees is required to be measured at fair value and expensed net of forfeitures, over the
F-10
requisite service period. The Company accounts for forfeitures as they occur and reverses previously recognized expense for the unvested portion of the forfeited shares. The Company recognizes compensation expense on awards on a straight-line basis over the vesting period for each tranche of an award. Refer to Note 1517 “Stock Based Compensation” for additional discussion regarding details of the Company's stock-based compensation plans.
Net Sales
AsProducts Net Sales
“Products” net sales are recognized when obligations under the terms of a result of the Company’s adoption of ASU 2016-09, Compensation–Stock Compensation:Improvements to Employee Share-Based Payment Accounting (“ASU 2016-09”)contract with a customer are satisfied. In most instances, this occurs over time as of January 1, 2017,cards are manufactured for specific customers, have no alternative use and the Company accountshas an enforceable right to payment for forfeitureswork performed. For work performed but not completed and unbilled, the Company estimates revenue by taking actual costs incurred and applying historical margins for similar types of contracts. Items included in “Products” net sales are the design and production of Financial Payment Cards, including contact-EMV, contactless EMV, Earth ElementsTM Eco-Focused Cards, metal, magnetic stripe cards, and private label credit cards and retail gift cards. Card@Once® printers and consumables are also included in “Products” net sales, and their associated revenues are recognized at the time of shipping. The Company includes gross shipping and handling revenue in net sales, and shipping and handling costs in cost of sales.
59
Services Net Sales
Net sales are recognized for “Services” as the services are performed. Items included in “Services” net sales include the personalization and fulfillment of Financial Payment Cards, providing tamper-evident secure packaging and fulfillment services to Prepaid Debit Card program managers, and software as a service personalization of instant issuance debit cards. As applicable, for work performed but not completed and unbilled, the Company estimates revenue by taking actual costs incurred and applying historical margins for similar types of contracts.
Customer Contracts
The Company often enters into MSAs with its customers. Generally, enforceable rights and obligations for goods and services occur only when they occur.a customer places a purchase order or statement of work to obtain goods or services under an MSA. The cumulative-effect adjustmentcontract term as defined by ASC 606 is the length of time it takes to “Accumulated earnings” and “Capital deficiency”deliver the goods or services promised under the purchase order or statement of work. As such, the Company's contracts are generally considered short term in nature.
Use of Estimates
The accompanying consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the Company’s Consolidated Balance Sheet was immaterial. In addition, excess tax benefitsUnited States of America (“GAAP”). These accounting principles require management to make assumptions and deficiencies in connection with the Company’s stock-based compensation plans are recorded in “Income tax benefit” in the Consolidated Statement of Operations and Comprehensive (Loss) Income. The Company elected to present excess tax benefits as an operating activity prospectively in the Consolidated Statement of Cash Flows for the year ended December 31, 2017. As required by ASU 2016-09, the Company classifies payments to tax authorities for shares withheld to satisfy employer income tax obligations in relation to the vesting of stock-based compensation awards as a financing activity in the Consolidated Statement of Cash Flows.
Advertising Costs
Advertising costs are expensed as incurred. Advertising costs during the years ended December 31, 2017, 2016 and 2015 were $783, $801, and $764, respectively.
Use of Estimates
Management uses estimates and assumptions relating to the reporting of assets and liabilities in its preparation of the Consolidated Financial Statements.consolidated financial statements. Significant items subject to such estimates and assumptions include the carrying amount of property and equipment, goodwill and intangible assets, leases, liability for sales tax, valuation allowances for inventories and deferred taxes, debt,revenue recognized for work performed but not completed, and uncertain tax positions and stock-based compensation expense.positions. Actual results could differ from those estimates.
Recent Accounting Pronouncements
Foreign Currency Translation
Financial statements of foreign subsidiaries that use local currencies as their functional currency are translated into U.S. dollars using the exchange rate at each balance sheet date for assets and liabilities and the weighted-average exchange rate for each reporting period for revenue, expenses, gains and losses. Translation adjustments are recorded as a component of Accumulated Other Comprehensive Loss in the accompanying consolidated financial statements.
Foreign currency transaction gains and losses resulting from the process of re-measurement are recorded in “Foreign currency gain (loss)” in the accompanying Consolidated Statements of Operations and Comprehensive (Loss) Income. For the years ended December 31, 2017, 2016 and 2015 there were $560, $(417), and $59 of such foreign currency gains (losses), respectively.
Recently Issued Accounting Pronouncements
In June 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2016-13, Measurement of Credit Losses on Financial Instruments. This ASU changes the model for the recognition of credit losses from an incurred loss model, which recognized credit losses only if it was probable that a loss had been incurred, to an expected loss model, which requires the Company to estimate the total credit losses expected on the portfolio of financial instruments. The FASB issuedeffective date of ASU 2014-09, Revenue from Contracts with Customers, in May 2014, as2016-13 was amended by ASU 2016-12 Narrow-scope Improvements and Practical Expedients, in May 2016. ASU 2014-09, as amended, requires an entity to recognize revenue to depict2019-10, Credit Losses Effective Dates. Since CPI is a smaller reporting company, adoption of this accounting standard is effective for the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchangeCompany for those goods or services. An entity should also disclose sufficient quantitative and qualitative information to enable users of financial statements to understand the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers. In July 2015, the FASB deferred the effective date to annual reporting periodsfiscal years beginning after December 15, 2017, and interim reporting periods within those periods. The Company plans to implement the provisions of ASU 2014-09, as amended, as of January 1, 2018 using the modified retrospective transition method, with the cumulative effect of initial adoption recognized at the date of initial application.
The Company is finalizing the analysis of the effects of ASU 2014-09 on the consolidated financial statements, and subject to completion of this analysis, the Company expects to record a cumulative effective of adoption adjustment as of January 1, 2018 to increase accumulated earnings by a range of $3,000 to $4,000, reflecting the earnings the Company would have recognized under ASU 2014-09 if applied as of December 31, 2017. The Company does not
F-11
expect the application of ASU 2014-09 will have a material effect on the Consolidated Statement of Operations. Under the new guidance, the Company expects to recognize certain performance obligations over time as the goods are produced, since those products provide value to only a specified customer, have no alternative use, and the Company has the right to payment for work completed on such items. This will accelerate the timing of revenue recognition for these arrangements, as revenue will be recognized as goods are produced rather than upon shipment or delivery of goods. In addition to accelerating the timing of recording revenue, the Company expects corresponding decreases in deferred revenue, work in process and finished goods inventories, and an increase to accounts receivable. The Company is in the process of implementing and refining the required changes to its business and accounting processes, and internal controls to support recognition and disclosures under the new standard.
In February 2016, the FASB issued ASU 2016-02, Leases, which provides guidance for accounting for leases. The new guidance requires companies to recognize the assets and liabilities for the rights and obligations created by leased assets. ASU 2016-02 is effective for annual2022, and interim periods beginning after December 15, 2018therein, with early adoption permitted. The newCompany has elected not to early adopt this accounting standard is required to be adopted using a modified retrospective approach.in 2021. The Company is in the process of assessingevaluating the impact of adoption of this standard, and does not anticipate the application of ASU 2016-022016-13 will have a material impact on its results of operations,the Company’s consolidated financial position and results of operations.
Adjustment of Prior Period Financial Statements for Immaterial Items
In accordance with Securities and Exchange Commission Staff Accounting Bulletin 99, Materiality, codified in Accounting Standards Codification (“ASC”) 250, Presentation of Financial Statements, during the year ended December 31, 2020, the Company corrected 2 immaterial items relating to estimated sales tax expense and depreciation expense that related to prior periods. The consolidated financial statements.statements for the year ended December 31, 2020 reflect the corrected balances which included sales tax expense in Selling, General and Administrative expenses (“SG&A”) of $293 and depreciation expense of $124 for the year ended December 31, 2020. Refer to Note 15 “Commitments and Contingencies” for additional discussion of the estimated sales tax liability recorded in “Accrued expenses” on the consolidated balance sheet.
60
3. Net Sales
3.The Company disaggregates its net sales by major source as follows:
| | | | | | | | | |
| | For the year ended December 31, 2021 | |||||||
| | Products | | Services | | Total | |||
Debit and Credit | | $ | 199,825 | | $ | 96,379 | | $ | 296,204 |
Prepaid Debit | | | — | | | 79,213 | | | 79,213 |
Intersegment eliminations | | | (239) | |
| (59) | |
| (298) |
Total | | $ | 199,586 | | $ | 175,533 | | $ | 375,119 |
| | | | | | | | | |
| | | | | | | | | |
| | For the year ended December 31, 2020 | |||||||
| | Products | | Services | | Total | |||
Debit and Credit | | $ | 173,765 | | $ | 76,662 | | $ | 250,427 |
Prepaid Debit | | | — | | | 63,596 | | | 63,596 |
Intersegment eliminations | | | (1,797) | |
| (37) | |
| (1,834) |
Total | | $ | 171,968 | | $ | 140,221 | | $ | 312,189 |
4. Discontinued Operation and Disposition
On January 12, 2015,August 3, 2018, the Company soldcompleted the sale of its Nevada non-secure operation under an asset purchase agreement for $5,000 in cash. The Nevada operation was primarily engaged3 facilities in the design, production, data personalization, packaging and daily fulfillment ofUnited Kingdom that produced retail cards, such as gift and loyalty cards, for customers in the United StatesKingdom and wascontinental Europe, and provided personalization, packaging and fulfillment services. The facilities sold included Colchester, Liverpool and Derby locations. The Company reported the U.K. Limited reporting segment as discontinued operations in conformity with GAAP. Unless otherwise indicated, information in these notes to the consolidated financial statements relate to continuing operations. The Company did not certified by any ofretain significant continuing involvement with the Payment Card Brands. At the date of sale, the net carrying values of the assets classified as a discontinued operation included inventory and plant, equipment and leasehold improvements of $3,129 and $2,910, respectively. Forsubsequent to the year ended December 31, 2015, the Company recognized a gain on the saledisposal. The impact of the discontinued operation of $208, which is included in “Gain on sale of a discontinued operation”, net of an income tax benefit of $1,247, inoperations was insignificant to the Company’s Consolidated Statementconsolidated statement of Operations and Comprehensive (Loss) Income.
During the year ended December 31, 2015, the Nevada operation recognized a loss of $606 as included in “Loss from a discontinued operation, net of taxes” in the Company’s Consolidated Statements of Operations and Comprehensive (Loss) Income. This amount is net of an income tax benefit of $404 for the year ended December 31, 2015. There was no financial impact related to Nevadaoperations for the years ended December 31, 20172021 and 2016.2020.
5. Inventories
After the Nevada Sale, CPI retained no continuing involvement in the Nevada operations other than a 180 day transition of services agreement, which expired on July 11, 2015. As a result of the Nevada Sale, the Company made a tax deduction of $32,128 related to the tax deductible goodwill and intangible assets of the Nevada operations, of which $4,190 of the tax deductible goodwill resulted in the recognition of an income tax benefit of $1,510 during the year ended December 31, 2015.
4. Inventories
Inventories are summarized below:
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| December 31, |
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| 2017 |
| 2016 |
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| | December 31, |
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| 2021 |
| 2020 |
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Raw materials |
| $ | 6,498 |
| $ | 8,206 |
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| $ | 54,254 | | $ | 23,009 | |
Work-in-process |
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| 6,557 |
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| 6,340 |
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Finished goods |
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| 3,182 |
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| 4,823 |
| | | 6,778 | |
| 4,635 | |
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| $ | 16,237 |
| $ | 19,369 |
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Inventory reserve | | | (3,023) | | | (2,848) | | |||||||
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| $ | 58,009 | | $ | 24,796 | | |||||||
F-12
5.6. Plant, Equipment, and Leasehold Improvements and Operating Lease Right-of-use Assets
Plant, equipment, and leasehold improvements and operating lease right-of-use assets consist of the following:
| | | | | | | |
| | December 31, |
| ||||
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| 2021 |
| 2020 |
| ||
Machinery and equipment | | $ | 64,051 | | $ | 55,459 | |
Machinery and equipment under financing leases | | | 9,088 | | | 9,974 | |
Furniture, fixtures and computer equipment | | | 4,570 | |
| 4,410 | |
Leasehold improvements | | | 14,142 | |
| 15,083 | |
Construction in progress | | | 5,268 | |
| 2,386 | |
| | | 97,119 | |
| 87,312 | |
Less accumulated depreciation and amortization | | | (61,937) | |
| (55,092) | |
Operating lease right-of-use assets, net of accumulated amortization | | | 12,069 | | | 7,183 | |
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| $ | 47,251 | | $ | 39,403 | |
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| December 31, |
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| 2017 |
| 2016 |
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Buildings |
| $ | 2,318 |
| $ | 2,077 |
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Machinery and equipment |
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| 62,318 |
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| 59,464 |
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Furniture, fixtures and computer equipment |
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| 7,585 |
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| 6,634 |
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Leasehold improvements |
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| 19,754 |
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| 18,655 |
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Construction in progress |
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| 1,980 |
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| 1,136 |
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| 93,955 |
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| 87,966 |
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Less accumulated depreciation and amortization |
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| (44,655) |
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| (34,547) |
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| $ | 49,300 |
| $ | 53,419 |
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Amounts recorded for the depreciation of plant, equipment and leasehold improvements were $13,112, $12,295,$10,745 and $11,389$12,232 for the years ended December 31, 2017, 20162021 and 2015,2020, respectively.
There were no0 impairments of the Company’s plant, equipment, and leasehold improvement assets for the years ended December 31, 2017, 2016,2021 and 2015.2020.
6.
7. Goodwill and Other Intangible Assets
TheAll of the Company’s $47,150 of goodwill by reportableis included in the Debit and Credit segment at December 31, 20172021 and 2016 is as follows:
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| December 31, | ||||
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| 2017 |
| 2016 | ||
U.S. Debit and Credit |
| $ | 47,150 |
| $ | 64,330 |
U.K. Limited |
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| 6,461 |
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| 5,908 |
Other |
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| — |
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| 1,758 |
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| $ | 53,611 |
| $ | 71,996 |
Goodwill activity is summarized as follows:
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Balance as of January 1, 2016 |
| $ | 73,123 |
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Currency translation |
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| (1,127) |
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Balance as of December 31, 2016 |
| $ | 71,996 |
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Currency translation |
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| 689 |
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Impairments |
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| (19,074) |
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Balance as of December 31, 2017 |
| $ | 53,611 |
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2020. The Company completed its goodwill impairment testing as of October 1, 2017,2021 and recorded impairment charges of $19,074, of which $17,181 related to U.S. Debit and Credit resulting from continued market softness in demand for EMV cards, including price erosion and loss of market share in the United States. The other impairment for $1,893 relates to Other which resulted from declines in net sales and operating losses incurred in our Canadian business.The Company determined it is not more likely than not that the fair value of theeach reporting units primarily based on an income approach, using the present value of future discounted cash flows of the reporting unit. This approach includes significant estimates of the reporting unit’s weighted average cost of capital, financial forecasts developed by management, and long-term rate of growth and profitability. The market approach was also considered, with fair value determined by applying pricing multiplies derived from publicly-traded companies that are comparable to the reporting unit. There were no goodwill impairments recognized during the years ended December 31, 2016 and 2015.unit is less than its carrying amount.
During the year ended December 31, 2016, the Company recognized an intangible asset impairment charge of $2,700 related to a trademark acquired in the EFT Source acquisition. The impairment was a result of the Company’s plans to discontinue its use of the trademark in its sales, marketing and other business practices. Accordingly, the trademark was written down to its fair value of zero. Refer to Note 7 “Fair Value of Financial Instruments” for further definition of valuation inputs. The impaired asset is included in the U.S. Debit and Credit reportable segment.
F-13
Subsequent to this impairment, the Company evaluated the future utilization of its trademarks and updated its estimate to amortize these assets over lives ranging from 7.5 to 10 years. As a result, the Company has no remaining indefinite lived intangible assets as of December 31, 2017. There was no impairment of indefinite-lived intangible assets for the year ended December 31, 2015.
CPI’s amortizable intangible assets consist of customer relationships, technology and software, trademarks and non-compete agreements.trademarks. Total intangible assets are being amortized over a weighted-average useful life of 15.615.7 years. Intangible amortization expense totaled $4,902, $4,632,$4,353 and $4,577,$4,595 for the years ended December 31, 2017, 20162021 and 2015,2020, respectively. During the years ended December 31, 2017, 20162021 and 2015,2020, there were no material 0 impairments of the Company’s amortizable intangible assets.
Intangible assets consist of the following:
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| December 31, 2017 |
| December 31, 2016 |
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| Average |
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| Accumulated |
| Net Book |
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| Accumulated |
| Net Book |
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| Life (Years) |
| Cost |
| Amortization |
| Value |
| Cost |
| Amortization |
| Value |
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| | | | December 31, 2021 | | December 31, 2020 |
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| Weighted Average |
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| Accumulated |
| Net Book |
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| Accumulated |
| Net Book |
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| | Life (Years) | | Cost | | Amortization | | Value | | Cost | | Amortization | | Value |
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Customer relationships |
| 12 to 20 |
| $ | 58,895 |
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| (24,373) |
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| 34,522 |
| $ | 58,994 |
| $ | (20,972) |
| $ | 38,022 |
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| 17.2 | | $ | 55,454 | | | (35,419) | | $ | 20,035 | | $ | 55,454 | | $ | (32,141) | | $ | 23,313 | |
Technology and software |
| 7 to 10 |
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| 7,101 |
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| (3,095) |
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| 4,006 |
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| 7,101 |
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| (2,167) |
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| 4,934 |
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| 8 | |
| 7,101 | | | (6,567) | | | 534 | |
| 7,101 | | | (5,881) | | | 1,220 | |
Trademarks |
| 7.5 to 10 |
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| 3,330 |
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| (487) |
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| 2,843 |
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| 3,330 |
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| (98) |
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| 3,232 |
| | 8.7 | | | 3,330 | | | (2,045) | | | 1,285 | | | 3,330 | | | (1,656) | | | 1,674 | |
Noncompete agreements |
| 5 to 8 |
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| 491 |
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| (390) |
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| 101 |
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| 491 |
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| (331) |
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| 160 |
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Intangible assets subject to amortization |
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|
| $ | 69,817 |
| $ | (28,345) |
| $ | 41,472 |
| $ | 69,916 |
| $ | (23,568) |
| $ | 46,348 |
| | | | $ | 65,885 | | $ | (44,031) | | $ | 21,854 | | $ | 65,885 | | $ | (39,678) | | $ | 26,207 | |
The estimated future aggregate amortization expense for the identified amortizable intangibles noted above as of December 31, 20172021 is as follows:
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2018 |
| $ | 4,880 |
2019 |
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| 4,860 |
2020 |
|
| 4,820 |
2021 |
|
| 4,577 |
2022 |
|
| 4,091 |
Thereafter |
|
| 18,244 |
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| $ | 41,472 |
| | | |
2022 | | $ | 3,866 |
2023 |
|
| 3,867 |
2024 | | | 3,630 |
2025 | | | 3,440 |
2026 | | | 2,471 |
Thereafter | | | 4,580 |
| | $ | 21,854 |
7.
8. Fair Value of Financial Instruments
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (exit price). In determining fair value, the Company utilizes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value into three broad levels. The following is a brief description of those three levels:
| Level 1—Unadjusted quoted prices in active markets for identical assets or liabilities accessible to the reporting entity at the measurement date. |
| Level 2—Inputs, other than quoted prices included in Level 1 inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the asset or liability. |
| Level 3—Unobservable inputs for the asset or liability used to measure fair value to the extent that observable inputs are not available, thereby allowing for situations in which there is little, if any, market activity for the asset or liability at the measurement date. |
F-1462
The Company’s financial assets and liabilities that are not required to be remeasured at fair value in the Consolidated Balance Sheets are as follows:
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| Carrying |
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| Fair Value Measurement at |
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| Value as of |
| Fair Value as of |
| December 31, 2017 |
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| December 31, |
| December 31, |
| (Using Fair Value Hierarchy) |
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| 2017 |
| 2017 |
| Level 1 |
| Level 2 |
| Level 3 |
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Liabilities: |
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First Lien Term Loan |
| $ | 312,500 |
| $ | 228,125 |
| $ | — |
| $ | 228,125 |
| $ | — |
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| Carrying |
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| Fair Value as of |
| December 31, 2016 |
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| December 31, |
| December 31, |
| (Using Fair Value Hierarchy) |
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| 2016 |
| 2016 |
| Level 1 |
| Level 2 |
| Level 3 |
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Liabilities: |
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First Lien Term Loan |
| $ | 312,500 |
| $ | 290,625 |
| $ | — |
| $ | 290,625 |
| $ | — |
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| | | | | | | | | | | | | | | |
| | Carrying | | | | Fair Value Measurement at | |||||||||
| | Value as of | | Fair Value as of | | December 31, 2021 | |||||||||
| | December 31, | | December 31, | | (Using Fair Value Hierarchy) | |||||||||
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| 2021 |
| 2021 |
| Level 1 |
| Level 2 |
| Level 3 | |||||
Liabilities: | | | | | | | | | | | | | | | |
Senior Notes |
| $ | 310,000 |
| $ | 327,050 | | $ | — |
| $ | 327,050 | | $ | — |
| | | | | | | | | | | | | | | |
| | Carrying | | | | Fair Value Measurement at | |||||||||
| | Value as of | | Fair Value as of | | December 31, 2020 | |||||||||
| | December 31, | | December 31, | | (Using Fair Value Hierarchy) | |||||||||
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| 2020 |
| 2020 |
| Level 1 |
| Level 2 |
| Level 3 | |||||
Liabilities: | | | | | | | | | | | | | | | |
First Lien Term Loan | | $ | 312,500 |
| $ | 287,500 | | $ | — |
| $ | 287,500 | | $ | — |
Senior Credit Facility | | $ | 30,000 | | | 30,000 | | $ | — | | $ | — | | $ | 30,000 |
The aggregate fair value of the Company’s First Lien Term Loan, asSenior Notes (as defined in Note 8,11 “Long-Term Debt and Credit Facility,”Debt”) was based on bank quotes.
The carrying amounts for cash and cash equivalents, accounts receivable and accounts payable each approximate fair value due to their short maturities.short-term nature.
9. Accrued Liabilities
Nonrecurring fair value measurementsAccrued liabilities consisted of the following:
| | | | | | |
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| December 31, 2021 | �� | December 31, 2020 | ||
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Accrued payroll and related employee expenses |
| $ | 7,558 |
| $ | 4,938 |
Accrued employee performance bonus |
| | 6,900 |
| | 4,873 |
Employer payroll tax, including social security deferral | | | 1,910 | | | 3,034 |
Accrued rebates | | | 1,423 | | | 1,178 |
Estimated sales tax liability | | | 1,019 | | | 1,696 |
Accrued Interest |
| | 7,955 |
| | 4,145 |
Operating and financing lease liability (current portion) | | | 4,114 | | | 4,407 |
Other | | | 6,271 | | | 3,878 |
Total accrued expenses | | $ | 37,150 | | $ | 28,149 |
The estimated sales tax liability is further described in Note 15 “Commitments and Contingencies” and Note 2 “Summary of Significant Accounting Policies”. Other accrued liabilities include miscellaneous accruals for invoices not yet received and other items such as self- insurance liability accruals and the current portion of uncertain tax position reserves.
10. Financing and Operating Leases
Right-of-use (“ROU”) represents the right to use an underlying asset for the lease term, and lease liabilities represent the Company’s goodwillobligation to make lease payments arising from the lease. Operating lease ROU assets and intangible asset impairmentsliabilities are recognized at commencement date based on the present value of lease payments over the lease term. A lease is deemed to exist when the Company has the right to control the use of identified property, plant or equipment, as conveyed through a contract, for a certain period of time and consideration paid. The right to control is deemed to occur when the Company has the right to obtain substantially all of the economic benefits of the identified assets and the right to direct the use of such assets.Certain leases contain escalation provisions and/or renewal options, giving the Company
63
the right to extend the leases by up to 10 years. However, these options are generally not reflected in the calculation of the ROU assets and lease liabilities due to uncertainty surrounding the likelihood of renewal.
The components of operating and finance lease costs were as follows:
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| | | Year Ended | | Year Ended |
| | | December 31, 2021 | | December 31, 2020 |
| | | | | |
Operating lease costs | | $ | 2,258 | | 2,649 |
Variable lease costs | | | 676 | | 667 |
Short-term operating lease costs | | | 416 | | 75 |
Total expense from operating leases | | $ | 3,350 | | 3,391 |
| | | | | |
Finance lease cost: | | | | | |
Right-of-use amortization expense | | $ | 1,009 | | 1,342 |
Interest on lease liabilities | | | 380 | | 540 |
Total financing lease costs | | $ | 1,389 | | 1,882 |
The following table reflects balances for operating and financing leases:
| | | | | | |
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| December 31, 2021 | | December 31, 2020 | ||
Operating leases | | | | | | |
Operating lease right-of-use assets, net of amortization | | $ | 12,069 | | $ | 7,183 |
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Operating lease liability (current) | | $ | 1,857 | | $ | 2,267 |
Long-term operating liability | | | 10,703 | | | 5,491 |
Total operating lease liabilities | | $ | 12,560 | | $ | 7,758 |
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Financing leases | | | | | | |
Property, equipment and leasehold improvements | | $ | 9,088 | | $ | 9,974 |
Accumulated depreciation | | | (2,451) | | | (2,422) |
Total financing leases in property, equipment and leasehold improvements, net | | $ | 6,637 | | $ | 7,552 |
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Financing lease liability (current) | | $ | 2,257 | | $ | 2,140 |
Long-term finance ng liability | | | 2,668 | | | 3,052 |
Total financing lease liabilities | | $ | 4,925 | | $ | 5,192 |
Finance and operating lease ROU assets are recorded in “Plant, equipment, leasehold improvements, and
operating lease right-of-use assets, net”. Financing and operating lease liabilities are recorded in “Accrued expenses” and “Other long-term liabilities.”
Components of lease expense were as follows:
| | | | | |
| | | December 31, 2021 | | December 31, 2020 |
Weighted Average Remaining Lease Term | | | | | |
Operating Leases | | | 6.05 | | 4.93 |
Financing Leases | | | 2.73 | | 2.52 |
| | | | | |
Weighted Average Discount Rate | | | | | |
Operating Leases | | | 8.04% | | 9.29% |
Financing Leases | | | 8.01% | | 8.71% |
64
Future cash payment with respect to lease obligations as of December 31, 2021 were as follows:
| | | | | | |
| | | Operating | | | Financing |
| | | Lease | | | Leases |
Year Ending | | | | | | |
2022 | | $ | 2,801 | | $ | 2,489 |
2023 | | | 2,828 | | | 1,541 |
2024 | | | 2,644 | | | 743 |
2025 | | | 2,090 | | | 485 |
2026 | | | 1,958 | | | 52 |
Thereafter | | | 3,654 | | | — |
Total lease payments | | | 15,975 | | | 5,310 |
Less imputed interest | | | (3,415) | | | (385) |
Total | | $ | 12,560 | | $ | 4,925 |
Cash paid on operating lease liabilities was $2,007 and $2,347 during the yearyears ended December 31, 20172021 and the trademark intangible asset impairment recognized during the year ended December 31, 2016 as determined based on unobservable Level 3 inputs. Refer to Note 6, “Goodwill and Other Intangible Assets.”2020, respectively.
8.11. Long-Term Debt and Credit Facility
Long-term debt consists of the following:
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|
|
|
|
|
|
| |||||||
|
| Interest |
| December 31, |
| December 31, |
| |||
|
| Rate |
| 2017 |
| 2016 |
| |||
First Lien Term Loan (a) |
|
| 5.96% |
| $ | 312,500 |
| $ | 312,500 |
|
Unamortized discount |
|
|
|
|
| (3,122) |
|
| (3,795) |
|
Unamortized deferred financing costs |
|
|
|
|
| (5,509) |
|
| (6,783) |
|
Total long-term debt |
|
|
|
|
| 303,869 |
|
| 301,922 |
|
Less current maturities |
|
|
|
|
| - |
|
| - |
|
Long-term debt, net of current maturities |
|
|
|
| $ | 303,869 |
| $ | 301,922 |
|
|
|
| | | | | | | | | | |
|
| Interest | | December 31, | | December 31, | | |||
| | Rate (1) |
| 2021 |
| 2020 |
| |||
Senior Notes | | | 8.625 | % | | 310,000 | | | — | |
ABL Revolver | | | — | % | | — | | | — | |
First Lien Term Loan |
| | 5.500 | % | | — | | | 312,500 | |
Senior Credit Facility | | | 9.500 | % | | — | | | 30,000 | |
Unamortized deferred financing costs | |
| | | | (6,374) | | | (3,804) | |
Unamortized discount | | | | | | — | | | (1,988) | |
Total long-term debt | | | | | | 303,626 | | | 336,708 | |
Less current maturities | | | | | | — | | | (8,027) | |
Long-term debt, net of current maturities | | | | | | 303,626 | | | 328,681 | |
First Lien Credit Facility
On August 17, 2015, the Company entered into the First Lien Credit Facility with(1) The Senior Notes bear interest at a syndicate of lenders providing forfixed rate. The variable interest rate on the $435,000 First Lien Term Loan and Senior Credit Facility was 5.5%and 9.5%, respectively, as of December 31, 2020.
On March 15, 2021, the $40,000 Revolving Credit Facility.Company completed a private offering by its wholly-owned subsidiary, CPI CG Inc. (the “Issuer”), of $310,000 aggregate principal amount of 8.625% senior secured notes due 2026 (the “Senior Notes”) and related guarantees. The First Lien Term Loannotes and related guarantees were offered and sold in a private transaction exempt from the registration requirements of the Securities Act of 1933, as amended (the “Securities Act”), to persons reasonably believed to be qualified institutional buyers in accordance with Rule 144A under the Securities Act and outside the United States to certain non-U.S. persons in compliance with Regulation S under the Securities Act. In addition, the Company and CPI CG Inc. as borrower entered into a credit agreement with Wells Fargo Bank, National Association, as lender, administrative agent and collateral agent, providing for an asset-based, senior secured revolving credit facility of up to $50,000 (the “ABL Revolver”).
The Senior Notes bear interest at a rate of 8.625% per annum and mature on March 15, 2026. Interest is payable on the Senior Notes on March 15 and September 15 of each year. The ABL Revolver matures on the earliest to occur of March 15, 2026 and the Revolving Credit Facility havedate that is 90 days prior to the maturity dates of August 17, 2022 and August 17, 2020, respectively.the Senior Notes. Borrowings under the ABL Revolver bear interest at a rate per annum that ranges from the LIBOR Rate plus 1.25% to the LIBOR Rate plus 1.75%, or the Base Rate plus 0.25% to the Base Rate plus 0.75%, based on the average daily borrowing capacity under the ABL Revolver over the most recently completed month. The Base Rate as defined in the ABL Revolver is the greater of the Federal Funds Rate plus 0.5%, the LIBOR Rate for a one month interest period plus 1.0%, or the Wells Fargo Bank, National Association “prime rate”. The Company may elect to apply either the LIBOR Rate or Base Rate interest to borrowings at its discretion. The unused portion of the ABL Revolver commitment accrues a commitment fee, which ranges from 0.375% to 0.50% per annum, based on the average daily borrowing capacity under the ABL Revolver over the immediately preceding month.
65
The First Lien Credit Facility isSenior Notes are guaranteed by the Company and certain of its current and future wholly-owned domestic subsidiaries (other than the Issuer) that guarantee the ABL Revolver, and are secured by a first-priority security interest in substantially all of the Company's assets constituting equipment, inventory, receivables, cashof the Issuer and other tangible and intangible property.
Interest rates under the First Lien Credit Facility are based, at the Company's election, on a Eurodollar rate,guarantors, subject to an interest rate floor of 1.0%customary exceptions. The ABL Revolver is guaranteed by the Company and its subsidiaries (other than the Issuer and excluded subsidiaries), plus a margin of 4.50% or a base rate plus a margin of 3.50%.
The First Lien Credit Facility contains customary nonfinancial covenants, including among other things, restrictions on indebtedness, issuance of liens, investments, dividends, redemptions and other distributions to equity holders, asset sales, certain mergers or consolidations, sales, transfers, leases or dispositions ofis secured by substantially all of the Company's assets and affiliate transactions. The First Lien Credit Facility also contains a requirement that, as of the last
F-15
day of any fiscal quarter, ifIssuer and the amountguarantors, subject to customary exceptions.
The Senior Notes and the ABL Revolver contain covenants limiting the ability of the Company, has drawn under the Revolving Credit Facility is greater than 50%Issuer and the Company’s restricted subsidiaries to, among other things, incur or guarantee additional debt or issue disqualified stock or certain preferred stock; create or incur liens; pay dividends, redeem stock or make other distributions; make certain investments; create restrictions on the ability of the aggregate principal amount of all commitments of the lenders thereunder,Issuer and its restricted subsidiaries to pay dividends to the Company maintainor make other intercompany transfers; transfer or sell assets; merge or consolidate; and enter into certain transactions with affiliates, subject to a first lien net leverage not in excessnumber of 7.0 times Adjusted EBITDA,important exceptions and qualifications as definedset forth in the agreement. As of December 31, 2017,respective agreements.
The Company has obligations to make an offer to repay the Company was in compliance with all covenants under the First Lien Credit Facility.
The First Lien Credit Facility also requiresSenior Notes, requiring prepayment in advance of the maturity date, upon the occurrence of certain customary events including a change of control, certain asset sales and based on an annual excess cash flow calculation. The annual excess cash flow calculation is determined pursuant to the terms of that certain Indenture, dated as of March 15, 2021, by and among Issuer, the agreement,Company, the subsidiary guarantors and U.S. Bank National Association, as trustee, with any required paymentsprepayments to be made after the issuance of the Company’s annual financial statements. TheNaN such payment is required based on the Company’s 2021 operating results.
Net proceeds from the Senior Notes, together with cash on hand and initial borrowings of $15,000 under the ABL Revolver, were used to pay in full and terminate the Senior Credit Facility and First Lien Term Loan on March 15, 2021, and to pay related fees and expenses. As of March 15, 2021, the Company does not havehad outstanding borrowings of $30,000, plus accrued and unpaid interest, under the Senior Credit Facility, and $304,746, plus accrued and unpaid interest, under the First Lien Term Loan. In addition, early termination of the Senior Credit Facility required payment of a required“make-whole” premium of $2,635 as an early termination penalty, which was paid on March 15, 2021, and recorded as interest expense on the condensed consolidated statement of comprehensive income for the year ended December 31, 2021.
During the second quarter of 2021, the Company used $15,000 of cash on hand to pay down the ABL Revolver to 0 and had 0 borrowings outstanding thereunder as of December 31, 2021.
As of December 31, 2020, $8,027 of debt principal was classified as a current liability as a result of an excess free cash flow payment relatedcalculation for 2020 pursuant to 2017.
In accordance with the terms of the Senior Credit Facility and the First Lien Term Loan. The Company offered to prepay the balance, pursuant to the terms of the Senior Credit Facility the Company repaid $112,500 ofand the First Lien Term Loan, which resulted in a required principal prepayment of $7,754 to the First Lien Term Loan lenders on October 15, 2015 in conjunctionMarch 4, 2021, plus accrued interest thereon.
In connection with the completionissuance of the Senior Notes and entry into the ABL Revolver, the Company terminated its initial public offering,previous credit facilities consisting of a $30,000 senior credit agreement, dated as of March 6, 2020, among the Company, CPI CG Inc., as borrower, the lenders party thereto and an additional $10,000 duringGuggenheim Credit Services, LLC as administrative agent and collateral agent (the “Senior Credit Facility”), and a $435,000 first lien term loan, dated as of August 17, 2015 as amended, among the fourth quarter of 2015. See Note 1 “Business”. The Company, recognized additional interest expense of $4,687 during the year ended December 31, 2015 related to accelerated amortization of deferred financingborrower, the lenders party thereto, GLAS USA LLC, as administrative agent and GLAS Americas LLC, as collateral agent (the “First Lien Term Loan”).
Deferred Financing Costs and Discount
Certain costs and discount in connection with these repayments.
As of December 31, 2017, the Company did not have any outstanding amounts under the Revolving Credit Facility, and has $19,950 available for borrowing. Additional amounts may be available for borrowing under the term of the Revolving Credit Facility, up to the full $40,000, to the extent the Company’s net leverage ratio does not exceed 7.0 times Adjusted EBITDA, as defined in the agreement. The Company has one outstanding letter of credit for $50 relating to the security deposit on a real property lease agreement. The Company pays a fee on outstanding letters of credit at the applicable margin, which was 4.5% as of December 31, 2017 and December 31, 2016, in addition to a fronting fee of 0.125% per annum. In addition, the Company is required to pay an unused commitment fee ranging from 0.375% per annum to 0.50% per annum of the average unused portion of the revolving commitments. The unused commitment fee is determined on the basis of a grid that results in a lower unused commitment fee as the Company’s total net leverage ratio declines. The Company has accrued interest of $4,296 and $3,858, recorded within “Accrued expenses” on the Consolidated Balance Sheets as of December 31, 2017, and 2016, respectively.
Sellers Note
The Company entered into a subordinated, unsecured promissory note for $9,000 with certain sellers of EFT Source as part of the EFT Source acquisition, which was fully repaid on September 2, 2016. Interest on the Sellers Note accrued at 5.0% per annum and was paid quarterly.
Deferred Financing Costs
Certain costsdiscounts incurred with borrowings or the establishment or modification of credit facilities are reflected as a reduction to the long-term debt balance. These costs are amortized as an adjustment to interest expense over the life of the borrowing using the effective-interest rate method. The debt issuance costs recorded upon issuance of the Senior Notes were $7,558 and the remaining unamortized balance is reported as a reduction to the long-term debt balance as of December 31, 2021. The net discount and debt issuance costs on the ABL Revolver were $2,144 and are recorded as other assets (current and long term) on the condensed consolidated balance sheet as of December 31, 2021.
F-16
66
During the year ended December 31, 2021, the Company recorded a $5,048 loss on debt extinguishment relating to the unamortized deferred financing costs and debt discount in connection with the termination of the Senior Credit Facility and First Lien Term Loan.
9.
12. Income Taxes
Income tax (benefit) expense from continuing operations(benefit) and effective income tax rates consist of the following:
|
|
|
|
|
|
|
|
|
|
| |||||||
|
| December 31, |
| ||||||||||||||
|
| 2017 |
| 2016 |
| 2015 |
| ||||||||||
| | | | | | | | ||||||||||
| | December 31, | | ||||||||||||||
|
| 2021 |
| 2020 |
| ||||||||||||
Current taxes: |
|
|
|
|
|
|
|
|
|
| | | | | | | |
Domestic |
| $ | (7,376) |
| $ | 4,944 |
| $ | 16,036 |
|
| $ | 10,038 | | $ | (4,364) | |
Foreign |
|
| 99 |
|
| 27 |
|
| 254 |
| |
| (1) | |
| 16 | |
|
|
| (7,277) |
|
| 4,971 |
|
| 16,290 |
| |||||||
| | | 10,037 | |
| (4,348) | | ||||||||||
Deferred taxes: |
|
|
|
|
|
|
|
|
|
| | | | | | | |
Domestic |
|
| (9,161) |
|
| (1,830) |
|
| 1,656 |
| | | (2,154) | |
| 1,043 | |
Foreign |
|
| 66 |
|
| 1 |
|
| (100) |
| | | (2) | |
| — | |
|
|
| (9,095) |
|
| (1,829) |
|
| 1,556 |
| |||||||
Income tax (benefit) expense |
| $ | (16,372) |
| $ | 3,142 |
| $ | 17,846 |
| |||||||
(Loss) income before income taxes |
|
|
|
|
|
|
|
|
|
| |||||||
Domestic |
| $ | (36,646) |
| $ | 7,437 |
| $ | 50,692 |
| |||||||
Foreign |
|
| (1,736) |
|
| 1,104 |
|
| (1,585) |
| |||||||
| | | (2,156) | |
| 1,043 | | ||||||||||
Income tax expense (benefit) |
| $ | 7,881 | | $ | (3,305) | | ||||||||||
Income before income taxes | | | | | | | | ||||||||||
Domestic income |
| $ | 23,761 | | $ | 12,790 | | ||||||||||
Foreign income | | | 61 | |
| 95 | | ||||||||||
Total |
| $ | (38,382) |
| $ | 8,541 |
| $ | 49,107 |
|
| $ | 23,822 | | $ | 12,885 | |
Effective income tax rate |
|
| 42.7 | % |
| 36.8 | % |
| 36.3 | % | |
| 33.1 | % | | (25.6) | % |
The effective income tax rate differs from the U.S. federal statutory income tax rate as follows:
|
|
|
|
|
|
|
| |||||
|
| December 31, |
| |||||||||
|
| 2017 |
| 2016 |
| 2015 |
| |||||
| | | | | | |||||||
| | December 31, | | |||||||||
| | 2021 |
| 2020 |
| |||||||
Tax at federal statutory rate |
| 35.0 | % | 35.0 | % | 35.0 | % | | 21.0 | % | 21.0 | % |
State income taxes |
| 0.5 |
| 6.3 |
| 2.0 |
| |||||
Foreign taxes |
| 0.3 |
| (1.9) |
| 0.3 |
| |||||
Deferred tax impact of enacted tax rate and law changes |
| 18.4 |
| — |
| — |
| |||||
Goodwill impairments |
| (17.4) |
| — |
| — |
| |||||
State taxes, net | | 7.4 |
| 5.3 |
| |||||||
Valuation allowance | | — | | (41.1) | | |||||||
Unrecognized tax benefits | | 1.4 | | 5.6 | | |||||||
Tax credits |
| 10.8 |
| — |
| — |
| | (0.2) | | (1.2) | |
Unrecognized tax benefits |
| (3.2) |
| — |
| — |
| |||||
Permanent items | | 2.4 | | 4.0 | | |||||||
Tax benefit CARES Act | | — | | (20.9) | | |||||||
Other |
| (1.7) |
| (2.6) |
| (1.0) |
| | 1.1 |
| 1.7 |
|
Effective income tax rate |
| 42.7 | % | 36.8 | % | 36.3 | % | | 33.1 | % | (25.6) | % |
F-17
67
The components of the deferred tax assets and liabilities are as follows:
|
|
|
|
|
|
|
| |||||||
|
| December 31, |
| |||||||||||
|
| 2017 |
| 2016 |
| |||||||||
| | | | | | | | |||||||
| | December 31, |
| |||||||||||
|
| 2021 | | 2020 |
| |||||||||
Deferred tax assets: |
|
|
|
|
|
|
| | | | | | | |
Accrued expense |
| $ | 744 |
| $ | 1,089 |
| | $ | 3,664 | | $ | 2,519 | |
Unrealized foreign exchange loss |
|
| 647 |
|
| 1,426 |
| |||||||
Net operating loss carryforward |
|
| 2,227 |
|
| 3,066 |
| | | 305 | |
| 524 | |
Deferred financing costs |
|
| 707 |
|
| 1,355 |
| |||||||
Stock compensation |
|
| 679 |
|
| 1,166 |
| | | 894 | |
| 935 | |
Tax credit carryforward |
|
| 420 |
|
| — |
| | | — | | | 645 | |
Interest limitation | | | 3,693 | | | 1,418 | | |||||||
Lease liability | | | 3,222 | | | 1,899 | | |||||||
Capital loss carryover | | | 2,076 | | | 2,030 | | |||||||
Other |
|
| 868 |
|
| 555 |
| | | 2,867 | | | 2,858 | |
Total gross deferred tax assets |
|
| 6,292 |
|
| 8,657 |
| | | 16,721 | |
| 12,828 | |
Valuation allowance |
|
| (4,688) |
|
| (4,930) |
| |
| (2,832) | |
| (2,615) | |
Net deferred tax assets |
|
| 1,604 |
|
| 3,727 |
| | | 13,889 | |
| 10,213 | |
Deferred tax liabilities: |
|
|
|
|
|
|
| | | | | | | |
Plant, equipment and leasehold improvements |
|
| (2,819) |
|
| (6,393) |
| |
| (5,773) | |
| (4,939) | |
Intangible assets |
|
| (10,144) |
|
| (17,159) |
| |
| (8,284) | |
| (8,689) | |
Prepaid expenses |
|
| (927) |
|
| (1,436) |
| |||||||
Right-of-use assets | | | (3,098) | | | (1,758) | | |||||||
Other | |
| (1,987) | |
| (2,236) | | |||||||
Total gross deferred tax liabilities |
|
| (13,890) |
|
| (24,988) |
| |
| (19,142) | |
| (17,622) | |
Net deferred tax liabilities |
| $ | (12,286) |
| $ | (21,261) |
| | $ | (5,253) | | $ | (7,409) | |
The net deferred tax liabilities are reflected in the consolidated balance sheets as follows:
|
|
|
|
|
|
|
|
|
| December 31, |
| ||||
|
| 2017 |
| 2016 |
| ||
Long-term deferred tax liabilities |
| $ | (12,286) |
| $ | (21,261) |
|
The net change in the valuation allowance during the year ended December 31, 20172021 was an increase of $217. The change was comprised primarily of an increase due to the interest deduction limitation in Section 163(j) of the Internal Revenue Code pertaining to certain states. The valuation allowance as of December 31, 2021, is primarily relating to a decreasecapital loss realized on the sale of $242a foreign subsidiary whereby the Company does not anticipate a capital gain in the foreseeable future that would allow for the recognition of the capital loss carryover. In addition, the Company has a partial valuation allowance on certain state interest deduction limitations, which the Company estimates may not be fully utilized.
For the year ended December 31, 2021 the effective tax rate differs from the federal U.S. statutory rate primarily due to state income taxes, which had a tax rate impact of 7.4%. Other items impacting the effective tax rate in 2021 include permanent items and related to foreign currency exchange rate fluctuations, changes inunrecognized tax benefits. In March 2020, the CARES Act was signed into law. The CARES Act allows net operating losses (“NOLs”) generated in 2018, 2019, or 2020 to be carried back up to five years and temporarily eliminates the tax law provision that limits the use of foreign locationsNOLs to 80% of taxable income. The CARES Act increased the Internal Revenue Code Section 163(j) interest deduction limit for 2020 and state research2019, and development credits carried forward. allowed for the acceleration of refunds of alternative minimum tax credits. For the year ended December 31, 2020, the Company recorded a tax benefit for certain provisions in the CARES Act resulting in a tax rate benefit of 20.9%. In addition, the Company reduced the partial valuation allowance associated with the limitation on the deductibility of interest expense, and recorded an income tax rate benefit for the year ended December 31, 2020 of 41.1%.
The Company no longer has any substantial potential tax benefits associated with $8,089 of gross foreign operating loss carryforwards due to the sale of its foreign subsidiaries. The Company has various state and local operating loss carryforwards which will expire at various dates from 2024 through 2032. Due2037 to 2039. The Company does expect to be able to utilize these losses prior to expiration. The Company received income tax refunds in 2021 of $9,846, which were primarily comprised of U.S. federal income tax refund claims attributable to the uncertainty of being able to recognize these loss carryforwards, the Company has provided a valuation allowance of 100% of theCARES Act provisions, including alternative minimum tax benefit.
credits and NOL carrybacks.
The Company hasdoes 0t have any potential tax benefits associated with state research and development tax credit carryforwards as of December 31, 20172021.
The Company has recorded compensation for certain covered employees in excess of $584, which will expire at various dates between 2029 and 2032. Due to the uncertainty of being able to recognize these credit carryforwards,$1,000 per year. Under Internal Revenue Code Section 162(m), the Company has provided a valuation allowanceis prohibited from deducting the amount of 100%tax compensation that exceeds $1,000 per year for these employees. The covered employees are defined as the Chief Executive Officer, Chief
68
Financial Officer, and the three next-highest-compensated officers of the tax benefit.
Company. The Company considers the impact of the estimated IRC Section 162(m) limitations on the future deductibility of existing temporary differences.
At December 31, 2017, no2021, 0 provision has been made for U.S. federal and state taxes on cumulative foreign earnings from CPI Card Group-Europe Limited operationsas there are no material current or cumulative earnings of approximately $4,800, which are expected to be indefinitely reinvested outside of the U.S. The U.S. deferred tax liability associated with indefinitely reinvested earnings and profits is not material.foreign operations.
F-18
2017 Tax Reform
On December 22, 2017, the U.S. government enacted comprehensive tax reform legislation that includes significant changes to taxation of business entities. These changes include, among others, (i) a permanent reduction to the corporate income tax rate, (ii) a partial limitation on the deductibility of business interest expense, (iii) elimination of deduction for income attributable to domestic production activities and (iv) a partial shift of the U.S. taxation of multinational corporations from a tax on worldwide income to a territorial system (along with a transitional rule that taxes certain historic foreign accumulated earnings and certain rules that aim to prevent erosion of U.S. income tax base). In conjunction with the Tax Act’s reduction of the U.S. federal tax rate from 35.0% to 21.0%, the Company accrued a $7,057 tax benefit during the year ended December 31, 2017 related to the net change in deferred tax liabilities.
Due to the complexities involved in accounting for the recently enacted Tax Act, the U.S. Securities and Exchange Commission’s Staff Accounting Bulletin (“SAB”) 118, requires that the Company include in its financial statements the reasonable estimate of the impact of the Tax Act on earnings to the extent such reasonable estimate has been determined. Accordingly, the Company is currently estimating a zero tax liability on foreign unremitted earnings due to a net earnings and profits (“E&P”) deficit on accumulated post-1986 deferred foreign income. Therefore, the Company has not accrued any amount of tax expense for the Tax Act’s one-time transition tax on the foreign subsidiaries’ accumulated, unremitted earnings going back to 1986 for the year ended December 31, 2017. The Company will continue to analyze historical E&P on accumulated post-1986 deferred foreign income and will record any resulting tax adjustment during 2018. All other accounting as required by the Tax Act as of December 31, 2017 is complete.
Unrecognized Tax Benefits
Unrecognized tax benefits represent the aggregate tax effect of differences between the tax return positions and the amounts otherwise recognized in the Company’s consolidated financial statements, and are reflected in “Income taxes receivable”“Accrued expenses”, “Other long term liabilities” and “Deferred income taxes” in the Company’s consolidated balance sheets. The Company accounts for uncertain tax positions by recognizing the financial statement effects of a tax provision only when based upon the technical merits, it is “more-likely-than-not” that the tax position will be sustained upon examination.
|
|
|
|
|
|
|
|
Balance as of December 31, 2016 |
| $ | — |
Increase related to current year tax position |
|
| 154 |
Increase related to prior year tax position |
|
| 1,058 |
Decrease related to settlements with tax authorities |
|
| — |
Lapse of statute of limitations |
|
| — |
Balance as of December 31, 2017 |
| $ | 1,212 |
| | | |
| | | |
Balance as of December 31, 2020 | | $ | 3,312 |
Other | | | (201) |
Increase related to current year tax position | | | 64 |
Decrease related to prior year tax position | | | (37) |
Decrease related to settlements with tax authorities, net of federal benefit | | | (788) |
Balance as of December 31, 2021 | | $ | 2,350 |
As of December 31, 2017, the total amount of tax contingency reserves was $1,212, that if recognized, would impact the Company’s effective tax rate, prior to the impact of any related valuation allowance. The Company recognizes interest and penalties with respect to unrecognized tax benefits as a component of income tax expense. The amount of accrued interest and penalties related to unrecognized tax benefits as of and for the year ended December 31, 20172021 is $289, and was not material. The Company had no uncertain tax positions as of December 31, 2016 and 2015. Amounts recorded$255 for unrecognized tax benefits represent management estimates, and actual results could differ which would impact the Company’s effective tax rate.
It is reasonably possible that $723 of the Company’s unrecognized tax benefits and associated interest and penalties, related to state income tax matters, will be paid or favorably settled in the next twelve months.
The Company is generally subject to potential federal and state examinations for the tax years after December 31, 2013 for federal purposes and December 31, 2012 for state purposes. The Company’s locations in the United Kingdom and Canada are subject to examinations for tax years after December 31, 2014 and December 31, 2012, respectively.
F-19
10. Series A Preferred Stock
There were no outstanding shares of Series A Preferred Stock as of December 31, 2017 and 2016.
During the year ended December 31, 2015,2020.
The Company believes that it is reasonably possible that approximately $301 of its unrecognized tax benefits may be recognized by the end of 2022 as a result of settlement with the taxing authorities. The Company redeemedalso believes that it is reasonably possible that a totaldecrease of 64,809 sharesup to $1,009 of Series A Preferred Stock at prices ranging between $3,950.33its unrecognized tax benefits related to an asset basis tax position and $4,610.68 per share, includingresearch and development tax credits may be recognized by the redemptionend of 62,140 shares2022 as a result of a lapse of the Series A Preferred Stock for $276,688, or $4,446.70 per share, on August 17, 2015 with proceeds fromstatute of limitations. The total $1,310 is reflected in “Accrued expenses” in the Company’s First Lien Credit Facility (see Note 8 “Long-Term Debt and Credit Facility”), and the redemptionconsolidated balance sheet as of 2,576 shares of the Series A Preferred Stock for $11,877, or $4,610.68 per share, using proceeds from the Company’s IPO (see Note 1 “Business”). Of the $288,565 redemption amount during the year ended December 31, 2015, $58,250 was treated as a return of capital and $230,315 was treated as a dividend.2021.
13. Stockholders’ Deficit
11. Stockholders’ Equity
Common Stock
Common Stock has a par value of $0.001 per share. Holders of common stockCommon Stock are entitled to receive dividends and distributions subject to the participation rights of holders of all classes of stock at the time outstanding, as such holders have prior rights as to dividends pursuant to the rights of any series of Preferred Stock. Upon any liquidation, dissolution, or winding up of the Company, after required payments are made to holders of any series of Preferred Stock, any remaining assets of the Company will be distributed ratably to the holders of Common Stock. Holders of Common Stock are entitled to one1 vote per share.
On December 20, 2017, the Company effected a one-for-five reverse stock split of its common stock, whereby each lot of five shares of common stock issued and outstanding immediately prior to the reverse stock split was converted into and became one share of common stock. In lieu of issuing any fractional shares, any stockholder entitled to receive less than one share of common stock received cash for such stockholder’s fractional share. Share and per share amounts reflect the one-for-five reverse stock split for all periods presented in this Annual Report on Form 10-K, including the accompanying Consolidated Financial Statements and these notes.
On September 3, 2015, the Company approved a 22-for-1 stock split of its common stock and increased the number of authorized shares of common stock to 100,000,000. Upon the effective date of the stock split, each outstanding share of common stock and restricted common stock was divided into 22 shares of common stock or restricted common stock, as applicable. Shares of common stock available for issuance under the Option Plan (as hereinafter defined) were increased accordingly.
During the year ended December 31, 2017, the Company paid dividends of $7,540, representing $0.675 per share. During August 2017, the Company discontinued its quarterly dividend of $0.225 per share. During the year ended December 31, 2016, the Company paid dividends of $7,519, representing $0.675 per share. Additionally, on November 9, 2016, the Board of Directors approved a dividend of $0.225 per share, payable on January 12, 2017 to stockholders of record as of the close of business on December 16, 2016. The accrued dividend of $2,491 is reflected in “Accrued expenses” in the Consolidated Balance Sheet as of December 31, 2016. For the year ended December 31, 2016, the Company declared aggregate dividends of $0.90 per share.
On May 11, 2016, the Board of Directors approved a stock repurchase program that authorized repurchases of the Company’s common stock up to $20,000. The stock repurchase program expired by its terms during May 2017. During the year ended December 31, 2017, there were no common shares repurchased. During the year ended December 31, 2016, there were 287,883 common shares repurchased for $6,008, at an average cost of $20.85 per share. The repurchases have been accounted for as a share retirement.
12. (Loss)14. Earnings per Share
Basic orand diluted (loss) earnings per share is computed by dividing net earnings or lossincome by the weighted-average number of ordinarycommon shares outstanding during the period.
F-20
Diluted earnings per share reflects the potential dilution that could occur if outstanding stock options at the presented dates are exercised and shares of restricted stock have vested. For the years
69
ended December 31, 2021 and 2020, 121,993 and 137,787 potentially dilutive securities, respectively, are excluded from the calculation of diluted earnings per share because their inclusion would be anti-dilutive.
The following table sets forth the computation of basic and diluted (loss)income earnings per share, giving retroactive effectshare:
| | | | | | |
| | Year Ended | ||||
| | December 31, | ||||
|
| 2021 | | 2020 | ||
Numerator: | | |
|
| |
|
Net income from continuing operations | | $ | 15,941 | | $ | 16,190 |
Net loss from discontinued operation | | | — | | | (61) |
Net income | | $ | 15,941 | | $ | 16,129 |
| | | | | | |
Denominator: | | | | | | |
Basic weighted-average common shares outstanding | |
| 11,239,049 | |
| 11,228,707 |
Dilutive shares | | | 524,914 | | | 3,297 |
Diluted weighted-average common shares outstanding | | | 11,763,963 | | | 11,232,004 |
| | | | | | |
Net income per share from continuing operations - Basic: | | $ | 1.42 | | $ | 1.44 |
Net income per share from discontinued operations - Basic: | | | - | | | (0.00) |
Net income per share - Basic: | | $ | 1.42 | | $ | 1.44 |
| | | | | | |
Net income per share from continuing operations - Diluted: | | $ | 1.36 | | $ | 1.44 |
Net income per share from discontinued operations - Diluted: | | | — | | | (0.00) |
Net income per share - Diluted: | | $ | 1.36 | | $ | 1.44 |
15. Commitments and Contingencies
Commitments
Refer to Note 10 “Financing and Operating Leases” for the one-for-five reverse stock split effective December 20, 2017, attributable to continuing and discontinued operations:
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| December 31, |
| |||||||
|
| 2017 |
| 2016 |
| 2015 |
| |||
Numerator: |
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|
|
Net (loss) income from continuing operations |
| $ | (22,010) |
| $ | 5,399 |
| $ | 31,261 |
|
Preferred stock dividends |
|
| — |
|
| — |
|
| (32,548) |
|
(Loss) income from continuing operations attributable to common stockholders |
|
| (22,010) |
|
| 5,399 |
|
| (1,287) |
|
Loss from a discontinued operation, net of taxes |
|
| — |
|
| — |
|
| (398) |
|
Net (loss) income attributable to common stockholders |
| $ | (22,010) |
| $ | 5,399 |
| $ | (1,685) |
|
Denominator: |
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|
|
Basic EPS—weighted average common shares outstanding |
|
| 11,117,454 |
|
| 11,165,445 |
|
| 8,963,223 |
|
Diluted EPS—weighted average common shares outstanding |
|
| 11,117,454 |
|
| 11,240,720 |
|
| 8,963,223 |
|
Basic and Diluted EPS: |
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|
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|
|
(Loss) earnings per share from continuing operations |
| $ | (1.98) |
| $ | 0.48 |
| $ | (0.15) |
|
Loss from a discontinued operation, net of taxes |
|
| — |
|
| — |
|
| (0.04) |
|
(Loss) earnings per share |
| $ | (1.98) |
| $ | 0.48 |
| $ | (0.19) |
|
The potentially dilutive effect of 993,587, 265,563, and 251,490, stock options and restricted stock units as of December 31, 2017, 2016, and 2015, respectively, has been excluded from the computation of diluted earnings per share as their inclusion would be anti-dilutive. The cumulative dividends in arrears related to Series A Preferred Stock were paid in conjunction withdetails on the Company’s IPO. See Note 10, “Series A Preferred Stock.”
13. Commitmentsfuture cash payments with respect to financing and Contingencies
Commitments
operating leases. During the normal course of business, the Company enters into non-cancellable agreements to purchase goods and services, including production equipment and information technology systems. The Company leases real property for its facilities under non-cancellable operating lease agreements. Land and facility leases expire at various dates between 20182023 and 20242029 and contain various provisions for rental adjustments and renewals. All of theseThe leases typically require the Company to pay property taxes, insurance and normal maintenance costs.
During the normal course of business, The Company’s financing leases expire at various dates between 2022 and 2026 and contain purchase options which the Company also enters into non-cancellable agreementsmay exercise to purchase goodskeep the machinery in use.
Contingencies
In accordance with applicable accounting guidance, the Company establishes an accrued liability when loss contingencies are both probable and services, including production equipmentestimable. In such cases, there may be an exposure to loss in excess of any amounts accrued. As a matter develops, the Company, in conjunction with any outside counsel handling the matter, evaluates on an ongoing basis whether such matter presents a loss contingency that is probable and information technology systems. The 2019 purchase obligation inestimable. Once the table below relatesloss contingency is deemed to be both probable and estimable, the Company will establish an accrued liability and record a single contract for the purchasecorresponding amount of materials.
Future cash payments with respect to operating leases and purchase obligations as of December 31, 2017 are as follows:
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|
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|
| Operating |
| Purchase |
| ||
|
| Leases |
| Obligations |
| ||
2018 |
| $ | 3,613 |
|
| 4,793 |
|
2019 |
|
| 2,823 |
|
| 9,720 |
|
2020 |
|
| 2,568 |
|
|
|
|
2021 |
|
| 2,291 |
|
|
|
|
2022 |
|
| 1,008 |
|
|
|
|
Thereafter |
|
| 1,059 |
|
|
|
|
Total |
| $ | 13,362 |
| $ | 14,513 |
|
expense. The Company incurred rent expense under non-cancellable operating leases during the years ended December 31, 2017, 2016 and 2015, totaling $3,803, 3,467, and $3,518, respectively.
Asset retirement obligations relate to legal obligationsexpenses professional fees associated with the removal of all leasehold improvements at the end of the lease term. The Company records all asset retirement obligations, which primarily relate to “make-good” clauses in operating leases, for its leased property containing leasehold improvements. The liability is accreted through charges to operating expenses. If the asset retirement obligation is settled for an amount other than the
F-21
carrying amount of the liability, the Company recognizes a gain or loss on settlement. The Company’s accretion expense incurred during the years ended December 31, 2017, 2016litigation claims and 2015 was immaterial. As of December 31, 2017 and 2016, the Company’s asset retirement obligations included in “Other long-term liabilities” in the Consolidated Balance Sheets were $620 and $602, respectively.assessments as incurred.
Contingencies
In Re CPI Card Group Inc. Securities Litigation, Case No. 1:16-CV-04531 (S.D.N.Y.)
On June 15, 2016, two purported CPI stockholders filed putative class action lawsuits captioned Vance, et al.Smart Packaging Solutions SA v. CPI Card Group Inc., et al. and Chipman, et al. v. CPI Card Group Inc.,in the United States District Court for the Southern District of New York against CPI, certain of its former officers and current and former directors, along with the sponsors of and the financial institutions who served as underwriters for CPI’s October 2015 initial public offering (“IPO”). The complaints, purportedly brought on behalf of all purchasers of CPI common stock pursuant to the October 8, 2015 Registration Statement filed in connection with the IPO, assert claims under §§11 and 15 of the Securities Act of 1933, as amended (the “Securities Act”) and seek, among other things, damages and costs. In particular, the complaints allege that the Registration Statement contained false or misleading statements or omissions regarding CPI’s customers’ (i) purchases of Europay, MasterCard, and VISA chip cards (collectively, “EMV cards”) during the first half of fiscal year 2015 and resulting EMV card inventory levels, and (ii) capacity to purchase additional EMV cards in the fourth quarter of fiscal year 2015, and the remainder of the fiscal year ended December 31, 2015. The complaints allege that these actions artificially inflated the price of CPI common stock issued pursuant to the IPO.
On August 30, 2016, the Court consolidated the Vance and Chipman actions and appointed lead plaintiff and lead counsel pursuant to the Private Securities Litigation Reform Act (the “PSLRA”April 20, 2021, Smart Packaging Solutions, SA (“SPS”). On October 17, 2016, lead plaintiff filed a consolidated amended complaint, assertingpatent infringement lawsuit against the same claims for violations of §§11 and 15 of the Securities Act. The amended complaint is based principally on the same theories as the original complaints, but adds allegations that the Registration Statement contained inadequate risk disclosures and failed to disclose (i) small and mid-size issuers’ slower-than-anticipated conversion to EMV technology and (ii) increased pricing pressure and competition CPI faced in the EMV market.
On November 16, 2016, the Company filed a motion to dismiss the amended complaint, which was denied by the court on October 30, 2017.
The Company believes these claims are without merit and intends to defend the actions vigorously. Given the current stage of these matters, the range of any potential loss is not probable or estimable and no accrual has been recognized as of December 31, 2017.
Heckermann v. Montross, et al., Case No. 1:17-CV-01673 (D. Del.)
On November 20, 2017, a purported CPI stockholder filed a shareholder derivative complaint in the United States District Court for the District of Delaware againstseeking an unspecified amount of damages and equitable relief. In the complaint, SPS alleges that the Company infringed 4 patents that SPS has exclusively licensed
70
from Feinics AmaTech Teoranta. The patents all relate to antenna technology. SPS alleges that the Company incorporates the patented technology into its products that use contactless communication. The Company does not manufacture antennas; it purchases certain antenna-related components from SPS and a number of CPI’s former officers and current and former directors, alongother suppliers. The Company was served with the sponsors of CPI’s October 2015 IPO (with CPI named as the nominal defendant). The derivative complaint is based principally on the same set of factual allegations underlying In Re CPI Card Group Inc. Securities Litigation, and asserts claims under §§10(b) and 20(a) of the Securities Exchange Act of 1934, as amended, and Rule 10b-5 thereunder, and for, inter alia, purported breaches of fiduciary duties, unjust enrichment and waste of corporate assets. It alleges false or misleading statements and omissionsis in the Registration Statement filed by CPI in connection with its IPO and subsequent public filings and statements and seeks, among other things, injunctive relief, damages and costs.
process of preparing an answer. The Company believes theseintends to investigate and pursue its rights relating to the claims are without merit and intends to defend the actionsuit vigorously. GivenHowever, no assurance can be given that this matter will be resolved favorably. Due to the current stage of this matter, the Company is unable to predict the outcome or the possible loss or range of loss, if any, potential loss is not probable or estimableassociated with this matter, and no accrual0 liability has been recognizedrecorded as of December 31, 2017.
Gemalto S.A. v. CPI Card Group Inc. (2 cases)
First case. This suit was initially filed by Gemalto S.A. (“Gemalto”) against the Company in the United States District Court for the Western District of Texas in October 2015. The complaint alleged that the Company infringed a
F-22
now-expired Gemalto patent by incorporating into the Company’s products microchips that allegedly practice the EMV standard. The Company successfully moved to transfer the lawsuit to the District of Colorado, answered the complaint, and filed counterclaims that the asserted patent was invalid and unenforceable, and that Gemalto’s lawsuit was a “sham” intended to interfere with the Company’s IPO and business relationships. Gemalto answered the Company’s counterclaims in February 2016. In March 2016, Gemalto provided specific infringement contentions, which named CPI products that incorporate microchips supplied by two specific vendors.
On May 31, 2016, the Company filed an Inter Partes Review ("IPR") petition with the United States Patent & Trademark Office’s Patent Trial & Appeal Board (“PTAB”), seeking re-examination of Gemalto’s asserted patent. On July 11, 2016, the United States District Court for the District of Colorado granted the Company’s motion to stay the litigation pending the PTAB’s consideration of the Company’s challenge to the patentability of asserted claims. The petition was granted as to all of the independent claims of Gemalto’s patent on November 9, 2016. The PTAB also granted the Company’s petition as to certain dependent claims, which are claims that rely upon and incorporate an independent claim. The PTAB heard oral argument on the IPR on August 4, 2017.
Second case. On May 3, 2016, Gemalto filed a second patent infringement action against CPI in the United States District Court for the District of Colorado. The complaint alleged that the Company infringed a Gemalto patent on networked smartcard printing by way of the Company’s Card@Once offering. Gemalto provided initial infringement contentions to the Company in July 2016, and amended its contentions in October 2016. During May 2017, the Company filed an IPR petition with the PTAB, seeking re-examination of Gemalto’s asserted patent.
On September 28, 2017, the Company reached a settlement with Gemalto to resolve both lawsuits. Under the terms of the settlement, the Company made a one-time payment of $750 in the fourth quarter of 2017, which is recorded in “Selling, General and Administrative” expenses in the Consolidated Statement of Operations during the during year ended December 31, 2017. The settlement resulted in the dismissal of both lawsuits with prejudice, and also includes a mutual covenant not to sue for a period of 18 months.
2021.
In addition to the mattersmatter described above, the Company ismay be subject to routine legal proceedings in the ordinary course of business. The Company believes that the ultimate resolution of any such matters will not have a material adverse effect on ourits business, financial condition or results of operations.
14.Estimated Sales Tax Liability
The Company is evaluating a state sales tax liability analysis for state and local jurisdictions in which it has economic nexus. It is probable that the Company will be subject to sales tax liabilities plus interest and penalties relating to historical activity in certain states. The estimated liability for sales tax as of December 31, 2021 and 2020 was $1,019 and $1,696, respectively, and is recorded in accrued expenses in the consolidated balance sheets. The liability changed from the original estimate recorded in prior periods primarily due to the Company remitting cash to the proper state tax authorities for historical sales tax and interest. The Company may be subject to examination by the relevant state and local tax authorities. Due to the estimates involved in the analysis, the liability may change in the future. The Company is unable to predict a range of additional loss that is reasonably possible. Sales tax recovered from customers reduces the estimated expense when it is received or probable of collection. Future changes to the liability estimate that impact the consolidated statements of operations will be recorded within SG&A. During the year ended December 31, 2021 the Company recorded a sales tax benefit of $614 within SG&A for current activity relating to sales tax recovered from customers and net changes to the estimated liability.
16. Employee Benefit Plan
The Company maintains a qualified defined-contribution plan under the provisions of the Internal Revenue Code Section 401(k), which covers substantially all employees in the United States who meet certain eligibility requirements. Under the plan, participants may defer their salary subject to statutory limitations and may direct the contributions among various investment accounts.options. The Company matches 100% of the participant’s first 3% of deferrals and 50% matching on each of the 4th and 5th percent contributed by the participant. TheAs the Company operates the plan as a safe harbor 401(k) plan, the Company’s portionmatch is 100% vested at the time of the match.
The aggregate amounts charged to expense in connection with the plan were $1,236, $1,382,$1,604 and $1,049,$1,473 for the years ended December 31, 2017, 20162021 and 2015,2020, respectively.
15.17. Stock Based Compensation
CPI Card Group Inc. Omnibus Incentive Plan
On December 20, 2017, the Company effected a one-for-five reverse stock split of its common stock, whereby each lot of five shares of common stock issued and outstanding immediately prior to the reverse stock split was converted into and became one share of common stock. Share and per share amounts below reflect the one-for-five reverse stock split for all periods presented.
DuringIn October 2015, the Company adopted the CPI Card Group Inc. Omnibus Incentive Plan (the “Omnibus Plan”) pursuant to which cash and equity basedequity-based incentives may be granted to participating employees, advisors and directors. The Company had reserved 800,000On May 27, 2021, the Company’s stockholders approved an amendment and restatement of the Omnibus Plan to, among other things, increase the total number of shares of common stockthe Company’s Common Stock reserved and available for issuance thereunder by 1,000,000 shares resulting in a total of 2,200,000 shares of Common Stock issuable under the Omnibus Plan. Effective September 25, 2017, the Omnibus Plan was amended and restated, providing for an increase in the number of shares of common stock authorized for issuance thereunder by 400,000. The increase was made effective in the fourth quarter of
F-23
2017 by stockholder approval in accordance with applicable law, after which the Company had reserved 1,200,000 shares of common stock for issuance. As of December 31, 2017,2021, there were 175,134951,109 shares of Common Stock available for grant under the Omnibus Plan.
DuringFor the year ended December 31, 2017,2021, the Company granted 128,063 awards of non-qualified stock options, for 713,075 shares of common stock. Duringand during the third quarter of 2017,fiscal year ended December 31, 2020, the Company granteddid not grant any awards of 0n-qualified stock option awards in lieu of the regular cycle of Omnibus Plan awards that the Company would have otherwise made in the first quarter of 2018, and also in conjunction with the appointment of the Company’s President and Chief Executive Officer. All stock option grants have a 10-year term, and will generally vest ratably over a three-year period beginning on the first anniversary of the grant date.
options. The following is a summary of the activity in outstanding stock options under the Omnibus Plan:
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| | | | | | |
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|
| Weighted- |
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|
| Weighted- |
|
| Average |
| |
|
|
|
| Average |
|
| Remaining |
| |
|
|
|
| Exercise |
|
| Contractual Term |
| |
|
| Options |
| Price |
|
| (in Years) |
| |
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|
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|
Outstanding as of December 31, 2016 |
| 287,500 |
| $ | 42.86 |
|
|
|
|
Granted |
| 713,075 |
|
| 8.85 |
|
|
|
|
Forfeited |
| (63,265) |
|
| 40.96 |
|
|
|
|
Outstanding as of December 31, 2017 |
| 937,310 |
| $ | 17.11 |
|
| 9.20 |
|
Options vested and exercisable as of December 31, 2017 |
| 60,407 |
|
| 47.91 |
|
| 7.89 |
|
Options vested and expected to vest as of December 31, 2017 |
| 937,310 |
|
| 17.11 |
|
| 9.20 |
|
71
Weighted- | |||||||||
| | | | Weighted- | | | Average | | |
| | | | Average | | | Remaining | | |
| | | | Exercise | | | Contractual Term | | |
| | Options | | Price | | | (in Years) | | |
| | | | | | | | | |
Outstanding as of December 31, 2020 | | 706,372 | | $ | 15.20 | | | 6.44 | |
Granted | | 128,063 | | | 29.61 | | | 6.69 | |
Exercised | | (35,513) | | | 3.04 | | | - | |
Forfeited | | (20,087) | | | 23.33 | | | - | |
Outstanding as of December 31, 2021 | | 778,835 | | $ | 18.02 | | | 5.59 | |
Options vested and exercisable as of December 31, 2021 | | 651,478 | | $ | 15.76 | | | 5.37 | |
Options vested and expected to vest as of December 31, 2021 | | 778,835 | | $ | 18.02 | | | 5.59 | |
The following is a summary of the activity in non-vestedunvested stock options under the Omnibus Plan:
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| Weighted- | |
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| Average | |
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| Grant Date | |
|
| Number |
| Fair Value | |
Non-vested as of December 31, 2016 |
| 287,500 |
| $ | 11.77 |
Granted |
| 713,075 |
|
| 2.43 |
Forfeited |
| (63,265) |
|
| 11.55 |
Vested |
| (60,407) |
|
| 13.35 |
Non-vested as of December 31, 2017 |
| 876,903 |
| $ | 4.08 |
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| | | | | |
| | | | Weighted- | |
| | | | Average | |
| | | | Grant-Date | |
| | Number | | Fair Value | |
Unvested as of December 31, 2020 | | 45,319 | | $ | 1.10 |
Granted | | 128,063 | | | 17.42 |
Vested | | (45,319) | | | 1.10 |
Forfeited | | (706) | | | 17.42 |
Unvested as of December 31, 2021 | | 127,357 | | $ | 17.42 |
Unvested stock options as of December 31, 20172021 of 127,357 have a seven year term and are expected to vest as follows:
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2018 |
| 313,818 |
2019 |
| 307,637 |
2020 |
| 253,022 |
2021 |
| 2,426 |
Total unvested options as of December 31, 2017 |
| 876,903 |
ratably over a two-year period on each anniversary of the grant date.
F-24
Stock options were granted under the Omnibus Plan at various times during the years ended December 31, 2017, 2016, and 2015. The fair value of the stock option awards granted for the year ended December 31, 2021, was
determined at the date of grant using either a Black-Scholes option-pricing model or a Monte Carlo simulation, with the following weighted-average assumptions:
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| Year ended December 31, | |||||||
|
| 2017 |
| 2016 |
| 2015 | |||
Expected term in years |
| 6.0 |
|
| 6.3 |
|
| 6.5 |
|
Volatility |
| 31.9 | % |
| 35.4 | % |
| 36.7 | % |
Risk-free interest rate |
| 2.0 | % |
| 1.5 | % |
| 1.8 | % |
Dividend yield(1) |
| 0.9 | % |
| 3.3 | % |
| 1.3 | % |
| | | |
| | December 31, 2021 | |
Expected term in years (1) | |
| |
Volatility (2) | | 78.6 | % |
Risk-free interest rate (3) | | 0.71 | % |
Dividend yield (4) | | 0 | % |
| (1) | The Company estimated the expected term based on the average of the weighted-average vesting period and the contractual term of the stock option awards by utilizing the “simplified method”, as the Company does not have sufficient available historical data to estimate the expected term of these stock option awards. |
| (2) | Volatility was based on a weighting of the Company’s historical volatility and its peer group, which is comprised of companies with similar industry, size, and financial leverage. |
| (3) | The risk-free interest rate was determined by using the United States Treasury rate for the period consistent with the expected option term described above. |
| (4) | The Company’s expected annual dividend yield |
Expected term –For option grants valued using a Black-Scholes option-pricing model, the Company estimated the expected term based on the average72
Volatility – The expected volatility percentage was based on a peer group average historical volatility over the expected option term. The peer group was based on financial technology companies that completed an initial public offering of common stock within the last 10 years.
Risk-free interest rate – The risk-free interest rate was determined by using the United States Treasury rate for the period that coincided with the expected option term.
Dividend yield – The estimated dividend yield is based on the Company’s recent historical dividend practice and the market value of its common stock.
The weighted average grant date fair value of options granted is as follows:
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| Year Ended December 31, | |||||||
|
| 2017 |
|
| 2016 |
|
| 2015 |
|
Weighted Average Grant Date Fair Value of Options Granted | $ | 2.43 |
| $ | 7.12 |
| $ | 17.03 |
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|
The following table summarizes the changes in the number of outstanding restricted stock units for the year ended December 31, 20172021 under the Omnibus Plan:
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|
| Weighted- | |
|
|
|
| Average | |
|
|
|
| Grant Date | |
|
| Shares |
| Fair Value | |
Outstanding as of December 31, 2016 |
| 54,075 |
| $ | 35.67 |
Granted |
| 47,870 |
|
| 15.55 |
Vested |
| (50,604) |
|
| 36.21 |
Forfeited |
| (1,664) |
|
| 21.75 |
Outstanding as of December 31, 2017 |
| 49,677 |
| $ | 16.20 |
| | | | | |
|
| |
| Weighted- | |
| | | | Average | |
| | | | Grant-Date | |
| | Shares | | Fair Value | |
Outstanding as of December 31, 2020 |
| 180,001 | | $ | 2.12 |
Granted | | 105,941 | | | 29.61 |
Forfeited |
| (23,960) | | | 2.60 |
Outstanding as of December 31, 2021 |
| 261,982 | | $ | 13.19 |
During the year ended December 31, 2017, the Company granted awards of restricted stock units for 47,870 shares of common stock. During the year ended December 31, 2016, the Company granted awards of restricted stock
F-25
units for 61,046 shares of common stock at a weighted-average grant-date fair value of $36.10. There were no awards of restricted stock units granted in 2015. The restricted stock unit awards contain conditions associated with continued employment or service,service. The restricted stock units granted in 2021 are expected to either vest ratably over a two-year period on each anniversary of the grant date or vest entirely on the year-and-a-half anniversary of the grant date. The Company granted 180,001 restricted stock units in 2020 and generallythey are expected to vest one year fromon the two-year anniversary of the date of grant. On the vesting dates,date, shares of common stockCommon Stock will be issued to the award recipients.
The following table summarizes the changes in the number of outstanding cash performance units for the year ended December 31, 2017:
|
|
|
|
|
|
|
|
|
| Weighted- | |
|
|
|
| Average | |
|
|
|
| Grant Date | |
|
| Shares |
| Fair Value | |
Outstanding as of December 31, 2016 |
| — |
| $ | — |
Granted |
| 932,837 |
|
| 0.71 |
Vested |
| — |
|
|
|
Forfeited |
| (109,922) |
|
| 0.71 |
Outstanding as of December 31, 2017 |
| 822,915 |
| $ | 0.71 |
|
|
|
|
|
|
During the year ended December 31, 2017, the Company granted awards of 932,837 cash performance units with a grant date fair value of $663. These awards will settle in cash in three annual payments on the first, second and third anniversaries of the date of grant. The cash performance units are based on the performance of the Company’s stock, measured based on the Company’s stock price at each of the first, second, and third anniversaries of the grant date compared to the Company’s stock price on the date of grant. The cash performance units were valued using a Monte Carlo simulation. The Monte Carlo model used the following valuation assumptions based on the 3-year term of the awards: leverage adjusted peer volatility of 48%, risk free rate of 1.5%, and a dividend yield of 4.0%, which was based on the Company’s dividend practice in March 2017 when the awards were granted. The Company recognizes compensation expense on a straight-line basis for each annual performance period. The cash performance units are accounted for as a liability and remeasured to fair value at the end of each reporting period. As of December 31, 2017, the Company recognized a liability of $106 in “Accrued expenses” and $89 in “Other long-term liabilities” in the Consolidated Balance Sheet for unsettled cash performance units.
Compensation expense for the Omnibus Plan for the years ended December 31, 2017, 2016,2021 and 20152020 was $2,360, $2,770,$1,250 and $239,$136, respectively. As of December 31, 2017,2021, the total unrecognized compensation expense related to unvested options and restricted stock units and cash performance unit awards under the Omnibus Plan was $2,211,$4,384, which the Company expects to recognize over an estimated weighted average period of 1.71.61 years.
CPI Holdings I, Inc. Amended and Restated 2007 Stock Option Plan
In 2007, the Company’s Board of Directors adopted the CPI Holdings I, Inc. Amended and Restated 2007 Stock Option Plan (the “Option Plan”). Under the provisions of the Option Plan, stock options may be granted to employees, directors, and consultants at an exercise price greater than or equal to (and not less than) the fair market value of a share on the date the option is granted.
As a result of the Company’s adoption of its Omnibus Plan, as further described above, no further awards will be made under the Option Plan. The outstanding stock options under the Option Plan are non-qualified, have a 10-year life and are fully vested as of December 31, 2017.
F-26
The following table summarizes the changes in the number of outstanding stock options under the Option Plan for the year ended December 31, 2017:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Weighted- |
|
|
|
|
|
|
|
| Average |
|
|
|
|
|
|
|
| Remaining |
|
|
|
|
| Weighted- Average |
| Contractual Term |
| |
|
| Options |
| Exercise Price |
| (in Years) |
| |
|
|
|
|
|
|
|
|
|
Outstanding and Exercisable as of December 31, 2016 |
| 43,266 |
| $ | 0.002 |
|
|
|
Granted |
| — |
|
| — |
|
|
|
Exercised |
| (36,666) |
|
| 0.002 |
|
|
|
Forfeited |
| — |
|
| — |
|
|
|
Outstanding and Exercisable as of December 31, 2017 |
| 6,600 |
| $ | 0.002 |
| 5.49 |
|
|
|
|
|
|
|
|
|
|
Compensation expense and unrecorded compensation expense related to options previously granted under the Option Plan, for the years ended December 31, 2017, 2016 and 2015, were de minimis.
Other Stock-Based Compensation Awards
During June 2015, the Company issued 38,332 restricted shares of common stock to certain executives of the Company at a weighted-average grant-date fair value of $47.40. There are no outstanding unvested restricted shares of common stock as of December 31, 2017. The terms of the unvested restricted shares of common stock provide voting and regular dividend rights to the holders of the restricted shares of common stock, and accordingly are included in weighted-average shares outstanding in the Company’s basic earnings per share calculation. See Note 12 “Earnings per Share”.
During the year ended December 31, 2017, of the remaining 18,972 of unvested restricted stock awards that were outstanding, 9,486 shares vested, and the remaining 9,486 shares were forfeited. The executive who held the remaining 18,972 unvested restricted shares changed employment status to a consultant during the first quarter of 2017, and accordingly, the Company remeasured the awards on the date of the change in employment status and reduced stock-based compensation expense by $143. Compensation expense related to these awards for the years ended December 31, 2017, 2016, and 2015, was $(371), $809, and $646, respectively.
16.18. Segment Reporting
The Company has identified reportable segments as those consolidated subsidiaries that represent 10% or more of its revenue,net sales, EBITDA (as defined below), or total assets, or subsidiaries whichwhen the Company believes information about the segment would be useful to the readers of the financial statements from a qualitative perspective.statements. The Company’s chief operating decision maker is its Chief Executive Officer who is charged with management of the Company and is responsible for the evaluation of operating performance and decision making about the allocation of resources to operating segments based on measures, such as revenuenet sales and EBITDA.
EBITDA is the primary measure used by the Company’s chief operating decision maker to evaluate segment operating performance. As the Company uses the term, EBITDA is defined as income from continuing operations before interest expense, income taxes, depreciation and amortization. The Company’s chief operating decision maker believes EBITDA is a meaningful measure and is useful as a supplement to GAAP measures as it represents a transparent view of the Company’s operating performance that is unaffected by fluctuations in property, equipment and leasehold improvement additions. The Company’s chief operating decision maker uses EBITDA to perform periodic reviews and comparison of operating trends and to identify strategies to improve the allocation of resources amongst segments.
As of December 31, 2017,2021, the Company’s reportable segments arewere as follows:
|
|
F-27
|
|
|
|
Debit and Credit Segment
The U.S. Debit and Credit segment primarily produces Financial Payment Cards and provides integrated card services to card-issuing banks primarily in the United States. Products manufactured by this segment primarily include EMV and non-EMV credit cards, debitFinancial Payment Cards, including contact and contactless cards, and prepaid debit cards issued on the networks of the Payment Card Brands,Earth Elements Eco-Focused Cards. The Company also sells Card@Once instant card issuance systems,solutions, and private label credit cards that are not issued on the networks of the Payment Cards Brands (including general purpose reloadable, gift, payrollBrands. The Company provides CPI On-Demand services, where images, personalized payment cards, and employee benefit, government disbursement, incentive, and transit cards).related collateral are produced on a one-by-one, on demand basis for customers. This segment also provides a variety of integrated card services, including card personalization and fulfillment services and
73
instant issuance.issuance services. The U.S. Debit and Credit segment operations are each certifiedaudited for compliance by multiple global Payment Card Brands and, where required byBrands. Many of the Company’s customers certifiedrequire CPI to be in compliancecomply with the standards of the PCI Security Standards Council. These operating segments have been aggregated into a single reportable segment due to similarities in the nature of the products and services sold by these subsidiaries, a common customer base, the substantial degree of integration and redundancy across the segments, and utilization of centrally shared sales, marketing, quality and planning departments. Separate information about these segments would not be useful to the readers of the financial statements.
Prepaid Debit Segment
The U.S. Prepaid Debit segment primarily provides integrated prepaid card services to prepaid debit card issuersPrepaid Debit Card providers in the United States. Services provided includeStates, including tamper-evident security packaging, card personalization and fulfillment and CPI on Demand services, where the Company is able to produce all images, personalized payment cards and related collateral on a one-by-one, on demand, basis for its customers, enabling individualized offerings and reducing waste.packaging. This segment also produces Financial Payment Cards issued on the networks of the Payment Card Brands that are included in the tamper-evident security packages mentioned above.packages. The U.S. Prepaid Debit segment operation is certifiedaudited for compliance by multiple global Payment Card Brands, and is certifiedBrands. Many of the Company’s customers require CPI to be in compliancecomply with the standards of the PCI Security Standards Council.
Other
The U.K. LimitedOther segment primarily produces retail cards, such as gift and loyalty cards for customers in the United Kingdom and continental Europe. This segment also provides card personalization, packaging and fulfillment services. The U.K. Limited segment operations are not certified by the Payment Card Brands, nor are they PCI certified, but are certified to be in compliance with ISO 27001 standards.includes corporate expenses.
The “Other” category includes the Company’s corporate activities and less significant operating segments that derive their revenue from the production of Financial Payment Cards and retail gift cards in Canada (CPI—Canada) and, through 2015, the U.K. (CPI—Petersfield). For additional information regarding the Company’s decision to shut-down the CPI—Petersfield facility during the third quarter of 2015, see Note 1 “Business.”
Performance Measures of Reportable Segments
RevenueNet sales and EBITDA from continuing operations of the Company’s reportable segments for the years ended December 31, 2017, 20162021 and 20152020 were as follows:
| | | | | | | | | | | | |
| | Net Sales | | EBITDA | ||||||||
| | December 31, | | December 31, | ||||||||
|
| 2021 |
| 2020 |
| 2021 |
| 2020 | ||||
Debit and Credit |
| $ | 296,204 |
| $ | 250,427 |
| $ | 87,499 |
| $ | 64,522 |
Prepaid Debit | | | 79,213 | |
| 63,596 | | | 29,156 | |
| 22,156 |
Other | | | — | |
| — | |
| (47,127) | |
| (31,569) |
Intersegment eliminations(a) | |
| (298) | |
| (1,834) | |
| — | |
| — |
Total: |
| $ | 375,119 |
| $ | 312,189 |
| $ | 69,528 |
| $ | 55,109 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Revenue |
| EBITDA |
| ||||||||||||||
|
| December 31, |
| December 31, |
| ||||||||||||||
|
| 2017 |
| 2016 |
| 2015 |
| 2017 |
| 2016 |
| 2015 |
| ||||||
U.S. Debit and Credit |
| $ | 158,899 |
| $ | 208,795 |
| $ | 263,668 |
| $ | 11,469 |
| $ | 52,090 |
| $ | 78,981 |
|
U.S. Prepaid Debit |
|
| 61,132 |
|
| 60,065 |
|
| 65,878 |
|
| 19,244 |
|
| 18,646 |
|
| 22,993 |
|
U.K Limited |
|
| 31,119 |
|
| 29,689 |
|
| 34,361 |
|
| 2,305 |
|
| 2,839 |
|
| 3,572 |
|
Other |
|
| 11,049 |
|
| 13,110 |
|
| 17,420 |
|
| (32,538) |
|
| (28,063) |
|
| (22,145) |
|
Intersegment eliminations(a) |
|
| (7,337) |
|
| (2,959) |
|
| (7,217) |
|
| — |
|
| — |
|
| — |
|
Total: |
| $ | 254,862 |
| $ | 308,700 |
| $ | 374,110 |
| $ | 480 |
| $ | 45,512 |
| $ | 83,401 |
|
| (a) |
| Amounts include the |
F-28
The following table provides a reconciliation of total segment EBITDA from continuing operations to “Net (loss) income from continuing operations”Net Income for the years ended December 31, 2017, 20162021 and 2015:2020:
|
|
|
|
|
|
|
|
|
|
|
|
| December 31, |
| |||||||
|
| 2017 |
| 2016 |
| 2015 |
| |||
Total segment EBITDA from continuing operations |
| $ | 480 |
| $ | 45,512 |
| $ | 83,401 |
|
Interest, net |
|
| (20,848) |
|
| (20,044) |
|
| (18,328) |
|
Income tax benefit (expense) |
|
| 16,372 |
|
| (3,142) |
|
| (17,846) |
|
Depreciation and amortization |
|
| (18,014) |
|
| (16,927) |
|
| (15,966) |
|
Net (loss) income from continuing operations |
| $ | (22,010) |
| $ | 5,399 |
| $ | 31,261 |
|
| | | | | | |
| | December 31, | ||||
|
| 2021 |
| 2020 | ||
Total segment EBITDA |
| $ | 69,528 |
| $ | 55,109 |
Interest, net | |
| (30,608) | |
| (25,397) |
Income tax (expense) benefit | | | (7,881) | | | 3,305 |
Depreciation and amortization | |
| (15,098) | |
| (16,827) |
Net loss from discontinued operations | | | — | | | (61) |
Net Income |
| $ | 15,941 |
| $ | 16,129 |
Balance Sheet Data of Reportable Segments
Total assets of the Company’s reportable segments as of December 31, 20172021 and 20162020 were as follows:
| | | | | | | |
| | December 31, |
| ||||
|
| 2021 |
| 2020 |
| ||
Debit and Credit |
| $ | 210,492 |
| $ | 215,846 | |
Prepaid Debit | | | 31,480 | |
| 34,734 | |
Other | | | 26,168 | |
| 15,571 | |
Total assets | | $ | 268,140 |
| $ | 266,151 | |
|
|
|
|
|
|
|
|
|
| December 31, |
| ||||
|
| 2017 |
| 2016 |
| ||
U.S. Debit and Credit |
| $ | 164,397 |
| $ | 205,417 |
|
U.S. Prepaid Debit |
|
| 33,130 |
|
| 23,509 |
|
U.K. Limited |
|
| 22,640 |
|
| 26,060 |
|
Other |
|
| 13,838 |
|
| 9,434 |
|
Total assets: |
| $ | 234,005 |
| $ | 264,420 |
|
74
Capital Expenditures of Reportable Segments
Plant, Equipment and Leasehold Improvement Additions of Geographic Locations
Plant, equipment and leasehold improvement additionsTotal capital expenditures of the Company’s geographical locations for the years ended December 31, 2017, 2016 and 2015 were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
| December 31, |
| |||||||
|
| 2017 |
| 2016 |
| 2015 |
| |||
U.S. |
| $ | 7,164 |
| $ | 13,169 |
| $ | 19,129 |
|
Canada |
|
| 172 |
|
| 263 |
|
| 275 |
|
Total North America |
|
| 7,336 |
|
| 13,432 |
|
| 19,404 |
|
U.K. |
|
| 1,540 |
|
| 1,447 |
|
| 659 |
|
Total plant, equipment and leasehold improvement additions |
| $ | 8,876 |
| $ | 14,879 |
| $ | 15,568 |
|
Net Sales of Geographic Locations
Net sales of the Company’s geographic locations for the years ended December 31, 2017, 2016 and 2015 were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
| December 31, |
| |||||||
|
| 2017 |
| 2016 |
| 2015 |
| |||
U.S. |
| $ | 214,136 |
| $ | 262,544 |
| $ | 316,111 |
|
Canada |
|
| 9,535 |
|
| 11,998 |
|
| 12,541 |
|
Total North America |
|
| 223,671 |
|
| 274,542 |
|
| 328,652 |
|
U.K. |
|
| 25,638 |
|
| 25,705 |
|
| 36,954 |
|
Other(a) |
|
| 5,553 |
|
| 8,453 |
|
| 8,504 |
|
Total net sales |
| $ | 254,862 |
| $ | 308,700 |
| $ | 374,110 |
|
|
|
F-29
Long-Lived Assets of Geographic Segments
Long-lived assets of the Company’s geographicreportable segments as of December 31, 20172021 and 20162020 were as follows:
|
|
|
|
|
|
|
|
|
| December 31, |
| ||||
|
| 2017 |
| 2016 |
| ||
U.S. |
| $ | 130,767 |
| $ | 157,773 |
|
Canada |
|
| 911 |
|
| 2,899 |
|
Total North America: |
|
| 131,678 |
|
| 160,672 |
|
U.K. |
|
| 12,705 |
|
| 11,091 |
|
Total long-lived assets |
| $ | 144,383 |
| $ | 171,763 |
|
| | | | | | |
| | December 31, | ||||
|
| 2021 |
| 2020 | ||
Debit and Credit |
| $ | 6,826 |
| $ | 5,179 |
Prepaid Debit | | | 2,774 | |
| 1,548 |
Other | | | 474 | |
| 366 |
Total company capital expenditures | | $ | 10,074 |
| $ | 7,093 |
Net Sales to Geographic Location; Property, Equipment and Leasehold Improvements and Long-Lived assets by Geographic Segments
Each of the Company’s Net Sales, Property, Equipment and Leasehold Improvements, and Long-Lived assets relating to geographic locations outside of the United States is insignificant.
Net Sales by Product and Services
Net sales from products and services sold by the Company for the years ended December 31, 2017, 20162021 and 20152020 were as follows:
| | | | | | | |
| | December 31, | |||||
|
| 2021 |
| 2020 |
| ||
Product net sales(a) |
| $ | 199,586 | | $ | 171,968 | |
Services net sales(b) | | | 175,533 | |
| 140,221 | |
Total net sales: |
| $ | 375,119 |
| $ | 312,189 |
|
|
|
|
|
|
|
|
|
|
|
|
|
| December 31, |
| |||||||
|
| 2017 |
| 2016 |
| 2015 |
| |||
Product net sales(a) |
| $ | 125,306 |
| $ | 168,510 |
| $ | 241,609 |
|
Services net sales(b) |
|
| 129,556 |
|
| 140,190 |
|
| 132,501 |
|
Total net sales: |
| $ | 254,862 |
| $ | 308,700 |
| $ | 374,110 |
|
| (a) |
|
|
| (b) |
|
|
17. Quarterly Financial Information (Unaudited)
Summarized quarterly results for the years ended December 31, 2017 and 2016 were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Year Ended |
| |||||
|
|
|
|
|
|
|
|
|
| December 31, |
| |||||
2017 by Quarter: |
| Q1 |
| Q2 |
| Q3 |
| Q4 |
| 2017 |
| |||||
Net sales |
| $ | 56,008 |
|
| 65,846 |
|
| 68,044 |
| $ | 64,964 |
| $ | 254,862 |
|
Gross profit |
|
| 16,095 |
|
| 19,286 |
|
| 20,976 |
|
| 18,634 |
|
| 74,991 |
|
Net loss |
|
| (4,506) |
|
| (2,161) |
|
| (735) |
|
| (14,608) |
|
| (22,010) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted loss per share |
| $ | (0.40) |
| $ | (0.20) |
| $ | (0.05) |
| $ | (1.31) |
| $ | (1.98) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Year Ended |
| |||||
|
|
|
|
|
|
|
|
|
| December 31, |
| |||||
2016 by Quarter: |
| Q1 |
| Q2 |
| Q3 |
| Q4 |
| 2016 |
| |||||
Net sales |
| $ | 86,393 |
| $ | 73,725 |
| $ | 81,202 |
| $ | 67,380 |
| $ | 308,700 |
|
Gross profit |
|
| 29,692 |
|
| 22,707 |
|
| 29,063 |
|
| 20,436 |
|
| 101,898 |
|
Net income (loss) |
|
| 5,714 |
|
| (328) |
|
| 4,026 |
|
| (4,014) |
|
| 5,399 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted earnings (loss) per share |
| $ | 0.50 |
| $ | (0.05) |
| $ | 0.35 |
| $ | (0.36) |
| $ | 0.48 |
|
F-30
18.19. Subsequent Events
DuringOn February 201828, 2022, CPI CG Inc., a wholly-owned subsidiary of the Company, madeprovided notice of its intention to redeem $20,000 aggregate principal amount of its 8.625% Senior Secured Notes at a redemption price equal to 103% of the decisionprincipal amount thereof plus accrued and unpaid interest thereon to consolidate three personalization operations in the United States into two facilities to better enable the Company to optimize operations and achieve market-leading quality and service with a cost-competitive business model.redemption date. The Company plans to use the available borrowing capacity under the ABL Revolver to fund this redemption, which is expected to be substantially completecompleted in the first quarter of 2022. The notice of redemption was sent by the trustee to the registered holders of the notes in accordance with the transition inrequirements of the third quarterindenture, and this report does not constitute a notice of 2018.redemption.
Additionally, on March 3, 2022, the Company and CPI CG Inc. as borrower, entered into an amendment to the ABL Revolver to, among other things, increase the available borrowing capacity to $75,000, from $50,000. In connection with this amendment, the Company incurred certain customary costs. Borrowings under the amended ABL Revolver will bear interest at a rate per annum that ranges from the SOFR Rate plus 1.25% to 1.75%, based on the average daily borrowing capacity under the ABL Revolver over the most recently completed quarter.
F-31
75
(This page has been left blank intentionally.)
F-32
76
Item 9. | Changes in and Disagreements with Accountants on Accounting and Financial Disclosure |
Item 9.Changes in and Disagreements With Accountants on Accounting and Financial Disclosure
None.
Item 9A. Controls and ProceduresItem 9A.Controls and Procedures
Evaluation of Disclosure Controls and Procedures
We maintainUnder the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of our disclosure controls and procedures (as defined in RuleRules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934 (the “Exchange Act”)) as amended (the "Exchange Act")), thatof December 31, 2021. Disclosure controls and procedures are designed to assureensure that information required to be disclosed by us in our Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the SEC'sSEC’s rules and forms, and that such information is accumulated and communicated to our management, including our principal executive officer and principal financial officer, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. Based on this evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that, as appropriate, to allow timely decisions regarding required disclosures.
Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness ofDecember 31, 2021, our disclosure controls and procedures pursuantwere not effective due to Exchange Act Rule 13a-15(b). Basedmaterial weaknesses in internal control over financial reporting as described below in Management’s Report on this evaluation, Internal Control Over Financial Reporting. As previously disclosed in the September 30, 2021 Form 10-Q, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were not effective based on their evaluation as of December 31, 2017.
LimitationsSeptember 30, 2021, and, based on Effectiveness of Controls
Our management, includinga re-evaluation, our Chief Executive Officer and Chief Financial Officer do not expectconcluded that our disclosure controls and procedures will prevent all errorswere not effective as of December 31, 2020, March 31, 2021 and fraud. In designing and evaluating the disclosure controls and procedures, management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable, not absolute, assurance of achieving the desired control objectives. Further, the design of a control system must reflect the fact that there are resource constraints, and management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management’s override of the control.June 30, 2021.
The design of any system of controls also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Over time, controls may become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected.
Management’s Report on Internal Control Over Financial Reporting
Our managementManagement, including our principal executive officer and principal financial officer, is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rules 13a-15(f) and 15d-15(f) underfor the Exchange Act. InternalCompany. The Company’s internal control over financial reporting is a processwas designed under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, to provide reasonable assurance regarding the reliability of financial reporting and the preparation and fair presentation of published financial statements for external purposes in accordance with accounting principles generally accepted in the United States.
As of December 31, 2017, our management assessed the effectiveness of ouraccounting principles. The Company’s internal control over financial reporting usingincludes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the Company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the Company are being made only in accordance with authorizations of the Company’s management and directors; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the Company’s assets that could have a material effect on the financial statements.
A material weakness is a deficiency, or combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of a company’s annual or interim financial statements would not be prevented or detected on a timely basis.
Management has assessed the effectiveness of the Company’s internal control over financial reporting as of December 31, 2021 based on the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission in Internal Control-Integrated Framework or 2013 Framework.(2013). Based on thisthat assessment, we identified a material weakness in our risk assessment primarily due to an inadequate complement of personnel with requisite experience in the design and implementation of controls. This resulted in ineffective general information technology controls over user access administration within the revenue system at certain locations, and change management related to the development of customized reports. Due to the general information technology control deficiencies, certain process-level automated controls and manual controls that are dependent on the completeness and accuracy of information derived from the affected information technology systems were also ineffective because they could have been adversely impacted. The deficiencies in risk assessment also resulted in ineffective (i) journal entry controls due to inadequate review for segregation of duties on journal entries processed in batches, and (ii) controls over the accuracy of the sales price for sales in certain locations. We also identified ineffective controls over review and authorization of certain transactions in the purchasing process due to inadequate communication and monitoring activities.
The material weaknesses did not result in any identified material misstatements to the financial statements and there were no changes to previously reported financial results. Based on these material weaknesses, management concluded that the Company’s internal control over financial reporting was not effective as of December 31, 2017,2021.
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Our independent registered public accounting firm, KPMG LLP, who audited the consolidated financial statements included in this Annual Report on Form 10-K, issued an adverse opinion on the effectiveness of the Company’s internal control over financial reporting as of December 31, 2021. KPMG LLP's report appears on pages 50-51 of this Annual Report on Form 10-K.
Remediation of Material Weaknesses
We are in the process of enhancing our internal controls in the aforementioned areas to remediate the material weaknesses. We intend to implement training programs and hire additional resources with the appropriate skills and knowledge to address these internal control deficiencies. In addition, management is continuing to develop the design and implementation of internal controls to require appropriate reviews as well as retain documentation of those reviews with regards to our purchasing and revenue processes. We are also implementing new systems and automating certain processes to enhance our internal controls and to address these material weaknesses. We are assessing and revising the controls over user access administration and implementing monitoring activities over batch processing to ensure appropriate segregation of duties on journal entries processed in batches. We are also enhancing change controls relating to custom reports in certain information technology systems and performing additional analysis of source documentation to appropriately support information used primarily in the purchasing and revenue processes.
We continuously evaluate the effectiveness of our internal control over financial reporting was effective based on those criteria. This Annual Report does not include an attestation reportand may implement additional changes or remediation efforts as we implement the above actions. The deficiencies will be determined to be remediated when revised controls have been operating for a reasonable period of our independent registered public accounting firm duetime and have been tested to a transition period established by the rules of the SEC for newly public companies.determine they are operating effectively.
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Changes in Internal Control Overover Financial Reporting
There has been no changeDuring the quarter ended December 31, 2021 we remediated certain user access deficiencies regarding certain systems that were noted in our evaluation of controls and procedures previously reported as of September 30, 2021. We have hired additional resources in information technology, initiated trainings and begun implementing changes to improve controls in our purchasing and revenue processes. Except with respect to changes in connection with the initiatives to remediate the material weaknesses noted above, there were no other changes in the Company’s internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act)that occurred during the fourthfiscal quarter of 2017ended December 31, 2021 that hashave materially affected, or isare reasonably likely to materially affect, ourthe Company’s internal control over financial reporting.
Item 9B. | Other Information |
Item 9B.On March 3, 2022, the Company and CPI CG Inc., as borrower (the “Borrower”), entered into Amendment No. 1 to Credit Agreement (the “Amendment”), which amends that certain Credit Agreement, dated as of March 15, 2021 (the “ABL Revolver”), by and among the Company, the Borrower, the lenders from time to time party thereto and Wells Fargo Bank, National Association, as administrative agent.
The Amendment, among other things, increases the available borrowing capacity under the ABL Revolver to $75 million from $50 million, increases the uncommitted accordion feature to $25 million from $15 million,and revises the LIBOR rate provisions to provide for a successor benchmark using SOFR. Borrowings under the amended ABL Revolver will bear interest at a rate per annum that ranges from the SOFR Rate plus 1.25% to 1.75%, based on the average daily borrowing capacity under the ABL Revolver over the most recently completed quarter.
The foregoing description of the Amendment does not purport to be complete and is qualified in its entirety by reference to the Amendment and the amended and restated ABL Revolver attached thereto, which is included as Exhibit 10.30 to this report and is incorporated herein by reference.
Some of the lenders and their affiliates have engaged in, and may in the future engage in, investment banking and other commercial dealings in the ordinary course of business with the Company or its affiliates. They have received, or may in the future receive, customary fees and commissions for these transactions.
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Item 9C. | Disclosure Regarding Foreign Jurisdictions that Prevent Inspections |
Not applicable.
None.
PART III
Item 10. | Directors, Executive Officers and Corporate Governance |
Item 10.Directors, Executive Officers and Corporate Governance
The information required by this Item will be included in our definitive Proxy Statement for the 20182022 Annual Meeting of Stockholders (the “Proxy Statement”), which we expect to be filed within 120 days of the end of our fiscal year ended December 31, 20172021 and is incorporated herein by reference.
Item 11. | Executive Compensation |
Item 11.Executive Compensation
Information relating to our executive officer and director compensation is incorporated herein by reference to the Proxy Statement.
Item 12. | Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters |
Item 12.Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Information relating to security ownership of certain beneficial owners of our common stock and information relating to the security ownership of the registrant’s management is incorporated herein by reference to the Proxy Statement.
Item 13. | Certain Relationships and Related Transactions, and Director Independence |
Item 13.Certain Relationships and Related Transactions, and Director Independence
Information relating to certain relationships and related transactions and director independence is incorporated herein by reference to the Proxy Statement.
Item 14. | Principal Accountant Fees and Services |
Item 14.Principal Accountant Fees and Services
Information regarding principal accountant fees and services is incorporated herein by reference to the Proxy Statement.
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PART IV
Item 15. | Exhibits and Financial Statement Schedules |
Item 15.Exhibits and Financial Statement Schedules
The following documents are filed as part of this Form 10-K.
1. Financial Statements filed as a part of this document under Item 8.
Report of Independent Registered Public Accounting Firm
Consolidated Balance Sheets
Consolidated Statements of Operations and Comprehensive Income (Loss)Loss
Consolidated Statements of Stockholders’ Deficit
Consolidated Statements of Cash Flows
Notes to Consolidated Financial Statements
2. Financial Statement Schedule
All financial statement schedules have been omitted because they are not required, not applicable, or the required information is included in the financial statements or notes thereto included in this Annual Report on Form 10-K.
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2.1 | | | | |
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3.1* | | | | |
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4.1 | | | | |
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4.2* | | | | |
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4.3 | | | | |
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4.4 | | | | |
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10.1** | | | | |
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10.2** | | | | |
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10.3** | | | | |
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10.4** | | | |
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10.5** | | | | |
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10.6** | | | | |
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10.7** | | | | |
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10.14** | | | | |
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10.15** | | | | |
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10.16** | | | | |
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10.17** | | | | |
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10.18** | | | | |
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10.19** | | | | |
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10.20** | | | | |
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10.21** | | | | |
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10.22** | | | | |
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10.23** | | | | |
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10.24** | | | | |
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10.25** | | | | Form of Executive Restricted Stock Unit Agreement under the CPI Card Group Inc. Omnibus Incentive Plan(incorporated by reference to the Company’s Quarterly Report on Form 10-Q filed November 5, 2021). |
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10.26** | | | | |
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10.27** | | | | |
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10.28** | | | | |
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10.29* | | | | |
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10.30 | | | | |
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21.1* | | | | |
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23.1* | | | | Consent of Independent Registered Accounting Firm, KPMG LLP. |
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31.1* | | | | Certificate of Chief Executive Officer Required Under Section 302 of the Sarbanes-Oxley Act of 2002. |
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31.2* | | | | Certificate of Chief Financial Officer Required Under Section 302 of the Sarbanes-Oxley Act of 2002. |
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32.1* | | | | |
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101.INS* | | | | XBRL Instance |
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101.SCH* | | | | Inline XBRL Taxonomy Extension Schema Document. |
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101.CAL* | | | | Inline XBRL Taxonomy Extension Calculation Linkbase Document. |
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101.DEF* | | | | Inline XBRL Taxonomy Extension Definition Linkbase Document |
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101.LAB* | | | | Inline XBRL Taxonomy Extension Label Linkbase Document. |
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101.PRE* | | | | Inline XBRL Taxonomy Extension Presentation Linkbase Document. |
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104* | | | | Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101). |
* | Filed or furnished herewith. |
** Management contract or compensatory plan or arrangement.
Item 16.Form 10-K Summary
65None.
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SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, Act, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
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| CPI CARD GROUP INC. | |
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| Chief Financial Officer | |
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March | | |
KNOWN BY ALL PERSONS BY THESE PRESENTS, that the individuals whose signatures appear below hereby constitute and appoint Scott Scheirman and Lillian EtzkornAmintore Schenkel and each of them severally, as his or her true and lawful attorneys-in-fact and agents with full power of substitution and resubstitution for him or her and in his or her name, place and stead in any and all capacities to sign any and all amendments to this Annual Report on Form 10-K and to file the same, with all exhibits thereto, and other documents in connection therewith, with the Securities and Exchange Commission, granting unto said attorneys-in-fact and agents, full power and authority to do or perform each and every act and thing requisite and necessary to be done in connection therewith, as fully to all intents and purposes as he or she might or could do in person, hereby ratifying and confirming all that said attorneys-in-fact and agents or any of them, or of his substitute or substitutes, may lawfully do to cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, Act, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
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/s/ Scott Scheirman | | President, Chief Executive | | March |
Scott Scheirman | | Officer and Director | | |
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/s/ | | Chief Financial Officer | | March |
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/s/ | | Chief Accounting Officer | | March |
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/s/ Bradley Seaman | | Chairman of the Board | | March |
Bradley Seaman | | | | |
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/s/ | | Director | | March |
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/s/ | | Director | | March |
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/s/ Nicholas Peters | | Director | | March |
Nicholas Peters | | | | |
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/s/ | | Director | | March |
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Marc Sheinbaum | | | | |
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/s/ | | Director | | March |
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