UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
(Mark One)
⌧ Quarterly Report Pursuant to Section 13 or 15(d) of the Securities and Exchange Act of 1934
For the Quarterly Period Ended June 30, 2020.March 31, 2021.
or
◻ | Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 |
For the Transition Period from to
Commission File NumberNumber: 001-37584
CPI Card Group Inc.
(Exact name of the registrant as specified in its charter)
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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) |
(720) 681-6304
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the ActAct: None
Securities registered pursuant to Section 12(g) of :the Act: Common Stock $0.001 par value
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Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ⌧ No ◻
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ⌧ No ◻
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
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Large accelerated filer | ◻ | Accelerated filer | ◻ |
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Non-accelerated filer | ⌧ | Smaller reporting company | ☒ |
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| | Emerging growth company |
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If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☒◻
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes ☐ No ⌧
Number of shares of Common Stock, $0.001 par value, outstanding as of July 24, 2020: 11,229,819April 22, 2021: 11,230,482
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Part I — Financial Information | | | |
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Item 2 — Management’s Discussion and Analysis of Financial Condition and Results of Operations | | 22 | |
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Item 3 — Quantitative and Qualitative Disclosures About Market Risk | |
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2
PART I - Financial Information
Item 1. Financial Statements
CPI Card Group Inc. and Subsidiaries
Condensed Consolidated Balance Sheets
(Amounts in Thousands, Except Share and Per Share Amounts)
(Unaudited)
| | | | | | | | | | |||
| | June 30, | | December 31, | | March 31, | | December 31, | ||||
| | 2020 | | 2019 | | 2021 | | 2020 | ||||
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Assets | | | | | | | | | | | | |
Current assets: | | | | | | | | | | |||
Cash and cash equivalents | | $ | 54,445 | | $ | 18,682 | | $ | 24,884 | | $ | 57,603 |
Accounts receivable, net of allowances of $281 and $395, respectively | | 45,317 | | 42,832 | ||||||||
Accounts receivable, net of allowances of $237 and $289, respectively | | | 60,479 | | 54,592 | |||||||
Inventories | | 18,895 | | 20,192 | | | 33,490 | | 24,796 | |||
Prepaid expenses and other current assets | | 4,172 | | 6,345 | | | 5,193 | | 5,032 | |||
Income taxes receivable | | | 9,404 | | | 4,164 | | | 9,152 | | | 10,511 |
Total current assets | | 132,233 | | 92,215 | | | 133,198 | | 152,534 | |||
Plant, equipment, leasehold improvements and operating lease right-of-use assets, net | | 37,558 | | 42,088 | | | 38,188 | | 39,403 | |||
Intangible assets, net | | 28,504 | | 30,802 | | | 25,058 | | 26,207 | |||
Goodwill | | 47,150 | | 47,150 | | | 47,150 | | 47,150 | |||
Other assets | | | 1,059 | | | 1,232 | | | 2,700 | | | 857 |
Total assets | | $ | 246,504 | | $ | 213,487 | | $ | 246,294 | | $ | 266,151 |
Liabilities and stockholders’ deficit | | | | | | | | | | |||
Current liabilities: | | | | | | | | | | |||
Accounts payable | | $ | 15,042 | | $ | 16,482 | | $ | 21,792 | | $ | 18,883 |
Accrued expenses | | 28,718 | | 22,820 | | | 22,618 | | 28,149 | |||
Current portion of long-term debt | | | — | | 8,027 | |||||||
Deferred revenue and customer deposits | | | 1,097 | | | 468 | | | 1,316 | | | 1,868 |
Total current liabilities | | 44,857 | | 39,770 | | | 45,726 | | 56,927 | |||
Long-term debt | | 334,819 | | 307,778 | | | 317,503 | | 328,681 | |||
Deferred income taxes | | 6,924 | | 6,896 | | | 7,232 | | 7,409 | |||
Other long-term liabilities | | | 9,757 | | | 11,478 | | | 11,409 | | | 11,171 |
Total liabilities | | | 396,357 | | | 365,922 | | | 381,870 | | | 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 June 30, 2020 and December 31, 2019 | | - | | - | ||||||||
Commitments and contingencies (Note 14) | | | | | | |||||||
Series A Preferred Stock; $0.001 par value—100,000 shares authorized; 0 shares issued and outstanding at March 31, 2021 and December 31, 2020 | | | - | | - | |||||||
Stockholders’ deficit: | | | | | | | | | | |||
Common stock; $0.001 par value—100,000,000 shares authorized; 11,229,819 and 11,224,191 shares issued and outstanding at June 30, 2020 and December 31, 2019, respectively | | 11 | | 11 | ||||||||
Common stock; $0.001 par value—100,000,000 shares authorized; 11,230,482 shares issued and outstanding at March 31, 2021 and December 31, 2020 | | | 11 | | 11 | |||||||
Capital deficiency | | (111,935) | | (111,988) | | | (111,807) | | (111,858) | |||
Accumulated loss | | | (37,929) | | | (40,458) | | | (23,780) | | | (26,190) |
Total stockholders’ deficit | | | (149,853) | | | (152,435) | | | (135,576) | | | (138,037) |
Total liabilities and stockholders’ deficit | | $ | 246,504 | | $ | 213,487 | | $ | 246,294 | | $ | 266,151 |
See accompanying notes to condensed consolidated financial statements
3
CPI Card Group Inc. and Subsidiaries
Condensed Consolidated Statements of Operations and Comprehensive Income (Loss)
(Amounts in Thousands, Except Share and Per Share Amounts)
(Unaudited)
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| | Three Months Ended June 30, | | Six Months Ended June 30, | | Three Months Ended March 31, | ||||||||||||
| | 2020 |
| 2019 |
| 2020 |
| 2019 | | 2021 |
| 2020 | ||||||
Net sales: | | | | | | | | | | | | | | | | | | |
Products | | $ | 39,077 | | $ | 33,125 | | $ | 81,578 | | $ | 65,882 | | $ | 47,013 | | $ | 42,501 |
Services | | | 32,301 | | | 33,776 | | | 63,769 | | | 67,885 | | | 42,079 | | | 31,468 |
Total net sales | | | 71,378 | | | 66,901 | | | 145,347 | | | 133,767 | | | 89,092 | | | 73,969 |
Cost of sales: | | | | | | | | | | | | | | | | | | |
Products (exclusive of depreciation and amortization shown below) | | | 25,911 | | | 22,098 | | | 52,290 | | | 43,587 | | | 27,287 | | | 26,379 |
Services (exclusive of depreciation and amortization shown below) | | | 19,666 | | | 19,647 | | | 38,853 | | | 40,813 | | | 23,668 | | | 19,187 |
Depreciation and amortization | | | 2,649 | | | 2,775 | | | 5,342 | | | 5,465 | | | 2,416 | | | 2,755 |
Total cost of sales | | | 48,226 | | | 44,520 | | | 96,485 | | | 89,865 | | | 53,371 | | | 48,321 |
Gross profit | | | 23,152 | | | 22,381 | | | 48,862 | | | 43,902 | | | 35,721 | | | 25,648 |
Operating expenses, net: | | | | | | | | | | | | | ||||||
Operating expenses: | | | | | | | ||||||||||||
Selling, general and administrative (exclusive of depreciation and amortization shown below) | | | 19,141 | | | 16,792 | | | 35,683 | | | 33,210 | | | 16,146 | | | 16,663 |
Depreciation and amortization | | | 1,505 | | | 1,493 | | | 2,990 | | | 3,026 | | | 1,806 | | | 1,485 |
Litigation settlement gain | | | — | | | (6,000) | | | — | | | (6,000) | ||||||
Total operating expenses, net | | | 20,646 | | | 12,285 | | | 38,673 | | | 30,236 | ||||||
Total operating expenses | | | 17,952 | | | 18,148 | ||||||||||||
Income from operations | | | 2,506 | | | 10,096 | | | 10,189 | | | 13,666 | | | 17,769 | | | 7,500 |
Other expense, net: | | | | | | | | | | | | | | | | | | |
Interest, net | | | (6,772) | | | (6,438) | | | (12,860) | | | (12,762) | | | (8,976) | | | (6,088) |
Foreign currency (loss) | | | (25) | | | (1,321) | | | (33) | | | (1,280) | ||||||
Other (expense) income, net | | | (7) | | | (8) | | | (94) | | | 11 | ||||||
Other income (expense), net | | | 25 | | | (3) | ||||||||||||
Loss on debt extinguishment | | | (5,048) | | | (92) | ||||||||||||
Total other expense, net | | | (6,804) | | | (7,767) | | | (12,987) | | | (14,031) | | | (13,999) | | | (6,183) |
(Loss) income from continuing operations before income taxes | | | (4,298) | | | 2,329 | | | (2,798) | | | (365) | ||||||
Income tax benefit (expense) | | | 4,414 | | | (777) | | | 5,357 | | | (1,180) | ||||||
Net income (loss) from continuing operations | | | 116 | | | 1,552 | | | 2,559 | | | (1,545) | ||||||
Net (loss) income from discontinued operation, net of tax (Note 3) | | | (4) | | | (30) | | | (30) | | | 12 | ||||||
Net income (loss) | | $ | 112 | | $ | 1,522 | | $ | 2,529 | | $ | (1,533) | ||||||
Income from continuing operations before income taxes | | | 3,770 | | | 1,317 | ||||||||||||
Income tax (expense) benefit | | | (1,360) | | | 465 | ||||||||||||
Net income from continuing operations | | | 2,410 | | | 1,782 | ||||||||||||
Net loss from discontinued operations, net of tax (Note 1) | | | — | | | (26) | ||||||||||||
Net income | | $ | 2,410 | | $ | 1,756 | ||||||||||||
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Basic net income (loss) per share from continuing operations: | | $ | 0.01 | | $ | 0.14 | | $ | 0.23 | | $ | (0.14) | ||||||
Diluted net income (loss) per share from continuing operations: | | $ | 0.01 | | $ | 0.14 | | $ | 0.23 | | $ | (0.14) | ||||||
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Basic net income (loss) per share: | | $ | 0.01 | | $ | 0.14 | | $ | 0.23 | | $ | (0.14) | ||||||
Diluted net income (loss) per share: | | $ | 0.01 | | $ | 0.14 | | $ | 0.22 | | $ | (0.14) | ||||||
Basic and diluted earnings per share: | | | | | | | ||||||||||||
Earnings per share from continuing operations - Basic and Diluted: | | $ | 0.21 | | $ | 0.16 | ||||||||||||
Earnings per share - Basic and Diluted: | | $ | 0.21 | | $ | 0.16 | ||||||||||||
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Basic weighted-average shares outstanding: | | | 11,229,819 | | | 11,178,462 | | | 11,227,160 | | | 11,169,468 | | | 11,230,482 | | | 11,224,500 |
Diluted weighted-average shares outstanding: | | | 11,233,852 | | | 11,242,225 | | | 11,242,272 | | | 11,169,468 | | | 11,639,015 | | | 11,262,359 |
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Comprehensive income (loss): | | | | | | | | | | | | | ||||||
Net income (loss) | | $ | 112 | | $ | 1,522 | | $ | 2,529 | | $ | (1,533) | ||||||
Currency translation adjustment | | | — | | | - | | | — | | | 31 | ||||||
Reclassification adjustment to foreign currency loss | | | — | | | 1,329 | | | — | | | 1,329 | ||||||
Total comprehensive income (loss) | | $ | 112 | | $ | 2,851 | | $ | 2,529 | | $ | (173) | ||||||
Comprehensive income: | | | | | | | ||||||||||||
Net income | | $ | 2,410 | | $ | 1,756 | ||||||||||||
Total comprehensive income | | $ | 2,410 | | $ | 1,756 |
See accompanying notes to condensed consolidated financial statements
4
CPI Card Group Inc. and Subsidiaries
Condensed Consolidated Statements of Stockholders’ Deficit
(Dollars in Thousands)Thousands, Excludes per Share Amounts)
(Unaudited)
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| | | | | | | | | | Accumulated | | | | | | | | | | | | | | ||||||||
| | | | | | | | | | other | | | | | | | | | | | | | | ||||||||
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| Common Stock | | Capital | | Accumulated | | comprehensive | | | | Common Stock | | Capital | | Accumulated | | | |||||||||||||
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| Shares |
| Amount |
| deficiency |
| earnings (loss) |
| loss |
| Total |
| Shares | | Amount | | deficiency | | earnings (loss) | | Total | |||||||||
March 31, 2020 |
| 11,229,819 | | $ | 11 | | $ | (111,953) | | $ | (38,041) | | $ | — | | $ | (149,983) | ||||||||||||||
December 31, 2020 |
| 11,230,482 | | $ | 11 | | $ | (111,858) | | $ | (26,190) | | $ | (138,037) | |||||||||||||||||
Stock-based compensation | | | | | — | | | 18 | | | — | | | — | | | 18 | | | | | — | | | 51 | | | — | | | 51 |
Components of comprehensive (loss) income: | | | | | | | | | | | | | | | | | | ||||||||||||||
Components of comprehensive income: | | | | | | | | | | | | | | | |||||||||||||||||
Net income |
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| — | | | — | | | 112 | | | — | | | 112 |
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| — | | | — | | | 2,410 | | | 2,410 |
June 30, 2020 |
| 11,229,819 | | $ | 11 | | $ | (111,935) | | $ | (37,929) | | $ | — | | $ | (149,853) | ||||||||||||||
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| | | | | | | | | | Accumulated | | | |||||||||||||||||||
March 31, 2021 |
| 11,230,482 | | $ | 11 | | $ | (111,807) | | $ | (23,780) | | $ | (135,576) | |||||||||||||||||
| | | | | | | | | | other | | | | | | | | | | | | | | | | | |||||
| | Common Stock | | Capital | | Accumulated | | comprehensive | | | | | | | | | | | | | | | | | |||||||
| | Shares | | Amount | | deficiency | | earnings (loss) | | loss | | Total | | | | | | | | | | | | | | | |||||
December 31, 2019 | | 11,224,191 | | $ | 11 | | $ | (111,988) | | $ | (40,458) | | $ | — | | $ | (152,435) | | 11,224,191 | | $ | 11 | | $ | (111,988) | | $ | (42,319) | | $ | (154,296) |
Shares issued under stock-based compensation plans | | 5,628 | | | — | | | — | | | — | | | — | | | — | | 5,628 | | | — | | | — | | | — | | | — |
Stock-based compensation | | | | | — | | | 53 | | | — | | | — | | | 53 | | | | | — | | | 35 | | | — | | | 35 |
Components of comprehensive (loss) income: | | | | | | | | | | | | | | | | | — | ||||||||||||||
Components of comprehensive income: | | | | | | | | | | | | | | | |||||||||||||||||
Net income | | | | | — | | | — | | | 2,529 | | | — | | | 2,529 |
| | | | — | | | — | | | 1,756 | | | 1,756 |
June 30, 2020 | | 11,229,819 | | $ | 11 | | $ | (111,935) | | $ | (37,929) | | $ | — | | $ | (149,853) | ||||||||||||||
March 31, 2020 | | 11,229,819 | | $ | 11 | | $ | (111,953) | | $ | (40,563) | | $ | (152,505) | |||||||||||||||||
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| | | | | | | | | | Accumulated | | | |||||||||||||||||||
| | | | | | | | | | other | | | |||||||||||||||||||
| | Common Stock | | Capital | | Accumulated | | comprehensive | | | |||||||||||||||||||||
| | Shares | | Amount | | deficiency | | earnings (loss) | | loss | | Total | |||||||||||||||||||
March 31, 2019 | | 11,160,537 | | $ | 11 | | $ | (112,091) | | $ | (39,059) | | $ | (1,329) | | $ | (152,468) | ||||||||||||||
Shares issued under stock-based compensation plans | | 62,991 | | | — | | | — | | | — | | | — | | | — | ||||||||||||||
Stock-based compensation | | | | | — | | | 152 | | | — | | | — | | | 152 | ||||||||||||||
Components of comprehensive (loss) income: | | | | | | | | | | | | | | | | | — | ||||||||||||||
Net income | | | | | — | | | — | | | 1,522 | | | — | | | 1,522 | ||||||||||||||
Reclassification adjustment to foreign currency loss | | | | | — | | | — | | | — | | | 1,329 | | | 1,329 | ||||||||||||||
June 30, 2019 | | 11,223,528 | | $ | 11 | | $ | (111,939) | | $ | (37,537) | | $ | — | | $ | (149,465) | ||||||||||||||
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| | | | | | | | | | Accumulated | | | |||||||||||||||||||
| | | | | | | | | | other | | | |||||||||||||||||||
| | Common Stock | | Capital | | Accumulated | | comprehensive | | | |||||||||||||||||||||
| | Shares | | Amount | | deficiency | | earnings (loss) | | loss | | Total | |||||||||||||||||||
December 31, 2018 | | 11,160,377 | | $ | 11 | | $ | (112,223) | | $ | (36,004) | | $ | (1,360) | | $ | (149,576) | ||||||||||||||
Shares issued under stock-based compensation plans | | 63,151 | | — | | — | | — | | — | | — | |||||||||||||||||||
Stock-based compensation | | | | — | | 284 | | — | | — | | 284 | |||||||||||||||||||
Components of comprehensive (loss) income: | | | | | | | | | | | | | |||||||||||||||||||
Net loss |
| | | — | | — | | (1,533) | | — | | (1,533) | |||||||||||||||||||
Currency translation adjustment |
| | | — | | — | | — | | 31 | | 31 | |||||||||||||||||||
Reclassification adjustment to foreign currency loss | | | | | — | | | — | | | — | | | 1,329 | | | 1,329 | ||||||||||||||
June 30, 2019 | | 11,223,528 | | $ | 11 | | $ | (111,939) | | $ | (37,537) | | $ | — | | $ | (149,465) | ||||||||||||||
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See accompanying notes to condensed consolidated financial statements
5
CPI Card Group Inc. and Subsidiaries
Condensed Consolidated Statements of Cash Flows
(Amounts in Thousands)
(Unaudited)
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| Six Months Ended June 30, | | Three Months Ended March 31, | ||||||||
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| 2020 |
| 2019 |
| 2021 |
| 2020 | ||||
Operating activities | | | | | | | | | | | | |
Net income (loss) |
| $ | 2,529 | | $ | (1,533) | ||||||
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities: | | | | | | | ||||||
Loss (income) from discontinued operation | | | 30 | | | (12) | ||||||
Net income |
| $ | 2,410 | | $ | 1,756 | ||||||
Adjustments to reconcile net income to net cash provided by operating activities: | | | | | | | ||||||
Loss from discontinued operations | | | — | | | 26 | ||||||
Depreciation and amortization expense | | | 8,332 | | | 8,491 | | | 4,222 | | | 4,240 |
Stock-based compensation expense | | | 59 | | | 308 | | | 51 | | | 41 |
Amortization of debt issuance costs and debt discount | | | 1,565 | | | 979 | | | 887 | | | 634 |
Loss on debt extinguishment | | | 5,048 | | | 92 | ||||||
Deferred income taxes | | | 28 | | | 593 | | | (177) | | | 537 |
Reclassification adjustment to foreign currency loss | | | — | | | 1,329 | ||||||
Other, net | | | 1,289 | | | (190) | | | 200 | | | 488 |
Changes in operating assets and liabilities: | | | | | | | | | | | | |
Accounts receivable | | | (2,381) | | | 66 | | | (5,884) | | | (911) |
Inventories | | | 259 | | | (5,028) | | | (8,885) | | | 521 |
Prepaid expenses and other assets | | | 1,136 | | | 1,593 | | | 107 | | | 1,138 |
Income taxes receivable, net | | | (5,239) | | | 228 | | | 1,359 | | | (846) |
Accounts payable | | | (1,660) | | | (1,042) | | | 3,705 | | | (2,747) |
Accrued expenses | | | 5,686 | | | (6,249) | | | (2,790) | | | (1,856) |
Deferred revenue and customer deposits | | | 629 | | | (564) | | | (556) | | | 177 |
Other liabilities | | | (216) | | | 74 | | | 447 | | | (86) |
Cash provided by (used in) operating activities - continuing operations | | | 12,046 | | | (957) | ||||||
Cash provided by (used in) operating activities - discontinued operation | | | (30) | | | 12 | ||||||
Cash provided by operating activities - continuing operations | | | 144 | | | 3,204 | ||||||
Cash used in operating activities - discontinued operations | | | — | | | (26) | ||||||
Investing activities | | | | | | | | | | | | |
Acquisitions of plant, equipment and leasehold improvements | | | (1,644) | | | (2,686) | ||||||
Cash received for sale of Canadian subsidiary | | | — | | | 1,451 | ||||||
Cash used in investing activities - continuing operations | | | (1,644) | | | (1,235) | ||||||
Capital expenditures for plant, equipment and leasehold improvements | | | (2,524) | | | (938) | ||||||
Other | | | 155 | | | — | ||||||
Cash used in investing activities | | | (2,369) | | | (938) | ||||||
Financing activities | | | | | | | | | | | | |
Principal payments on First Lien Term loan | | | (312,500) | | | — | ||||||
Principal payments on Senior Credit Facility | | | (30,000) | | | — | ||||||
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 | | | — | | | — | | | 29,100 |
Debt issuance costs | | | (2,507) | | | — | | | (9,452) | | | (2,507) |
Proceeds from Revolving Credit Facility | | | — | | | 11,500 | ||||||
Payments on Revolving Credit Facility | | | — | | | (11,500) | ||||||
Payments on debt extinguishment | | | (2,685) | | | — | ||||||
Payments on finance lease obligations | | | (1,181) | | | (663) | | | (610) | | | (593) |
Cash provided by (used in) financing activities | | | 25,412 | | | (663) | ||||||
Cash (used in) provided by financing activities | | | (30,497) | | | 26,000 | ||||||
Effect of exchange rates on cash | | | (21) | | | 36 | | | 3 | | | (18) |
Net increase (decrease) in cash and cash equivalents | | | 35,763 | | | (2,807) | ||||||
Net (decrease) increase in cash and cash equivalents | | | (32,719) | | | 28,222 | ||||||
Cash and cash equivalents, beginning of period | | | 18,682 | | | 20,291 | | | 57,603 | | | 18,682 |
Cash and cash equivalents, end of period |
| $ | 54,445 | | $ | 17,484 |
| $ | 24,884 | | $ | 46,904 |
Supplemental disclosures of cash flow information | | | | | | | | | | | | |
Cash paid during the period for: | | | | | | | ||||||
Cash paid (refunded) during the period for: | | | | | | | ||||||
Interest |
| $ | 11,519 | | $ | 11,660 |
| $ | 8,382 | | $ | 5,538 |
Income taxes |
| $ | 16 | | $ | 340 |
| $ | 1 | | $ | (232) |
Right-to-use assets obtained in exchange for lease obligations: | | | | | | | | | | | | |
Operating leases | | $ | 141 | | $ | 8,533 | | $ | 432 | | $ | 141 |
Financing leases | | $ | 763 | | $ | 3,366 | | $ | 526 | | $ | 251 |
Accounts payable, and accrued expenses for acquisitions of plant, equipment and leasehold improvements | | $ | 528 | | $ | 841 | ||||||
Accounts payable, and accrued expenses for capital expenditures for plant, equipment and leasehold improvements | | $ | 256 | | $ | 345 |
See accompanying notes to condensed consolidated financial statements
6
CPI Card Group Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(Dollars in Thousands, Except Share and Per Share Amounts or as Otherwise Indicated)
(Unaudited)
1. Business Overview and Summary of Significant Accounting Policies
Business Overview
CPI Card Group Inc., (which, together with its subsidiary companies, is referred to herein as “CPI” or the “Company,”“Company”) is a payment technology company and leading provider of comprehensive Financial Payment Card solutions in the United States. TheCPI is engaged in the design, production, data personalization, packaging and fulfillment of “Financial Payment Cards,” which the Company defines “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)States and Interac, (inin Canada). We defineThe Company defines “Prepaid Debit Cards” as debit cards issued on the networks of the Payment Card Brands, but not linked to a traditional bank account. The CompanyCPI also offers an instant card issuance solution, which provide card issuing bank customersprovides banks the ability to issue a personalized debit or credit card within the bank branch to individual cardholders.
AsCPI serves its customers through a producernetwork of high-security production and provider ofcard services for Financial Payment Cards,facilities in the United States, each of which is audited for compliance with the Company’s secure facilities must be compliant and registered withstandards of the Payment Card Industry Security Standards Council (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.
In the fourth quarter of 2018, the Company entered into a definitive agreement to sell the Company’s Canadian subsidiary to Allcard Limited, a provider of cardoptimize its solutions to the giftofferings and loyalty sectors. The sale did not include the portions of the business relating to Financial Payment Cards, as that business migrated to the Company’s operations in the Debit and Credit segment or to other service providers in 2019. The transaction closed on April 1, 2019, and the Company received cash proceeds of $1,451. After the payment of liabilities and transaction costs, including employee termination costs, the sale did not have a significant impact on cash, and no significant loss on sale was recorded. In connection with the disposition of the Canadian subsidiary, the Company released the related cumulative translation adjustment of $1,329 from “Accumulated Other Comprehensive Loss” on the condensed consolidated balance sheet into “Foreign Currency Loss” on the condensed consolidated statement of operations during the six months ended June 30, 2019. The Canadian subsidiary was not a significant operating segment and was part of the Other reportable segment.
effectively meet customers needs.
COVID-19 Update
On March 11, 2020, the World Health Organization (“WHO”) characterized the novel coronavirus disease (“COVID-19”) as a pandemic. Further, on March 13, 2020, the President of the United States declared theThe COVID-19 pandemic a national emergency, invoking powers under the Stafford Act – the legislation that directs federal emergency disaster response.has impacted economies and societies globally. The broader and long-term implications of COVID-19 on the Company’s results of operations and overall financial performance remain uncertain. The adverse effects of the COVID-19 pandemic have become widespread, including in the locations where the Company operates and its customers and suppliers conduct business. The health and safety of CPI’sCPI employees remainsremain paramount, and the Company continues to follow the safetyresponse protocols based on precautions and other appropriate measures recommended by the Centers for Disease Control and Prevention.Prevention, as well as various state and local executive orders, health orders and guidelines. The Company believes the global impacts from COVID-19 have contributed to certain adverse effects on its supply chain including access to, and higher pricing of, certain raw materials which may continue in the future. CPI closely monitors its supply chain and has purchased and may continue to purchase additional inventory to help mitigate potential supply chain constraints. The current economic environment has affected the available labor pool in the areas in which the Company operates which may result in increased labor cost and turnover in our facilities. The Company will continue to monitor and respond as the situation evolves. All of CPI’s operations remainhave remained open and continue to provide direct and essential support to the financial services industry. However, the Company may experience constrained supply, curtailed customer demand or impacts on CPI’s workforce that could materially adversely impact the business, results of operations and overall financial performance in future periods. While CPI’s net sales in the second quarter and first half of 2020 increased over the prior year, the Company experienced lower customer demand than expected (which CPI believes is primarily attributable to the COVID-19 pandemic)See Item 1A, Risk Factors, and the Company may experience further effects in the Company’s results of operations and overall financial performance in future periods. There can be no assurance that the Company’s strategies will be successful in effectively managing the Company’s resources and mitigating the negative impact of the COVID-19 pandemic on the business and operating results. See Part II, Item 1A – Risk Factors in this QuarterlyAnnual Report on Form 10-Q10-K for the quarteryear ended June 30,December 31, 2020 filed with the Securities and Exchange Commission (the “SEC”) for further discussion of the possible impact of the COVID-19 pandemic on theour business.
On March 27, 2020, the President of the United States signed the Coronavirus Aid, Relief, and Economic Security (CARES) Act (the “CARES Act”) was signed into law. The CARES Act, among other things, includes provisions relating to refundable payroll
7
tax credits, deferment of employer side social security payments, changes in net operating loss carryback periods, alternative minimum tax credit refunds, modifications to the net interest deduction limitationslimitation and technical corrections to tax depreciation methods for qualified improvement property. CPI is continuing to evaluate the applicability of the CARES Act to the Company, and the potential impacts on the business. Refer to Note 12, Income Taxes – Continuing Operations, 11 “Income Taxes”for a discussion of the CARES Act income tax refundimpacts on the Company has applied for.Company. In addition, the Company has applied for the deferment ofCPI deferred employer side social security payments duringin 2020 in accordance with the second quarter of 2020.CARES Act. While the Company is participating in certain programs under the CARES Act, the CARES Act and its guidance are subject to change, and there is no guarantee that CPI will continue to meet eligibility requirements or that such programs will provide meaningful benefit to the Company.change.
Basis of Presentation
Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) have been condensed or omitted pursuant to Form 10-Q and Article 108 of Regulation S-X. In the opinion of management, these financial statements reflect all adjustments (consisting of normal recurring adjustments) considered necessary for the fair statement of the results of the interim periods presented. The condensed consolidated balance sheet as of December 31, 2019
7
2020 is derived from the audited financial statements as of that date. The accompanying condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019.2020.
Discontinued Operations
On August 3, 2018, the Company completed the sale of its three facilities in the United Kingdom that produced retail cards, such as gift and loyalty cards, for customers in the United Kingdom and continental 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 accordance with GAAP. The Company did not retain significant continuing involvement with the discontinued operations subsequent to the disposal. The impact of the discontinued operations was insignificant to the Company’s condensed consolidated statement of operations for the three months ended March 31, 2020.
Use of Estimates
Management uses estimates and assumptions relating to the reporting of assets and liabilities at the date of the financial statements, the reported revenues and expenses recognized during the reporting period, and certain financial statement disclosures in the preparation of the condensed 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, revenue recognized for work performed but not completed and uncertain tax positions. Actual results could differ from those estimates.
Recent Accounting Standards
Recently Adopted Accounting Standards
In February 2016, the Financial Accounting Standards Board (the “FASB”) issued Accounting Standards Codification (“ASC”) Topic 842, Leases (“ASC 842”), 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. ASC 842 is effective for annual and interim periods beginning after December 15, 2018 (the Company’s fiscal year 2019) with early adoption permitted. The guidance required a modified retrospective approach, with an option to apply the transition provisions of the new guidance at the adoption date without adjusting the comparative periods presented. In July 2018, the FASB issued additional accounting standard updates clarifying certain provisions, as well as providing for a second transition method allowing entities to initially apply the standard at the adoption date and recognize a cumulative-effect adjustment to the opening balance of retained earnings. The Company adopted the new guidance on January 1, 2019 and used the adoption date as the date of initial application as allowed under ASC 842. Refer to Note 10, Financing and Operating Leases.
Recently Issued Accounting Standards
In June 2016, the FASBFinancial Accounting Standards Board issued Accounting Standards Update (“ASU”) 2016-13, Measurement of Credit Losses on Financial Instruments ("ASU 2016-13"). 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 effective date of ASU 2016-13 was amended by ASU 2019-10, Credit Losses Effective Dates. Since CPI is a smaller reporting company, adoption of this accounting standard is effective for the Company for fiscal years
8
beginning after December 15, 2022, and interim periods therein, with early adoption permitted. The Company has elected not to early adopt this accounting standard in the current fiscal year 2020.2021. The Company is evaluating the impact of adoption of this standard and does not anticipate the application of ASU 2016-13 will have a material impact on 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 two immaterial items relating to estimated sales tax expense and depreciation expense for prior periods presented by revising the condensed consolidated financial statements and other financial information included herein. For the quarter ended March 31, 2020, the total impact of the prior period adjustment was an increase to “Selling, General and Administrative expenses” (“SG&A”) of $121 for estimated sales tax expense and an increase to “Cost of sales” of $62 for depreciation expense. The total impact on prior fiscal years 2017 to 2019 was an increase to SG&A for estimated sales tax expense of $1,907 and an increase to “Cost of sales” for depreciation expense of $476. Refer to Note 14, “Commitments and Contingencies” for additional discussion of the estimated sales tax liability recorded in “Accrued expenses” on the condensed consolidated balance sheet.
8
2. Net Sales
The Company disaggregates its net sales by major source as follows:
| | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended June 30, 2020 | | | Three Months Ended March 31, 2021 | | ||||||||||||||
| | Products | | Services | | Total | | | Products | | Services | | Total | | ||||||
Debit and Credit | | $ | 39,541 | | $ | 18,765 | | $ | 58,306 | | | $ | 47,179 | | $ | 22,638 | | $ | 69,817 | |
Prepaid Debit | | | — | | | 13,536 | | | 13,536 | | | | — | | | 19,458 | | | 19,458 | |
Other | | | — | |
| — | |
| — | | ||||||||||
Intersegment eliminations | | | (464) | |
| — | |
| (464) | | | | (166) | |
| (17) | |
| (183) | |
Total | | $ | 39,077 | | $ | 32,301 | | $ | 71,378 | | | $ | 47,013 | | $ | 42,079 | | $ | 89,092 | |
| | | | | | | | | | | | | | | | | | | | |
| | Six Months Ended June 30, 2020 | | | | | | | | | | | | |||||||
| | Products | | Services | | Total | | | Three Months Ended March 31, 2020 | | ||||||||||
Debit and Credit | | $ | 82,452 | | $ | 35,693 | | $ | 118,145 | | ||||||||||
Prepaid Debit | | | — | | | 28,076 | | | 28,076 | | ||||||||||
Other | | | — | |
| — | |
| — | | ||||||||||
Intersegment eliminations | | | (874) | |
| — | |
| (874) | | ||||||||||
Total | | $ | 81,578 | | $ | 63,769 | | $ | 145,347 | | ||||||||||
| | | | | | | | | | | ||||||||||
| | Three Months Ended June 30, 2019 | | |||||||||||||||||
| | Products | | Services | | Total | | | Products | | Services | | Total | | ||||||
Debit and Credit | | $ | 33,276 | | | 17,810 | | $ | 51,086 | | | $ | 42,911 | | $ | 16,928 | | $ | 59,839 | |
Prepaid Debit | | | — | | | 15,966 | | | 15,966 | | | | — | | | 14,540 | | | 14,540 | |
Other | | | — | |
| — | |
| — | | ||||||||||
Intersegment eliminations | | | (151) | | | — | |
| (151) | | | | (410) | |
| — | |
| (410) | |
Total | | $ | 33,125 | | $ | 33,776 | | $ | 66,901 | | | $ | 42,501 | | $ | 31,468 | | $ | 73,969 | |
| | | | | | | | | | | ||||||||||
| | Six Months Ended June 30, 2019 | | |||||||||||||||||
| | Products | | Services | | Total | | |||||||||||||
Debit and Credit | | $ | 66,120 | | | 33,895 | | $ | 100,015 | | ||||||||||
Prepaid Debit | | | — | | | 32,710 | | | 32,710 | | ||||||||||
Other | | | 397 | | | 1,282 | |
| 1,679 | | ||||||||||
Intersegment eliminations | | | (635) | | | (2) | |
| (637) | | ||||||||||
Total | | $ | 65,882 | | $ | 67,885 | | $ | 133,767 | |
Products Net Sales
“Products” net sales are recognized when obligations under the terms of a contract with a customer are satisfied. In most instances, this occurs over time as cards are manufactured for specific customers and have no alternative use and the Company has an enforceable right to payment for work 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 manufactured Financial Payment Cards, including contact-EMV®contact-EMV®, contactless dual-interface EMV, contactless and magnetic stripe cards, our eco-focused solutions including Second Wave and EarthwiseTM, “high content” upcycled plastic cards, metal cards, private label credit cards and retail gift cards. Card@Once®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.
EMV®EMV® is a registered trademark in the U.S. and other countries and an unregistered trademark elsewhere. The EMV trademark is owned by EMVCo, LEMVLCCo, LLC.
9
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, including CPI On-Demand® personalization, providing tamper-evident secure packaging and fulfillment services to Prepaid Debit Card program managers and software as a servicesoftware-as-a-service personalization of instant issuance debit and credit cards. The Company also generates “Services” net sales from usage-fees generated from the Company’s patented card design software, known as MYCA®MYCATM, which provides customers and cardholders the ability to design cards on the internet and customize cards with individualized digital images. ForAs 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 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. 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 short term in nature.
3. Discontinued Operation
On August 3, 2018, the Company completed the sale of its three facilities in the United Kingdom that produced retail cards, such as gift and loyalty cards, for customers in the United Kingdom and continental 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 and restated the comparative financial information for all periods presented in conformity with GAAP. Unless otherwise indicated, information in these notes to the unaudited condensed consolidated financial statements relate to continuing operations. The Company did not retain significant continuing involvement with the discontinued operation subsequent to the disposal. The impact of the discontinued operations was insignificant to the Company’s condensed consolidated statement of operations for the three and six months ended June 30, 2020 and 2019.
9
4.3. Accounts Receivable
Accounts receivable consisted of the following:
| | | | | | | | | | | | |
|
| June 30, 2020 |
| December 31, 2019 |
| March 31, 2021 |
| December 31,��2020 | ||||
| | | | | |
| | | | | |
|
Trade accounts receivable |
| $ | 38,716 |
| $ | 39,004 |
| $ | 49,708 |
| $ | 44,305 |
Unbilled accounts receivable |
| | 6,882 |
| | 4,223 |
| | 11,008 |
| | 10,576 |
|
| | 45,598 |
| | 43,227 |
| | 60,716 |
| | 54,881 |
Less allowance for doubtful accounts | | | (281) | | | (395) | | | (237) | | | (289) |
| | $ | 45,317 | | $ | 42,832 | | $ | 60,479 | | $ | 54,592 |
54. Inventories
Inventories consisted of the following:
| | | | | | | | | | | | |
|
| June 30, 2020 |
| December 31, 2019 |
| March 31, 2021 |
| December 31, 2020 | ||||
| | | | | | | | | | | | |
Raw materials |
| $ | 16,602 |
| $ | 16,492 |
| $ | 31,802 |
| $ | 23,009 |
Finished goods |
| | 4,679 |
| | 5,047 |
| | 4,727 |
| | 4,635 |
Inventory reserve | | | (2,386) | | | (1,347) | | | (3,039) | | | (2,848) |
|
| $ | 18,895 |
| $ | 20,192 |
| $ | 33,490 |
| $ | 24,796 |
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6.5. Plant, Equipment, Leasehold Improvements and Operating Lease Right-of-Use Assets
Plant, equipment, leasehold improvements and operating lease right-of-use assets consisted of the following:
| | | | | | | | | | | | |
|
| June 30, 2020 |
| December 31, 2019 |
| March 31, 2021 |
| December 31, 2020 | ||||
| | | | | | | | | | | | |
Machinery and equipment |
| $ | 52,787 |
| $ | 52,212 |
| $ | 57,714 |
| $ | 55,459 |
Machinery and equipment under financing leases | | | 9,019 | | | 8,256 | | | 9,858 | | | 9,974 |
Furniture, fixtures and computer equipment |
| | 3,272 |
| | 4,749 |
| | 4,331 |
| | 4,410 |
Leasehold improvements |
| | 14,934 |
| | 14,905 |
| | 13,896 |
| | 15,083 |
Construction in progress |
| | 724 |
| | 455 |
| | 1,381 |
| | 2,386 |
| | | 80,736 | | | 80,577 | | | 87,180 | | | 87,312 |
Less accumulated depreciation and amortization |
| | (48,621) |
| | (44,801) |
| | (55,925) |
| | (55,092) |
Operating lease right-of-use assets, net of accumulated amortization |
| | 5,443 |
| | 6,312 |
| | 6,933 |
| | 7,183 |
|
| $ | 37,558 |
| $ | 42,088 |
| $ | 38,188 |
| $ | 39,403 |
Depreciation expense of plant, equipment and leasehold improvements, including depreciation of assets under financing leases, was $3,005$3,073 and $3,104$3,091 for the three months ended June 30,March 31, 2021 and 2020, and 2019, respectively, and $6,034 and $6,163 for the six months ended June 30, 2020 and 2019, respectively.
Operating lease right-of-use assets, net of accumulated amortization, are further described in Note 10,9, Financing and Operating Leases.
7.6. Goodwill and Other Intangible Assets
The Company reports all of its goodwill in itsthe Debit and Credit segment at June 30, 2020March 31, 2021 and December 31, 2019.2020. Goodwill 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. The Company did not identify a triggering event requiring a quantitative test for impairment as of June 30March 31, 2020. The potential negative implications of COVID-19, and a related potential decline in the Company’s total fair value of invested capital and financial performance for reporting units with goodwill, could require the Company to perform a quantitative test for goodwill impairment in future quarters.2021.
Intangible assets consist of customer relationships, technology and software trademarks and non-compete agreements.trademarks. Intangible amortization expense was $1,149 and $1,164$1,149 for the three months ended June 30,March 31, 2021 and 2020, and 2019, respectively, and $2,298 and $2,328 for the six months ended June 30, 2020 and 2019.respectively.
10
At June 30, 2020March 31, 2021 and December 31, 2019,2020, intangible assets, excluding goodwill, were comprised of the following:
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | June 30, 2020 | | December 31, 2019 | | | March 31, 2021 | | December 31, 2020 | ||||||||||||||||||||||||||||
| Weighted Average |
| Gross Book |
| Accumulated |
| Net Book |
| Gross Book |
| Accumulated |
| Net Book | Weighted Average | | | | | Accumulated | | Net Book | | | | | Accumulated | | Net Book | ||||||||||
| Life (Years) |
| Value |
| Amortization |
| Value |
| Value |
| Amortization |
| Value | Life (Years) | | Cost |
| Amortization |
| Value |
| Cost |
| Amortization |
| Value | ||||||||||||
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Customer relationships | 17.2 | | $ | 55,454 | | $ | (30,504) | | $ | 24,950 | | $ | 55,454 | | | (28,865) | | $ | 26,589 | 17.2 | | $ | 55,454 | | $ | (32,961) | | $ | 22,493 | | $ | 55,454 | | | (32,141) | | $ | 23,313 |
Technology and software | 8 | |
| 7,101 | | | (5,416) | |
| 1,685 | |
| 7,101 | | | (4,952) | | | 2,149 | 8 | |
| 7,101 | | | (6,113) | |
| 988 | |
| 7,101 | | | (5,881) | | | 1,220 |
Trademarks | 8.7 | |
| 3,330 | |
| (1,461) | |
| 1,869 | |
| 3,330 | | | (1,266) | | | 2,064 | 8.7 | |
| 3,330 | |
| (1,753) | |
| 1,577 | |
| 3,330 | | | (1,656) | | | 1,674 |
Non-compete agreements | 5 | |
| 491 | |
| (491) | |
| — | |
| 491 | | | (491) | | | — | |||||||||||||||||||
Intangible assets subject to amortization | | | $ | 66,376 | | $ | (37,872) | | $ | 28,504 | | $ | 66,376 | | $ | (35,574) | | $ | 30,802 | | | $ | 65,885 | | $ | (40,827) | | $ | 25,058 | | $ | 65,885 | | $ | (39,678) | | $ | 26,207 |
11
The estimated future aggregate amortization expense for the identified amortizable intangibles noted above as of June 30, 2020March 31, 2021 was as follows:
| | | | | | |
2020 (excluding the six months ended June 30, 2020) | | $ | 2,297 | |||
2021 |
|
| 4,352 | |||
2021 (excluding the three months ended March 31, 2021) | | $ | 3,203 | |||
2022 | | | 3,867 |
|
| 3,867 |
2023 | | | 3,867 | | | 3,867 |
2024 | | | 3,530 | | | 3,630 |
2025 | | | 3,440 | |||
Thereafter | | | 10,591 | | | 7,051 |
|
| $ | 28,504 |
| $ | 25,058 |
8.7. 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—Valuations based on unadjusted quoted prices in active markets for identical assets or liabilities accessible to the reporting entity at the measurement date.
● Level 2— Observable inputs other than Level 1 prices, such as quoted prices in active markets for similar assets and liabilities, quoted prices in markets that are not active or other inputs that are observable or can be corroborated by observable market data for substantially the full term for the assets or liabilities.
● Level 3— Valuations based on 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.
The Company’s financial assets and liabilities that are not required to be re-measured at fair value in the condensed consolidated balance sheets were as follows:
| | | | | | | | | | | | | | | |
| | Carrying | | Estimated | | | | | | | | | | ||
| | Value as of | | Fair Value as of | | Fair Value Measurement at March 31, 2021 | |||||||||
| | March 31, | | March 31, | | (Using Fair Value Hierarchy) | |||||||||
| | 2021 | | 2021 | | Level 1 | | Level 2 | | Level 3 | |||||
Liabilities: |
| | |
| | |
| | |
| | |
| | |
Senior Notes | | $ | 310,000 | | $ | 324,725 | | $ | — | | $ | 324,725 | | $ | — |
ABL Revolver | | $ | 15,000 | | $ | 15,000 | | $ | — | | $ | 15,000 | | $ | — |
| | | | | | | | | | | | | | | |
| | Carrying | | | | | | | | | | | | | |
| | Value as of | | Fair Value as of | | Fair Value Measurement at June 30, 2020 | |||||||||
| | June 30, | | June 30, | | (Using Fair Value Hierarchy) | |||||||||
| | 2020 | | 2020 | | Level 1 | | Level 2 | | Level 3 | |||||
Liabilities: |
| | |
| | |
| | |
| | |
| | |
First Lien Term Loan | | $ | 312,500 | | $ | 254,688 | | $ | — | | $ | 254,688 | | $ | — |
Senior Credit Facility | | $ | 30,000 | | $ | 30,000 | | $ | — | | $ | — | | $ | 30,000 |
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| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Carrying | | | | | | | | | | | | | | Carrying | | Estimated | | | | | | | | | | |||
| | Value as of | | Fair Value as of | | Fair Value Measurement at December 31, 2019 | | Value as of | | Fair Value as of | | Fair Value Measurement at December 31, 2020 | ||||||||||||||||||
| | December 31, | | December 31, | | (Using Fair Value Hierarchy) | | December 31, | | December 31, | | (Using Fair Value Hierarchy) | ||||||||||||||||||
| | 2019 | | 2019 | | Level 1 | | Level 2 | | Level 3 | | 2020 | | 2020 | | Level 1 | | Level 2 | | Level 3 | ||||||||||
Liabilities: |
| | |
| | |
| | |
| | |
| | |
| | |
| | |
| | |
| | |
| | |
First Lien Term Loan | | $ | 312,500 |
| $ | 234,375 | | $ | — |
| $ | 234,375 | | $ | — | | $ | 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 LoanSenior Notes (as defined in Note 11,10, Long-Term Debt) was based on bank quotes. The fair value measurement associated with the Senior Credit FacilityABL Revolver (as defined in Note 11,10, Long-Term Debt) is based on significant unobservable Level 3 inputs, which require management judgment and estimation. The Senior Credit Facility ranks senior in priorityapproximates its carrying value as of March 31, 2021, given the close proximity to the Company’s First Lien Term Loan,date the Company entered into the credit facility on March 15, 2021, and was valued using market data from companies with sithe applicable interest rates and nature of the milar credit ratings. security interest in Company assets.
The carrying amounts for cash and cash equivalents, accounts receivable and accounts payable each approximate fair value.
12
9.8. Accrued LiabilitiesExpenses
Accrued liabilitiesexpenses consisted of the following:
| | | | | | | | | | | | |
|
| June 30, 2020 |
| December 31, 2019 |
| March 31, 2021 |
| December 31, 2020 | ||||
| | | | | |
| | | | | |
|
Accrued payroll and related employee expenses |
| $ | 5,078 |
| $ | 3,954 |
| $ | 5,007 |
| $ | 4,938 |
Accrued employee performance bonus |
| | 2,734 |
| | 3,920 |
| | 2,117 |
| | 4,873 |
Employer payroll tax, including social security deferral |
| | 2,794 |
| | 3,034 | ||||||
Accrued rebates | | | 3,559 | | | 1,573 | | | 1,668 | | | 1,178 |
Sales tax liability | | | 2,700 | | | - | | | 1,805 | | | 1,696 |
Accrued interest |
| | 4,771 |
| | 4,951 | | | 1,262 | | | 4,145 |
Operating and financing lease liability (current portion) | | | 4,592 | | | 4,494 | | | 4,016 | | | 4,407 |
Other | | | 5,284 | | | 3,928 | | | 3,949 | | | 3,878 |
Total accrued expenses | | $ | 28,718 | | $ | 22,820 | | $ | 22,618 | | $ | 28,149 |
| | | | | | |
The estimated sales tax liability is further described in Note 15,14, Commitments and Contingencies.Contingencies and Note 1, Business Overview and Summary of Significant Accounting Policies.
10.9. Financing and Operating Leases
CPI adopted ASC 842 effective January 1, 2019. The Company elected the ‘package of practical expedients’, which permits the Company not to reassess under the new standard its prior conclusions about lease identification, lease classification, and initial direct costs. Right-of-use (“ROU”) represents the right to use an underlying asset for the lease term, and lease liabilities represent the Company’s obligation to make lease payments arising from the lease. Operating lease ROU assets and liabilities 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.As a result of the adoption of ASC 842, the Company recorded $8,025 of operating ROU assets, and corresponding operating lease liabilities of $8,813 on January 1, 2019, relating to existing real estate operating leases.
12
The components of operating and finance lease costs were as follows:
| | | | | | | | | | |
| | | | | | | | | | |
| Three Months Ended | | Three Months Ended | Three Months Ended | | Three Months Ended | ||||
| June 30, 2020 |
| June 30, 2019 | March 31, 2021 |
| March 31, 2020 | ||||
Total operating lease costs | | 671 | | | 665 | |||||
Operating lease costs | $ | 509 | | $ | 671 | |||||
Variable lease costs | | 164 | | | 173 | |||||
Short-term operating lease costs | | 172 | | | - | |||||
Total expense from operating leases | $ | 845 | | $ | 844 | |||||
| | | | | | | | | | |
Finance lease cost: | | | | | | | | | | |
Right-of-use amortization expense | $ | 329 | | $ | 178 | | 293 | | | 327 |
Interest on lease liabilities | | 117 | | | 40 | | 213 | | | 129 |
Total financing lease costs | $ | 446 | | $ | 218 | $ | 506 | | $ | 456 |
| | | | | | |||||
| Six Months Ended | | Six Months Ended | |||||||
| June 30, 2020 |
| June 30, 2019 | |||||||
Total operating lease costs | | 1,342 | | | 1,308 | |||||
| | | | | | |||||
Finance lease cost: | | | | | | |||||
Right-of-use amortization expense | $ | 656 | | $ | 301 | |||||
Interest on lease liabilities | | 246 | | | 62 | |||||
Total financing lease costs | $ | 902 | | $ | 363 |
13
The following table reflects balances for operating and financing leases:
| | | | | | | | | | |
| | | | | | | | | | |
| June 30, 2020 |
| December 31, 2019 | March 31, 2021 |
| December 31, 2020 | ||||
Operating leases | | | | | | | | | | |
Operating lease right-of-use assets, net of amortization | $ | 5,443 | | $ | 6,312 | $ | 6,933 | | $ | 7,183 |
| | | | | | | | | | |
Operating lease liability (current) | $ | 2,470 | | $ | 2,283 | $ | 1,958 | | $ | 2,267 |
Long-term operating liability | | 3,890 | | | 5,067 | | 5,540 | | | 5,491 |
Total operating lease liabilities | $ | 6,360 | | $ | 7,350 | $ | 7,498 | | $ | 7,758 |
| | | | | | | | | | |
Financing leases | | | | | | | | | | |
Property, equipment and leasehold improvements | $ | 9,019 | | $ | 8,256 | $ | 9,858 | | $ | 9,974 |
Accumulated depreciation | | (1,740) | | | (1,094) | | (2,086) | | | (2,422) |
Total property, equipment and leasehold improvements, net | $ | 7,279 | | $ | 7,162 | $ | 7,772 | | $ | 7,552 |
| | | | | | | | | | |
Financing lease liability (current) | $ | 2,122 | | $ | 2,211 | $ | 2,058 | | $ | 2,140 |
Long-term financing liability | | 3,513 | | | 3,886 | | 3,050 | | | 3,052 |
Total financing lease liabilities | $ | 5,635 | | $ | 6,097 | $ | 5,108 | | $ | 5,192 |
| | | | | | | | | | |
Finance and operating lease ROU assets are recorded in “Plant, equipment, leasehold improvements, and operating lease right-of-use assets, net”.net.” Financing and operating lease liabilities are recorded in “Accrued expenses” and “Other long-term liabilities.”
Future cash payment with respect to lease obligations as of June 30, 2020March 31, 2021 were as follows:
| | | | | | | | | | | | |
| | | Operating | | | Financing | | | Operating | | | Financing |
|
| | Lease |
| | Leases | | | Lease | | | Leases |
2020 (excluding six months ended June 30, 2020) | | | 1,473 | | $ | 1,395 | ||||||
2021 | | | 2,700 | | | 2,256 | ||||||
| | | | | | | ||||||
2021 (excluding the three months ended March 31, 2021) | | | 2,022 | | | 1,856 | ||||||
2022 | | | 1,428 | | | 1,745 | | | 1,782 | | | 2,112 |
2023 | | | 1,106 | | | 821 | | | 1,643 | | | 1,176 |
2024 | | | 583 | | | 68 | | | 1,442 | | | 366 |
2025 | | | 862 | | | 107 | ||||||
Thereafter | | | - | | | 2 | | | 1,808 | | | 26 |
Total lease payments | | | 7,290 | | | 6,287 | | | 9,559 | | | 5,643 |
Less imputed interest | | | (930) | | | (652) | | | (2,061) | | | (535) |
Total | | $ | 6,360 | | $ | 5,635 | | $ | 7,498 | | $ | 5,108 |
| | | | | | |
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11.10. Long-Term Debt
At June 30, 2020March 31, 2021 and December 31, 2019,2020, long-term debt consisted of the following:
| | | | | | | | | | | | | | | | | | |
|
| Interest |
| | June 30, |
| December 31, |
| Interest |
| | March 31, |
| December 31, | ||||
|
| Rate (1) | |
| 2020 |
| 2019 | | Rate (1) | | | 2021 | | 2020 | ||||
Senior Notes | | 8.625 | % | | $ | 310,000 | | $ | — | |||||||||
ABL Revolver | | 1.356 | % | | | 15,000 | | | — | |||||||||
First Lien Term Loan |
| 6.38 | % | | $ | 312,500 | | $ | 312,500 |
| 5.500 | % | | | — | | | 312,500 |
Senior Credit Facility | | 9.50 | % | | | 30,000 | | | — | | 9.500 | % | | | — | | | 30,000 |
Unamortized deferred financing costs | | | | |
| (7,497) | |
| (3,804) | |||||||||
Unamortized discount | | | | | | (2,633) | | | (1,770) | | | | | | — | | | (1,988) |
Unamortized deferred financing costs | | | | |
| (5,048) | |
| (2,952) | |||||||||
Total Long-term debt | | | | | $ | 334,819 | | $ | 307,778 | |||||||||
Total long-term debt | | | | | $ | 317,503 | | $ | 336,708 | |||||||||
Less current maturities | | | | | | — | | | — | | | | | | — | | | (8,027) |
Long-term debt, net of current maturities | | | | | | 334,819 | | | 307,778 | | | | | $ | 317,503 | | $ | 328,681 |
(1) The Senior Notes bear interest at a fixed rate. The variable interest rate on the ABL Revolver was 1.356% as of March 31, 2021. The variable interest rate on the First Lien Term Loan was 6.38%, and 6.71% as of June 30, 2020, and December 31, 2019, respectively. The interest rate on the Senior Credit Facility which was 5.5%and 9.5%, respectively, as of December 31, 2020.
On March 15, 2021, the 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 notes 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 ona 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”).
In connection with the issuance of the Senior Notes and entry into the ABL Revolver, the Company terminated its existing credit facilities consisting of a $30,000 senior credit agreement, dated as of March 6, 2020, was 9.50% as of June 30, 2020.
On August 17, 2015,among the Company, entered into a first lien credit facilityCPI CG Inc., as borrower, the lenders party thereto and Guggenheim Credit Services, LLC as administrative agent and collateral agent (the “First Lien“Senior Credit Facility”) with a syndicate of lenders providing for, and a $435,000 first lien term loan (the “First Lien Term Loan”), dated as of August 17, 2015 as amended, among the Company, the borrower, the lenders party thereto, GLAS USA LLC, as administrative agent and GLAS Americas LLC, as collateral agent.
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 had 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 $40,000 revolving“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 three months ended March 31, 2021.
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 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 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.
The Senior 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 substantially all of the assets of the Issuer and the guarantors, subject to customary exceptions. The ABL Revolver is guaranteed by the Company and its
14
credit facility (the “Revolving Credit Facility”). The First Lien Term Loan matures on August 17, 2022subsidiaries (other than the Issuer and the Revolving Credit Facility was terminated concurrently with the Company entering into a new senior credit facility on March 6, 2020.
On March 6, 2020, the Companyexcluded subsidiaries), and its wholly owned subsidiary, CPI Acquisition, Inc. (now known as CPI CG Inc.) (the “Borrower”), entered into a super senior credit agreement with Guggenheim Credit Services, LLC (“Guggenheim”), Vector Capital Credit Opportunity Master Fund, L.P., Guggenheim, as administrative agent and collateral agent, and certain other lenders from time to time party thereto (the “Senior Credit Agreement” and together with all ancillary documents thereto, the “Senior Credit Facility”). The Senior Credit Facility matures on May 17, 2022, and provides for the extension of credit to the Borrower in the form of super senior term loans in an aggregate principal amount of $30,000, which ranks senior in priority to the Company’s First Lien Term Loan.
The Senior Credit Facility and the First Lien Term Loan areis secured by substantially all of the Company’s assets constituting equipment, inventory, receivables, cash and other tangible and intangible property.
The Senior Credit Facilityof the Issuer and the First Lien Term Loan contain customary representations, covenants and events of default, including certain covenants that limit or restrict the Company’s and certain of its subsidiaries’ ability to incur indebtedness, grant certain types of security interests, incur certain types of liens, sell or transfer assets or enter into a merger or consolidate with another company, enter into sale and leaseback transactions, make certain types of investments, declare or make dividends or distributions, engage in certain affiliate transactions, or modify organizational documents, among other restrictions andguarantors, subject to certaincustomary exceptions. In accordance with the Senior Credit Facility, the Company is also required to have adjusted EBITDA, as defined in the agreement, of $25,000 for the previous four consecutive fiscal quarters in total, at the end of each quarterly period ending on or after March 31, 2020.
The Senior Credit FacilityNotes and the First Lien Term Loan also requireABL Revolver contain covenants limiting the ability of the Company, the 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 Issuer and its restricted subsidiaries to 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 important exceptions and qualifications as set forth in the respective agreements.
The Company may have obligations to make an offer to repay the Senior 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 respective agreement,Company, the subsidiary guarantors and U.S. Bank National Association, with any required paymentsprepayments to be made after the issuance of the Company’s annual financial statements.
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 calculation for 2020 pursuant to the terms of the Senior Credit Facility and the First Lien Term Loan. The Company was not requiredoffered to make any prepaymentsprepay the balance, pursuant to the terms of the Senior Credit Facility and the First Lien Term Loan, with respectwhich resulted in a required principal prepayment of $7,754 to our 2019 annual financial statements.
Interest rates under the Senior Credit Facility are based, at the Company's election, on a Eurodollar rate, subject to an interest rate floor of 1.0%, plus a margin of 8.5% or a base rate plus a margin of 7.5%. Prepayments made prior to February 15, 2022 are subject to a make-whole premium. Interest rates under the First Lien Term Loan are based, at the Company’s election,lenders on a Eurodollar rate, subject to an interest rate floor of 1.0%,March 4, 2021, plus a margin of 4.5%, or a base rate plus a margin of 3.5%.
The term loans made under the Senior Credit Facility would be accelerated and become immediately due and payable if an event of default (as defined in the Senior Credit Agreement) were to occur. Tricor Pacific Capital Partners (Fund IV), Limited Partnership and Tricor Pacific Capital Partners (Fund IV) US, Limited Partnership (collectively, the “Tricor Funds”), own approximately 37% and 22% of the Company’s common stock, respectively, as of December 31, 2019. If the Tricor Funds were to sell or otherwise dispose of more than 25% of CPI’s outstanding common stock, or otherwise cease to own at least 30% of CPI’s outstanding common stock, other than by means of distributing CPI common stock to the participants in Tricor Funds, a “change of control” event of default would occur. Additionally, certain proposed changes to the Senior Credit Facility require the consent of lenders representing more than 50% of the outstanding term loans, and if a lender does not consent to such proposed changes, then, among other options, CPI may be required to pre-pay the non-consenting lender’s portion of the loan, including accrued interest fees and other amounts payable, as well as a make-whole premium.
The proceeds of the Senior Credit Facility may be used by the Company to provide for the working capital and general corporate requirements of the Company and its subsidiaries, including to pay any fees and expenses in connection with the Senior Credit Facility and other related loan documents.thereon.
Deferred Financing Costs and Discount
Certain costs and discounts 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 discountdebt issuance costs recorded on the Senior Credit Facility was $1,400,
15
Notes were $7,558 and financing costs were $3,215, and both were recordedare reported as a reduction to the long-term debt balance in the quarter ended March 31, 2020.2021. The net discount and debt issuance costs on the Senior Credit FacilityABL Revolver were $2,144 and are recorded as included within financing activitiesother assets (current and long term) on the condensed consolidated statementbalance sheet as of cash flows relates to cash flows duringMarch 31, 2021.
During the sixthree months ended June 30, 2020.March 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.
12.11. Income Taxes – Continuing Operations
During the three months ended June 30,March 31, 2021, the Company recognized an income tax expense of $1,360 on a pre-tax income of $3,770, representing an effective income tax rate of 36.1%. For the three months ended March 31, 2020, the Company recognized an income tax benefit of $4,414 on a pre-tax loss of $4,298, compared to an income tax expense of $777$465 on a pre-tax income of $2,329 for the prior year period. During the six months ended June 30, 2020, the Company recognized an income tax benefit of $5,357 on pre-tax loss of $2,798,$1,317, representing an effective income tax rate of 191.5%. For the six months ended June 30, 2019, the Company recognized an income tax expense of $1,180 on a pre-tax loss of $365, representing an effective income tax rate of (323.3)(35.3)%.
15
For the sixthree months ended June 30,March 31, 2021 and 2020, and 2019, the effective tax rate differs from the U.S. federal statutory income tax rate as follows:
| | | | | | | | | | |
| | June 30, | | | March 31, | | ||||
| | 2020 |
| 2019 | | | 2021 |
| 2020 | |
Tax at federal statutory rate | | 21.0 | % | 21.0 | % | | 21.0 | % | 21.0 | % |
State taxes, net | | 15.0 | | (60.1) | | | 11.8 | | 46.0 | |
Valuation allowance | | 18.9 | | (206.2) | | | 0.0 | | 100.6 | |
Permanent items | | 17.0 | | (7.4) | | | 3.9 | | 47.9 | |
Tax benefit CARES Act | | 127.9 | | — | | | 0.0 | | (250.9) | |
Other | | (8.3) | | (70.6) | | | (0.6) | | 0.1 | |
Effective income tax rate | | 191.5 | % | (323.3) | % | | 36.1 | % | (35.3) | % |
In March 2020, the CARES Act was signed into law. The CARES Act allows companies with net operating losses (“NOLs”) originating in 2018, 2019, or 2020 to carry back those losses for five years and temporarily eliminates the tax law provision that limits the use of NOLs to 80% of taxable income. The CARES Act increases the Internal Revenue Code Section 163(j) interest deduction limit for 2019 and 2020, and allows for the acceleration of refunds of alternative minimum tax credits. For the sixthree months ended June 30,March 31, 2020, the Company recorded an estimated 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 127.9%250.9%. In addition, the Company has recorded a partial valuation allowance due to the limitation on the deductibility of interest expense with an income tax rate impact of 18.9% for the six months ended June 30, 2020.
The Company’s income tax receivable on the condensed consolidated balance sheet as of June 30, 2020,March 31, 2021, relates primarily to U.S. federal income tax receivables relating to prior tax years, including NOL carrybacks relating to the CARES Act income tax refund. Additionally, the income tax receivable relates to
The Company believes that it is reasonably possible that approximately $852 of its unrecognized tax benefits based on our pre-tax loss and income tax provision through June 30, 2020. Inmay be recognized in the six months ended June 30, 2019, the effective tax rate differs fromnext one year period as a result of settlement with the federal U.S. statutory rate primarily due totaxing authorities. As such, this balance is reflected in “Accrued expenses” in the impactCompany’s condensed consolidated balance sheet as of tax expense recorded related to the partial valuation allowance due to the limitation on the deductibility of interest expense. March 31, 2021.
13.
12. Stockholders’ Deficit
Common Stock
Common Stock has a par value of $0.001 per share. Holders of Common 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 may 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 one vote per share.
16
14. Income (Loss)13. Earnings per Share
Basic and diluted income (loss)earnings per share is computed by dividing net income (loss) by the weighted-average number of common shares outstanding during the period.
The following table sets forth the computation of basic and diluted income (loss)earnings per share:
| | | | | | | | | | | | | | | | | | |
| | Three Months Ended | | Six Months Ended | | Three Months Ended | ||||||||||||
| | June 30, | | June 30, | | March 31, | ||||||||||||
|
| 2020 |
| 2019 | | 2020 | | 2019 |
| 2021 |
| 2020 | ||||||
Numerator: | | | | | | |
| |
|
| |
| | | | | | |
Net income (loss) from continuing operations | | $ | 116 | | $ | 1,552 | | $ | 2,559 | | $ | (1,545) | ||||||
Net (loss) income from discontinued operation | | | (4) | | | (30) | | | (30) | | | 12 | ||||||
Net income (loss) | | $ | 112 | | $ | 1,522 | | $ | 2,529 | | $ | (1,533) | ||||||
Net income from continuing operations | | | 2,410 | | | 1,782 | ||||||||||||
Net loss from discontinued operations | | | — | | | (26) | ||||||||||||
Net income | | $ | 2,410 | | $ | 1,756 | ||||||||||||
| | | | | | | | | | | | | | | | | | |
Denominator: | | | | | | | | | | | | | | | | | | |
Basic weighted-average common shares outstanding | |
| 11,229,819 | |
| 11,178,462 | |
| 11,227,160 | |
| 11,169,468 | |
| 11,230,482 | |
| 11,224,500 |
Dilutive shares | | | 4,033 | | | 63,763 | | | 15,112 | | | — | | | 408,533 | | | 37,859 |
Diluted weighted-average common shares outstanding | | | 11,233,852 | | | 11,242,225 | | | 11,242,272 | | | 11,169,468 | | | 11,639,015 | | | 11,262,359 |
| | | | | | | | | | | | | | | | | | |
Net income (loss) per share from continuing operations - Basic: | | $ | 0.01 | | $ | 0.14 | | $ | 0.23 | | $ | (0.14) | ||||||
Net income (loss) per share from discontinued operations - Basic: | | | (0.00) | | | (0.00) | | | (0.00) | | | 0.00 | ||||||
Net income (loss) per share - Basic: | | $ | 0.01 | | $ | 0.14 | | $ | 0.23 | | $ | (0.14) | ||||||
Earnings per share from continuing operations - Basic and Diluted: | | | 0.21 | | | 0.16 | ||||||||||||
Earnings (loss) per share from discontinued operations - Basic and Diluted: | | | — | | | (0.00) | ||||||||||||
Earnings per share - Basic and Diluted: | | $ | 0.21 | | $ | 0.16 | ||||||||||||
| | | | | | | | | | | | | | | | | | |
Net income (loss) per share from continuing operations - Diluted: | | $ | 0.01 | | $ | 0.14 | | $ | 0.23 | | $ | (0.14) | ||||||
Net income (loss) per share from discontinued operations - Diluted: | | | (0.00) | | | (0.00) | | | (0.01) | | | 0.00 | ||||||
Net income (loss) per share - Diluted: | | $ | 0.01 | | $ | 0.14 | | $ | 0.22 | | $ | (0.14) | ||||||
| | | | | | | | | | | | | | | | | | |
The Company reported a net loss for the six months ended June 30, 2019. Accordingly, the potentially dilutive effect of 864,257 stock options and 11,201 restricted stock units were excluded from the computation of diluted earnings per share as of June 30, 2019, as their inclusion would be anti-dilutive.
15.14. Commitments and Contingencies; Litigation SettlementContingencies
ContingenciesCommitments
Refer to Note 9 “Financing and Operating Leases” for details on the Company’s future cash payments with respect to financing and 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 2022 and 2028 and contain various provisions for rental adjustments and renewals. The leases typically require the Company to pay property taxes, insurance and normal maintenance costs.
Contingencies
In accordance with applicable accounting guidance, the Company establishes an accrued liability when loss contingencies are both probable and estimable. 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 estimable. Once the loss contingency is deemed to be both probable and estimable, the Company will establish an accrued liability and record a corresponding amount of expense. The Company expenses professional fees associated with litigation claims and assessments as incurred.
Smart Packaging Solutions SA v. CPI Card Group Inc.
On April 20, 2021, Smart Packaging Solutions, SA (“SPS”) filed a patent infringement lawsuit against the Company in the United States District Court for the District of Delaware seeking an unspecified amount of damages and equitable relief. In the complaint, SPS alleges that the Company infringed four 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 its products that use contactless communication. The Company does not manufacture antennas; it purchases certain antenna-related components from SPS and a number of other suppliers. The Company has not been formally served with the complaint and thus has not yet filed an answer. The Company intends to investigate and pursue its rights relating to the claims and to defend the suit vigorously. However, no assurance can be
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Derivative Suit
Heckermann v. Montross et al., Case No. 1:17-CV-01673 (D. Del.) (the “Derivative Suit”)
On November 20, 2017, a purported CPI stockholder filed a stockholder derivative complaintgiven that this matter will be resolved favorably. Accordingly, it is not yet possible to reliably determine any potential liability that could result from this matter in the United States District Court for the Districtevent of Delaware (the “Court”) against certain of CPI’s former officersan adverse determination, and current and former directors, along with the sponsors of CPI’s October 2015 initial public offering (“IPO”). CPI is also named as a nominal defendant. The derivative complaint asserts claims under §§10(b) and 20(a) of the Securities Exchange Act of 1934 and Securities and Exchange Commission Rule 10b-5 and seeks, among other things, injunctive relief, damages and costs. 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. The derivative complaint also asserts claims for purported breaches of fiduciary duties, unjust enrichment, mismanagement and waste of corporate assets.
On December 18, 2019, the parties filed a Stipulation and Agreement of Settlement to resolve and dismiss the Derivative Suit, and on April 1, 2020, the Court granted final approval of the settlement set forth therein and dismissed with prejudice all claims (the “Settlement”). Under the Settlement, (i) all claims that were or could have been asserted in the Derivative Suit were resolved and discharged, (ii) the Company agreed to implement certain corporate governance reforms, and (iii) the Company’s insurer agreed to pay fees and expenses awarded to the plaintiff’s counsel in the amount of $343 and a service award to the plaintiff of a nominal amount. There was no liability necessary to behas been recorded for the Settlement as of June 30, 2020,March 31, 2021 or December 31, 2019.2020.
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 its business, financial condition or results of operations.
Estimated Sales Tax Liability
The Company is in the process of evaluating and finalizing a state sales tax liability analysis for states in which it has economic nexus and collecting exemption documentation from its customers. It is probable that the Company will be subject to sales tax liabilities plus interest and penalties relating to historical activity in certain states and therefore hasstates. The estimated a liability of $2,700for sales tax as of June 30,March 31, 2021 and December 31, 2020 whichwas $1,805 and $1,696, respectively, and is recorded in aincluded in accruedccrued expenses in the condensed consolidated balance sheets, and selling, general, and administrative expensessheets. The liability increased from the estimate recorded in the condensed consolidated statements of operations.prior period due to ongoing activity. In addition, as the Company remits cash to the applicable state tax authorities for historical sales tax and interest, the liability balance will decrease. Due to the complexity ofestimates involved in the analysis, and remaining information needed from customers, the Company expects that this estimatethe estimated liability will change in the future, and couldmay exceed the original estimatecurrent estimate. . In addition, any amounts relatedThe Company also may be subject to prior sales taxes that areexamination by the relevant state tax authorities. Sales tax recovered from customers wouldreduces the estimated expense when it is received or probable of collection. Future changes to the liability that impact the condensed consolidated statements of operations will be recorded in future periodswithin “Selling, general, and reduce the estimated expense.administrative expenses.”
Litigation Settlement
CPI Card Group Inc. v. Multi Packaging Solutions, Inc., et al. Second Case
During the summer of 2017, the Company and its subsidiary, CPI Card Group – Minnesota, Inc. (together, the “Company Plaintiffs”), commenced a lawsuit in the United States District Court for the District of Minnesota against a former employee, Multi Packaging Solutions, Inc. (“MPS”), and two MPS employees as individuals (collectively, the “Defendants”). On June 12, 2019, the Company Plaintiffs and the Defendants reached a settlement pursuant to which the case was resolved and dismissed by mutual agreement on terms that provided for, among other things, a cash payment to the Company. The Company received a $6,000 cash settlement payment during the second quarter of 2019, and recorded the gain within income from operations, in the Other segment. The case was dismissed in its entirety, with prejudice, by court order on July 12, 2019.
16.15. Stock-Based Compensation
CPI Card Group Inc. Omnibus Incentive Plan
In October 2015, the Company adopted the CPI Card Group Inc. Omnibus Incentive Plan (the “Omnibus Plan”) pursuant to which cash and equity based incentives may be granted to participating employees, advisors and directors. The Company had reserved 800,0001,200,000 shares of common stock for issuance under the Omnibus Plan. Effective March 25, 2017, the Omnibus Plan was amended and restated, providing for an increase in the number of shares of Common Stock
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authorized for issuance thereunder by 400,000. The increase was made effective in the fourth quarter of 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 June 30, 2020,March 31, 2021, there were 367,703185,113 shares available for grant under the Omnibus Plan.
During the sixthree months ended June 30, 2020,March 31, 2021, and during the fiscal year ended December 31, 2019,2020, the Company did not grant any awards of non-qualified stock options. The following is a summary of the activity in outstanding stock options under the Omnibus Plan:
| | | | | | | | | | | | | | |
|
| |
| |
| Weighted- |
| |
| |
| Weighted- | ||
| | | | Weighted- | | Average | | | | Weighted- | | Average | ||
| | | | Average | | Remaining | | | | Average | | Remaining | ||
| | | | Exercise | | Contractual Term | | | | Exercise | | Contractual Term | ||
| | Options | | Price | | (in Years) | | Options | | Price | | (in Years) | ||
Outstanding as of December 31, 2019 |
| 793,084 | | $ | 14.91 | | | |||||||
Outstanding as of December 31, 2020 |
| 706,372 | | $ | 15.20 | | 6.44 | |||||||
Forfeited | | (80,790) | | $ | 12.26 | | | | — | | | - | | - |
Outstanding as of June 30, 2020 | | 712,294 | | $ | 15.21 | | 6.70 | |||||||
Options vested and exercisable as of June 30, 2020 | | 507,938 | | $ | 19.46 | | 6.50 | |||||||
Options vested and expected to vest as of June 30, 2020 | | 712,294 | | $ | 15.21 | | 6.70 | |||||||
Outstanding as of March 31, 2021 | | 706,372 | | $ | 15.20 | | 6.19 | |||||||
Options vested and exercisable as of March 31, 2021 | | 670,876 | | $ | 15.92 | | 6.12 | |||||||
Options vested and expected to vest as of March 31, 2021 | | 706,372 | | $ | 15.20 | | 6.19 |
The following is a summary of the activity in unvested stock options under the Omnibus Plan:
| | | | | | | | | | |
| | | | Weighted-Average | | | | Weighted-Average | ||
|
| Options |
| Grant-Date Fair Value |
| Options |
| Grant-Date Fair Value | ||
| | | | | | | | | | |
Unvested as of December 31, 2019 |
| 250,571 |
| $ | 1.90 | |||||
Forfeited |
| (16,028) | |
| 2.33 | |||||
Unvested as of December 31, 2020 |
| 45,319 |
| $ | 1.10 | |||||
Vested |
| (30,187) | |
| 3.39 |
| (9,823) | |
| 1.79 |
Unvested as of June 30, 2020 |
| 204,356 | | $ | 1.64 | |||||
Unvested as of March 31, 2021 |
| 35,496 | | $ | 0.91 |
Unvested stock options of 35,496 as of June 30, 2020,March 31, 2021 will vest as follows:entirely in 2021.
| | |
| | |
2020 | | 157,895 |
2021 | | 46,461 |
Total unvested options as of June 30, 2020 | | 204,356 |
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The following table summarizes the changes in the number of outstanding restricted stock units:
| | | | | | | | | | | | | | | | |
| | | | | | | Weighted- | | | | | | | | Weighted- | |
| | | | | | | Average | | | | | | | | Average | |
| | | | Weighted- | | Remaining |
| | | | Weighted- | | Remaining |
| ||
|
| |
| Average | | Amortization |
|
| |
| Average | | Amortization |
| ||
| | | | Grant-Date | | Period |
| | | | Grant-Date | | Period |
| ||
| | Units | | Fair Value | | (in Years) |
| | Shares | | Fair Value | | (in Years) |
| ||
Outstanding as of December 31, 2019 |
| 7,347 | | $ | 22.49 | | | | ||||||||
Vested | | (6,216) | | | 21.75 | | | | ||||||||
Outstanding as of December 31, 2020 |
| 180,001 | | $ | 2.12 | | | | ||||||||
Forfeited |
| (203) | | | 21.75 | | | |
| — | | | | | | |
Outstanding as of June 30, 2020 |
| 928 | | $ | 27.60 | | 0.24 | | ||||||||
Outstanding as of March 31, 2021 |
| 180,001 | | $ | 2.12 | | 1.50 | |
During the six months ended June 30, 2020, and during the fiscal year ended December 31, 2019, theThe Company did not grant any awards ofgranted 180,001 restricted stock units.units to employees on October 2, 2020. The restricted stock unit awards contain conditions associated with continued employment or service and vest two years from the date of grant. On the vesting date, shares of common stock will be issued to the award recipients. Unvested restricted stock units of 928180,001 as of June 30, 2020,March 31, 2021 will vest entirely by the end of 2020.in October 2022.
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 settled in cash in three annual payments on the first, second and third
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anniversaries of the date of grant. The cash performance units were 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 Company recognized compensation expense on a straight-line basis for each annual performance period. The cash performance units were accounted for as a liability and remeasured to fair value at the end of each reporting period. During the six months ended June 30, 2020, the third tranche of the cash performance units vested and the Company made a cash payment of $68 to the award recipients. There are no outstanding cash performance units as of June 30, 2020.
Compensation expense for the Omnibus Plan for the three months ended June 30,March 31, 2021 and 2020 was $51 and 2019 was $18 and $161, respectively. Compensation expense for the six months ended June 30, 2020 and 2019 was $59 and $308,$41, respectively. As of June 30, 2020,March 31, 2021, the total unrecognized compensation expense related to unvested options and restricted stock units is not significant, and$289, which the expense is expectedCompany expects to be recognizedrecognize over an estimated weighted-average period of less than one year.approximately 1.5 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 could 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 was granted. As a result of the Company’s adoption of its Omnibus Plan, no further awards will be made under the Option Plan. During the year ended December 31, 2019, the remaining 6,600 outstanding shares in the Option Plan were exercised. As such, there were no outstanding shares remaining as of December 31, 2019 or June 30, 2020. There was no compensation expense related to options previously granted under the Option Plan, for the three and six months ended June 30, 2020 and 2019.
17.16. Segment Reporting
The Company has identified reportable segments as those consolidated subsidiaries that represent 10% or more of its net sales, EBITDA (as defined below) or total assets, or when the Company believes information about the segment would be useful to the readers of the financial 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 net 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 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 June 30, 2020,March 31, 2021, the Company’s reportable segments were as follows:
● Debit and Credit,Credit;
● Prepaid Debit,Debit; and
● Other.
The Other category includes the Company’s corporate officeDebit and for the three and six months ended June 30, 2019, a less significant operating segment that historically derived its revenue from the production of financial payment cards and retail gift cards in Canada. Credit Segment
The Company’s Canadian subsidiary was sold on April 1, 2019. The sale did not include the portions of the business relating to Financial Payment Cards, as those business customers of the Canadian subsidiary migrated to the Company’s operations in the Debit and Credit segment orprimarily produces Financial Payment Cards and provides integrated card services, including card personalization and fulfilment services, to other service providerscard-issuing banks primarily in 2019.the United States. Products manufactured by this segment primarily include EMV and non-EMV Financial Payment Cards, including contact and contactless dual-interface cards, and plastic and encased metal cards, and our eco-focused solutions including Second Wave payment cards featuring a core made with recovered ocean bound plastic and Earthwise “high content” plastic cards. The Company also sells Card@Once instant card issuance solutions, and private label credit cards that are not issued on the networks of the Payment Cards Brands. The Company provides CPI On-Demand services, where images, personalized payment cards, and related collateral are produced on a one-by-one, on demand basis for customers. The Debit and Credit segment operations are each audited for compliance by multiple Payment Card Brands.
2019
Prepaid Debit Segment
The Prepaid Debit segment primarily provides integrated card services to Prepaid Debit Card providers in the United States, including tamper-evident security 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. The Prepaid Debit segment facilities are audited for compliance with the standards of the PCI Security Standards Council by multiple Payment Card Brands.
Other
The Other segment includes corporate expenses and the loss on debt extinguishment.
Performance Measures of Reportable Segments
Net Sales and EBITDA of the Company’s reportable segments for the three and six months ended June 30,March 31, 2021 and 2020, and 2019, were as follows:
| | | | | | | | | | | | | | | | | | |
| | Net Sales | | Net Sales | ||||||||||||||
| | Three Months Ended June 30, | | Six Months Ended June 30, | | Three Months Ended March 31, | ||||||||||||
| | 2020 | | 2019 | | 2020 | | 2019 | | 2021 | | 2020 | ||||||
Debit and Credit |
| $ | 58,306 |
| $ | 51,086 |
| $ | 118,145 |
| $ | 100,015 |
| $ | 69,817 |
| $ | 59,839 |
Prepaid Debit | |
| 13,536 | |
| 15,966 | |
| 28,076 | |
| 32,710 | |
| 19,458 | |
| 14,540 |
Other | |
| — | |
| — | |
| — | |
| 1,679 | ||||||
Intersegment eliminations | |
| (464) | |
| (151) | |
| (874) | |
| (637) | |
| (183) | |
| (410) |
Total | | $ | 71,378 | | $ | 66,901 | | $ | 145,347 | | $ | 133,767 | | $ | 89,092 | | $ | 73,969 |
| | | | | | | | | | | | | | | | | | |
| | EBITDA | | EBITDA | ||||||||||||||
| | Three Months Ended June 30, | | Six Months Ended June 30, | | Three Months Ended March 31, | ||||||||||||
| | 2020 | | 2019 | | 2020 | | 2019 | | 2021 | | 2020 | ||||||
Debit and Credit |
| $ | 10,593 |
| $ | 10,590 |
| $ | 25,673 |
| $ | 20,970 |
| $ | 22,400 |
| $ | 14,959 |
Prepaid Debit | |
| 3,982 | |
| 5,880 | |
| 8,642 | |
| 11,659 | |
| 7,573 | |
| 4,660 |
Other | |
| (7,947) | |
| (3,435) | |
| (15,921) | |
| (11,741) | |
| (13,005) | |
| (7,974) |
Total | | $ | 6,628 | | $ | 13,035 | | $ | 18,394 | | $ | 20,888 | | $ | 16,968 | | $ | 11,645 |
The following table provides a reconciliation of total segment EBITDA from continuing operations to net income (loss) from continuing operations for the three and six months ended June 30, 2020March 31, 2021 and 2019:2020:
| | | | | | | | | | | | | | | | | | |
| | Three Months Ended | | Six Months Ended | | Three Months Ended | ||||||||||||
| | June 30, | | June 30, | | March 31, | ||||||||||||
|
| 2020 |
| 2019 |
| 2020 |
| 2019 |
| 2021 |
| 2020 | ||||||
Total segment EBITDA from continuing operations | | $ | 6,628 | | $ | 13,035 | | $ | 18,394 | | $ | 20,888 | ||||||
Total segment EBITDA | | $ | 16,968 | | $ | 11,645 | ||||||||||||
Interest, net | | | (6,772) | | | (6,438) | | | (12,860) | | | (12,762) | | | (8,976) | | | (6,088) |
Income tax benefit (expense) | |
| 4,414 | |
| (777) | |
| 5,357 | |
| (1,180) | ||||||
Income tax (expense) benefit | |
| (1,360) | |
| 465 | ||||||||||||
Depreciation and amortization | |
| (4,154) | |
| (4,268) | |
| (8,332) | |
| (8,491) | |
| (4,222) | |
| (4,240) |
Net income (loss) from continuing operations | | $ | 116 | | $ | 1,552 | | $ | 2,559 | | $ | (1,545) | ||||||
Net loss from discontinued operations | | | — | | | (26) | ||||||||||||
Net income | | $ | 2,410 | | $ | 1,756 |
Balance Sheet Data of Reportable Segments
Total assets of the Company’s reportable segments at June 30, 2020March 31, 2021 and December 31, 2019,2020, were as follows:
| | | | | | | | | | | | |
|
| June 30, 2020 |
| December 31, 2019 |
| March 31, 2021 |
| December 31, 2020 | ||||
| | | | | | | | | | | | |
Debit and Credit | | $ | 205,266 | | $ | 176,496 | | $ | 200,341 | | $ | 215,846 |
Prepaid Debit | |
| 27,238 | |
| 25,259 | |
| 37,926 | |
| 34,734 |
Other | |
| 14,000 | |
| 11,732 | |
| 8,027 | |
| 15,571 |
Total assets | | $ | 246,504 | | $ | 213,487 | | $ | 246,294 | | $ | 266,151 |
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Net Sales to Geographic Locations, Property, Equipment and Leasehold Improvements and Long-Lived Assets
Subsequent to the sale of the Company’s U.K. Limited segment and reclassification to discontinued operations, and the sale of the Company’s Canada operations on April 1, 2019, theThe Company’s Net Sales, Property, Equipment and Leasehold Improvements, and Long-Lived assets relating to geographic locations outside of the United States is insignificant.
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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
References to the “Company,” “our,” “us” or “we” refer to CPI Card Group Inc. and its subsidiaries. For an understanding of the significant factors that influenced our results, the following discussion should be read in conjunction with our unaudited condensed consolidated financial statements and related notes appearing elsewhere in this Quarterly Report on Form 10-Q for the quarter ended June 30, 2020.March 31, 2021. This management’s discussion and analysis should also be read in conjunction with the management’s discussion and analysis and consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 20192020 filed with the Securities and Exchange Commission (“SEC”).
Cautionary Statement Regarding Forward-Looking Information
Certain statements and information in this Quarterly Report on Form 10-Q for the quarter ended June 30, 2020March 31, 2021 (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, and Section 21E of the Securities Exchange Act of 1934, as amended.amended (the “Exchange Act”). The words “believe,” “estimate,” “project,” “expect,” “anticipate,” “plan,” “intend,” “foresee,” “should,” “would,” “could,” “continue,” “committed,” “guides,” “provides guidance,” “provides outlook,”outlook” or other similar expressions are intended to identify forward-looking statements, which are 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 or other events may vary materially from those described herein. Such forward-looking statements, because they relate to future events, are by their very nature subject to many important risks 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 on our business, including our supply-chain, customer demand, workforce, operations and ability to comply with certain covenants in our credit facilities; a decline in U.S. and global market and economic conditions and resulting decreases in consumer and business spending; our lack of eligibility to participate in government relief programs related to COVID-19 or inability to realize material benefits from such programs; our substantial indebtedness, including inability to make debt service payments or refinance such indebtedness; costs and impacts to our financial results relating to the obligatory collection of sales tax and claims for uncollected sales tax in states that impose sales tax collection requirements on out-of-state retailers, and challenges to our income tax positions; the restrictive terms of our credit facilities and covenants of future agreements governing indebtedness and the resulting restraints on our ability to pursue our business strategies; our limited ability to raise capital in the future; a disruption or other failure in our supply chain; the effects of current or additional U.S. government tariffs as well as economic downturns or disruptions, including delays or interruptions in our ability to source raw materials and components used in our products; system security risks, data protection breaches and cyber-attacks; failure to comply with regulations, customer contractual requirements and evolving industry standards regarding consumer privacy and data use and security, including with respect to possible exposure to litigation and/or regulatory penalties under applicable data privacy and other laws for failure to so comply; interruptions in our operations, including our ITinformation technology systems, or in the operations of the third parties that operate the data centers or computing infrastructure on which we rely; failure to comply with regulations, customer contractual requirements and evolving industry standards regarding consumer privacy and data use and security; disruptions in production at one or more of our facilities; our failure to retain our existing customers or identify and attract new customers; our inability to recruit, retain and develop qualified personnel, including key personnel; our inability to adequately protect our trade secrets and intellectual property rights from misappropriation, or infringement claims that our technology is infringing on the intellectual property of others,brought against us and risks related to open source software; defects in our software; problems in production quality, materials and process; a disruption or other failure in our supply chain; our failure to retain our existing customers or identify and attract new customers; a loss of market share or a decline in profitability resulting from competition; our inability to recruit, retain and develop qualified personnel, including key personnel; 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; 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; costs and impacts to our financial results relating to the effectobligatory collection of legalsales tax and regulatory proceedings;claims for uncollected sales tax in states that impose sales tax collection requirements on out-of-state businesses, as well as new U.S. tax legislation increasing the corporate income tax rate and challenges to our income tax positions; failure to meet the continued listing standards of the Toronto Stock Exchange or the rules of the OTCQX® Best Market; a continued decrease in the value of our common stock combined with our common stock no longernot being traded on a United States national securities exchange, which may prevent investors or potential investors from investing or achieving a meaningful degree of liquidity; developing technologies that make our existing technology solutions and products obsolete or less relevant or a failure to introduce new products and services in a timely manner; quarterly variation in our operating results; our inability to realize the full value of our long-lived assets; our failure to operate our business in accordance with the Payment Card Industry (“PCI”) Security Standards Council security standards or other industry standards; a decline in U.S. and global market and economic conditions and resulting decreases in consumer and business spending; costs relating to product defects and any related product liability and/or warranty claims; maintenance and further imposition of tariffs
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and/or trade restrictions on, or slow-downs or interruptions in our ability to obtain, goods imported into the United States; our dependence on licensing arrangements; risks associated with international operations; non-compliance with, and changes in, laws in the United States and in foreign jurisdictions in which we operate and sell our products;products and services; the effect of legal and regulatory proceedings; our ability to comply with a wide variety of
22
environmental, health and safety laws and regulations and the exposure to liability for any failure to comply; risks associated with the controllingmajority stockholders’ ownership of our stock; the influence of securities analysts over the trading market for and price of our common stock; our inability to sell, exit, reconfigure or consolidate businesses or facilities that no longer meet with our strategy; potential conflicts of interest that may arise due to our board of directors being comprised in part of directors who are principals of our largest stockholder;majority stockholders; 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; and other risks that are described in Part I, Item 1A – Risk Factors in our Annual Report on Form 10-K for the year ended December 31, 20192020 filed with the Securities and Exchange Commission (the “SEC”)SEC on March 6, 2020, Part II, Item 1A – Risk Factors in this Quarterly Report on Form 10-Q for the quarter ended June 30, 2020,February 25, 2021 and our other reports filed from time to time with the SEC.
We 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.
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)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 provideprovides 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 market through more than 20 years of experience. We serve a diverse set of overapproximately 2,000 direct customers and several thousand indirect customers, including some of the largest issuers of debit and credit cards in the United States, and the largest Prepaid Debit Card program managers, as well as thousands of independent community banks, credit unions, “Group Service Providers” (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, core banking operations and other financial services) and card processors.
We serve our customers through a network of high-security production and card services facilities including high-security facilities in the United States, each of which areis 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. Many of our customers require us to comply with the standards of the PCI Security Standards Council. ThisCouncil requirements that relate to the provision of our products and services. Our leading network of high-security production facilities allows us to optimize our solutions offerings and to serve the needs of our diverse customer base.
Driven by a combination of our strong relationships, quality, technology and innovation, we believe we have strong positions in the following markets:
● | the U.S. prepaid debit market, serving several 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; and |
● | the U.S. large issuer market, serving some of the largest U.S. debit and credit card issuers. |
Our business consists of the following reportable segments: Debit and Credit, which primarily produces Financial Payment Cards and provides integrated card services to card-issuing banks primarily in the United States, and Prepaid Debit, which primarily provides integrated card services to Prepaid Debit Card program managers primarilyproviders in the United States. Businesses not considered part of these segments are consideredOur “Other” and included our operations in Canada prior to the sale and disposition of our Canadian operations andsegment includes corporate expenses.
In the fourth quarter of 2018, we entered into a definitive agreement to sell our Canadian subsidiary. The sale did not include the portions of the business relating to Financial Payment Cards, as that business migrated to our
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operations in the Debit and Credit segment or to other service providers in 2019. The transaction closed on April 1, 2019, and we received cash proceeds of $1.5 million. After the payment of liabilities and transaction costs, including employee termination costs (the majority of which were expensed in 2018), the sale did not have a significant impact on cash, and no significant loss on sale was recorded. In connection with the disposition of the Canadian subsidiary, the Company released the related cumulative translation adjustment of $1.3 million from “Accumulated Other Comprehensive Loss” on the condensed consolidated balance sheet into “Foreign Currency Loss” on the condensed consolidated statement of operations during the six months ended June 30, 2019. The Canadian subsidiary was not a significant operating segment and the financial results of this business through the transaction closing date were presented as part of the Other reportable segment.
COVID-19 Update
On March 11, 2020, WHOcharacterized COVID-19 as a pandemic. Further, on March 13, 2020, the President of the United States declared theThe COVID-19 pandemic a national emergency, invoking powers under the Stafford Act – the legislation that directs federal emergency disaster response.has impacted economies and societies globally. The broader and long-term implications of COVID-19 on ourthe Company’s results of operations and overall financial performance remain uncertain. The adverse effects of the COVID-19 pandemic have become widespread, including in the locations where we, our customers and our suppliers conduct business. The health and safety of our employees remainsremain paramount, and we continue to follow the safetyresponse protocols based on precautions and other appropriate measures recommended by the Centers for Disease Control and Prevention. Prevention, as well as various state and local executive orders, health orders and guidelines. The Company believes the global impacts from COVID-19 have contributed to certain adverse effects on its supply chain including access to, and higher pricing of, certain raw materials which may continue in the future. CPI closely monitors its supply chain and has purchased and may continue to purchase additional inventory to address potential supply chain constraints.The current economic environment has affected the available labor pool in the areas in which the Company operates which may result in increased labor cost and turnover in our facilities. The Company will continue to monitor and respond as the situation evolves. All of CPI’s operations remainhave remained open and continue to provide direct and essential support to the financial services industry. However, we may experience constrained supply, curtailed customer demand or impacts on our workforce that could materially adversely impact our business, results of operations and overall financial performance in future periods. While CPI’s net sales in the second quarter and first half of 2020 increased over the prior year, we experienced lower customer demand than expected (which we believe is primarily attributable to the COVID-19 pandemic), and we may experience further effectsSee Item 1A, Risk Factors, in the Company’s results of operations and overall financial performance in future periods. There can be no assurance that the Company’s strategies will be successful in effectively managing the Company’s resources and mitigating the negative impact of the COVID-19 pandemic on our business and operating results. See Part II, Item 1A – Risk Factors in this QuarterlyAnnual Report on Form 10-Q10-K for the quarteryear ended June 30,December 31, 2020 filed with the SEC for further discussion of the possible impact of the COVID-19 pandemic on theour business.
On March 27, 2020, the President of the United States signed the Coronavirus Aid, Relief, and Economic Security (CARES) Act (the “CARES Act”) was signed into law. The CARES Act, among other things, includes provisions relating to refundable payroll tax credits, deferment of employer side social security payments, changes in net operating loss carryback periods, alternative minimum tax credit refunds, modifications to the net interest deduction limitationslimitation and technical corrections to tax depreciation methods for qualified improvement property. CPI is continuing to evaluate the applicability of the CARES Act to the Company, and the potential impacts on the business. Refer to Part I, Item 1, Financial Statements,Note 12, Income Taxes – Continuing Operations,11 “Income Taxes” for a discussion of the CARES Act income tax refundimpacts on the Company has applied for.Company. In addition, we have applied for the deferment ofdeferred employer side social security payments duringin 2020 in accordance with the second quarter of 2020.CARES Act. While we are participating in certain programs under the CARES Act, the CARES Act and its guidance are subject to change, and there is no guarantee that CPI will continue to meet eligibility requirements or that such programs will provide meaningful benefit to our business.change.
The Company evaluates goodwill for impairment at least annually on October 1, or more frequently when an event occurs or circumstances change such that the carrying value may not be recoverable. The potential negative implications of COVID-19, and a related potential decline in the Company’s total fair value of invested capital and financial performance for reporting units with goodwill, could require the Company to perform a quantitative test for goodwill impairment in future quarters. As of June 30, 2020, all of the Company’s $47.2 million of goodwill is included within reporting units in the Debit and Credit segment.
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Results of Continuing Operations
The following table presents the components of our condensed consolidated statements of continuing operations for each of the periods presented:
| | | | | | | | | | | | | | | | | | |
| | Three Months Ended | | Six Months Ended | | Three Months Ended | ||||||||||||
| | June 30, | | June 30, | | March 31, | ||||||||||||
|
| 2020 |
| 2019 |
| 2020 |
| 2019 |
| 2021 |
| 2020 | ||||||
| | (dollars in thousands) | | (dollars in thousands) | ||||||||||||||
Net sales: | | | | | | | | | | | | | | | | | | |
Products | | $ | 39,077 | | $ | 33,125 | | $ | 81,578 | | $ | 65,882 | | $ | 47,013 | | $ | 42,501 |
Services | | | 32,301 | | | 33,776 | | | 63,769 | | | 67,885 | | | 42,079 | | | 31,468 |
Total net sales | | | 71,378 | | | 66,901 | | | 145,347 | | | 133,767 | | | 89,092 | | | 73,969 |
Cost of sales | | | 48,226 | | | 44,520 | | | 96,485 | | | 89,865 | | | 53,371 | | | 48,321 |
Gross profit | | | 23,152 | | | 22,381 | | | 48,862 | | | 43,902 | | | 35,721 | | | 25,648 |
Operating expenses | | | 20,646 | | | 18,285 | | | 38,673 | | | 36,236 | | | 17,952 | | | 18,148 |
Litigation settlement gain (2) | | | — | | | (6,000) | | | — | | | (6,000) | ||||||
Income from operations | | | 2,506 | | | 10,096 | | | 10,189 | | | 13,666 | | | 17,769 | | | 7,500 |
Other expense, net: | | | | | | | | | | | | | | | | | | |
Interest, net | | | (6,772) | | | (6,438) | | | (12,860) | | | (12,762) | | | (8,976) | | | (6,088) |
Foreign currency (loss) gain | | | (25) | | | (1,321) | | | (33) | | | (1,280) | ||||||
Other income (expense), net | | | (7) | | | (8) | | | (94) | | | 11 | | | 25 | | | (3) |
Income (loss) from continuing operations before income taxes | | | (4,298) | | | 2,329 | | | (2,798) | | | (365) | ||||||
Income tax benefit (expense) | | | 4,414 | | | (777) | | | 5,357 | | | (1,180) | ||||||
Net income (loss) from continuing operations | | $ | 116 | | $ | 1,552 | | $ | 2,559 | | $ | (1,545) | ||||||
Loss on debt extinguishment | | | (5,048) | | | (92) | ||||||||||||
Income before taxes | | | 3,770 | | | 1,317 | ||||||||||||
Income tax (expense) benefit | | | (1,360) | | | 465 | ||||||||||||
Net income from continuing operations | | | 2,410 | | | 1,782 | ||||||||||||
Net loss from discontinued operations | | | — | | | (26) | ||||||||||||
Net income | | $ | 2,410 | | $ | 1,756 |
(1) Includes an
Note: The Company revised its prior year financial statements to adjust immaterial items, relating to estimated sales tax expense of $2.7 million recorded during the second quarter of 2020.
(2)and depreciation expense. Refer to Note 15. Commitments1, Business Overview and Contingencies; Litigation Settlement,Summary of Significant Accounting Policies, for further information regardingan explanation of the cash litigation settlement gain.immaterial prior period adjustments.
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Segment Discussion
Three Months Ended June 30, 2020March 31, 2021 Compared With Three Months Ended June 30, 2019March 31, 2020
Net Sales
| | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended June 30, | | | | | | | | Three Months Ended March 31, | | | | | | | ||||||||
| | 2020 |
| 2019 |
| $ Change |
| % Change | | | 2021 |
| 2020 |
| $ Change |
| % Change | | ||||||
| | | | | | | ||||||||||||||||||
| | (dollars in thousands) | | | (dollars in thousands) | | ||||||||||||||||||
Net sales by segment: | | | | | | | | | | | | | | | | | | | | | | | | |
Debit and Credit | | $ | 58,306 | | $ | 51,086 | | $ | 7,220 | | 14.1 | % | | $ | 69,817 | | $ | 59,839 | | $ | 9,978 | | 16.7 | % |
Prepaid Debit | | | 13,536 | | | 15,966 | | | (2,430) | | (15.2) | % | | | 19,458 | | | 14,540 | | | 4,918 | | 33.8 | % |
Other | | | — | | | — | | | — | | — | % | ||||||||||||
Eliminations | | | (464) | | | (151) | | | (313) | | * | % | | | (183) | | | (410) | | | 227 | | * | |
Total | | $ | 71,378 | | $ | 66,901 | | $ | 4,477 | | 6.7 | % | | $ | 89,092 | | $ | 73,969 | | $ | 15,123 | | 20.4 | % |
* Not meaningful
Net sales for the three months ended June 30, 2020March 31, 2021 increased $4.5$15.1 million, or 6.7%20.4%, to $71.4$89.1 million compared to $66.9$74.0 million for the three months ended June 30, 2019.March 31, 2020.
Debit and Credit:
Net sales for Debit and Credit for the three months ended June 30, 2020March 31, 2021 increased $7.2$10.0 million, or 14.1%16.7%, to $58.3$69.8 million compared to $51.1$59.8 million for the three months ended June 30, 2019.March 31, 2020. The net sales increase was primarily due to higher volumes of contactless dual-interface EMV®EMV card sales, including a significant amount of Second Wave® cards
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featuring a core made with recovered ocean bound plastic.new customer growth. In addition, net sales increased from CPI on-Demand card personalization due to new customer wins andcustomers, higher volumes from our existing customers including from a transition to contactless dual interface cards, and from COVID-19 related wins of government disbursement work. Dual-interfaceour CPI On-Demand and Card@Once instant issuance solutions. Contactless dual-interface EMV cards have additional technology to process contactless transactions and generally have a higher selling price to produce and personalize than contact-only EMV cards, which benefitted the current year sales increase compared to the prior year period. Partially offsetting these increases were reductions in volumesNet sales also benefitted from card personalization and Card@Once instant issuance product sales ingovernment disbursement work during the secondfirst quarter of 2020. The decline in volumes was primarily as a result of impacts from COVID-19 and governmental stay-at-home orders, including fewer new accounts and replacement cards, and the closure of certain bank branches or reduced hours of operation.2021.
Prepaid Debit:
Net sales for Prepaid Debit for the three months ended June 30, 2020, decreased $2.4March 31, 2021, increased $4.9 million, or 15.2%33.8%, to $13.5$19.5 million, compared to $16.0$14.5 million for the three months ended June 30, 2019. The decrease was primarily a result of reducedMarch 31, 2020. Net sales increased from higher volumes primarily associated with COVID-19 impacts, including lower retail store traffic resulting from governmental stay-at-home orders duringan existing customer which included new portfolio wins, as compared to the second quarter of 2020.
Other:
During the three months ended June 30, 2020, and 2019, there were no sales in the Other segment. In April 2019, we sold the Canadian subsidiary, which was the only operation contributing to Other segment net sales.prior year period.
Gross Profit and Gross Profit Margin
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended June 30, | | | | | | | | | Three Months Ended March 31, | | | | | | | |||||||||||||||||
| | | | | % of 2020 | | | | | % of 2019 | | | | | |
| | | | | | % of 2021 | | | | | % of 2020 | | | | | |
| |
|
| 2020 |
| Net Sales |
| 2019 |
| Net Sales |
| $ Change |
| % Change | | |
| 2021 |
| Net Sales |
| 2020 |
| Net Sales |
| $ Change |
| % Change | | |||||||
| | (dollars in thousands) | | | | (dollars in thousands) | | |||||||||||||||||||||||||||
Gross profit by segment: | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Debit and Credit | | $ | 18,615 | | 31.9 | % | $ | 15,872 | | 31.1 | % | $ | 2,743 | | 17.3 | % |
| | $ | 27,549 | | 39.5 | % | $ | 20,408 | | 34.1 | % | $ | 7,141 | | 35.0 | % |
|
Prepaid Debit | | | 4,537 | | 33.5 | % | | 6,509 | | 40.8 | % | | (1,972) | | (30.3) | % | | | | 8,172 | | 42.0 | % | | 5,240 | | 36.0 | % | | 2,932 | | 56.0 | % | |
Other | | | — | | — | % | | — | | — | % | | — | | — | % | | |||||||||||||||||
Total | | $ | 23,152 | | 32.4 | % | $ | 22,381 | | 33.5 | % | $ | 771 | | 3.4 | % |
| | $ | 35,721 | | 40.1 | % | $ | 25,648 | | 34.7 | % | $ | 10,073 | | 39.3 | % |
|
Gross profit for the three months ended June 30, 2020,March 31, 2021, increased $0.8$10.1 million, or 3.4%39.3%, to $23.2$35.7 million compared to $22.4$25.7 million for the three months ended June 30, 2019.March 31, 2020. Gross profit margin for the three months ended June 30, 2020 decreasedMarch 31, 2021 increased to 32.4%40.1% compared to 33.5%34.7% for the three months ended June 30, 2019, primarily due to the decline in the Prepaid Debit segment.March 31, 2020.
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Debit and Credit:
Gross profit for Debit and Credit for the three months ended June 30, 2020,March 31, 2021, increased $2.7$7.1 million, or 17.3%35.0%, to $18.6$27.5 million compared to $15.9$20.4 million during the three months ended June 30, 2019.March 31, 2020. The increase in gross profit for the Debit and Credit segment was driven primarily by higher sales volumes and pricing of dual interfacecontactless EMV cards, including Second Wave® cards. In addition, the net sales increase from new customers and higher sales from CPI on-Demandvolumes of card personalization, including contactless cards, CPI On-Demand and government disbursement workCard@Once instant issuance solutions, contributed to an improvement in gross profit compared to the prior year.year period. Gross profit margin increased to 31.9%39.5% during the three months ended June 30, 2020,March 31, 2021, compared to 31.1%34.1% in the prior year period, due primarily due to favorable operating leverage from higher sales volumes from a transition to contactless dual interface card sales volumes including Second Wave® cardscards, card personalization sales mix from dual interface EMV cards and higher CPI on-Demand net sales..
Prepaid Debit:
Gross profit for Prepaid Debit during the three months ended June 30, 2020 decreased 30.3%March 31, 2021, increased $2.9 million, or 56.0%, to $4.5$8.2 million compared to $6.5$5.2 million forduring the three months ended June 30, 2019.March 31, 2020. Gross profit margin for Prepaid Debit for the three months ended June 30, 2020, decreasedMarch 31, 2021, increased to 33.5%42.0% compared to 40.8%36.0% for the three months ended June 30, 2019.March 31, 2020. The decreaseincrease in gross profit and margin was primarily attributed to lowerfavorable overhead cost absorption from higher sales resulting in unfavorable cost absorption.
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Other:
For the three months ended June 30, 2020 and 2019, there was no gross profit in the Other segment. In April 2019, we sold our Canadian subsidiary and no longer have any operations contributing to Other segment net sales or gross profit.volumes.
Operating Expenses net
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended June 30, | | | | | | | | | | Three Months Ended March 31, | | | | | | | | | ||||||||||||
| | | | | % of 2020 | | | | | % of 2019 | | | | | | | | | | | % of 2021 | | | | | % of 2020 | | | | | | |
|
| 2020 |
| Net Sales |
| 2019 |
| Net Sales |
| $ Change |
| % Change | |
| 2021 |
| Net Sales |
| 2020 |
| Net Sales |
| $ Change |
| % Change | | ||||||
| | (dollars in thousands) | | | (dollars in thousands) | | ||||||||||||||||||||||||||
Operating expenses, net, by segment: | | | | | | | | | | | | | | | | | ||||||||||||||||
Operating expenses by segment: | | | | | | | | | | | | | | | | | ||||||||||||||||
Debit and Credit | | $ | 10,377 | | 17.8 | % | $ | 7,883 | | 15.4 | % | $ | 2,494 | | 31.6 | % | | $ | 7,395 | | 10.6 | % | $ | 7,932 | | 13.3 | % | $ | (537) | | (6.8) | % |
Prepaid Debit | | | 1,103 | | 8.1 | % | | 1,135 | | 7.1 | % | | (32) | | (2.8) | % | | | 1,154 | | 5.9 | % | | 1,124 | | 7.7 | % | | 30 | | 2.7 | % |
Other | | | 9,166 | | * | % | | 9,267 | | * | % | | (101) | | (1.1) | % | | | 9,403 | | * | % | | 9,092 | | * | % | | 311 | | 3.4 | % |
Other-litigation settlement | | | — | | — | % | | (6,000) | | * | | | 6,000 | | * | % | ||||||||||||||||
Total | | $ | 20,646 | | 28.9 | % | $ | 12,285 | | 18.4 | % | $ | 8,361 | | 68.1 | % | | $ | 17,952 | | 20.1 | % | $ | 18,148 | | 24.5 | % | $ | (196) | | (1.1) | % |
* Not meaningful
Operating expenses net, for the three months ended June 30, 2020, increased $8.4declined $0.2 million or 68.1%, to $20.6 million compared to $12.3$18.0 million for the three months ended June 30, 2019. The increase was primarily dueMarch 31, 2021, compared to $18.1 million for the cash litigation settlement gain of $6.0 million recorded in the second quarter of 2019, which was a reduction to net operating expenses, and an estimated sales tax expense of $2.7 million recorded in the second quarter of 2020 within the Debit and Credit segment. The Company is in the process of evaluating and finalizing a state sales tax analysis and recorded an estimated expense. Due to the complexity of the analysis and remaining information needed from customers, we expect this estimate will change in the future. Refer to Item 1 Financial Statements, Note 15, Commitments and Contingencies, for further discussion regarding the sales tax liability.three months ended March 31, 2020.
Debit and Credit:
Debit and Credit operating expenses increased $2.5decreased $0.5 million to $10.4$7.4 million in the three months ended June 30, 2020March 31, 2021 compared to $7.9 million in the three months ended June 30March 31, 2020, 2019,. The decrease was due primarily dueto cost reductions compared to the $2.7 million estimated sales tax expense recorded in the second quarter of 2020.prior year period.
Prepaid Debit:
Prepaid Debit operating expenses decreased slightlyremained relatively flat for the three months ended June 30, 2020 when compared to the three months ended June 30, 2019 primarily due to certain cost reductions.March 31, 2021 and 2020.
Other:
Other operating expenses during the three months ended June 30, 2020 decreased $0.1March 31, 2021 increased $0.3 million compared to the three months ended June 30March 31, 2020, 2019.. The reductionincrease in operating expenses was primarily due to certain cost reductions. During the three months ended June 30, 2019, we received $6.0 million cash, which was recorded ashigher self insurance medical expense and accelerated depreciation in connection with a reduction to net operating expenses, related to a litigation settlement.in leased corporate office space.
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Income from Operations and Operating Margin
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended June 30, | | | | | | | | Three Months Ended March 31, | | | | | | | ||||||||||||||||
| | | | | % of 2020 | | | | | % of 2019 | | | | | | | | | | | % of 2021 | | | | | % of 2020 | | | | | | |
|
| 2020 |
| Net Sales |
| 2019 |
| Net Sales |
| $ Change |
| % Change |
|
| 2021 |
| Net Sales |
| 2020 |
| Net Sales |
| $ Change |
| % Change |
| ||||||
| | (dollars in thousands) | | | (dollars in thousands) | | ||||||||||||||||||||||||||
Income (loss) from operations by segment: | | | | | | | | | | | | | | | | | ||||||||||||||||
Income from operations by segment: | | | | | | | | | | | | | | | | | ||||||||||||||||
Debit and Credit | | $ | 8,238 | | 14.1 | % | $ | 7,985 | | 15.6 | % | $ | 253 | | 3.2 | % | | $ | 20,154 | | 28.9 | % | $ | 12,476 | | 20.8 | % | $ | 7,678 | | 61.5 | % |
Prepaid Debit | | | 3,434 | | 25.4 | % | | 5,374 | | 33.7 | % | | (1,940) | | (36.1) | % | | | 7,018 | | 36.1 | % | | 4,116 | | 28.3 | % | | 2,902 | | 70.5 | % |
Other | | | (9,166) | | * | % | | (3,263) | | * | % | | (5,903) | | (180.9) | % | | | (9,403) | | * | % | | (9,092) | | * | % | | (311) | | 3.4 | % |
Total | | $ | 2,506 | | 3.5 | % | $ | 10,096 | | 15.1 | % | $ | (7,590) | | (75.2) | % | | $ | 17,769 | | 19.9 | % | $ | 7,500 | | 10.1 | % | $ | 10,269 | | 136.9 | % |
* Not meaningful | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Income from operations for the three months ended June 30, 2020March 31, 2021 was $2.5$17.8 million compared to income from operations of $10.1$7.5 million for the three months ended June 30, 2019.March 31, 2020. The Company’s operating income margin for the three months ended June 30, 2020 decreasedMarch 31, 2021 increased to 3.5%19.9% compared to 15.1%10.1% for the three months ended June 30March 31, 2020, 2019. In the prior year period, we reached a litigation settlement and received $6.0 million cash which was recorded through income from operations within the Other segment. In the second quarter of 2020, we recorded an estimated sales tax expense of $2.7 million within the Debit and Credit segment..
Debit and Credit:
Income from operations for Debit and Credit for the three months ended June 30, 2020 increased $0.3March 31, 2021 was $20.2 million, to $8.2 millionan increase of 61.5% compared to $8.0$12.5 million for the three months ended June 30, 2019March 31, 2020 due primarily to higher volumes of contactless dual-interface EMV card sales, volumes and pricing ofhigher card personalization sales, including from contactless dual interface EMV cards, including Second Wave® cards,our CPI on-Demand card personalization,On-Demand and Card@Once instant issuance solutions, and from government disbursement work. The impact of these improvements to income from operations were partially offset by higherIn addition, lower operating expenses as a result of cost reductions during the $2.7 million estimated sales tax expense recordedthree months ended March 31, 2021 contributed to an improvement in the second quarter of 2020.income from operations. Operating margins for the three months ended June 30, 2020 decreasedMarch 31, 2021 increased to 14.1%28.9% compared to 15.6%20.8% for the three months ended June 30March 31, 2020, 2019, primarily due to the estimatedhigher net sales tax expense recordedand operating leverage, and the decrease in the second quarter of 2020.operating expenses.
Prepaid Debit:
Income from operations for Prepaid Debit for the three months ended June 30, 2020 decreased to $3.4March 31, 2021 was $7.0 million, an increase of 70.5% compared to $5.4$4.1 million for the three months ended June 30March 31, 2020, 2019, due to reduced. The increase was the result of higher net sales volumes primarily from COVID-19 impacts from lower retail store traffic.an existing customer which included new portfolio wins. Operating income margin for the three months ended June 30, 2020 decreasedMarch 31, 2021 increased to 25.4%36.1% from 33.7%28.3% for the same period in 2019, primarily as a result of unfavorable2020, due to the higher net sales and favorable overhead cost absorption from lower sales, which impacted gross profit and operating expenses.absorption.
Other:
The loss from operations in Other was $9.2$9.4 million for the three months ended June 30, 2020March 31, 2021, compared to a loss from operations of $3.3$9.1 million for the same time period in 2019.2020. The loss from operations was higher in the secondfirst quarter of 20202021 by $5.9$0.3 million, primarily due to the $6.0 million litigation settlement gain recorded during the second quarter of 2019, partially offset by lower current period an increase in operating expenses from certain cost reductions.self insurance medical costs and accelerated depreciation in connection with a reduction in leased corporate office space.
Interest, net:
Interest expense for the three months ended June 30, 2020March 31, 2021 increased to $6.8$9.0 million compared to $6.4$6.1 million for the three months ended June 30, 2019.March 31, 2020. Interest expense is higher in the secondfirst quarter of 2020 as2021 primarily due to $2.6 million of “make-whole” premium interest expense incurred a result of interest incurred the new $30.0 milliontermination of our Senior Credit Facility entered into on March 6, 2020. Partially offsetting this additional expense is a decline in the interest incurred on our First Lien Term Loan due to lower average interest rates for the three months ended June 30, 2020 compared to the same period in 2019.15, 2021.
Income tax benefit (expense):Loss on debt extinguishment:
During the three months ended June 30, 2020,March 31, 2021, we recorded an income tax benefita $5.0 million loss on debt extinguishment relating to the termination of $4.4 million on pre-tax lossour Senior Credit Facility and First Lien Term Loan as we expensed the unamortized deferred financing costs and debt discount. This was completed in connection with the issuance of $4.3 million, representing an effective income tax rate of 102.7%. During the three months ended June 30, 2019, wenew Senior Notes and entrance into a new ABL Revolver.
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Income tax (expense) benefit:
During the three months ended March 31, 2021, we recorded an income tax expense of $0.8$1.4 million on pre-tax income of $2.3$3.8 million, representing an effective income tax rate of 36.1%. During the three months ended March 31, 2020, we recorded an income tax benefit of $0.5 million on pre-tax income of $1.3 million, representing an effective tax rate of 33.4%(35.3)%. For the quarter ended June 30, 2020,March 31, 2021, the effective tax rate differs from the federal U.S. statutory rate of 21.0% primarily due to the impact of a partial valuation allowance forstate taxes and permanent items. For the quarter ended March 31, 2020, the limitation on the deductibility of interest expense in 2020, permanent items, and state taxes.
Net income (loss) from continuing operations:
During the three months ended June 30, 2020, net income from continuing operations was $0.1 million, compared to $1.6 million during the three months ended June 30, 2019. The change was primarily due to higher operating expenses, net, as a result of the cash litigation settlement gain of $6 million recorded in the prior year, and the current year estimated sales tax expense of $2.7 million. This was partially offset by higher net sales and gross profit, and a larger income tax benefit for the second quarter of 2020.
Six Months Ended June 30, 2020 Compared With Six Months Ended June 30, 2019
Net Sales
| | | | | | | | | | | | |
| | Six Months Ended June 30, | | | | | | | ||||
|
| 2020 |
| 2019 |
| $ Change |
| % Change | | |||
| | (dollars in thousands) | | | ||||||||
Net sales by segment: | | | | | | | | | | | | |
Debit and Credit | | $ | 118,145 | | $ | 100,015 | | $ | 18,130 | | 18.1 | % |
Prepaid Debit | | | 28,076 | | | 32,710 | | | (4,634) | | (14.2) | % |
Other | | | — | | | 1,679 | | | (1,679) | | (100.0) | % |
Eliminations | | | (874) | | | (637) | | | (237) | | * | % |
Total | | $ | 145,347 | | $ | 133,767 | | $ | 11,580 | | 8.7 | % |
* Not meaningful
Net sales for the six months ended June 30, 2020 increased $11.6 million, or 8.7%, to $145.3 million compared to $133.8 million for the six months ended June 30, 2019.
Debit and Credit:
Net sales for Debit and Credit for the six months ended June 30, 2020 increased $18.1 million, or 18.1%, to $118.1 million compared to $100.0 million for the six months ended June 30, 2019. The net sales increase was primarily due to higher volumes of dual-interface EMV® card sales, including a significant amount of Second Wave® cards featuring a core made with recovered ocean bound plastic. In addition, net sales increased from CPI on-Demand card personalization due to new customer wins and higher volumes from our existing customers, and from COVID-19 related wins of government disbursement work. Dual-interface EMV cards have additional technology to process contactless transactions and generally have a higher selling price than contact-only EMV cards, which benefitted the current year sales increase compared to the prior year period. Partially offsetting these increases were reductions in volumes from card personalization and Card@Once instant issuance product sales in the second quarter of 2020. The decline in volumes was primarily as a result of impacts from COVID-19 and governmental stay-at-home orders, including fewer new accounts and replacement cards, and the closure of certain bank branches or reduced hours of operation.
Prepaid Debit:
Net sales for Prepaid Debit for the six months ended June 30, 2020 decreased $4.6 million, or 14.2%, to $28.1 million, compared to $32.7 million for the six months ended June 30, 2019. The decrease was a result of reduced sales volumes primarily from COVID-19 impacts, including lower retail store traffic resulting from governmental stay-at-home orders during the second quarter of 2020. In addition, in the prior year period, we benefited from higher sales as the Company supported customers through changing regulatory requirements in the industry.
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Other:
There were no Other net sales for the six months ended June 30, 2020, compared to $1.7 million for the six months ended June 30, 2019. In April 2019, we sold the Canadian subsidiary, which was the only operation contributing to Other segment net sales.
Gross Profit and Gross Profit Margin
| | | | | | | | | | | | | | | | | |
| | Six Months Ended June 30, | | | | | | | | ||||||||
| | | | | % of 2020 | | | | | % of 2019 | | | | | | | |
| | 2020 | | Net Sales |
| 2019 |
| Net Sales |
| $ Change |
| % Change |
| | |||
| | (dollars in thousands) | | | |||||||||||||
Gross profit by segment: | | | | | | | | | | | | | | | | |
|
Debit and Credit | | $ | 39,085 | | 33.1 | % | $ | 31,144 | | 31.1 | % | $ | 7,941 | | 25.5 | % | |
Prepaid Debit | | | 9,777 | | 34.8 | % | | 12,855 | | 39.3 | % | | (3,078) | | (23.9) | % | |
Other | | | — | | — | % | | (97) | | * | % | | 97 | | * | % | |
Total | | $ | 48,862 | | 33.6 | % | $ | 43,902 | | 32.8 | % | $ | 4,960 | | 11.3 | % | |
* Not meaningful
Gross profit for the six months ended June 30, 2020 increased $5.0 million, or 11.3%, to $48.9 million compared to $43.9 million for the six months ended June 30, 2019. Gross profit margin for the six months ended June 30, 2019 increased to 33.6% compared to 32.8% for the six months ended June 30, 2019.
Debit and Credit:
Gross profit for Debit and Credit for the six months ended June 30, 2020 increased $7.9 million, or 25.5%, to $39.1 million compared to $31.1 million during the six months ended June 30, 2019. The increase in gross profit was driven primarily by higher sales volumes and pricing of dual interface EMV cards, including Second Wave® cards. In addition, higher sales from CPI on-Demand card personalization and government disbursement work contributed to an improvement in gross profit compared to the prior year. Gross profit margin increased to 33.1% during the six months ended June 30, 2020, compared to 31.1% in the prior year period, due to favorable operating leverage from higher dual interface card sales volumes, card personalization sales mix from dual interface EMV cards and higher CPI on-Demand net sales.
Prepaid Debit:
Gross profit for Prepaid Debit during the six months ended June 30, 2020 decreased 23.9% to $9.8 million compared to $12.9 million for the six months ended June 30, 2019. Gross profit margin for Prepaid Debit for the six months ended June 30, 2020 decreased to 34.8% compared to 39.3% for the six months ended June 30, 2019. The decrease in gross profit and margin was attributed to lower sales described previously which resulted in unfavorable cost absorption.
Other:
There was no gross profit for the six months ended June 30, 2020 compared to gross loss of $0.1 million for the six months ended June 30, 2019. In April 2019, we sold our Canadian subsidiary and no longer have any operations contributing to Other segment net sales or gross profit.
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Operating Expenses, net
| | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | |
| | Six Months Ended June 30, | | | | | | | | | ||||||
| | | | | % of 2020 | | | | | % of 2019 | | | | | | |
| | 2020 | | Net Sales | | 2019 | | Net Sales | | $ Change |
| % Change | | |||
| | (dollars in thousands) | | |||||||||||||
Operating expenses, net, by segment: | | | | | | | | | | | | | | | | |
Debit and Credit | | $ | 18,188 | | 15.4 | % | $ | 15,378 | | 15.4 | % | $ | 2,810 | | 18.3 | % |
Prepaid Debit | | | 2,227 | | 7.9 | % | | 2,166 | | 6.6 | % | | 61 | | 2.8 | % |
Other | | | 18,258 | | * | % | | 18,692 | | * | % | | (434) | | (2.3) | % |
Other-litigation settlement | | | — | | — | | | (6,000) | | * | | | 6,000 | | * | % |
Total | | $ | 38,673 | | 26.6 | % | $ | 30,236 | | 22.6 | % | $ | 8,437 | | 27.9 | % |
* Not meaningful
Operating expenses, net, for the six months ended June 30, 2020 increased $8.4 million, or 27.9%, to $38.7 million compared to $30.2 million for the six months ended June 30, 2019. The increase was primarily due to the cash litigation settlement gain of $6.0 million recorded in the second quarter of 2019, which was a reduction to net operating expenses, and the estimated sales tax expense of $2.7 million recorded in the second quarter of 2020 within the Debit and Credit segment.The Company is in the process of evaluating and finalizing a state sales tax analysis and recorded an estimated expense. Due to the complexity of the analysis and remaining information needed from customers, we expect this estimate will change in the future. Refer to Item 1 Financial Statements, Note 15, Commitments and Contingencies, for further disclosure regarding the sales tax liability.
Debit and Credit:
Debit and Credit operating expenses increased $2.8 million to $18.2 million in the six months ended June 30, 2020 compared to $15.4 million in the six months ended June 30, 2019, primarily due to the $2.7 million estimated sales tax expense recorded in the second quarter of 2020.
Prepaid Debit:
Prepaid Debit operating expenses increased slightly by $0.1 million for the six months ended June 30, 2020 when compared to the six months ended June 30, 2019.
Other:
Other operating expenses were down $0.4 million for the six months ended June 30, 2020, when compared to the six months ended June 30, 2019. The reduction in operating expenses was primarily due to certain cost reductions and expense savings from the sale of our Canadian subsidiary, partially offset by restructuring severance charges incurred in 2020. During the six months ended June 30, 2019, we received $6.0 million cash, which was recorded as a reduction to net operating expenses, related to a litigation settlement.
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Income from Operations and Operating Margin
| | | | | | | | | | | | | | | | |
| | Six Months Ended June 30, | | | | | | | ||||||||
| | | | | % of 2020 | | | | | % of 2019 | | | | | | |
| | 2020 | | Net Sales |
| 2019 |
| Net Sales |
| $ Change |
| % Change |
| |||
| | (dollars in thousands) | | |||||||||||||
Income (loss) from operations by segment: | | | | | | | | | | | | | | | | |
Debit and Credit | | $ | 20,897 | | 17.7 | % | $ | 15,761 | | 15.8 | % | $ | 5,136 | | 32.6 | % |
Prepaid Debit | | | 7,550 | | 26.9 | % | | 10,690 | | 32.7 | % | | (3,140) | | (29.4) | % |
Other | | | (18,258) | | * | % | | (12,785) | | * | % | | (5,473) | | (42.8) | % |
Total | | $ | 10,189 | | 7.0 | % | $ | 13,666 | | 10.2 | % | $ | (3,477) | | (25.4) | % |
* Not meaningful | | | | | | | | | | | | | | | | |
Income from operations for the six months ended June 30, 2020 was $10.2 million compared to income from operations of $13.7 million for the six months ended June 30, 2019. The Company’s operating profit margin for the six months ended June 30, 2020 decreased to 7.0% compared to an operating profit margin of 10.2% for the six months ended June 30, 2019. In the prior year period, we reached a litigation settlement and received $6.0 million cash which was recorded through income from operations within the Other segment. In the second quarter of 2020, we recorded an estimated sales tax expense of $2.7 million within the Debit and Credit segment.
Debit and Credit:
Income from operations for Debit and Credit for the six months ended June 30, 2020 increased $5.1 million, to $20.9 million compared to $15.8 million for the six months ended June 30, 2019. The increase in income from operations was driven primarily by higher sales volumes and pricing of dual interface EMV cards including Second Wave® cards, and CPI on-Demand card personalization and government disbursement work. The impact of these improvements to income from operations were partially offset by higher operating expenses as a result of the $2.7 million estimated sales tax expense recorded in the second quarter of 2020. Operating margins for the six months ended June 30, 2020 increased to 17.7% compared to 15.8% for the six months ended June 30, 2019.
Prepaid Debit:
Income from operations for Prepaid Debit for the six months ended June 30, 2020 decreased to $7.6 million compared to $10.7 million for the six months ended June 30, 2019. The decrease in income from operations was due to reduced sales volumes primarily due to COVID-19 impacts from lower retail store traffic. Operating income margin for the six months ended June 30, 2020 decreased to 26.9% from 32.7% for the same period in 2019, primarily as a result of unfavorable cost absorption from lower sales, impacting gross profit and operating expenses.
Other:
The loss from operations in Other was $18.3 million for the six months ended June 30, 2020, compared to a loss from operations of $12.8 million for the same time period in 2019. The 2019 loss benefited from the $6.0 million cash litigation settlement gain, and was partially offset by lower current period operating expenses from certain cost reductions and cost savings from the sale of our Canadian subsidiary.
Interest, net:
Interest expense for the six months ended June 30, 2020 increased to $12.9 million compared to $12.8 million for the six months ended June 30, 2019. Interest expense was higher in 2020 primarily as a result of interest incurred on the new $30.0 million Senior Credit Facility entered into on March 6, 2020. This additional expense was partially offset by a decline in the interest incurred on our First Lien Term Loan due to lower average interest rates for the six months ended June 30, 2020 compared to the same period in 2019.
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Income tax benefit (expense):
During the six months ended June 30, 2020, there was an income tax benefit of $5.4 million on pre-tax loss of $2.8 million, representing an effective income tax rate of 191.5%. During the six months ended June 30, 2019, we recorded an income tax expense of $1.2 million on pre-tax loss of $0.4 million, representing an effective tax rate of (323.3)%. The effective tax rate differs from the federal U.S. statutory rate in 2020of 21.0% primarily due to the impact of the CARES Act which was signed into law in March 2020. The CARES Act allows companies with net operating losses (“NOLs”) originating in 2018, 2019, or 2020 to carry back those losses for five years and temporarily eliminates the tax law provision that limits the use of NOLs to 80% of taxable income. The CARES Act increases the Internal Revenue Code Section 163(j) interest deduction limit for 2019 and 2020, and allows for the acceleration of refunds of alternative minimum tax credits. For the six months ended June 30, 2020, the CompanyWe estimated 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 127.9%250.9%. In addition, partially offsetting the effectiveCARES Act tax rate differs frombenefit in the federal U.S. statutory rate of 21.0% due to the impact of prior year was tax expense for a partial valuation allowance for the limitation on the deductibility of interest expense, permanent items and statestates taxes.In the prior year period, the effective tax rate differs from the federal U.S. statutory rate primarily due to the impact of the partial valuation allowance for the limitation on the deductibility of interest expense.
Net income (loss) from continuing operations:income:
During the sixthree months ended June 30, 2020,March 31, 2021, net income from continuing operations was $2.6$2.4 million, compared to a $1.5net income of $1.8 million loss during the sixthree months ended June 30, 2019.March 31, 2020. The changeincrease was primarily due to higher net sales and gross profit, and a larger income tax benefit for the six months ended June 30, 2020, partially offset by the cash litigation settlement gain recorded inloss on debt extinguishment, higher interest expense and income tax expense during the three months ended March 31, 2021, compared to the prior year and the current year estimated sales tax expense.period.
Liquidity and Capital Resources
At June 30, 2020,March 31, 2021, we had $54.4$24.9 million of cash and cash equivalents. Of this amount, $0.4 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, 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.
The Company is partyOn March 15, 2021, we completed a private offering of $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 First Lien Credit Facility,borrowing base.
In connection with the issuance of the Senior Notes and entrance into the ABL Revolver, we terminated our existing credit facilities consisting of a $30 million senior credit agreement, dated as of August 17, 2015, that includesMarch 6, 2020, among the Company, the borrower as CPI CG Inc., the lenders party thereto and Guggenheim Credit Services, LLC as administrative agent and collateral agent (the “Senior Credit Facility”), and a $435,000 first lien term loan (the “First Lien Term Loan”). Net proceeds from the Senior Notes, together with cash on 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 that matures on August 17, 2022. On March 6, 2020,15, 2021, and to pay related fees and expenses. As of March 15, 2021, the Company entered into a newhad outstanding borrowings of $30 million, plus accrued and unpaid interest, under the Senior Credit Facility, which matures on May 17, 2022. The Senior Credit Facility ranks senior in priority toand $304.7 million, plus accrued and unpaid interest, under the Company’s First Lien Term Loan, which had $312.5 million outstanding as of June 30, 2020.Loan. The Company’s Revolving Credit Facility was terminated concurrently withDuring the new Senior Credit Facility onthree months ended March 6, 2020. The Revolving Credit Facility had no borrowings outstanding as of31, 2021, prior to the termination date.
The Senior Credit Facility andof the First Lien Term Loan, contain customary representations, covenants and eventswe paid an excess free cash flow balance of default, including certain covenants that limit or restrict$7.8 million pursuant to the Company’s and certainterms of its subsidiaries’the debt agreements.
Our ability to incur indebtedness, grant certain types of security interests, incur certain types of liens, sell or transfer assets or enter into a merger or consolidate with another company, enter into sale and leaseback transactions, make certain types of investments, declare or make dividends or distributions, engageborrow under the ABL Revolver is also limited during periods in certain affiliate transactions, or modify organizational documents, among other restrictions and subjectwhich the amount available to certain exceptions. In accordanceborrow under the ABL Revolver is less than $5 million. Commencing with the Senior Credit Facility,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 Company is also required to have adjusted EBITDA, asABL Revolver, we must maintain a fixed charge coverage ratio (as defined in the credit agreement of $25 million for the previous four consecutive fiscal quarters in totalABL Revolver) of at least 1.00 to 1.00, calculated for the end of each quarterly period ending on or after March 31, 2020.trailing 12 months, tested monthly during such period.
The Senior Credit FacilityNotes and the First Lien Term LoanABL Revolver also requirecontain covenants limiting the ability of the Company, the borrower and the Company’s restricted subsidiaries to, among other things, incur or guarantee additional debt or issue
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disqualified stock or certain preferred stock; create or incur 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 important exceptions and qualifications as set forth in the respective agreements.
The Company may have obligations to make an offer to repay the Senior 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 the respective agreement, with any required payments to be made after the issuance of the Company’s annual financial statements.
The Company was not requiredSenior 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 make any prepaymentsoccur of March 15, 2026 and the date that is 90 days prior to the maturity of the First Lien Term Loan with respect to our 2019 annual financial statements.
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Interest ratesSenior Notes. Borrowings under the Senior Credit Facility areABL 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 aton the Company's election, on a Eurodollar rate subject to an interest rate floor of 1.0%, plus a margin of 8.5% or a base rate plus a margin of 7.5%. As of June 30, 2020, the interest rate on our Senior Credit Facility was 9.5%. Interest ratesaverage daily borrowing capacity under the First Lien Term Loan,ABL Revolver over the most recently completed month. The borrower may elect to apply either the LIBOR Rate or Base Rate interest to borrowings at its discretion. The unused portion of the Company’s election, areABL Revolver commitment accrues a commitment fee, which ranges from 0.375% to 0.50% per annum, based on either a Eurodollar rate, subject 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 June 30, 2020, the interest rate on our First Lien Term Loan was 6.38%.average daily borrowing capacity under the ABL Revolver over the immediately preceding month.
Operating Activities – Continuing Operations
Cash provided by operating activities – continuing operations for the sixthree months ended June 30, 2020March 31, 2021 was $12.0$0.1 million compared to a usagecash provided by operating activities of $1.0$3.2 million during the sixthree months ended June 30, 2019.March 31, 2020. The year over year improvementdecrease was due to net income during the six months ended June 30, 2020 of $2.5 million compared to a net loss of $1.5 million in the prior year period, in additionprimarily to working capital cash benefits, primarilyused in accrued expenseaccounts receivable and inventories. Forinventory, partially offset by the sixincrease in accounts payable and higher net income and profitability. The increase in accounts receivable is due to higher net sales during the first quarter of 2021. In addition, the increase in inventory during the first quarter of 2021 included EMV dual interface chips to support our business, including to maintain certain levels of inventory in anticipation of future customer demand and potential supply chain constraints.
During the three months ended June 30, 2019,March 31, 2021, we had a working capital cash usage relating primarily to payments for employee performance incentive compensation earnedpaid in 2018full and increases in inventory to supportterminated our existing Senior Credit Facility and First Lien Term Loan. In connection with the growth of our business.debt extinguishment, we paid all accrued interest on the terminated credit facilities. Cash interest paid during the sixthree months ended June 30, 2020March 31, 2021, was $11.5$8.4 million, which was lowerhigher than the prior year period by $0.1$2.8 million, primarily asand includes a result of lower interest rates on our First Lien Term Loan.$2.6 million “make-whole” premium included in cash flows used in financing activities.
Investing Activities – Continuing Operations
Cash used in investing activities – continuing operations for the sixthree months ended June 30, 2020March 31, 2021 was $1.6$2.4 million, compared to a usage of $1.2$0.9 million during the sixthree months ended June 30, 2019.March 31, 2020. Cash used in investing activities – continuing operations was related primarily to capital expenditures, including investments to support the growth of the business, such as machinery and information technology equipment. In the prior year period, partially offsetting the capital expenditure outflows, we received cash of $1.5 million for the sale of our Canadian subsidiary. As presented in our supplemental disclosures of non-cash information on the statement of cash flows, finance leases were executed for the acquisition of right-of-use machinery and equipment assets totaling $0.8$0.5 million during the sixthree months ended June 30, 2020,March 31, 2021, compared to $3.4$0.3 million during the prior year period.
Financing Activities
During the sixthree months ended June 30March 31, 2021, 2020, cash provided byused in financing activities was $25.4$30.5 million. TheProceeds from the new Senior Notes and ABL Revolver, net of discount, were $310 million and $14.8 million, respectively. During the three months ended March 31, 2021, we paid $9.5 million of 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.
We used proceeds from the Senior Notes and ABL Revolver, plus cash on hand from our balance sheet, to pay in full and terminate the Senior Credit Facility balance of $30 million and the First Lien Term Loan balance of $304.7
29
million on March 15, 2021. During the three months ended March 31, 2021, prior to the termination of the First Lien Term Loan, we paid an excess free cash flow balance of $7.8 million pursuant to the terms of the debt agreements.
During the three months ended March 31, 2020, we entered into the Senior Credit Facility which provided $29.1 million of cash, net of discount, partially offset by $2.5 million of associated debt issuance costs during the six months ended June 30, 2020. The Companycosts. We also paid $1.2 million and $0.7$0.6 million of principal on finance leases during both the sixthree months ended June 30, 2020March 31, 2021 and 2019, respectively. For working capital purposes, we borrowed and repaid $11.5 million on the Revolving Credit Facility during the six months ended June 30, 2019.2020.
Off-Balance Sheet Arrangements
We had no material off-balance sheet arrangements at June 30, 2020.March 31, 2021.
Critical Accounting Policies and Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the amounts and disclosures in the financial statements and accompanying notes. Actual results could differ from those estimates. Our Critical Accounting Policies and Estimates disclosed in our Annual Report on Form 10-K filed for the year ended December 31, 2019,2020, for which there were no material changes as of June 30, 2020,March 31, 2021, included:
● |
Revenue |
● |
Income |
● |
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Item 3. Quantitative and Qualitative Disclosures about Market Risk
Not required due to smaller reporting company status.
Item 4. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
We maintain disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange Act")) that are designed to assure that information required to be disclosed in our Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms, and that such information is accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, 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 of our disclosure controls and procedures pursuant to Exchange Act Rule 13a-15(b). Based on this evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of June 30, 2020.March 31, 2021.
Changes in Internal Control over Financial Reporting
Except as noted in the following sentence, thereThere have not been any changes in the Company’s internal control over financial reporting that occurred during the secondfirst quarter of 20202021 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting. During the second quarter of 2020, the Company began implementing enhanced internal controls to appropriately determine compliance with, and accounting for, certain state and local sales tax regulations.
Limitations on Effectiveness of Controls
Our management, including our Chief Executive Officer and Chief Financial Officer, do not expect that our disclosure controls and procedures will prevent all errors 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 resource constraints, which require management 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.
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.
HeckermannSmart Packaging Solutions SA v. Montross et al.CPI Card Group Inc., Case No. 1:17-CV-01673 (D. Del.) (the “Derivative Suit”)
On NovemberApril 20, 2017, a purported CPI stockholder2021, Smart Packaging Solutions, SA (“SPS”) filed a stockholder derivative complaintpatent infringement lawsuit against the Company in the United States District Court for the District of Delaware (the “Court”) against certainseeking an unspecified amount of CPI’s former officers and current and former directors, along with the sponsors of CPI’s October 2015 initial public offering (“IPO”). CPI is also named as a nominal defendant. The derivative complaint asserts claims under §§10(b) and 20(a) of the Securities Exchange Act of 1934 and SEC Rule 10b-5 and seeks, among other things, injunctive relief, damages and costs. Itequitable relief. In the complaint, SPS alleges false or misleading statements and omissions inthat the Registration Statement filed by CPI in connection withCompany infringed four 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 its IPO andproducts that use contactless communication. The Company does not
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subsequent public filingsmanufacture antennas; it purchases certain antenna-related components from SPS and statements.a number of other suppliers. The derivativeCompany has not been formally served with the complaint also assertsand thus has not yet filed an answer. The Company intends to investigate and pursue its rights relating to the claims for purported breaches of fiduciary duties, unjust enrichment, mismanagement and waste of corporate assets.to defend the suit vigorously. However, no assurance can be given that this matter will be resolved favorably.
On December 18, 2019,
In addition to the parties filed a Stipulation and Agreement of Settlement (the “Settlement”) to resolve and dismiss the Derivative Suit, and on April 1, 2020, the Court granted final approval of the Settlement, whereby (i) all claims that were or could have been asserted in the Derivative Suit were resolved and discharged, (ii)matter described above, the Company agreed to implement certain corporate governance reforms, and (iii) the Company’s insurer agreed to pay fees and expenses awarded to the plaintiff’s counsel in the amount of $0.3 million and a service award to the plaintiff of a nominal amount.
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.
The risk factors disclosed in Part I, Item 1A Risk Factors in our Annual Report on Form 10-K for the year ended December 31, 20192020 set forth information relating to various risks and uncertainties that could materially adversely affect our business, financial condition and operating results. Such risk factors continue to be relevant to an understanding of our business, financial condition and operating results. As of the date of this Quarterly Report on Form 10-Q, there have been the following material changes with respect to such risk factors.
The ongoing COVID-19 pandemic and responses thereto may, or may continue to, adversely affect our supply chain, workforce, overall operations and financial condition, and our ability to access capital markets and refinance indebtedness, each of which may have a material adverse effect on our business.
Since December 2019, COVID-19 has spread to multiple countries, including the United States and all of the primary markets where we conduct business. As a result, earlier this year almost all U.S. states and many local jurisdictions issued “stay-at-home” orders, quarantine requirements, and executive and other governmental orders, restrictions and recommendations for residents and businesses (some of which are still in place) in an effort to control the spread of COVID-19, including mandating closures of certain businesses not deemed “essential.” CPI was deemed essential in all jurisdictions where we operate and thus was not required to suspend any of our operations. Nevertheless, it is possible that those orders, restrictions or recommendations that are currently no longer in effect may be reinstated and/or that additional orders, restrictions or recommendations may be issued due to the continued outbreak of COVID-19. Such orders, restrictions and recommendations may again result in widespread closures of businesses, work stoppages, slowdowns and delays, work-from-home policies, travel restrictions and cancellations of events, as well as adverse impacts on the national and global economies. Disruptions to our activities and operations resulting from such governmental orders, restrictions and recommendations would negatively impact our business, operating results and financial condition. There is also a risk that government actions will not be effective at containing COVID-19 and that government actions intended to contain the spread of COVID-19 will have a devastating long-term negative impact on the national and world economies, in which case the risks to our sales, operating results and financial condition described herein would be elevated significantly.
The duration of COVID-19's impact on our business may be difficult to assess or predict. The widespread pandemic may result for an extended period in significant disruption of global financial markets, which may reduce or eliminate our ability to access capital markets and/or to refinance our existing indebtedness, which would negatively affect our liquidity. Further, the actual and potential governmental orders, restrictions and recommendations described above (which may include travel and import restrictions) in response to COVID-19 have resulted in delays in certain of our suppliers’ deliveries to us and could continue to disrupt our supply chain and thus our ability to obtain materials needed to manufacture our products. Any import or other cargo restrictions related to our products or the materials used to manufacture our products would restrict our ability to manufacture products and thereby harm our business, financial condition and results of operations. Also, such orders, restrictions and recommendations have resulted and may continue to result in increased transportation costs for materials from our suppliers (for which we are responsible), which may negatively impact our cash flows, as well as increased transportation costs for our products that we ship to our customers (for which our customers are responsible), which may adversely affect customer demand. Additionally, if we are required to disrupt operations at or to close any of our facilities, or if we elect to do so to protect our employees from an actual or potential outbreak of COVID-19 at any facility, such disruption or closure could impair our ability to fulfill customer orders and may have a material adverse impact on our revenues and increase our costs and expenses. In the
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event of such a disruption or closure at one of our facilities, our other facilities may not be able to effectively assume the production activities of such impacted facility due to insufficient capacity, lack of necessary specialized equipment, higher production costs and/or significant time needed to increase production, any of which may result in failure to meet our customers’ requirements, resulting in negative impact to our business, results of operations and/or financial condition. Moreover, our key personnel and other employees could be affected by COVID-19, potentially reducing their availability. We may also delay or reduce certain capital spending and related projects until the impacts of COVID-19 begin to abate, which would delay the completion of such projects.
Customer demand for and our ability to sell and market our products may be adversely affected by the COVID-19 pandemic and responses thereto.
As discussed above, earlier this year state and local governments imposed orders, restrictions and recommendations resulting in closures of businesses, work stoppages, travel restrictions, social distancing practices and cancellations of gatherings and events, some of which are still in place. The reinstating of those orders, restrictions and recommendations that are currently no longer in effect and/or the issuance of additional orders, restrictions and recommendations, combined with fears of the spreading of COVID-19, may cause certain of our customers to delay, cancel or reduce orders of our products and services. A sustained deterioration in general economic conditions may adversely affect our profits, revenue and financial performance if credit card issuers reduce credit limits, close accounts, and become more selective with respect to whom they issue credit cards as a result thereof. We are unable to accurately predict how these factors will reduce our sales going forward and when orders, restrictions and recommendations that are in place or may be put in place will be relaxed or lifted. There can be no assurances that our customers will resume purchases of our products and services upon termination of orders, restrictions and recommendations, particularly if there remains any continued community outbreak of COVID-19. 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. Additionally, our sales and marketing personnel often rely on in-person meetings and interaction with our customers. COVID-19 related restrictions have thus harmed our sales and marketing efforts, and continued restrictions could have a negative impact on our sales and results of operations.
As a result of all of the foregoing, we may, in the future, take actions including reductions to salary and work hours, furloughs, restructuring or layoffs, which may negatively impact our workforce and our business.
We may not be eligible to participate in the relief programs provided under the recently adopted Coronavirus Aid Relief, and Economic Security (CARES) Act, and even if we are eligible we may not realize any material benefits from participating in such programs.
On March 27, 2020, the President of the United States signed the Coronavirus Aid Relief, and Economic Security (CARES) Act into law. The CARES Act, among other things, includes provisions relating to refundable payroll tax credits, deferment of employer side social security payments, net operating loss carryback periods, alternative minimum tax credit refunds, modifications to the net interest deduction limitations and technical corrections to tax depreciation methods for qualified improvement property. We are continuing to evaluate the applicability of the CARES Act to the Company, and the potential impacts on our business. While we may determine to apply for, or otherwise participate in, such programs, there is no guarantee that we will meet any eligibility requirements to participate in such programs or, even if we are able to participate, that such programs will provide meaningful benefit to our business.
The global outbreak of COVID-19 continues to rapidly evolve. The ultimate impact of the COVID-19 outbreak is highly uncertain and subject to change. We do not yet know the full extent of potential delays or 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 ability to continue as a going concern.
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| | |
Exhibit |
| Exhibit Description |
4.1 | | |
4.2 | | |
10.1 | | |
10.2 | | |
31.1 | | Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
31.2 | | Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
32.1 | | Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
32.2 | | Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
101.INS | | XBRL Instance Document – the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the XBRL document. |
101.SCH | | XBRL Taxonomy Extension Schema Document. |
101.CAL | | XBRL Taxonomy Extension Calculation Linkbase Document. |
101.LAB | | XBRL Taxonomy Extension Label Linkbase Document. |
101.PRE | | XBRL Taxonomy Extension Presentation Linkbase Document. |
101.DEF | | XBRL Taxonomy Extension Definition Linkbase Document. |
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Pursuant to the requirement of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
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| CPI CARD GROUP INC. |
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| /s/ John Lowe |
| John Lowe |
| Chief Financial Officer |
| (Principal Financial Officer) |
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