The following table sets forth, for the periods indicated, certain statements of operations data as a percent of total revenue and gross margin on product sales and royalties as a percentage of product sales and royalties, respectively.
Total revenue increased to $8.1 million in the three-month period ended June 30, 2011 from $6.6 million in the same period in 2010, an increase of 23.1%, and to $14.2 million in the first half of 2011 from $12.0 million in the same period in 2010, an increase of 18.9%. Royalties decreased to $3.0 million in the second quarter of 2011 from $3.2 million in the same period of 2010, a decrease of 5.3%, and they decreased to $5.7 million in the first half of 2011 from $5.8 million in the same period in 2010, a decrease of 1.1%. Product sales increased to $5.1 million in the second quarter of 2011 from $3.4 million in the same period in 2010, an increase of 49.7%, and they increased to $8.5 million in the first half of 2011 from $6.2 million in the same period in 2010, an increase of 37.4%. The increases in product sales in both the quarter and first half of 2011 were due predominantly to the addition of the CitySync product line for which we first recorded revenue in June 2010. This was offset partially in the first half of 2011 by decreased revenue in Asia. Revenue for the Autoscope segment decreased in the three-month period ended June 30, 2011 to $3.7 million from $4.2 million in 2010 and in the first half of 2011 to $6.8 million from $7.2 million in 2010 and is reflective of lower sales in Asia. Revenue for the RTMS segment increased in the three-month period ended June 30, 2011 to $3.1 million in 2011 from $2.1 million in 2010 and decreased in the first half of 2011 to $4.1 million from $4.5 million in 2010. RTMS recovered from an unusually difficult first quarter of 2011 but were still down for the first half of 2011 due to weakness in Asia.
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Gross margins for product sales increased to 57.5% in the three months ended June 30, 2011 from 55.5% in the same period in 2010, and decreased to 55.2% in the first half of 2011 from 60.7% in the same period in 2010. Gross margins for the CitySync product line have historically been lower than gross margins for the Autoscope and RTMS product lines and therefore the mix of the product lines in any given period can result in varying margins. Gross margins on royalty income remained consistent at 100.0% in each of the periods of 2011 and 2010.
Selling, marketing and product support expense increased to $2.6 million, or 32.6% of total revenue, in the three months ended June 30, 2011 from $2.1 million, or 32.6% of total revenue, in the second quarter of 2010, and to $5.3 million, or 36.9% of total revenue, in the first half of 2011 from $4.0 million, or 33.4% of total revenue, in the first half of 2010. The changes related mainly to the addition of CitySync operations but also reflected investments in market expansion activities in Europe and Asia. We anticipate that for the remainder of 2011, the dollar amount of our quarterly selling, marketing and product support expense will increase slightly from the first half of 2011.
General and administrative expense increased to $1.5 million, or 18.9% of total revenue, in the three months ended June 30, 2011, from $938,000, or 14.2% of total revenue, in the same period in 2010, and to $3.0 million, or 21.1% of total revenue, in the first half of 2011, from to $2.0 million, or 16.5% of total revenue, in the same period in 2010. The increases related mostly to the addition of CitySync operations. We anticipate that for the remainder of 2011, the dollar amount of our quarterly general and administrative expense will remain at levels similar to that of the first half of 2011.
Research and development expense increased to $1.0 million, or 12.3% of total revenue, in the second quarter of 2011, from $834,000, or 12.7% of total revenue, in the same period in 2010, and to $2.0 million, or 14.2% of total revenue, in the first half of 2011, from $1.6 million, or 13.4% of total revenue, in the same period in 2010. The increases related mostly to the addition of CitySync operations. We anticipate that for the remainder of 2011, the dollar amount of our quarterly research and development expense will increase from the 2011 second quarter level.
Amortization of intangibles expense was $414,000 in the second quarter of 2011 and $826,000 in the first half of 2011, and reflects the amortization of intangible assets acquired in the EIS asset purchase and CitySync acquisition. Assuming there are no changes to our intangible assets, we anticipate amortization expense will be $1.6 million for all of 2011.
Other income was $2,000 and $6,000 in the second quarter and first half of 2011, respectively, as compared to other expense of $36,000 and $72,000, respectively, in the same periods in 2010. For the first half of 2010, there was bank debt outstanding.
Income tax expense was $150,000, or 41.7% of pretax income, in the second quarter of 2011, compared to $10,000, or 2.7% of pretax income, in the comparable quarter of 2010. There was an income tax benefit of $90,000, or 13.1% of pretax loss, in the first half of 2011, compared to income tax expense of $180,000, or 19.0% of pretax income, in the comparable period of 2010. The wide range of rates reflects the impact of various tax credits (mostly research and development). We anticipate an effective tax rate below 25% for all of 2011.
Liquidity and Capital Resources
At June 30, 2011, we had $5.0 million in cash and cash equivalents and $3.2 million in short-term investments, compared to $8.0 million in cash and cash equivalents and $4.0 million in short-term investments at December 31, 2010.
Net cash used in operating activities in the six-month period ended June 30, 2011 was $1.6 million, compared to net cash provided of $730,000 in the same period of 2010. The decrease in 2011 was due mainly to a combination of the year to date loss and increased accounts receivable and inventory levels in 2011. We anticipate that average receivable collection days in 2011 will be similar to 2010 and will not have a material impact on our liquidity. Our planned additions of property and equipment are discretionary, and we do not expect them to exceed historical levels in 2011. In addition to equipment purchases, in 2011 we paid 2010 related earn-out liabilities of $2.4 million to the sellers of the EIS assets and CitySync.
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We have a revolving line of credit agreement with Associated Bank, National Association, or Associated Bank. The revolving line of credit provides for up to $5.0 million at an annual interest rate equal to the greater of 4.5% or LIBOR plus 2.75%, as reset from time to time by the bank. Advances on the line of credit cannot exceed a borrowing base determined under a formula, which is a percentage of the amounts of eligible receivables. The line of credit currently has no borrowings outstanding and matures on May 1, 2012. We believe that on an ongoing basis, we will have regular availability to draw a minimum of $3.0 million on our line of credit based on our qualifying assets.
In conjunction with our acquisition of CitySync, the sellers have an earn-out arrangement over approximately 18 months from the June 2010 date of purchase. The earn-out is based on achieving certain revenue and minimum gross margins from the sale of CitySync ANPR systems and it is calculated in two separate periods, each ending on December 31. In each period there are two tiers and superior performance could lead to a total earn-out of $2 million or higher, as the earn-out is not capped. Earn-out payments are due within three months of the end of an earn-out period. Based on the 2010 results, the sellers received a $696,000 earn-out for the first period which ran from the June acquisition date to December 31, 2010. The payment was made in March 2011, and the remaining liability recorded on our balance sheet as of June 30, 2011 is the estimate for the second period earn-out which runs from January 1, 2011 to December 31, 2011.
We believe that cash and cash equivalents on hand at June 30, 2011, along with the availability of funds under our $5.0 million revolving line of credit and cash provided by operating activities, will satisfy our projected working capital needs, payments under the CitySync earn-out, investing activities, and other cash requirements for the foreseeable future.
Off-Balance Sheet Arrangements
We do not participate in transactions or have relationships or other arrangements with an unconsolidated entity, including special purpose and similar entities or other off-balance sheet arrangements.
Critical Accounting Policies
Our significant accounting policies are described in Note 1 to the Consolidated Financial Statements in our Annual Report on Form 10-K for the year ended December 31, 2010. The accounting policies used in preparing our interim 2011 Condensed Consolidated Financial Statements set forth elsewhere in this Quarterly Report on Form 10-Q are the same as those described in our Annual Report on Form 10-K.
New and Recently Adopted Accounting Pronouncements
In January 2010, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) No. 2010-06,Improving Disclosures about Fair Value Measurements (“ASU 2010-06”). ASU 2010-06 requires new disclosures regarding transfers in and out of Levels 1 and 2 and activity in Level 3 fair value measurements. It also clarifies existing disclosure requirements regarding the level of disaggregation in certain disclosures, inputs, and valuation techniques used in ASC 820,Fair Value Measurement. We adopted all of the requirements of this update on January 1, 2010, its effective date, except for the new requirement regarding activity in Level 3 fair value measurements which has a later effective date under the provisions of ASU 2010-6 and became effective on January 1, 2011. Adoption of this pronouncement has not had a significant effect on our consolidated financial statements.
In September 2010, the FASB issued ASU No. 2010-20,Disclosures about the Credit Quality of Financing Receivables and the Allowance for Credit Losses, to enhance the disclosures required for financing receivables (for example, loans, trade accounts receivable, notes receivable, and receivables relating to a lessor’s leveraged, direct financing, and sales-type leases) and allowances for credit losses. The amended disclosures are designed to provide more information to financial statement users regarding the credit quality of a creditor’s financing receivables and the adequacy of its allowance for credit losses. We adopted all of the requirements of the amended guidance on December 31, 2010, its effective date, except for the disclosures regarding the activity during a reporting period, which became effective on January 1, 2011. Adoption of the pronouncement has not had a significant effect on our consolidated financial statements.
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In December 2010, the FASB issued ASU 2010-28,When to Perform Step 2 of the Goodwill Impairment Test for Reporting Units with Zero or Negative Carrying Amounts, which states that for an entity with reporting units having zero or negative carrying amounts, the second step of the impairment test shall be performed to measure the amount of impairment loss, if any, when it is more likely than not that a goodwill impairment exists. In considering whether it is more likely than not that a goodwill impairment exists, an entity shall evaluate whether there are adverse qualitative factors. We adopted ASU 2010-28 effective January 1, 2011 and the adoption has not had a significant impact on our consolidated financial statements.
In May 2011, the FASB issued new guidance related to fair value measurement. The purpose of this guidance is to achieve commonality between US GAAP and IFRS pertaining to fair value measurement and disclosure requirements. It changes certain fair value measurement principles and enhances the disclosure requirements particularly for Level 3 fair value measurements. The amendment becomes effective for annual periods beginning after December 15, 2011. We do not believe this will have a material impact on our disclosures.
In June 2011, the FASB issued ASU No. 2011-05,Presentation of Comprehensive Income, which provides an entity the option to present the total of comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. In both choices, an entity is required to present each component of net income along with total net income, each component of other comprehensive income along with a total for other comprehensive income, and a total amount for comprehensive income. This eliminates the option to present the components of other comprehensive income as part of the statement of changes in stockholders’ equity. The amendments do not change the items that must be reported in other comprehensive income or when an item of other comprehensive income must be reclassified to net income. The amendments are effective for fiscal years, and for interim periods within those fiscal years, beginning after December 15, 2011. The amendments are to be applied retrospectively, with early adoption permitted.
Cautionary Statement:
This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange of 1934, as amended. Forward-looking statements represent our expectations or beliefs concerning future events and can be identified by the use of forward-looking words such as “expects,” “believes,” “may,” “will,” “should,” “intends,” “plans,” “estimates,” or “anticipates” or other comparable terminology. Forward-looking statements are subject to risks and uncertainties that may cause our actual results to differ materially from the results described in the forward-looking statements. Factors that might cause such differences include, but are not limited to:
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| • | historical dependence on a single product for most of our revenue; |
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| • | budget constraints by governmental entities that purchase our products, including constraints caused by declining tax revenue; |
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| • | continuing ability of our licensee to pay royalties owed; |
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| • | the mix of and margin on the products we sell; |
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| • | dependence on third parties for manufacturing and marketing our products; |
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| • | dependence on single-source suppliers to meet manufacturing needs; |
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| • | our increased international presence; |
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| • | failure to secure adequate protection for our intellectual property rights; |
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| • | development of a competing product by another business using the underlying technology included in the patent we had licensed from the University of Minnesota, which expired in 2006; |
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| • | our inability to develop new applications and product enhancements; |
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| • | unanticipated delays, costs and expenses inherent in the development and marketing of new products, including ANPR products; |
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| • | our inability to respond to low-cost local competitors in Asia and elsewhere; |
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| • | our inability to properly manage a growth in revenue and/or production requirements; |
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| • | the influence over our voting stock by affiliates; |
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| • | our inability to hire and retain key scientific and technical personnel; |
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| • | our inability to achieve and maintain effective internal controls; |
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| • | our inability to successfully integrate acquisitions; |
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| • | our inability to comply with international regulatory restrictions over hazardous substances and electronic waste; and |
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| • | conditions beyond our control such as war, terrorist attacks, health epidemics and economic recession. |
We caution that the forward-looking statements made in this report or in other announcements made by us are further qualified by the risk factors set forth in Item 1A. to our Annual Report on Form 10-K for the fiscal year ended December 31, 2010.
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Item 3. | Quantitative and Qualitative Disclosures About Market Risk |
Our foreign sales and results of operations are subject to the impact of foreign currency fluctuations. From time to time, we enter into currency hedges to attempt to lower our exposure to translation gains and losses as well as to limit the impact of foreign currency translation upon the consolidation of our foreign subsidiaries. A 10% adverse change in foreign currency rates, if we have not hedged, could have a material effect on our results of operations or financial position. Our current greatest exposure for a negative material impact to our operations is a rising Canadian Dollar versus the U.S. Dollar.
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Item 4T. | Controls and Procedures |
Evaluation of Disclosure Controls and Procedures
Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934 (the Exchange Act)). Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, as of the end of the period covered by this report, our disclosure controls and procedures were effective.
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Changes in Internal Control Over Financial Reporting
During the fiscal quarter covered by this report, there has been no change in our internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act) that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
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PART II. OTHER INFORMATION
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None.
Some of the risk factors to which we and our business are subject are described in the section entitled “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2010. The risks and uncertainties described in our Annual Report are not the only risks we face. Additional risks and uncertainties not presently known to us or that our management currently deems immaterial also may impair our business operations. If any of the risks described were to occur, our business, financial condition, operating results and cash flows could be materially adversely affected.
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Item 2. | Unregistered Sales of Equity Securities and Use of Proceeds |
None.
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Item 3. | Defaults Upon Senior Securities |
None.
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Item 4. | Removed and Reserved. |
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Item 5. | Other Information |
None.
The following exhibits are filed as part of this quarterly report on Form 10-Q for the quarterly period ended June 30, 2011:
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Exhibit
Number | | Description |
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31.1 | | Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
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31.2 | | Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
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32.1 | | Certification of Chief Executive Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
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32.2 | | Certification of Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
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101 | | The following financial information from the Quarterly Report on Form 10-Q for the quarter ended June 30, 2011, formatted in XBRL (Extensible Business Reporting Language), (i) the Condensed Consolidated Balance Sheets, (ii) the Condensed Consolidated Statements of Operations, (iii) the Condensed Consolidated Statements of Cash Flows, and (iv) the Notes to Condensed Consolidated Financial Statements. |
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SIGNATURES
In accordance with the requirements 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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| Image Sensing Systems, Inc. |
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Dated: August 12, 2011 | By: | /s/ Kenneth R. Aubrey |
| | Kenneth R. Aubrey |
| | President and Chief Executive Officer |
| | (principal executive officer) |
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Dated: August 12, 2011 | By: | /s/ Gregory R.L. Smith |
| | Gregory R.L. Smith |
| | Chief Financial Officer |
| | (principal financial and accounting officer) |
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EXHIBIT INDEX
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Exhibit No. | | Description |
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31.1 | | Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
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31.2 | | Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
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32.1 | | Certification of Chief Executive Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
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32.2 | | Certification of Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
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101 | | The following financial information from the Quarterly Report on Form 10-Q for the quarter ended June 30, 2011, formatted in XBRL (Extensible Business Reporting Language), (i) the Condensed Consolidated Balance Sheets, (ii) the Condensed Consolidated Statements of Operations, (iii) the Condensed Consolidated Statements of Cash Flows, and (iv) the Notes to Condensed Consolidated Financial Statements. |
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