Gse Systems 10Q 2023 Q1 Quarterly report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

(Mark One)
☒		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 for the quarterly period ended March 31, 2023

		or

☐		TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 for the transition period from ____ to ____

Commission File Number 001-14785

GSE Systems, Inc.

(Exact name of registrant as specified in its charter)

Delaware		52-1868008
(State of incorporation)		(I.R.S. Employer Identification Number)

6940 Columbia Gateway Dr., Suite 470, Columbia MD		21046
(Address of principal executive offices)		(Zip Code)

Registrant’s telephone number, including area code: (410) 970-7800

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Sections 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 during the preceding 12 months (or for such 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, or a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer”, “accelerated filer”, and “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer ☐	Accelerated filer ☐	Non-accelerated filer ☒	Smaller reporting company ☒

Emerging growth company ☐

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

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

Securities registered pursuant to Section 12(b) of the Act:

Title of each class		Trading Symbol(s)		Name of each exchange on which registered
Common Stock, $0.01 Par Value		GVP		The NASDAQ Capital Market

There were 23,560,808 shares of common stock, with a par value of $0.01 per share outstanding as of April 30, 2023.

GSE SYSTEMS INC. AND SUBSIDIARIES

QUARTERLY REPORT ON FORM 10-Q

TABLE OF CONTENTS

		Page
PART I.	FINANCIAL INFORMATION	3
Item 1.	Financial Statements (unaudited)
	Consolidated Balance Sheets as of March 31, 2023 (unaudited) and December 31, 2022	3
	Unaudited Consolidated Statements of Operations for the Three Months Ended March 31, 2023 and 2022	4
	Unaudited Consolidated Statements of Comprehensive Loss for the Three Months Ended March 31, 2023 and 2022	5
	Unaudited Consolidated Statements of Changes in Stockholders’ Equity for the Three Months Ended March 31, 2023 and 2022	6
	Unaudited Consolidated Statements of Cash Flows for Three Months Ended March 31, 2023 and 2022	7
	Notes to the Consolidated Financial Statements (unaudited)	8
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	24
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	33
Item 4.	Controls and Procedures	34
PART II.	OTHER INFORMATION	34
Item 1.	Legal Proceedings	34
Item 1A.	Risk Factors	34
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	34
Item 3	Defaults Upon Senior Securities	34
Item 4	Mine Safety Disclosures	34
Item 5.	Other Information	34
Item 6.	Exhibits	35

Table of Contents

GSE SYSTEMS, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(in thousands, except share and per share data)

	March 31, 2023			December 31, 2022
	(unaudited)
ASSETS
Current assets:
Cash and cash equivalents	$	1,265		$	2,789
Restricted cash, current		500			1,052
Contract receivables, net of allowance for credit loss		10,464			10,064
Prepaid expenses and other current assets		1,282			2,165
Total current assets		13,511			16,070

Equipment, software and leasehold improvements, net		724			772
Software development costs, net		567			574
Goodwill		6,299			6,299
Intangible assets, net		1,526			1,687
Restricted cash - long term		1,078			535
Operating lease right-of-use assets, net		386			506
Other assets		52			53
Total assets	$	24,143		$	26,496

LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Current portion of long-term note	$	2,693		$	3,038
Accounts payable		1,560			1,262
Accrued expenses		2,045			2,084
Accrued compensation		1,935			1,071
Billings in excess of revenue earned		4,104			4,163
Accrued warranty		292			370
Income taxes payable		1,723			1,774
Derivative liabilities		484			603
Other current liabilities		831			1,286
Total current liabilities		15,667			15,651

Long-term note, less current portion		-			310
Operating lease liabilities noncurrent		110			160
Other noncurrent liabilities		192			144
Total liabilities		15,969			16,265

Commitments and contingencies (Note 16)

Stockholders’ equity:
Preferred stock $0.01 par value; 2,000,000 shares authorized; no shares issued and outstanding		-			-
Common stock $0.01 par value; 60,000,000 shares authorized, 25,159,719 and 24,046,806 shares issued, 23,560,808 and 22,447,895 shares outstanding, respectively		252			240
Additional paid-in capital		83,860			82,911
Accumulated deficit		(72,935	)		(69,927	)
Accumulated other comprehensive (loss) income		(4	)		6
Treasury stock at cost, 1,598,911 shares		(2,999	)		(2,999	)
Total stockholders’ equity		8,174			10,231
Total liabilities and stockholders’ equity	$	24,143		$	26,496

The accompanying notes are an integral part of these consolidated financial statements.

Table of Contents

GSE SYSTEMS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except share and per share data)

(Unaudited)

	Three months ended
	March 31, 2023			March 31, 2022

Revenue	$	10,873		$	12,275
Cost of revenue		8,478			9,848
Gross profit		2,395			2,427

Operating expenses:
Selling, general and administrative		4,788			4,507
Research and development		181			142
Depreciation		48			72
Amortization of intangible assets		161			260
Total operating expenses		5,178			4,981

Operating loss		(2,783	)		(2,554	)

Other income and (expenses), net
Interest expense, net		(286	)		(148	)
Change in fair value of derivative instruments, net		69			(581	)
Other income, net		10			16
Loss before income taxes		(2,990	)		(3,267	)

(Benefit from) provision for income taxes		(39	)		167
Net loss	$	(2,951	)	$	(3,434	)

Net loss per common share - basic and diluted	$	(0.13	)	$	(0.16	)

Weighted average shares outstanding used to compute net loss per share - basic and diluted		22,933,894			20,980,046

The accompanying notes are an integral part of these consolidated financial statements.

Table of Contents

GSE SYSTEMS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

(in thousands)

(Unaudited)

	Three months ended
	March 31, 2023			March 31, 2022
Net loss	$	(2,951	)	$	(3,434	)
Cumulative translation adjustment		(10	)		181
Comprehensive loss	$	(2,961	)	$	(3,253	)

The accompanying notes are an integral part of these consolidated financial statements.

Table of Contents

GSE SYSTEMS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY

(in thousands)

(unaudited)

	Common Stock													Treasury Stock
Three Months Ended	Shares		Amount		Additional Paid-in Capital			Accumulated Deficit			Accumulated Other Comprehensive Loss			Shares			Amount			Total

Balance, January 1, 2023		24,047	$	240	$	82,911		$	(69,927	)	$	6			(1,599	)	$	(2,999	)	$	10,231

Adoption of ASC 326 Current Expected Credit Losses (CECL)		-		-		-			(57	)		-			-			-			(57	)

Adjusted balance, January 1, 2023		24,047		240		82,911			(69,984	)		6			(1,599	)		(2,999	)		10,174

Stock-based compensation expense		-		-		274			-			-			-			-			274
Common stock issued for RSUs vested		121		2		(2	)		-			-			-			-			-
Shares withheld to pay taxes		-		-		(58	)		-			-			-			-			(58	)
Foreign currency translation adjustment		-		-		-			-			(10	)		-			-			(10	)
Repayment of convertible note in shares		992		10		735			-			-			-			-			745
Net loss		-		-		-			(2,951	)		-			-			-			(2,951	)
Balance, March 31, 2023		25,160	$	252	$	83,860		$	(72,935	)	$	(4	)		(1,599	)	$	(2,999	)	$	8,174

Balance, January 1, 2022	22,533	$	225	$	80,505		$	(54,584	)	$	(104	)	(1,599	)	$	(2,999	)	$	23,043
Stock-based compensation expense	-		-		359			-			-		-			-			359
Common stock issued for RSUs vested	76		1		(1	)		-			-		-			-			-
Shares withheld to pay taxes	-		-		(86	)		-			-		-			-			(86	)
Foreign currency translation adjustment	-		-		-			-			181		-			-			181
Net income	-		-		-			(3,434	)		-		-			-			(3,434	)
Balance, March 31, 2022	22,609	$	226	$	80,777		$	(58,018	)	$	77		(1,599	)	$	(2,999	)	$	20,063

Table of Contents

GSE SYSTEMS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

(unaudited)

	Three months ended
	March 31, 2023			March 31, 2022
Cash flows from operating activities:
Net loss	$	(2,951	)	$	(3,434	)
Adjustments to reconcile net loss to net cash (used in) provided by operating activities:
Goodwill and intangible asset impairment charge		-			-
Depreciation		48			72
Amortization of intangible assets		161			260
Amortization of capitalized software development costs		84			83
Amortization of deferred financing costs		7			3
Amortization of debt discount		303			129
Loss on debt settled in shares		106			-
Stock-based compensation expense		285			408
Credit loss expense		32			-
Change in fair value of derivative instruments, net		(69	)		581
Deferred income taxes		2			55
Changes in assets and liabilities:
Contract receivables, net		(486	)		846
Prepaid expenses and other assets		876			943
Accounts payable, accrued compensation and accrued expenses		1,252			1,028
Billings in excess of revenue earned		(61	)		150
Accrued warranty		(94	)		15
Other liabilities		(336	)		(56	)
Net cash (used in) provided by operating activities		(841	)		1,083

Cash flows from investing activities:
Capital expenditures		-			(81	)
Capitalized software development costs		(77	)		(106	)
Net cash used in investing activities		(77	)		(187	)

Cash flows from financing activities:
Repayment of line of credit		-			(1,817	)
Repayment of insurance premium financing		(243	)		(282	)
Proceeds from issuance of long-term debt and warrants		-			5,750
Payments of debt issuance and original discount on issuance of long-term debt and warrants		-			(968	)
Principal repayment of convertible note		(319	)		-
Tax paid for shares withheld		(58	)		(86	)
Net cash (used in) provided by financing activities		(620	)		2,597

Effect of exchange rate changes on cash		5			(12	)
Net (decrease) increase in cash, cash equivalents and restricted cash		(1,533	)		3,481
Cash, cash equivalents and restricted cash at beginning of the period		4,376			3,550
Cash, cash equivalents and restricted cash at the end of the period	$	2,843		$	7,031

Cash and cash equivalents	$	1,265		$	5,448
Restricted cash, current		500			-
Restricted cash included in other long-term assets		1,078			1,583
Total cash, cash equivalents and restricted cash	$	2,843		$	7,031

Supplemental cash flow disclosures:
Non-cash financing activities
Repayment of convertible note in shares	$	745		$	-
Discount on issuance of convertible note	$	-		$	750

The accompanying notes are an integral part of these consolidated financial statements.

Table of Contents

GSE SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(unaudited)

Note 1 - Summary of Significant Accounting Policies

Basis of Presentation

GSE Systems, Inc. is a leading provider of professional and technical engineering, staffing services and simulation software to clients in the power and process industries. References in this report to “GSE” or “we” or “our” or “the Company” are to GSE Systems, Inc. and our subsidiaries, collectively.

The consolidated interim financial statements included herein have been prepared by GSE and are unaudited. In the opinion of our management, all adjustments and reclassifications of a normal and recurring nature necessary to present fairly the financial position, results of operations and cash flows for the periods presented, have been made. Certain information and note disclosures normally included in financial statements prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”) have been condensed or omitted. All intercompany accounts and transactions have been eliminated in consolidation.

The accompanying unaudited consolidated financial statements have been prepared in accordance with U.S. GAAP for interim financial information and with the instructions to Form 10-Q and Article 8 of Regulation S-X. The accompanying balance sheet data for the year ended December 31, 2022 was derived from our audited financial statements, but it does not include all disclosures required by U.S. GAAP.

The results of operations for interim periods are not necessarily an indication of the results for the full year. These consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2022, filed with the U.S. Securities and Exchange Commission on April 17, 2023.

The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, as well as reported amounts of revenues and expenses during the reporting period. Our most significant estimates relate to revenue recognition on contracts with customers, product warranties, valuation of goodwill and intangible assets acquired including the determination of fair value in impairment tests, valuation of long-lived assets to be disposed of, valuation of stock-based compensation awards, the recoverability of deferred tax assets, and valuation of warrants and derivative liability related to our convertible note. Actual results of these and other items not listed could differ from these estimates and those differences could be material.

Liquidity and Going Concern

The accompanying consolidated financial statements of the Company have been prepared assuming the Company will continue as a going concern and in accordance with U.S. GAAP. The going concern basis of presentation assumes that the Company will continue in operation one year after the date these financial statements are issued and will be able to realize its assets and satisfy its liabilities and commitments in the normal course of business. Pursuant to the requirements of the Financial Accounting Standards Board’s Accounting Standards Codification (“ASC”) Topic 205-40, Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern, management must evaluate whether there are conditions or events, considered in the aggregate, that raise substantial doubt about the Company’s ability to continue as a going concern for one year from the date these financial statements are issued. This evaluation does not take into consideration the potential mitigating effect of management’s plans that have not been fully implemented or are not within control of the Company as of the date the financial statements are issued. When substantial doubt exists under this methodology, management evaluates whether the mitigating effect of its plans sufficiently alleviates substantial doubt about the Company’s ability to continue as a going concern. The mitigating effect of management’s plans, however, are only considered if both (1) it is probable that the plans will be effectively implemented within one year after the date that the financial statements are issued, and (2) it is probable that the plans, when implemented, will mitigate the relevant conditions or events that raise substantial doubt about the entity’s ability to continue as a going concern within one year after the date that the financial statements are issued. Management determined that the implemented plans to mitigate relevant conditions may not alleviate management's concerns that raise substantial doubt about the Company’s ability to continue as a going concern within the twelve months ended April 30, 2024.

Table of Contents

On November 4, 2022, the Company received a notification letter from NASDAQ related to NASDAQ Listing Rules informing us that the Company no longer meets the requirement to maintain a minimum bid price of $1.00 per share. The Company filed a Form 8-K on November 8, 2022, to disclose receipt of this letter. The Company had an initial 180-day period (or until May 3, 2023) to cure this deficiency by maintaining a closing bid price of $1 per share for at least 10 consecutive trading days, and if compliance was not achieved within the initial 180 calendar days we could petition NASDAQ for an additional period of 180 calendar days in which to increase the stock price. Anticipating that it would not regain compliance with the NASDAQ minimum closing bid price requirement by May 3, 2023, on April 19, 2023, the Company submitted a request for an additional 180-day period within which to regain compliance. On May 4, 2023, the Company received a letter from NASDAQ advising that the 180-day extension – expiring on October 30, 2023 – had been granted due to the facts that the Company:

•	had met the market value of publicly held shares requirement for continuing listing,

•	had met all other listing requirements for NASDAQ (other than bid price requirement), and

•	had provided written notice to NASDAQ with a plan of how it intends to regain compliance with the bid price requirement during the second 180-day period.

The Company’s plan to regain compliance includes continuing to monitor the closing bid price of its Common Stock and, if appropriate, implementing available options including, but not limited to, undertaking a reverse stock split of its outstanding securities at a ratio within the range of one-for-five to one-to-ten, which will have the initial effect of multiplying the trading price of the Company’s Common Stock by the same ratio. Because such an action requires stockholder approval, the Company has put the matter before its stockholders for approval at the 2023 annual meeting of stockholders, which is scheduled to be held on June 12, 2023. If the stockholders approve the measure, we believe that compliance with the NASDAQ minimum bid price listing requirement will be achieved well before the expiration of the second 180-day period. In furtherance of the Company’s plan to regain compliance, the Company has undertaken the following specific steps:

•

The Company’s Board of Directors considered and approved a resolution on April 3, 2023, to conduct a reverse stock split of one-for-five to one-to-ten, to put the matter before stockholders at the June 2023 annual meeting, and authorizing Management to file the necessary Proxy Statements to effectuate submission of the matter to stockholders;

•	The Company filed a Definitive Proxy Statement with the SEC on May 2, 2023 containing this proposal and commenced mailing of notices to stockholders with instructions for obtaining copies of the proxy materials and voting their shares;

•	Stockholders will vote on the proposed reverse stock split at the annual meeting, which is scheduled to be held on June 12, 2023; and

•	If the reverse stock split is approved by stockholders, and if the closing bid price on the Company’s Common Stock does not increase, the Board of Directors will cause the Company to effectuate the reverse stock split in a manner intended to achieve compliance well in advance of October 30, 2023.

If compliance is not achieved prior to October 30, 2023, and consequently a delisting letter is issued, the Company may request a hearing before the NASDAQ Hearing Panel with regard to delisting, which may have the effect of staying the delisting and provide the Company with the opportunity to present its further plans to regain compliance. If the Company’s Common Stock ceases to be listed on NASDAQ, Lind Global Fund II LP (“Lind Global”), as the holder of that certain two-year, secured, interest-free convertible promissory note in the amount of $5.75 million (the “Convertible Note”) (see Note 10 for further details), may deliver a notice of event of default together with a demand for payment to the Company for payment in full. If such a demand is delivered, the Company shall, within ten business days, pay all of the outstanding principal amount or, at its election, Lind Global may elect to convert all or a portion of the outstanding principal amount and the conversion price shall be adjusted to the lower of the then-current conversion price and 80% of the average of the three lowest daily variable average weighted prices during the twenty trading days prior to delivery. Additionally, if we are unable to maintain our listing on NASDAQ, it will constitute an event of default under the Convertible Note, which would trigger certain obligations under the Convertible Note including, but not limited to, causing an amount equal to 120% of the outstanding principal amount of the Convertible Note to immediately become due. Although there can be no assurance that the Company will be able to regain compliance with the minimum bid price requirement within the time period(s) permitted by NASDAQ or maintain compliance with any of the other NASDAQ continued listing requirements, we believe we will be able to remediate the noncompliance.

Table of Contents

The Company has incurred operating losses and has not demonstrated an ability to generate cash in excess of its operating expenses for a sustained period of time. During the year ended December 31, 2022, the Company generated a loss from operations of $14.4 million, which includes non-cash impairment charges of long-lived assets and goodwill from our Workforce Solutions segment totaling $7.5 million. During the three months ended March 31, 2023, the Company generated a loss from operations of $2.8 million. As of March 31, 2023, the Company had domestic unrestricted cash and cash equivalents of $1.3 million which is not sufficient to fund the Company’s planned operations through one year after the date the consolidated financial statements are issued. These factors create substantial doubt about the Company’s ability to continue as a going concern for at least one year after the date that our audited consolidated financial statements are issued.

In making this assessment we performed a comprehensive analysis of our current circumstances and to alleviate these conditions, management is monitoring the Company’s performance and evaluating strategies to obtain the required additional funding for future operations. These strategies may include, but are not limited to, restructuring of operations to grow revenues and decrease expenses, obtaining equity financing, issuing debt, or entering into other financing arrangements. The analysis used to determine the Company’s ability to continue as a going concern does not include cash sources outside the Company’s direct control that management expects to be available within the next twelve months.

Note 2 - Recent Accounting Pronouncements

Accounting pronouncements recently adopted

In June 2016, the FASB issued ASU 2016-13, Financial Instruments—Credit Losses (Topic 326) to replace the incurred loss impairment methodology under U.S. GAAP. This ASU introduces a new accounting model, the Current Expected Credit Losses model (CECL), which could result in earlier recognition of credit losses and additional disclosures related to credit risk. The CECL model will require the Company to use a forward-looking expected credit loss impairment methodology for the recognition of credit losses for financial instruments at the time the financial asset is originated or acquired, and require a loss be incurred before it is recognized. The expected credit losses are adjusted each period for changes in expected lifetime credit losses. The new standard will apply to accounts receivable, loans, and other financial instruments. This standard is effective for the Company beginning January 1, 2023. The Company adopted the new guidance starting January 1, 2023 on a modified retrospective basis. The impact of this ASU is reflected in the consolidated financial statements and was not material.

Management has evaluated other recently issued accounting pronouncements and does not believe that any of these pronouncements will have a significant impact on our consolidated financial statements and related disclosures.

Note 3 - Basic and Diluted Loss per Share

Basic earnings per share is based on the weighted average number of outstanding common shares for the period. Diluted earnings per share adjusts the weighted average shares outstanding for the potential dilution that could occur if outstanding vested stock options were exercised. Basic and diluted earnings per share are based on the weighted average number of outstanding shares for the period.

The weighted average number of common shares and common share equivalents used in the determination of basic and diluted loss per share were as follows:

(in thousands, except for share amounts)	Three months ended
	March 31,
	2023			2022
Numerator:
Net loss attributed to common stockholders	$	(2,951	)	$	(3,434	)

Denominator:
Weighted-average shares outstanding for basic earnings per share		22,933,894			20,980,046

Adjusted weighted-average shares outstanding and assumed conversions for diluted earnings per share		22,933,894			20,980,046

Shares related to potentially dilutive securities excluded because inclusion would be anti-dilutive		2,856,032			149,271

Table of Contents

Note 4 - Coronavirus Aid, Relief and Economic Security Act

Employee Retention Credits (ERC)

Employee retention tax credits, made available under the CARES Act, allow eligible employers to claim a refundable tax credit against the employer share of Social Security tax equal to 70% of the qualified wages they pay to employees, initially from March 27, 2020 until June 30, 2021, and extended through September 30, 2021. In 2021, we applied for $5.0 million in refunds from the Internal Revenue Service with filing of our 941s and achieved $2.2 million in credits from unremitted payroll taxes as allowed. We recorded other income of $7.2 million related to the employee retention tax credits earned for the year ended December 31, 2021. As of March 31, 2023, we received cumulative employee retention tax credit refunds totaling $4.9 million of the $5.0 million in refunds sought, with remaining outstanding refunds receivable of $0.1 million which was included in the other current assets balance at March 31, 2023.

Note 5 - Contract Receivables

Contract receivables represent our unconditional rights to consideration due from our domestic and international customers. We expect to collect all contract receivables within the next twelve months.

The components of contract receivables were as follows:

(in thousands)	March 31, 2023			December 31, 2022

Billed receivables	$	5,831		$	6,074
Unbilled receivables		5,859			5,146
Allowance for credit loss		(1,226	)		(1,156	)
Total contract receivables, net	$	10,464		$	10,064

During the fist quarter of 2023, the Company adopted ASU 2016-13, “Credit Losses (Topic 326) Measurement of Credit Losses on Financial Instruments.” This ASU replaces the incurred loss impairment model with an expected credit loss impairment model for financial instruments, including accounts receivable. Under the new guidance, an entity recognizes its estimate of lifetime expected credit losses as an allowance, which the FASB believes will result in more timely recognition of such losses. Under the CECL impairment model, the Company develops and documents its allowance for credit losses on its contract receivables based on three portfolio segments by customer geographic location: North America, China, Rest of World (ROW). The determination of portfolio segments is based primarily on the qualitative consideration of the nature of the Company’s business operations and the characteristics of the underlying trade receivables.

The following table sets forth the activity in the allowance for credit losses for the three months ended March 31, 2023.

(in thousands)
Beginning balance at January 1, 2023	$	1,213
Current period provision for expected credit loss		9
Write-offs charged against the allowance, net of recoveries		-
Currency adjustment		4
Balance at March 31, 2023	$	1,226

During the three months ended March 31, 2023, we recorded credit loss expense of $32 thousand. We recorded no credit loss expense during the three months ended March 31, 2022.

During the month of April 2023, we invoiced $3.0 million of the unbilled receivables as of March 31, 2023.

Our foreign currency denominated contract receivables, billings in excess of revenue earned and subcontractor accruals that are related to the outstanding foreign exchange contracts are remeasured at the end of each reporting period into our functional currency, using the current exchange rate at the end of the period. The gain or loss resulting from such remeasurement is included in other income, net in the consolidated statements of operations. During the three months ended March 31, 2023 and 2022, we recognized a gain on remeasurement of these foreign exchange contracts of $72 thousand and $3 thousand, respectively.

As of March 31, 2023, we had one customer that accounted for 17% of our consolidated contract receivables. As of December 31, 2022, we had no customer that accounted for 10% of our consolidated contract receivables.

Table of Contents

Note 6 - Goodwill and Intangible Assets

The Company monitors operating results and events and circumstances that may indicate potential impairment of intangible assets. Management concluded that no triggering events that occurred during the three months ended March 31, 2023 and 2022.

During September 30, 2022, we determined that the deterioration in sales, decline in revenues, delayed pipeline opportunities, and overall downward performance results and the forecast related to the Workforce Solutions business segment was material enough to be considered a triggering event that could result in impairment of our long-lived assets. We performed an interim analysis and determined an impairment existed at September 30, 2022 in accordance with ASC 350 & ASC 360. As such, we recorded an impairment of the related goodwill and definite-lived intangible assets of $7.0 million and $0.5 million, for the three and nine months ended September 30, 2022, respectively.

Management determined there were no triggering events occured during the three months March 31, 2023.

Goodwill

The following table shows the gross carrying amount and impairment of goodwill:

(in thousands)

	Goodwill		Accumulated Impairment			Net

Engineering	$	8,278	$	(3,370	)	$	4,908
Workforce Solutions		8,431		(7,040	)		1,391
Net book value at March 31, 2023	$	16,709	$	(10,410	)	$	6,299

(in thousands)

	Goodwill		Accumulated Impairment			Net

Engineering	$	8,278	$	(3,370	)	$	4,908
Workforce Solutions		8,431		(7,040	)		1,391
Net book value at December 31, 2022	$	16,709	$	(10,410	)	$	6,299

The following table shows the gross carrying amount and accumulated amortization of definite-lived intangible assets:

(in thousands)	As of March 31, 2023
	Gross Carrying Amount		Accumulated Amortization			Impairment			Net
Amortized intangible assets:
Customer relationships	$	8,628	$	(7,154	)	$	(464	)	$	1,010
Trade names		1,689		(1,218	)		-			471
Developed technology		471		(471	)		-			-
Non-contractual customer relationships		433		(433	)		-			-
Noncompete agreement		527		(495	)		-			32
Alliance agreement		527		(514	)		-			13
Others		167		(167	)		-			-
Total	$	12,442	$	(10,452	)	$	(464	)	$	1,526

Table of Contents

(in thousands)	As of December 31, 2022
	Gross Carrying Amount		Accumulated Amortization			Impairment			Net
Amortized intangible assets:
Customer relationships	$	8,628	$	(7,050	)	$	(464	)	$	1,114
Trade names		1,689		(1,196	)		-			493
Developed technology		471		(471	)		-			-
Non-contractual customer relationships		433		(433	)		-			-
Noncompete agreement		527		(486	)		-			41
Alliance agreement		527		(488	)		-			39
Others		167		(167	)		-			-
Total	$	12,442	$	(10,291	)	$	(464	)	$	1,687

Amortization expense related to definite-lived intangible assets totaled $0.2 million and $0.3 million for the three months ended March 31, 2023 and 2022. The following table shows the estimated amortization expense of the definite-lived intangible assets for the next five years and thereafter:

(in thousands)
Years ended December 31:
2023 remainder	$	348
2024		332
2025		255
2026		204
2027		169
Thereafter		218
Total	$	1,526

Note 7 - Equipment, Software and Leasehold Improvements

Equipment, software and leasehold improvements, net consist of the following:

(in thousands)
	March 31, 2023			December 31, 2022
Computer and equipment	$	2,363		$	2,363
Software		2,291			2,291
Leasehold improvements		659			659
Furniture and fixtures		839			838
		6,152			6,151
Accumulated depreciation		(5,428	)		(5,379	)
Equipment, software and leasehold improvements, net	$	724		$	772

Depreciation expense was $48 thousand and $72 thousand for the three months ended March 31, 2023 and 2022, respectively.

Table of Contents

Note 8 - Fair Value of Financial Instruments

ASC 820, Fair Value Measurement, defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. ASC 820 also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value.

The levels of the fair value hierarchy established by ASC 820 are:

Level 1: inputs are quoted prices, unadjusted, in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date.

Level 2: inputs are other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly. A Level 2 input must be observable for substantially the full term of the asset or liability.

Level 3: inputs are unobservable and reflect the reporting entity’s own assumptions about the assumptions that market participants would use in pricing the asset or liability.

As of March 31, 2023 and December 31, 2022, we considered the recorded value of certain of our financial assets and liabilities, which consist primarily of cash and cash equivalents, contract receivable and accounts payable, to approximate fair value based upon their short-term nature.

Our convertible debt issued in February 2022 (See Note 10) includes certain embedded redemption features that are required to be bifurcated as embedded derivatives and measured at fair value on a recurring basis. We estimate the fair value using a Monte Carlo simulation based on estimates of our future stock price and assumptions about the possible redemption scenarios.

The Company used the Monte Carlo simulation model to determine the fair value of the Warrants and Cash-Settled PRSUs, which required the input of subjective assumptions. The fair value of the Warrants as of March 31, 2023 was estimated with the following assumptions.

Exercise Price	$	1.94

Common Stock Price	$	0.70
Risk Free Rate		3.6	%
Volatility		70.0	%
Term (in years)		3.9 yrs.

The following table presents assets and liabilities measured at fair value at March 31, 2023:

(in thousands)	Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Total

Derivative liability	$	-	$	-	$	217	$	217
Warrant liability		-		-		267		267
Cash settled performance-vesting restricted stock units		-		-		62		62
Total liabilities	$	-	$	-	$	546	$	546

The following table presents assets and liabilities measured at fair value at December 31, 2022:

(in thousands)	Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Total

Derivative liability	$	-	$	-	$	285	$	285
Warrant liability		-		-		267		267
Cash settled performance-vesting restricted stock units		-		-		51		51
Total liabilities	$	-	$	-	$	603	$	603

The following table summarizes changes in the fair value of our Level 3 liabilities during the three months ended March 31, 2023.

(in thousands)	Embedded Redemption Features			Warrant		Cash Settled PRSUs		Level 3 Total
Balance at December 31, 2022	$	285		$	267	$	51	$	603
Change in FV included in gain on derivative instruments, net		(68	)		-		-		(68	)
Stock compensation less payments made		-			-		11		11
Balance at March 31, 2023	$	217		$	267	$	62	$	546

Table of Contents

Note 9 - Stock-Based Compensation

We recognize compensation expense on a pro rata straight-line basis over the requisite service period for stock-based compensation awards with both graded and cliff vesting terms. We recognize the cumulative effect of a change in the number of awards expected to vest in compensation expense in the period of change. We have not capitalized any portion of our stock-based compensation. Our forfeiture rate is based on actuals.

During the three months ended March 31, 2023 and 2022, we recognized $0.3 million and $0.4 million of stock-based compensation expense related to equity awards, respectively, under the fair value method.

During the three months ended March 31, 2023, we granted approximately 45,000 restricted stock units (“RSUs”) with an aggregate fair value of approximately $33 thousand. During the three months ended March 31, 2022, we granted approximately 14,000 time-based RSUs with an aggregate fair value of approximately $24 thousand, respectively. During the three months ended March 31, 2023, we vested 184,949 RSUs compared to 121,540 RSUs vested during the three months ended March 31, 2022. A portion of the time-based RSUs vest quarterly in equal amounts over the course of eight quarters, and the remainder vest annually in equal amounts over the course of one to three years.

GSE’s 1995 long-term incentive program (“LTIP”) provides for the issuance of performance-vesting and time-vesting RSUs to certain executives and employees. Vesting of the performance-vesting restricted stock units (“PRSU”) is contingent upon the employee’s continued employment and the Company’s achievement of certain performance goals during designated performance periods as established by the Compensation Committee of the Company’s Board of Directors. We recognize compensation expense, net of estimated forfeitures, for PRSUs on a straight-line basis over the performance period based on the probable outcome of achievement of the financial targets. At the end of each reporting period, we estimate the number of PRSUs that are expected to vest, based on the probability and extent to which the performance goals will be met, and take into account these estimates when calculating the expense for the period. If the number of shares expected to be earned changes during the performance period, we make a cumulative adjustment to compensation expense based on the revised number of shares expected to be earned.

During the three months ended March 31, 2023, there were no PRSUs granted compared to 800,000 during the three months ended March 31, 2022, including 200,000 cash-settled grants to employees. These grants are subject to multiple vesting criteria including reaching a 20-day VWAP of $1.94 prior to the expiration of the awards, and a time-vesting restriction, which will vest in equal portions over the next 15 quarters ending December 31, 2025. During the three months ended March 31, 2023, we vested 50,000 PRSUs, of which, 12,500 PRSUs were cash-settled, respectively. No PRSUs were vested during the three months ended March 31, 2022. The market vesting criteria was achieved in April 2022 for the 800,000 PRSUs which will fully vest over the next 11 quarters.

We did not grant any stock options for the three months ended March 31, 2023 and 2022.

Note 10 - Debt

Convertible Note

On February 23, 2022, we entered into a Securities Purchase Agreement, as amended, with Lind Global, pursuant to which we issued to Lind Global the Convertible Note (see Note 1) and a common stock purchase warrant to acquire 1,283,732 shares of our Common Stock (the “Warrant”). The Convertible Note does not bear interest but was issued at a $0.75 million discount (“OID”). We received proceeds of approximately $4.8 million net of the OID and expenses.

	Amount

Convertible Note issued	$	5,750
Debt discount		(750	)
Issuance cost:
Commitment fee		(175	)
Balance of investor’s counsel fees		(43	)
Net proceeds of Convertible Note	$	4,782

Fair value of Warrant Liabilities on issuance		(724	)
Fair value of Conversion Feature on issuance		(306	)
Allocated OID costs to Convertible Note		(96	)
Interest expense accrued on Convertible Note as of March 31, 2023		1,592
Principal and interest payments through March 31, 2023		(2,555	)

Balance of Convertible Note as of March 31, 2023	$	2,693

Table of Contents

The Convertible Note provides for 18 monthly principal repayments of $319 thousand beginning 180 days from issuance. Payments can be made in the form of cash, shares, or a combination of both at the discretion of GSE.

The Convertible Note is convertible into our Common Stock at any time after the earlier of six months from issuance of the Convertible Note or the date of an effective registration statement filed with the SEC covering the underlying shares. The conversion price of the Convertible Note is initially equal to $1.94 per share, subject to customary adjustments. The Convertible Note matures in February of 2024, although we are permitted to prepay the Convertible Note, provided that Lind Global shall have the option to convert up to one third of the outstanding principal of the Convertible Note at a price per share equal to the lessor of the Repayment Share price or the conversion price (as described below). The Convertible Note is guaranteed by each of our subsidiaries and is secured by a first priority lien on all of our assets. The Convertible Note is not subject to any financial covenants and events of default under the Convertible Note are limited to events related to payment, market capitalization, certain events pertaining to conversion and the underlying shares of Common Stock and other customary events including, but not limited to, bankruptcy or insolvency. Upon the occurrence of an event of default, the Convertible Note will become immediately due and payable at an amount equal to 120% of the outstanding principal, subject to any cure periods described in the Convertible Note, and the customer may demand that all or a portion of the outstanding principal amount be converted into shares of common stock at the lower of the then current conversion price and 80% of the average of the three lowest daily volume-weighted average price (“VWAPs”) during the twenty days prior to delivery of the conversion notice. If there is a change of control of the Company, Lind Global has the right to require us to prepay the outstanding principal amount of the Convertible Note.

A portion of the proceeds of the Convertible Note were used to repay, in full, all outstanding indebtedness owed to Citizens Bank, N.A. (“Citizens”), and the Amended and Restated Credit and Security Agreement between us, our subsidiaries, and Citizens was terminated. We will continue to maintain a cash management account and certain letters of credit with Citizens and, accordingly, have entered into a certain Cash Management Agreement with Citizens, as well as certain Cash Pledge Agreements in amounts corresponding to the current outstanding letters of credits with customers.

The Warrant entitles Lind Global to purchase up to 1,283,732 shares of our Common Stock until February 23, 2027, at an exercise price of $1.94 per share, subject to customary adjustments described therein. The Warrant is recorded at fair value upon issuance of $0.7 million and is classified as a current liability to be remeasured at each reporting period (see Note 8). The discount created by allocating proceeds to the Warrant results in a debt discount to be amortized as additional interest expense over the term of the Convertible Note.

The Company evaluated the Convertible Note and concluded that certain embedded redemption features are required to be accounted for as a derivative liability. Embedded redemption features were recorded at fair value upon issuance of $0.3 million and are classified as current liabilities to be remeasured at each reporting period (see Note 8). The discount created by allocating proceeds to the derivative liability results in a debt discount to be amortized as additional interest expense over the term of the Convertible Notes. The Warrant is accounted for as a derivative liability based on certain features included within the Convertible Note which caused the Company to not be able to assert that it would have sufficient shares in all cases to be able to settle the warrant. As such, the initial proceeds (approximately $4.8 million, net of original issue discounts and other payments to lender) were allocated first to the fair value of the Warrant with the residual allocated to the Convertible Note host instrument. The proceeds allocated to the Convertible Note were further allocated first to the bifurcated derivative liability based on its fair value with the residual being allocated to the Convertible Note host instrument.

Table of Contents

The direct and incremental costs incurred are allocated to the Convertible Note and the Warrant based on a systematic and rational approach. The costs allocated to the Warrant have been expensed as incurred while those allocated to the Convertible Note have been capitalized and will be amortized as interest expense over the life of the Convertible Note based on the effective interest rate. The Company will record ongoing changes to the fair value of the derivative liabilities as other non-operating income (expense).

The Convertible Note was evaluated as a potentially dilutive security in both periods of loss and income for diluted earnings per share purposes. The Warrant is considered a participating security and was not included in the calculation of basic earnings per share for the period ended March 31, 2023 as Company reflected net loss for this period. The Warrant will be included in the calculation of basic earnings per share in periods of net income.

The issuance costs with respect to the Convertible Note, which are recorded as a debt discount, are deferred and amortized using effective interest method as additional interest expense over the terms of the Convertible Note.

The Company incurred total interest expense related to the Convertible Note, including the amortization of the various discounts, of $303 thousand for the three months ended March 31, 2023, respectively.

Revolving Line of Credit

In February 2022, using proceeds from the Convertible Note, we repaid in full, all outstanding indebtedness of $1.8 million owed to Citizens, and the Amended and Restated Credit and Security Agreement between us, our subsidiaries, and Citizens was terminated. Certain letters of credit remain in place with Citizens. As of March 31, 2023, we had five letters of credit totaling $1.1 million outstanding to certain customers which were secured with restricted cash.

Note 11 - Product Warranty

We accrue estimated warranty costs at the time the related revenue is recognized and based on historical experience and projected claims. Our System Design and Build contracts generally include a one year base warranty on the systems. The portion of our warranty provision expected to be incurred within twelve months is classified as current within accrued warranty and totals $292 thousand, and the remaining $117 thousand is classified as long-term within other non-current liabilities.

The activity in the accrued warranty accounts during the current period is as follows:

(in thousands)
Balance at January 1, 2023	$	503
Current period recovery		(75	)
Current period claims		(18	)
Currency adjustment		(1	)
Balance at March 31, 2023	$	409

Note 12 - Revenue

We account for revenue in accordance with ASC 606, Revenue from Contracts with Customers. We primarily generate revenue through three distinct revenue streams: (1) System Design and Build (“SDB”), (2) Software and (3) Training and Consulting Services across our Performance Improvement Solutions and Workforce Solutions segments. We recognize revenue from SDB and software contracts mainly through our Performance Improvement Solutions segment. We recognize training and consulting service contracts through both segments.

The following table represents a disaggregation of revenue by type of goods or services for the three months ended March 31, 2023 and 2022, along with the reportable segment for each category:

	Three months ended
(in thousands)	March 31, 2023		March 31, 2022
Engineering
System Design and Build - Over time	$	1,470	$	1,412

Software and Support		1,189		372
Point in time		313		45
Over time		876		327

Training and Consulting Services		4,282		4,613
Point in time		196		418
Over time		4,086		4,195

Workforce Solutions
Training and Consulting Services		3,932		5,878
Point in time		119		-
Over time		3,813		5,878

Total revenue	$	10,873	$	12,275

The following table reflects the revenue recognized in the reporting periods that were included in contract liabilities from contracts with customers:

(in thousands)	Three months ended
	March 31, 2023		March 31, 2022
Revenue recognized in the period from amounts included in Billings in Excess of Revenue Earned at the beginning of the period	$	1,850	$	1,456

Note 13 - Income Taxes

The following table shows the provision for (benefit from) income taxes and our effective tax rates:

(in thousands)	Three months ended
	March 31, 2023			March 31, 2022
(Loss) income before income taxes	$	(2,990	)	$	(3,267	)
(Benefit from) provision for income taxes		(39	)		167
Effective tax rate		1.3	%		(5.1	)%

Our income tax expense or benefit for the interim periods presented is determined using an estimate of our annual effective tax rate, adjusted for discrete items arising in that quarter. Total income tax expense for the three months ended March 31, 2023 was comprised mainly of current foreign and state tax expense, as well as deferred state tax expense related to the portion of goodwill which cannot be offset by deferred tax assets. Total income tax expense for the three months ended March 31, 2022 was comprised mainly foreign and state tax expense, as well as deferred federal and state tax expense related to the portion of goodwill which cannot be offset by deferred tax assets.

Our income effective tax rate was 1.3% and (5.1)% for the three months ended March 31, 2023 and 2022, respectively. For the three months ended March 31, 2023, the difference between our income tax benefit at an effective tax rate of 1.3% and a benefit at the U.S. statutory federal income tax rate of 21% was primarily due to a change in valuation allowance in our U.S. entity, the permanent disallowance of interest expense related to disqualified debt, accruals related to uncertain tax positions for certain foreign tax contingencies, and discrete item adjustments for U.S. and foreign taxes. For the three months ended March 31, 2022, the difference between income tax expense at an effective tax rate of (5.1)% and a benefit at the U.S. statutory federal income tax rate of 21% was primarily due to a change in valuation allowance in our U.S. entity, the permanent disallowance of interest expense related to disqualified debt, accruals related to uncertain tax positions for certain foreign tax contingencies, and discrete item adjustments for U.S. and foreign taxes.

Table of Contents

Because of our net operating loss carryforwards, we are subject to U.S. federal and state income tax examinations from the year 2003 and forward and are subject to foreign tax examinations by tax authorities for years 2017 and forward.

An uncertain tax position taken or expected to be taken in a tax return is recognized in the consolidated financial statements when it is more likely than not (i.e., a likelihood of more than 50%) that the position would be sustained upon examination by tax authorities that have full knowledge of all relevant information. A recognized tax position is then measured at the largest amount of benefit that is greater than 50% likely of being realized upon ultimate settlement. Interest and penalties related to income taxes are accounted for as income tax expense.

We recognize deferred tax assets to the extent that it is believed that these assets are more likely than not to be realized. We have evaluated all positive and negative evidence and determined that it will continue to assess a full valuation allowance on our U.S., Chinese, and Slovakian net deferred assets as of March 31, 2023. We have determined that it is not more likely than not that the Company will realize the benefits of its deferred taxes in the U.S. and foreign jurisdictions.

Note 14 - Leases

We have lease agreements with lease and non-lease components, which are accounted for as a single lease. We apply a portfolio approach to effectively account for the operating lease ROU assets and liabilities. The operating lease ROU amortization was $120 thousand and $153 thousand for the three months ended March 31, 2023 and 2022, respectively.

Lease contracts are evaluated at inception to determine whether they contain a lease and whether we obtain the right to control an identified asset. The following table summarizes the classification of operating ROU assets and lease liabilities on the consolidated balance sheets:

(in thousands)

		As of
Operating Leases	Classification	March 31, 2023		December 31, 2022

Leased Assets
Operating lease - right of use assets	Long term assets	$	386	$	506

Lease Liabilities
Operating lease liabilities - Current	Other current liabilities		306		418
Operating lease liabilities	Long term liabilities		110		160
		$	416	$	578

We entered into a lease agreement to lease 2,200 square feet of office space on September 26, 2022, and the lease term will end on November 30, 2024. On December 15, 2022, we terminated our lease for 1332 Londontown Boulevard, Eldersburg, Maryland (our former headquarters) and entered into a release and settlement agreement whereby we agreed to pay, and the landlord agreed to accept, a reduced monthly payment through May 1, 2023 in exchange for early termination of the lease. As a part of this agreement, we assigned both active subleases to the landlord effective as of the execution date.

Table of Contents

The table below summarizes lease income and expense recorded in the consolidated statements of operations incurred during three months ended March 31, 2023 and 2022, (in thousands):

		Three months ended
Lease Cost	Classification	March 31, 2023		March 31, 2022

Operating lease cost ⁽¹⁾	Selling, general and administrative expenses	$	128	$	186
Short-term leases costs ⁽²⁾	Selling, general and administrative expenses		15		15
Sublease income⁽³⁾	Selling, general and administrative expenses		-		(18	)
Net lease cost		$	143	$	183

⁽¹⁾ Includes variable lease costs which are immaterial.

⁽²⁾ Includes leases maturing less than twelve months from the report date.

⁽³⁾ Sublease portfolio consists of two tenants, which sublease parts of our principal executive office located at 1332 Londontown Blvd, Suite 200, Sykesville, MD.

The Company is obligated under certain noncancelable operating leases for office facilities and equipment. Future minimum lease payments under noncancelable operating leases as of March 31, 2023 are as follows (in thousands):

(in thousands)	Gross Future Minimum Lease Payments
2023 remainder	$	266
2024		151
2025		10
2026		3
2027		-
Total lease payments	$	430
Less: Interest		14
Present value of lease payments	$	416

We calculated the weighted-average remaining lease term, presented in years below and the weighted-average discount rate for our operating leases. As noted in our lease accounting policy, we use the incremental borrowing rate as the lease discount rate.

Lease Term and Discount Rate	March 31, 2023			December 31, 2022
Weighted-average remaining lease term (years)
Operating leases		1.73			1.51
Weighted-average discount rate
Operating leases		5.00	%		5.00	%

The table below sets out the classification of lease payments in the consolidated statement of cash flows.

(in thousands)	Three months ended
Cash paid for amounts included in measurement of liabilities	March 31, 2023		March 31, 2022
Operating cash flows used in operating leases	$	169	$	299

Note 15 - Segment Information

We have two reportable business segments. The Engineering segment provides simulation, training and engineering products and services delivered across the breadth of industries we serve. Workforce Solutions include simulation for both training and engineering applications. Example engineering services include, but are not limited to, plant design verification and validation, thermal performance evaluation and optimization programs, and engineering programs for plants for American Society of Mechanical Engineers ("ASME") code and ASME Section XI. The Company provides these services across all market segments through our Performance, True North consulting, and DP Engineering subsidiaries. Example training applications include turnkey and custom training services. Contract terms are typically less than two years.

Workforce Solutions segment provides specialized workforce solutions primarily to the nuclear industry, working at clients’ facilities. This business is managed through our Hyperspring and Absolute subsidiaries. The business model, management focus, margins and other factors clearly separate this business line from the rest of the GSE product and service portfolio.

The following table sets forth the revenue and operating results attributable to each reportable segment and includes a reconciliation of segment revenue to consolidated revenue and operating results to consolidated income before income taxes. Inter-segment revenue is eliminated in consolidation and is not significant.

(in thousands)	Three months ended
	March 31, 2023			March 31, 2022
Revenue:
Engineering	$	6,942		$	6,397
Workforce Solutions		3,931			5,878
Total revenue	$	10,873		$	12,275

Gross Profit
Engineering	$	1,880		$	1,815
Workforce Solutions		515			612
Total gross profit	$	2,395		$	2,427

Operating loss
Engineering	$	(2,424	)	$	(2,395	)
Workforce Solutions		(359	)		(159	)
Operating loss		(2,783	)		(2,554	)

Interest expense, net		(286	)		(148	)
Change in fair value of derivative instruments, net		69			(581	)
Other income, net		10			16
Loss before income taxes	$	(2,990	)	$	(3,267	)

Note 16 - Commitments and Contingencies

Per ASC 450 Accounting for Contingencies, the Company reviews potential items and areas where a loss contingency could arise. In the opinion of management, we are not a party to any legal proceeding, the outcome of which, in management’s opinion, individually or in the aggregate, would have a material effect on our consolidated results of operations, financial position or cash flows. We expense legal defense costs as incurred.

Cautionary Statement Regarding Forward-Looking Statements

This report and the documents incorporated by reference herein contain "forward-looking" statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act") that are based on management's assumptions, expectations and projections about us, and the industry within which we operate, and that have been made pursuant to the Private Securities Litigation Reform Act of 1995 reflecting our expectations regarding our future growth, results of operations, performance and business prospects and opportunities. Wherever possible, words such as "anticipate", "believe", "continue", "estimate", "intend", "may", "plan", "potential", "predict", "expect", "should", "will" and similar expressions, or the negative of these terms or other comparable terminology, have been used to identify these forward-looking statements. These forward-looking statements may also use different phrases. These statements regarding our expectations reflect our current beliefs and are based on information currently available to us. Accordingly, these statements by their nature are subject to risks and uncertainties, including those listed under Part II, Item 1A - Risk Factors in our most recent annual report on Form 10-K, which could cause our actual growth, results, performance and business prospects and opportunities to differ from those expressed in, or implied by, these forward-looking statements. We may not actually achieve the plans, intentions or expectations disclosed in our forward-looking statements and you should not place undue reliance on our forward-looking statements. Actual results or events could differ materially from the plans, intentions and expectations disclosed in the forward-looking statements we make. Except as otherwise required by federal securities law, we are not obligated to update or revise these forward-looking statements to reflect new events or circumstances. We caution you that a variety of factors, including but not limited to the factors described under Part II, Item 1A - Risk Factors in our most recent annual report on Form 10-K, could cause our business conditions and results to differ materially from what is contained in forward-looking statements.

Table of Contents

Other factors and assumptions not identified above were also involved in the formation of these forward-looking statements and the failure of such other assumptions to be realized, as well as other factors, may also cause actual results to differ materially from those projected. Most of these factors are difficult to predict accurately and are generally beyond our control. You should consider the areas of risk described in Item 1A - Risk Factors in our most recent annual report on Form 10-K in connection with any forward-looking statements that may be made by us. You should not place undue reliance on any forward-looking statements. New factors emerge from time to time, and it is not possible for us to predict which factors will arise.

We undertake no obligation to publicly update any forward-looking statements, whether as a result of new information, future events or otherwise. You are advised, however, to consult any additional disclosures we make in proxy statements, quarterly reports on Form 10-Q and current reports on Form 8-K filed with the SEC.

Table of Contents

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

We are a leading provider of professional and technical engineering, staffing services and simulation software to clients in the power and process industries. Our primary market is the nuclear power industry, predominantly in the United States, but also serving the global nuclear sector with projects in the United Kingdom, Slovakia, Korea, Japan and elsewhere. We also serve natural adjacencies to the commercial nuclear power market such as the United States Department of Energy, and the broader nuclear ecosystem. We additionally serve other heavy industry sectors such as refining, petrochemical, Liquefied Natural Gas (“LNG”) and others, with staffing services and our simulation technology and know-how. We provide customers with simulation, engineering and plant services that help clients reduce risks associated with operating their plants, increase revenue through improved plant and employee performance, and lower costs through improved operational efficiency. In addition, we provide professional services that help clients fill key vacancies in their respective organizations, primarily in procedures, engineering, technical support and training focused on regulatory compliance and certification in the nuclear power industry. Our operations also include interactive computer-based tutorials and simulation software for the refining, chemical, and petrochemical industries.

General Business Environment

We operate through two reportable business segments: Engineering and Workforce Solutions. Each segment focuses on delivering solutions to customers within our target markets. Marketing and communications, accounting, finance, legal, human resources, corporate development, information systems and other administrative services are organized at the corporate or parent level. Business development and sales resources are generally aligned with each segment to support existing customer accounts and new customer development. The business units collaborate to facilitate cross-selling and the development of new solutions. The following is a description of our business segments.

Table of Contents

Engineering (approximately 64% of revenue for the three months ended March 31, 2023)

Our Engineering segment primarily encompasses our power plant high-fidelity simulation solutions, technical engineering services for ASME programs, power plant thermal performance optimization, and interactive computer-based tutorials/simulation focused on the process industry. The Engineering segment includes various simulation products, engineering consulting services, and operation training systems delivered across the industries we serve: primarily in the nuclear, fossil fuel power generation and the process industries. Our simulation solutions include the following: (1) simulation software and services, including operator training systems, for the nuclear power industry, (2) simulation software and services, including operator training systems, for the fossil power industry, and (3) simulation software and services for the process industries used to teach fundamental industry processes and control systems to newly hired employees and for ongoing workforce development and training. We and our predecessors have been providing these services since 1976.

Our Engineering segment also provides the following: (1) in-service testing for engineering programs focused on ASME OM code including Appendix J, balance of plant programs, and thermal performance; (2) in-service inspection for specialty engineering including ASME Section XI; (3) software solutions; and (4) mechanical design, civil/structural design, electrical, instrumentation and controls design, digital controls/cyber security, and fire protection for nuclear power plant design modifications. Our subsidiaries, True North and DP Engineering, typically work as either the EOC or specialty EOC for our clients under master services agreements and are included in our Engineering segment due to their service offerings. We have been providing these engineering solutions and services since 1995.

Workforce Solutions (approximately 36% of revenue for the three months ended March 31, 2023)

The Workforce Solutions segment supports entire project lifecycles and provides highly specialized and skilled talent throughout the energy and engineering industries. Hyperspring provides training and professional service solutions. Absolute, provides technical and professional staffing and procedure writing experts. Together, our Workforce Solutions team reduces risk and costs, boosts agility and responsiveness, to eliminate non-productive time, all while providing timely, flexible, and effective solutions. Examples of some of the highly skilled positions we fill are senior reactor operations instructors, procedure writers, project managers, engineers, work management specialists, planners and training material developers. These employees work at our clients’ facilities under client direction. The business model, management focus, margins and other factors clearly separate the business line from the rest of our product and service portfolio. We have been providing these services since 1997.

Financial information is provided in Note 15 of the accompanying consolidated financial statements regarding our business segments.

Business Strategy

Serve existing customers and adjacencies with compelling solutions with a focus on decarbonization:

Our objective has been to create a leading business focused on decarbonizing the power industries by providing a diverse set of highly unique and essential services and technologies, primarily in the nuclear power industry. We are now one of the few, publicly traded engineering and technology companies serving the zero-carbon energy sector of nuclear power and adjacent nuclear markets in Department of Energy, US Navy and related sectors. As a result of this effort and established leadership in key sectors, we are positioned to expand into essential clean energy opportunities that may arise such as wind, solar, hydrogen production, and others. The engineering services and technology that we provide to industry are focused on essential capabilities to help plants extend their operating lifetimes, capture the value of the power they produce on to the grid, produce more power from existing assets, and most importantly operate safely in an optimal manner. In 2023, we are keenly focused on organic growth in the sectors we serve by: cross-selling and upselling in our existing markets as we focus on delivering significant value to our customers; creating new and compelling solutions in-house as a result of advancements in our technology offerings in partnership with industry early adopters focused on critical business needs; developing new services through combination of our expertise; expanding into compelling adjacent markets such as clean energy as they may arise with renewed sales focus. The focus on organic growth reflects our need to grow in a self-funded manner to achieve cash flow break even and, ultimately, recover to our pre-pandemic revenue levels.

Table of Contents

Cross sell and upsell into existing markets:

For the past several years, we have devoted considerable time and effort to diversify both of the Company segment’s solutions capabilities for the nuclear power sector, via a rollup of essential services providers to the industry. To ensure efficient and streamlined operations for the business, we have brought in new engineering experts who are deeply credentialed in the nuclear power industry. We have also retooled our Workforce Solutions sales and recruiting efforts to ensure we are covering the industry broadly. The business units operate uniformly within their respective structure. This structure greatly enhances the opportunity to cross-sell our capabilities across our entire customer base, fostering an important focus of our sales efforts. This further differentiates us as a comprehensive provider to industry versus providers of specific, niche services. Our expectation is that unified go-to-market efforts, such as cross-selling capabilities, will lead to greater share of available spending within the customer base, which in turn will lead to significant upselling opportunity. Just as the broader economy was impacted by the onset of the pandemic, so too have our end markets been affected. Our perspective is that the industries we serve are quick to respond to a crisis and disruption, but slow to emerge and recover to pre-crisis operations. This is understandable, especially for our primary market of nuclear power. This cycle has been demonstrated in the past with other market and industry disruptions such as the 2008 global economic crisis, the Fukushima disaster in 2011 and, most recently, the global pandemic and its ongoing economic disruption. As with past disasters, our end markets usually catch up to delays in work years after the onset of the disruption.

Our Company is positioned to take advantage of the recovery if and when it occurs. As a result of a rejuvenated cross-sell and upsell effort, we are equipped to take this new approach to the market. In particular, with the Infrastructure Investment and Jobs Act, for the first time there are specific economic incentives from the US Government for nuclear power development and the production of more nuclear baseload power to the grid. We are eager for these incentives to flow to industry spurring the capital investment required to extend the lifetime of the plants and production of more power. With economic incentives in place, the industry can now plan to make such investments. The challenge we are seeing is that the industry is still slow to advance investments that will result in an uptick in business for companies like GSE that serve the section. Although we believe it is only a matter of time until this rollout progresses but the current pace presents a challenge in the interim. As a key provider of essential services to the nuclear power sector, with a focus on decarbonization, we are poised to benefit from industry investment as it rolls out to the vendor ecosystem. As mentioned, we have spent significant effort during 2022 to retool our Workforce Solutions sales and recruiting efforts and brought in key engineering talent to retool our efforts for the Engineering business. We have also spent significant effort putting in place Master Services Agreements (“MSAs”) with key utility operators. Having this commercial infrastructure in place is a significant step forward to facilitate ease of consumption of our solutions once a decision to do so is made by clients’ prospects.

Organic growth through new and compelling technology:

While managing through the pandemic, in parallel, our leadership was investigating compelling opportunities by which we could utilize our capabilities to create significant value for the industry and advance the efforts of decarbonizing the power sector. As a result, we have identified a robust pipeline of new and compelling technology solutions to develop and take to market. Net new solutions, such as Data Validation and Reconciliation (“DVR”) and Thermal System Monitoring (“TSM”), have created new revenue streams with the potential of on-going licensing revenue, software maintenance and services revenue. Additional information on our DVR and TSM developments is included below. GSE has announced a handful of new wins for these new solutions, which were created through our unique combination of our industry/engineering know-how and software development capabilities. As we have demonstrated in the past few years, small wins over time accrue into meaningful revenue on an on-going basis. This is a key element of our organic growth thesis: focusing on creating and bringing to market compelling technology solutions.

Focus on compelling adjacencies in clean energy, defense, and national labs:

Research and development (R&D). We invest in R&D to deliver unique solutions that add value to our end-user markets. Our software tools leverage the high-end expertise of our experienced staff in helping plants operate better and more efficiently. Our software technology together with our deep staff expertise supports multiple industries including the nuclear industry, as a part of the larger decarbonization drive. Our software technology includes decision-support tools for engineering simulation supporting design and plant commissioning, operational performance tools, and training platform.

One area of significant recent enhancement is in improving the thermal performance of power plants. We have introduced the next generation platform in TSM, providing the technology platform to centralize and continuously monitor plant thermal performance. The solution benefits our customers by automating standardized reporting in modern dashboards available to engineers and decision makers across the fleet, leveraging automation to facilitate troubleshooting plant performance issues, reducing time and error with direct access to source data, and applying industry guidelines for problem resolution. This platform also supports integration with DVR (implemented by True North) that enhances the quality of data for plant performance insights, analysis and decision making, providing a solution to better detect and identify faulty measurements/sensors and thus reduce maintenance costs by focusing on critical components.

Table of Contents

In the area of engineering simulations, we deliver nuclear core and Balance-of-Plant modeling and visualization systems to the industry. To address the nuclear industry’s need for more accurate simulation of both normal and accident scenarios, we provide our DesignEP^® and RELAP5-HD^® solutions. Our entire JADE^TM suite of simulation software, including industry leading JTOPMERET^® and JElectric^TM software, provides the most accurate simulation of Balance-of-Plant and electrical systems available to the nuclear and fossil plant simulation market. The significant enhancements we have made to our SimExec^® and OpenSim^TM platforms enable customers to be more efficient in the daily operation of their simulators. We have brought SimExec^®and OpenSim^TMtogether into a next generation unified environment that adds new capabilities as requested by clients and driven by market need.

Additionally, enhancements to training content and delivery continue through the EnVision On-Demand platform, allowing our customers to access training content from anywhere in synchronous and asynchronous modes, thus increasing their efficiency and reducing infrastructure costs. We intend to continue to make pragmatic and measured investments in R&D that first and foremost are driven by the market and complement our growth strategy. Such investments in R&D may result in on-going enhancement of existing solutions as well as the creation of new solutions to serve our target markets, ensuring that we add greater value that is easier to use, at lower total cost of ownership than any alternative available to customers. We have pioneered a number of industry standards and intend to continue to be one of the most innovative companies in our industry. During the three months ended March 31, 2023 and 2022, we had R&D expenditures totaling $181 thousand and $142 thousand, respectively.

Strengthen and develop our talent while delivering high-quality solutions.

Over the past several years, we have assembled a unique and highly experienced group of talent through organic growth and strategic acquisition. Our engineering team is comprised of design, simulation, regulatory compliance, and performance optimization professionals who are unique to the industry and capable of addressing the entire power generation life cycle.

Our experienced employees and management team are our most valuable resources. The continued integration of our team in parallel with attracting, training, and retaining top talent is critical to our success. To achieve our goals, we intend to remain focused on providing our employees with opportunities to increase client contact within their areas of expertise and to expand and deepen our service offerings. As we refine our product and service areas to best align with the critical areas listed above, we will also integrate and apply our composite employee talent to the fullest extent possible combining employee personal and professional growth opportunities with fulfillment of cutting-edge industry needs. Performance-based incentives including opportunities for stock ownership, bonuses and competitive benefits as benchmarked to our industry and locations will also be utilized to ensure continuity of our approach.

The Company is not immune to the intense pressure and business risks associated with attracting and retaining talented professionals in this current environment. We have developed a strong reputation for quality services based upon our industry-recognized depth of experience, ability to attract and retain quality professionals, and exceptional expertise across multiple service sectors. As we continue to integrate and leverage our individual company components assembled over the past several years, our capabilities and reputation will further strengthen. Attracting and retaining excellent professionals is a key effort for the company.

Employees

As of March 31, 2023, we had approximately 292 employees, which includes approximately 199 employees in our Engineering segment and approximately 93 employees in our Workforce Solutions segment.

Backlog

As of March 31, 2023, we had approximately $40.9 million of total gross revenue backlog, which included $31.4 million of Performance backlog and $9.5 million of Workforce Solutions backlog. As of December 31, 2022, our backlog was $32.9 million with $23.8 million attributed to our Engineering segment and $9.1 million to Workforce Solutions. With respect to our backlog, it includes only those amounts that have been funded and authorized and does not reflect the full amounts we may receive over the term of such contracts. Our backlog includes future expected revenue at contract rates, excluding contract renewals or extensions that are at the discretion of the client. We calculate backlog without regard to possible project reductions or expansions or potential cancellations unless and until such changes may occur.

Table of Contents

Backlog is expressed in terms of gross revenue and, therefore, may include significant estimated amounts of third-party or pass-through costs to subcontractors and other parties. Because backlog is not a U.S. GAAP measurement, our computation of backlog may not necessarily be comparable to that of our industry peers.

Results of Operations

The following table sets forth our results of operations, expressed in thousands of dollars and as a percentage of revenue:

	Three months ended
(in thousands)	March 31, 2023					March 31, 2022
	$			%		$			%
Revenue	$	10,873		100.0	%	$	12,275		100.0	%
Cost of revenue		8,478		78.0	%		9,848		80.2	%
Gross profit		2,395		22.0	%		2,427		19.8	%

Operating expenses:
Selling, general and administrative		4,788		44.0	%		4,507		36.7	%
Research and development		181		1.7	%		142		1.2	%
Depreciation		48		0.4	%		72		0.6	%
Amortization of intangible assets		161		1.5	%		260		2.1	%
Total operating expenses		5,178		47.6	%		4,981		40.6	%
Operating loss		(2,783	)	(25.7	)%		(2,554	)	(20.9	)%
Interest expense, net		(286	)	(2.6	)%		(148	)	(1.2	)%
Change in fair value of derivative instruments, net		69		0.6	%		(581	)	(4.7	)%
Other income, net		10		0.1	%		16		0.1	%
Loss before income taxes		(2,990	)	(27.5	)%		(3,267	)	(26.6	)%
(Benefit from) provision for income taxes		(39	)	(0.4	)%		167		1.4	%
Net loss	$	(2,951	)	(27.1	)%	$	(3,434	)	(28.0	)%

Revenue

Revenue for the three months ended March 31, 2023 totaled $10.9 million, which was 11% less than the $12.3 million of revenue for the three months ended March 31, 2022.

	Three months ended
(in thousands)	March 31, 2023		March 31, 2022		Change
Revenue:					$			%
Engineering	$	6,942	$	6,397		545		9	%
Workforce Solutions		3,931		5,878		(1,947	)	(33	)%
Total revenue	$	10,873	$	12,275		(1,402	)	(11	)%

Engineering revenue increased 9% from $6.4 million to $6.9 million for the three months ended March 31, 2023 and 2022, respectively. The increase of revenue was primarily attributable to increased work on Percentage of Completion (“POC”) and improved utilization of personnel on T&M projects. We recorded total Engineering orders of $14.7 million and $6.4 million for the three months ended March 31, 2023 and 2022, respectively.

For the three months ended March 31, 2023, Workforce Solutions revenue decreased 33% to $3.9 million compared to revenue of $5.9 million for the three months ended March 31, 2022. The decrease in revenue was due to fewer contracts being serviced in Q1 2023 compared to Q1 2022. We recorded total new orders of $4.4 million and $4.7 million for the three months ended March 31, 2023 and 2022, respectively.

Table of Contents

As of March 31, 2023, our backlog was $40.9 million, of which, $31.4 million was attributed to the Engineering segment and $9.5 million was attributed to the Workforce Solutions segment. As of December 31, 2022, our backlog was $32.9 million with $23.8 million attributed to our Engineering segment and $9.1 million to Workforce Solutions.

Gross Profit

Gross profit was $2.4 million or 22.0% of revenue and $2.4 million or 19.8% of revenue for the three months ended March 31, 2023 and 2022, respectively.

	Three months ended
	March 31, 2023				March 31, 2022
(in thousands)	$		%		$		%
Gross profit:
Engineering	$	1,880	27.1	%	$	1,815	28.4	%
Workforce Solutions		515	13.1	%		612	10.4	%
Total gross profit	$	2,395	22.0	%	$	2,427	19.8	%

The Engineering segment’s gross profit increased by $0.1 million during three months ended March 31, 2023 over three months ended March 31, 2022. The increase is primarily related to an improved mix of higher margins projects, shorter lead times and improved processes, and the 1.3% decrease in margin percentage is driven by low utilization in our Design and Analysis business.

The Workforce Solutions segment’s gross profit decreased by $0.1 million during three months ended March 31, 2023 over three months ended March 31, 2022. The decrease in gross profit was primarily due to the reduction in the demand from existing customers for additional workforce professionals, and the 2.7% increase in margin percentage is driven by direct hire fees in Q1 2023 which contribute revenue with no corresponding costs.

Selling, general and administrative expenses (“SG&A”)

SG&A expenses totaled $4.8 million and $4.5 million for the three months ended March 31, 2023 and 2022, respectively. Fluctuations in the components of SG&A spending were as follows.

	Three months ended
(in thousands)	March 31, 2023		%			March 31, 2022		%

Selling, general and administrative expenses:
Corporate charges	$	3,486		72.8	%	$	3,482		77.3	%
Business development		1,116		23.3	%		839		18.6	%
Facility operation & maintenance (O&M)		141		2.9	%		177		3.9	%
Credit loss expense		32		0.7	%		-		0.0	%
Other		13		0.3	%		9		0.2	%
Total	$	4,788		100.0	%	$	4,507		100.0	%

Corporate charges

During the three months ended March 31, 2023, corporate charges increased by $4 thousand over the same period of the prior year.

Business development expenses

Business development expense increased $0.3 million during the three months ended March 31, 2023 over the same period of the prior fiscal year. The increase was primarily driven by additional labor and burden and commission expense in Q1 2023.

Table of Contents

Facility operation & maintenance (“O&M”)

Facility O&M expenses decreased $36 thousand for three months ended March 31, 2023, respectively, compared to the same period in 2022. The decrease in facility O&M during fiscal 2023 was mainly due to the termination of the Sykesville lease in December 2022.

Credit loss expense

We recorded $32 thousand credit loss expense during the three months ended March 31, 2023. We recorded no credit loss expense during the three months ended March 31, 2022.

Research and development

Research and development costs consist primarily of software engineering personnel and other related costs. Research and development costs, net of capitalized software, totaled $181 thousand and $142 thousand for the three months ended March 31, 2023 and 2022, respectively.

Depreciation

We recorded depreciation expense of $48 thousand and $72 thousand for the three months ended March 31, 2023 and 2022, respectively. The reduction of $24 thousand for the three months ended March 31, 2023 over the same period in 2022 was due primarily to additional assets becoming fully depreciated.

Amortization of intangible assets

Amortization expense related to definite-lived intangible assets totaled $0.2 million and $0.3 million for the three months ended March 31, 2023 and 2022, respectively.

Interest expense, net

Interest expense totaled $286 thousand and $148 thousand for the three months ended March 31, 2023 and 2022, respectively. The increase was mainly due to an increase in total indebtedness compared to Q1 2022.

Other (loss) income, net

For the three months ended March 31, 2023 and 2022, we recognized other (loss) income, net of $10 thousand and $16 thousand, respectively.

Income taxes (benefit) expense

Income tax (benefit) expense for interim periods is determined using an estimate of our annual effective tax rate, adjusted for discrete items arising in that quarter. Total income tax benefit of $(39) thousand for the three months ended March 31, 2023 was comprised mainly of current foreign and state tax expense and deferred state tax expense related to the portion of goodwill which cannot be offset by deferred tax assets. Total income tax expense of $167 thousand for the three months ended March 31, 2022 was comprised mainly of current foreign and state tax expense and deferred federal and state tax expense related to the portion of goodwill which cannot be offset by deferred tax assets.

Our income tax effective rate was 1.3% and (5.1)% for the three months ended March 31, 2023 and 2022, respectively. The difference between our income tax benefit at an effective tax rate of 1.3% and a benefit at the U.S. statutory federal income tax rate of 21% was primarily due a change in valuation allowance in our U.S. entity, the permanent disallowance of interest expense related to disqualified debt, accruals related to uncertain tax positions for certain foreign tax contingencies, and discrete item adjustments for U.S. and foreign taxes. For the three months ended March 31, 2022, the difference between the income tax expense at an effective tax rate of (5.1)% and a benefit at the U.S. statutory federal income tax rate of 21% was primarily due to a change in valuation allowance in our U.S. entity, the permanent disallowance of interest expense related to disqualified debt, accruals related to uncertain tax positions for certain foreign tax contingencies, and discrete item adjustments for U.S. and foreign taxes.

Table of Contents

Critical Accounting Policies and Estimates

In preparing our consolidated financial statements, Management makes several estimates and assumptions that affect our reported amounts of assets, liabilities, revenues and expenses. Our most significant estimates relate to revenue recognition on contracts with customers, product warranties, valuation of goodwill and intangible assets acquired, valuation of stock-based compensation awards and the recoverability of deferred tax assets. These critical accounting policies and estimates are discussed in the Management’s Discussion and Analysis of Financial Condition and Results of Operations section in our most recent Annual Report on Form 10-K, filed with the SEC on April 17, 2023. In addition, in the quarter ended March 31, 2022, we established mark-to-market liabilities related to certain common stock purchase warrants and certain embedded features included in our convertible debt. The fair values of these are estimated upon issuance and at each reporting period thereafter. For all accounting policies described in this document, management cautions that future events rarely develop exactly as forecasted and even our best estimates may require adjustment as facts and circumstances change.

Liquidity and Capital Resources

As of March 31, 2023, our cash, cash equivalents and restricted cash totaled $2.8 million, compared to $4.4 million as of December 31, 2022.

As of March 31, 2023, we have current restricted cash and long-term restricted cash of $0.5 million and $1.1 million, respectively. We have restricted cash of $1.1 million to secure four letters of credit with various customers and $0.5 million to secure our corporate credit card program.

Management believes the Company is positioned for growth and a rebound from the COVID-19 pandemic, the Company has determined that there is substantial doubt about our ability to continue as a going concern through May 31, 2024. The inability to generate sufficient cash flows to satisfy repayment obligations or to refinance or restructure debt obligations on commercially reasonable terms could have a material adverse effect on our business, financial condition, results of operations and cash flows.

For the three months ended March 31, 2023 and 2022, net cash used in operating activities were $0.8 million and net cash provided by operating activities were $1.1 million, respectively. The decrease in cash flows provided by operating activities was primarily driven by decreased collections in the three months ended March 31, 2023.

Net cash used in investing activities totaled $0.1 million and 0.2 million for the three months ended March 31, 2023 and 2022, respectively.

For the three months ended March 31, 2023 and 2022, net cash used in financing activities was $(0.6) million and net cash provided by financing activities was $2.6 million, respectively. The decrease in cash provided by financing activities of $(3.2) million was primarily driven by $5 million of proceeds received from issuance of Convertible Note, offset by a $1.8 million repayment of the line of credit and a $0.2 million repayment of Convertible Note during the three months ended March 31, 2022.

Credit Facilities

On February 23, 2022, the Company issued a Convertible Note (further described in Note 10 to Consolidated Financial Statements). The proceeds received from the Convertible Note were used to repay in full, all outstanding indebtedness of $1.8 million owed to Citizens, and the Amended and Restated Credit and Security Agreement between us, our subsidiaries, and Citizens has been terminated. As of March 31, 2023, we had five letters of credit totaling $1.1 million outstanding to certain customers which were secured with restricted cash.

Table of Contents

Non-GAAP Financial Measures

Adjusted EBITDA

References to “EBITDA” mean net loss, before taking into account interest expense, provision for income taxes, depreciation and amortization. References toAdjusted EBITDA exclude the stock-based compensation expense and change in fair value of derivative instruments. EBITDA and Adjusted EBITDA are not measures of financial performance under generally accepted accounting principles (GAAP). Management believes EBITDA and Adjusted EBITDA, in addition to operating profit, net income and other GAAP measures, are useful to investors to evaluate our results because it excludes certain items that are not directly related to our core operating performance that may, or could, have a disproportionate positive or negative impact on our results for any particular period. Investors should recognize that EBITDA and Adjusted EBITDA might not be comparable to similarly-titled measures of other companies. This measure should be considered in addition to, and not as a substitute for or superior to, any measure of performance prepared in accordance with GAAP. A reconciliation of non-GAAP EBITDA and Adjusted EBITDA to the most directly comparable GAAP measure in accordance with SEC Regulation G follows:

(in thousands)

	Three months ended
	March 31, 2023			March 31, 2022
Net loss	$	(2,951	)	$	(3,434	)
Interest expense, net		286			148
Provision for income taxes		(39	)		167
Depreciation and amortization		294			415
EBITDA		(2,410	)		(2,704	)
Stock-based compensation expense		285			408
Change in fair value of derivative instruments, net		(69	)		581
Adjusted EBITDA	$	(2,194	)	$	(1,715	)

Table of Contents

Adjusted Net Loss and Adjusted Loss per Share Reconciliation

References to Adjusted net loss exclude the impact of stock-based compensation expense, change in fair value of derivative instruments and amortization of intangible assets related to acquisitions. Adjusted net loss and adjusted loss per share (adjusted EPS) are not measures of financial performance under GAAP. Management believes adjusted net loss and adjusted EPS, in addition to other GAAP measures, are useful by investors to evaluate our results because they exclude certain items that are not directly related to our core operating performance and non-cash items that may, or could, have a disproportionate positive or negative impact on our results for any particular period. These measures should be considered in addition to, and not as a substitute for or superior to, any measure of performance prepared in accordance with GAAP. A reconciliation of non-GAAP adjusted net loss and adjusted EPS to GAAP net loss, the most directly comparable GAAP financial measure, is as follows:

(in thousands)	Three months ended
	March 31, 2023			March 31, 2022

Net loss	$	(2,951	)	$	(3,434	)
Stock-based compensation expense		285			408
Change in fair value of derivative instruments, net		(69	)		581
Amortization of intangible assets related to acquisitions		161			260
Adjusted net loss	$	(2,574	)	$	(2,185	)

Adjusted loss per common share – Diluted	$	(0.11	)	$	(0.10	)

Weighted average shares outstanding used to compute adjusted net loss per share - basic and diluted⁽¹⁾		22,933,894			20,980,046

⁽¹⁾ During the three months ended March 31, 2023 and 2022, we reported a GAAP net loss and an adjusted net loss. Accordingly, there were no dilutive shares from RSUs included in the adjusted earnings per share calculation that were considered anti-dilutive when calculating the net loss per share.

Item 3.

Quantitative and Qualitative Disclosure about Market Risk

Not required of a smaller reporting company.

Table of Contents

Item 4.

Controls and Procedures

Evaluation of Disclosure Controls and Procedures

Our management, with the participation of our chief executive officer and chief financial officer, evaluated the effectiveness of our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, as of the end of the period covered by this Quarterly Report on Form 10-Q. Management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives and management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Our disclosure controls and procedures are designed to provide reasonable assurance of achieving their control objectives. Based on the evaluation of our disclosure controls and procedures as of the end of the period covered by this quarterly report and our annual report, our chief executive officer and chief financial officer concluded that, as of such date, our disclosure controls and procedures were effective.

Changes in Internal Control over Financial Reporting

There were no changes in our internal controls over financial reporting that occurred during the most recent fiscal quarter that have materially affected or are reasonably likely to materially affect our internal control over financial reporting.

Limitation of Effectiveness of Controls

Internal control over financial reporting has inherent limitations. Internal control over financial reporting is a process that involves human diligence and compliance and is subject to lapses in judgment and breakdowns resulting from human failures. Internal control over financial reporting also can be circumvented by collusion or improper management override. Because of such limitations, there is a risk that material misstatements will not be prevented or detected on a timely basis by internal control over financial reporting. However, these inherent limitations are known features of the financial reporting process. Therefore, it is possible to design into the process safeguards to reduce, though not eliminate, this risk.

PART II – OTHER INFORMATION

Item 1.

Legal Proceedings

We are, from time to time, involved in ordinary routine litigation incidental to the conduct of our business. Neither we nor any of our subsidiaries are a party to, nor is any of our property the subject of, any material pending legal proceedings that, in the opinion of our management, are likely to have a material adverse effect on our business, financial condition or results of operations.

Item 1A.

Risk Factors

None.

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

None

Item 3.

Defaults Upon Senior Securities

None

Item 4.

Mine Safety Disclosures

Not applicable.

Item 5.

Other Information

None.

Table of Contents

Item 6.

Exhibits

	31.1	Certification of the Chief Executive Officer pursuant to Section 302 of the Sarbanes- Oxley Act of 2002, filed herewith.

	31.2	Certification of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, filed herewith.

	32.1	Certification of the Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, filed herewith.

	101.INS*	XBRL Instance Document

	101.SCH*	XBRL Taxonomy Extension Schema

	101.CAL*	XBRL Taxonomy Extension Calculation Linkbase

	101.DEF*	XBRL Taxonomy Extension Definition Linkbase

	101.LAB*	XBRL Taxonomy Extension Label Linkbase

	101.PRE*	XBRL Taxonomy Extension Presentation Linkbase

Table of Contents

SIGNATURES

Pursuant to 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.

Date: May 15, 2023
	GSE SYSTEMS, INC.

	/S/ KYLE J. LOUDERMILK
	Kyle J. Loudermilk
	Chief Executive Officer
	(Principal Executive Officer)

	/S/ EMMETT A. PEPE
	Emmett A. Pepe
	Chief Financial Officer
	(Principal Financial and Accounting Officer)

Positive
Negative
Uncertain
Constraining
Legalese
Litigous
Readability	H.S. sophomore Avg

Gse Systems (GVP) 10-Q2023 Q1 Quarterly report

Content analysis