Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following is management’s discussion and analysis of the major elements of our consolidated financial statements. You should read this discussion and analysis together with our consolidated financial statements, including the accompanying notes, and other detailed information appearing elsewhere in this Annual Report on Form 10-K, including under the heading “Risk Factors.” The discussion of our financial condition and results of operations includes various forward-looking statements about our markets, the demand for our products and services and our future plans and results. These statements are based on assumptions that we consider to be reasonable, but that could prove to be incorrect. For more information regarding our assumptions, you should refer to the section entitled “Cautionary Note Regarding Forward-Looking Statements and Assumptions” below.
Cautionary Note Regarding Forward-Looking Statements and Assumptions
This Annual Report on Form 10-K and the documents incorporated by reference herein, if any, contain “forward-looking” statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. These forward-looking statements can be identified by terminology such as “may”, “will”, “should”, “intend”, “expect”, “plan”, “budget”, “forecast”, “anticipate”, “believe”, “estimate”, “predict”, “potential”, “continue”, “evaluating” or similar words. Statements that contain these words should be read carefully because they discuss our future expectations, contain projections of our future results of operations or of our financial position or state other forward-looking information. Examples of forward-looking statements include, among others, statements that we make regarding our expected operating results, the results and success of our transactions with Quantum and the OptoSeis® technology, the adoption and sale of our products in various geographic regions, potential tenders for PRM systems, future demand for OBX systems, the completion of new orders for our channels of our GCL system, the fulfillment of customer payment obligations, the impact of the coronavirus (COVID-19) pandemic, the Company’s ability to manage changes and the continued health or availability of management personnel, volatility and development, market position, financial results and the provision of accounting reserves. These forward-looking statements reflect our current judgment about future events and trends based on the information currently available to us. However, there will likely be events in the future that we are not able to predict or control. The factors listed under the caption “Risk Factors”, as well as cautionary language in this Annual Report on Form 10-K, provide examples of risks, uncertainties and events that may cause our actual results to differ materially from the expectations we describe in our forward-looking statements. Such examples include, but are not limited to, the failure of the Quantum or OptoSeis® technology transactions to yield positive operating results, decreases in commodity price levels, which could reduce demand for our products, the failure of our products to achieve market acceptance (despite substantial investment by us) our sensitivity to short term backlog, delayed or cancelled customer orders, product obsolescence resulting from poor industry conditions or new technologies, bad debt write-offs associated with customer accounts, lack of further orders for our OBX systems, failure of our Quantum products to be adopted by the border and perimeter security market, infringement or failure to protect intellectual property. The occurrence of the events described in these risk factors and elsewhere in this Annual Report on Form 10-K could have a material adverse effect on our business, results of operations and financial position, and actual events and results of operations may vary
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materially from our current expectations. We assume no obligation to revise or update any forward-looking statement, whether written or oral, that we may make from time to time, whether as a result of new information, future developments or otherwise.
Background
We design and manufacture seismic instruments and equipment and primarily market these products to the oil and gas industry to locate, characterize and monitor hydrocarbon producing reservoirs. We also market our seismic products to other industries for vibration monitoring, border and perimeter security and various geotechnical applications. We design and manufacture other products of a non-seismic nature, including water meter products, imaging equipment, offshore cables and provide contract manufacturing services. See the information under the heading “Business” in this Annual Report on Form 10-K.
Consolidated Results of Operations
As we have reported in the past, our revenue and operating profits have varied significantly from quarter-to-quarter, and even year-to-year, and are expected to continue that trend in the future, especially when our quarterly or annual financial results are impacted by the presence or absence of relatively large, but somewhat erratic, sales of our oil and gas PRM systems and/or wireless seismic data acquisition systems for land and marine applications.
Our revenue and results of operations have not been materially impacted by inflation or changing prices in the past two fiscal years.
We report and evaluate financial information for three segments: Oil and Gas Markets, Adjacent Markets and Emerging Markets. Summary financial data by business segment follows (in thousands):
YEAR ENDED SEPTEMBER 30,
Oil and Gas Markets
Traditional exploration product revenue $ 6,653 $ 9,504
Adjacent Markets
Emerging Markets
Corporate
Consolidated Totals
Overview
In 2014, our Oil and Gas Markets segment experienced a softening in the demand for its traditional exploration products, particularly in North America, as capital budgets for oil and gas producers were trending away from exploration-focused activities toward production and exploitation activities. During this period oil production in North America’s unconventional shale reservoirs increased, as did oil production from other non-OPEC countries, resulting in an oversupply of crude oil in the world market and a resulting drop in energy prices. Early in 2020, decreased demand again caused by the oversupply of crude oil due to failed OPEC negotiations and, when combined with the impact of the COVID–19 pandemic, led to a dramatic drop in crude oil prices which have subsequently recovered to some extent. To date the effect of the COVID-19 pandemic has resulted in a global drop in demand for oil and gas. These declines in the demand for oil and gas have caused oil and gas exploration and production companies to experience a significant reduction in cash flows, which have resulted in and will likely continue to result in reductions in their capital spending budgets for oil and gas exploration-focused activities, including seismic data acquisition activities. Our Oil and Gas Markets segment has in recent years experienced strong demand for the rental of our marine wireless nodal products; however, this demand could
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significantly diminish during fiscal year 2021 or beyond as a result of the significant uncertainty in the outlook for oil and gas exploration. Demand for new land-based seismic equipment in recent fiscal years has remained restrained due to capital limitations affecting many of our customers, along with their excess levels of underutilized equipment. As a result, revenue from the sale and rental of our land-based traditional and wireless products has remained low due to the reduced investment in exploration-focused seismic activities. We expect these challenging industry conditions will result in revenue from our traditional and land-based wireless products to remain below historical norms.
In light of current market conditions, the inventory balances in our Oil and Gas Markets business segment at September 30, 2020 continued to exceed levels we consider appropriate for the current level of product demand. While we are aggressively working to reduce these legacy inventory balances, we are also adding new inventories for new wireless product developments and for other product demand in our Adjacent Markets segment. During periods of excessive inventory levels, our policy has been, and will continue to be, to record obsolescence expense as we experience reduced product demand and as our inventories continue to age. If difficult market conditions continue for the products in our Oil and Gas Markets segment, we expect to record additional inventory obsolescence expense in fiscal year 2021 and beyond until product demand and/or resulting inventory turnover return to acceptable levels.
Coronavirus (COVID-19)
In March 2020, the World Health Organization declared COVID-19 a global pandemic and recommended containment and mitigation measures worldwide. The spread of COVID-19 has resulted in most governments issuing restrictive orders, including “shelter in place” orders around the globe to assist in mitigating the spread of the virus.
While we continue to support our customers, there remain uncertainties regarding the duration and the extent to which the COVID-19 pandemic will ultimately have a negative impact on the demand for our products and services or on our supply chain. We continue to closely monitor the situation as information becomes readily available.
As of the date of this filing, our operations have, for the most part, remained open globally and the impact of the effects of COVID-19 to our personnel and operations has been limited. We have experienced lower than expected sales in our Adjacent Markets segment which we believe are primarily the result of the pandemic. We have also experienced a reduction in demand for certain products, cancellation of rental contracts and difficulty with field employees and salespeople traveling domestically and abroad to conduct our business.
The current low oil and gas price environment may be intensified and prolonged by the COVID-19 pandemic and is increasing the risk and financial stress placed on our customers. We cannot reasonably estimate the length or severity of this pandemic, or the extent to which COVID-19 will affect our business, financial condition and results of operations in fiscal year 2021 and beyond.
Cost Reduction Initiative
In July 2020, we initiated a program to reduce operating and manufacturing expenses in light of decreased demand for products in our Oil and Gas Markets and Adjacent Markets segments. The program is expected to produce approximately $2.0 million of annualized cash savings. The cost reductions were primarily realized through a reduction of employees from our workforce. In connection with the workforce reductions, we incurred $0.9 million of termination costs in our fourth quarter of fiscal year 2020. The termination costs were recorded to both cost of revenue and operating expenses in the consolidated statement of operations. There are no outstanding liabilities related to this program as of September 30, 2020.
Fiscal Year 2020 Compared to Fiscal Year 2019
Consolidated revenue for fiscal year 2020 was $87.8 million, a decrease of $8.0 million, or 8.3%, from fiscal year 2019. While we experienced reduced demand for most of our product categories due to the factors cited above, the decrease was primarily caused by an $8.0 million charge to (or reduction of) revenue related to the impairment of an operating lease receivable resulting from the rental of our marine seismic equipment.
Consolidated gross profit for fiscal year 2020 was $23.4 million, a decrease of $8.0 million, or 25.4%, from fiscal year 2019. The decrease in gross profit was also primarily caused by the $8.0 million charge to (or reduction of) revenue related to the impairment of an operating lease receivable resulting from the rental of our marine seismic equipment.
Consolidated operating expenses for fiscal year 2020 were $41.5 million, an increase of $4.0 million, or 10.8%, from fiscal year 2019. The increase in operating costs were primarily due to (i) a $3.2 million net non-cash increase in the estimated fair value of contingent earn-out consideration related to our Quantum and OptoSeis® acquisitions, (ii) $0.9 in personnel related termination costs associated with our workforce reduction, (iii) $0.4 million of incremental research and development costs associated with our acquisition of the OptoSeis® business in November 2018 and (iv) a $0.7 million goodwill impairment charge. These increases in operating expenses were partially offset by a $0.4 million decrease in bad debt expense.
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In August 2019, we sold our real property located at 7334 N. Gessner in Houston, Texas which generated a $7.0 million gain on disposal of property in the fourth quarter of fiscal year 2019. The buyer occupied the property as a tenant under a long-term lease. The property was not strategic to our ongoing operations.
Consolidated other income for fiscal year 2020 was $1.4 million compared to $1.2 million from fiscal year 2019. The increase was primarily caused by an increase in foreign exchange gains, and was partially offset by a decrease in interest income.
Consolidated income tax expense for fiscal year 2020 and 2019 was $2.6 million and $2.4 million, respectively. This increase in income tax expense was primarily the result of an increase in rental revenue earned in foreign jurisdictions requiring tax withholding. We are currently unable to record any tax benefits from the tax losses we incur in the U.S., Canada and Russian Federation due to the uncertainty surrounding our ability to utilize such losses in the future to offset taxable income.
Segment Results of Operations
Oil and Gas Markets
Fiscal Year 2020 Compared to Fiscal Year 2019
Revenue
Revenue from our Oil and Gas Markets products for fiscal year 2020 decreased $3.3 million, or 5.1%, from fiscal year 2019. The components of these decreases included the following:
During the second quarter of fiscal year 2020, we partially financed a $12.5 million product sale by entering into a $10.0 million promissory note with a customer. The promissory note is for a three-year term with monthly principal and interest payments of $0.3 million. Due to the financial condition of the customer, we have concerns over the probable collectability of the promissory note. As a result, we did not recognize any revenue or cost of revenue on the product sale. Through September 30, 2020 we have received payments from the customer totaling $4.6 million (exclusive of interest) related to the sale, which are reflected on our accompanying consolidated balance sheet as non-current deferred revenue. Management does not intend to recognize the revenue and cost of revenue from the sale until it becomes probable that the customer will satisfy its financial obligation under the promissory note.
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Operating Income (Loss)
Operating income (loss) from our Oil and Gas Markets products for fiscal year 2020 was $(2.1) million, compared to $3.1 million from the prior fiscal year. The decrease in our operating income was primarily the result of an $8.0 million charge related to the impairment of an operating lease receivable. The decrease was also attributable to $0.7 million in termination costs related to the Company’s fourth quarter fiscal year 2020 workforce reduction and a $0.7 million goodwill impairment charge. The decrease in operating income was partially offset by an increase in gross profit attributable higher rental revenue and a $0.7 million decrease in non-cash charges related to changes in the estimated fair value of contingent earn-out consideration related to our OptoSeis acquisition.
Adjacent Markets
Fiscal Year 2020 Compared to Fiscal Year 2019
Revenue
Revenue from our Adjacent Markets products for fiscal year 2020 decreased $4.7 million, or 15.6%, from the prior fiscal year. The components of this decrease included the following:
Operating Income
Operating income from our Adjacent Markets products for fiscal year 2020 was $4.0 million, a decrease of $2.2 million, or 35.6%, from the prior fiscal year. The decrease was primarily due a decrease in gross profit caused by the decline in industrial and imaging product revenue.
Emerging Markets
Fiscal Year 2020 Compared to Fiscal Year 2019
Revenue
On July 27, 2018, we entered the border and perimeter security market through our acquisition of Quantum. In connection with our Quantum acquisition, we established the Emerging Markets business segment, which currently includes only Quantum. Revenue from our Emerging Markets products for fiscal year 2020 was $0.7 million, compared to $0.2 million from the prior fiscal year. The increase in revenue was primarily attributable to (i) the sale of border and perimeter security products to a commercial customer and (ii) site preparation and engineering related to a U.S. Customs and Border Protection U.S. Border Patrol contract. In April 2020, Quantum was awarded a $10 million contract with the U.S. Customs and Border Protection U.S. Border Patrol to provide a technology solution to the Department of Homeland Security. The Company expects most of the revenue from this contract will be recognized during the first six months of fiscal year 2021.
Operating Loss
Operating loss from our Emerging Markets products for fiscal year 2020 was $6.1 million, an increase of $3.8 million from the prior fiscal year. The increase was primarily due to non-cash charges of $1.0 million in fiscal year 2020 for changes in the estimated fair value of contingent earn-out consideration related to our Quantum acquisition, compared to $(2.9) million of non-cash credits in the prior year. During fiscal year 2020, Quantum also experienced an increase in product development costs which were offset by an increase in gross profits attributable to its higher revenue. Quantum’s operating expenses for each of fiscal years 2020 and 2019 included intangible asset amortization expenses of $1.2 million. Since its acquisition in July 2018, Quantum has primarily focused on product development activities, and the marketing of its technologies to government agencies and other end users.
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Liquidity and Capital Resources
Fiscal Year 2020
At September 30, 2020, we had approximately $32.7 million in cash and cash equivalents. For fiscal year 2020, we generated $18.1 million of cash from operating activities. Our net loss of $19.2 million was offset by net non-cash charges of $40.7 million resulting from deferred income taxes, depreciation, amortization, inventory obsolescence, goodwill impairment, stock-based compensation, bad debt expense, change in estimate of collectability of rental revenue and changes in the estimated fair value of contingent consideration. Other sources of cash included (i) a $5.2 million increase in deferred revenue and other liabilities primarily due to the deferral of revenue on a significant product sale occurring in our second fiscal quarter and partially offset by a decrease in customer deposits and (ii) a $2.5 million decrease in trade and other receivables resulting from the timing of collections from customers. Offsetting these sources of cash were (i) a $2.5 million decrease in accounts payable resulting from the timing of payments to our suppliers, (ii) an $7.8 million increase in deferred cost of revenue and other assets primarily due to the deferral of cost on a product sale and an increase in the prepayment of certain expenses and (iii) the removal of a $0.7 million gross profit from the sale of used rental equipment since such gross profit is reflected in the proceeds from the sale of used rental equipment under investing activities.
For fiscal year 2020, we used cash of $4.1 million in investing activities. Uses of cash included (i) a $5.5 million investment in our rental equipment primarily to expand our OBX rental fleet and (ii) $2.9 million for additions to our property, plant and equipment. These uses of cash were partially offset by (i) $4.1 million of proceeds from the sale of rental equipment and (ii) $0.2 million of proceeds from the sale of equipment. Fiscal year 2021 cash investments in property, plant and equipment could be approximately $5 million. Fiscal year 2021 cash investments into our rental fleet will primarily be dependent on demand for our OBX marine rental equipment. Our capital expenditures are expected to be funded from our cash on hand, internal cash flows, cash flows from our rental contracts or, if necessary, from borrowings under our credit agreement.
For fiscal year 2020 we used $0.1 million from financing activities for the payment of contingent consideration related to our acquisition of Quantum in 2018.
Since 2014, the oil and gas industry has experienced a sustained downturn due to low oil and gas prices. Recently, the unprecedented sharp decline in crude oil prices since February 2020 has further impacted the overall condition of the oil and gas industry, stifling budgets targeted at the oil and gas exploration industry, including the seismic industry. Prior to recent downturn we saw some signs of increased seismic activity in certain areas around the world; however, we expect the need for new seismic equipment to remain restrained due to current industry conditions, capital limitations affecting many of our customers and excessive on-hand quantities of under-utilized customer-owned seismic equipment. Further, we expect product sales of our Oil and Gas Markets products—specifically our legacy land-based traditional and wireless products—to remain low until the oil and gas industry begins to show signs of recovery and exploration-focused seismic activities increase. However, oil and gas pricing and the resultant economic conditions may not recover meaningfully in the near term, and we expect these challenging industry conditions facing our land-based traditional and legacy wireless products will continue in fiscal year 2021.
On July 13, 2020, we received an interest in a senior secured bond from an international seismic marine customer. Our interest in the bond, which has a face value of $13.0 million, was received in exchange for $13.0 million of unpaid invoices and late fees owed by the customer. The bond is secured by a third in line lien on the assets owned by the customer and has an 8% interest rate with bi-annual interest and possible principal payments based on excess available cash flow. Interest payments can be made either in cash or in-kind payments in the form of additional debt security. In-kind interest payments require an 8.8% interest rate. The bond matures July 13, 2022. The bond is listed on the Oslo Alternative Bond Market; however, the actual marketability is unknown at this time. Based on the distressed financial condition of the customer, we believe the fair value of the bond is nominal and we have not recorded a carrying amount for this bond at September 30, 2020.
Our available cash and cash equivalents totaled $32.7 million at September 30, 2020, which included $5.8 million of cash and cash equivalents held by our foreign subsidiaries and branch offices. The 2017 Tax Act creates new taxes on certain foreign earnings and also requires companies to pay a one-time transition tax on undistributed earnings of their foreign subsidiaries which were previously tax deferred. We have determined that we are not required to pay any transition tax on the undistributed earnings of our foreign subsidiaries since we had no accumulated foreign earnings on a consolidated basis.
Our credit agreement allows for borrowings of up to $30.0 million with such amounts available for borrowing determined by a borrowing base. In November 2019, we amended the credit agreement to (i) extend the maturity date from April 2020 to April 2022, (ii) increase the unencumbered liquid assets covenant threshold from $5 million to $10 million commencing with the fiscal quarter ending December 31, 2020 and for each fiscal quarter thereafter, (iii) increase the tangible net worth requirement from $140 million to $145 million commencing with the fiscal quarter ending December 31, 2020 and for each fiscal quarter thereafter and (iv) remove the requirement that we obtain the consent of Frost Bank prior to paying dividends or repurchasing stock so long as we are in compliance with the covenants of the credit agreement.
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At September 30, 2020, we had no outstanding borrowings under the credit agreement and our borrowing availability under the credit facility pursuant to the credit agreement, based on the borrowing base calculation as of September 30, 2020, was $17.7 million. At September 30, 2020, we were in compliance with all covenants under the credit agreement. We currently do not anticipate the need to borrow under the credit agreement; however, we can make no assurance that we will not do so.
In the absence of future profitable results of operations, we may need to rely on other sources of liquidity to fund our future operations, including executed rental contracts, available borrowings under our credit agreement through its expiration in April 2022, leveraging or sale of real estate assets, sales of rental assets and other liquidity sources which may be available to us. However, currently we believe that our cash, cash equivalents and borrowings under our credit facility will be sufficient to finance any future operating losses and planned capital expenditures through the next twelve months.
Fiscal Year 2019
At September 30, 2019, we had approximately $18.9 million in cash and cash equivalents and short-term investments. For fiscal year 2019, we generated $5.6 million of cash from operating activities. Our net loss of $0.1 million included net non-cash charges of $24.6 million resulting from deferred income taxes, depreciation, amortization, accretion, inventory obsolescence, stock-based compensation, bad debt expense and changes in the estimated fair value of contingent consideration. These net non-cash charges were partially offset by (i) a $9.2 million increase in trade accounts and financing receivables resulting from the increase in revenue and delays in collecting funds owed from a rental customer, (ii) a $1.9 million increase in inventories for the production of recently introduced land-based wireless seismic products, (iii) the removal of a $7.1 million gain from the sale of real property and equipment since such gains are reflected in the proceeds from the sale of property and equipment under investing activities and (iv) a $1.0 decrease in deferred revenue due to the revenue recognition of customer deposits on rental contracts.
For fiscal year 2019, we generated cash of $1.6 million from investing activities. Sources of cash included (i) $25.6 million of proceeds from the sale of short-term investments, (ii) $8.3 million of proceeds from the sale of a real property (iii) $4.9 million of proceeds from the sale of rental equipment and (iv) $0.5 million of proceeds, net of payments, from a property-related insurance claim. These sources of cash were partially offset by (i) $34.1 million investment in our rental equipment primarily to expand our OBX rental fleet, (ii) $1.9 million for additions to our property, plant and equipment and (iii) $1.8 million for the acquisition of the intellectual property and related assets of the OptoSeis® fiber optic sensing technology business.
For fiscal year 2019, we generated cash proceeds of $0.2 million from financing activities from the exercise of stock options by our employees. We had no long-term debt outstanding throughout the fiscal year ended September 30, 2019.
Off-Balance Sheet Arrangements
We do not have any obligations which meet the definition of an off-balance sheet arrangement and which have or are reasonably likely to have a current or future effect on our financial statements or the items contained therein that are material to investors.
Contractual Obligations
Contingent Consideration
We recorded an initial contingent earn-out liability of $7.7 million in connection with our July 2018 acquisition of Quantum. Subsequent to the acquisition, we reduced the estimated contingent earn-out liability to $5.8 million as of September 30, 2020. Contingent payments, if any, may be paid in the form of cash or Company stock and will be derived from eligible revenue generated during the four-year post-acquisition period ending in July 2022. The Company made cash earn-out payments of $0.1 million in fiscal year 2020. The maximum amount of contingent payments is $23.5 million.
We recorded an initial contingent earn-out liability of $4.3 million in connection with our November 2018 acquisition of all the intellectual property and related assets of the OptoSeis® fiber optic sensing technology. Subsequent to the acquisition, we increased the estimated contingent earn-out liability to $5.2 million as of September 30, 2020. Contingent cash payments, if any, will be derived from eligible revenue generated during a five-and-a-half year post-acquisition earn-out period ending in May 2024. No payments have been made to date related to the earn-out. The maximum amount of contingent payments is $23.2 million.
We will reassess the earn-out calculations related to this contingent consideration in future periods.
Critical Accounting Policies
The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires the use of estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. We consider many factors in selecting appropriate operational and financial accounting policies and controls, and in developing the estimates and assumptions that are used in the preparation of these financial statements. We continually evaluate our estimates, including those related to revenue recognition, bad debt reserves, inventory obsolescence reserves, self-insurance reserves for medical
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expenses, product warranty reserves, contingent consideration, stock-based compensation and deferred income tax assets. We base our estimates on historical experience and various other factors, including the impact from the current economic conditions that we believe to be reasonable under the circumstances. Actual results may differ from these estimates under different conditions or assumptions.
Our normal credit terms for trade receivables are 30 days. In certain situations, credit terms for trade receivables may be extended to 60 days or longer and such receivables generally do not require collateral. Additionally, we provide long-term financing in the form of promissory notes and sales-type leases when competitive conditions require such financing and, in such cases, we may require collateral. We perform ongoing credit evaluations of our accounts and financing receivables, and allowances are recognized for potential credit losses.
Our long-lived assets are reviewed for impairment whenever an event or change in circumstances indicates the carrying amount of an asset or group of assets may not be recoverable. The impairment review, if necessary, includes a comparison of expected future cash flows (undiscounted and without interest charges) to be generated by an asset group with the associated carrying value of the related assets. If the carrying value of the asset group exceeds the expected future cash flows, an impairment loss is recognized to the extent that the carrying value of the asset group exceeds its fair value.
Management makes judgments regarding the interpretation of tax laws that might be challenged upon an audit and cause changes to previous estimates of tax liability. In addition, we operate within multiple taxing jurisdictions and are subject to audit in these jurisdictions as well as by the Internal Revenue Service. In management’s opinion, adequate provisions for income taxes have been made for all open tax years. The potential outcomes of examinations are regularly assessed in determining the adequacy of the provision for income taxes and income tax liabilities. Management believes that adequate provisions have been made for reasonable and foreseeable outcomes related to uncertain tax matters.
We record a write-down of our inventories when the cost basis of any manufactured product, including any estimated future costs to complete the manufacturing process, exceeds its net realizable value. Inventories are stated at the lower of cost or net realizable value. Cost is determined on a first-in, first-out method, except that our subsidiaries in the Russian Federation and the United Kingdom use an average cost method to value their inventories.
We periodically review the composition of our inventories to determine if market demand, product modifications, technology changes, excessive quantities on-hand and other factors hinder our ability to recover our investment in such inventories. Management’s assessment is based upon historical product demand, estimated future product demand and various other judgments and estimates. Inventory obsolescence reserves are recorded when such assessments reveal that portions or components of our inventory investment will not be realized in our operating activities.
The value of our inventories not expected to be realized in cash, sold or consumed during our next operating cycle are classified as non-current assets in our consolidated balance sheets.
We recognize revenue from product sales and services in accordance with ASC Topic 606, Revenue from Contracts with Customers. This standard applies to contracts for the sale of products and services and does not apply to contracts for the rental or lease of products. Under this standard, we recognize revenue when performance of contractual obligations are satisfied, generally when control of the promised goods or services is transferred to our customers, in an amount that reflects the consideration we expect to be entitled in exchange for those goods or services. Revenue from product sales is recognized when obligations under the terms of a contract are satisfied, control is transferred and collectability of the sales price is reasonably assured. Transfer of control generally occurs with shipment or delivery, depending on the terms of the underlying contract. Our products are generally sold without any customer acceptance provisions, and our standard terms of sale do not allow customers to return products for credit. Most of our products do not require installation assistance or sophisticated instruction. We offer a standard product warranty, which obligates us to repair or replace our products having manufacturing defects. We maintain a reserve for future warranty costs based on historical experience or, in the absence of historical experience, management estimates. Revenue from engineering services is recognized as services are rendered over the duration of a project or as billed on a per hour basis. Field service revenue is recognized when services are rendered and is generally priced on a per day rate. We recognize rental revenue as earned over the rental period. Rentals of our equipment generally range from daily rentals to rental periods of up to six months or longer.
We recognize rental revenue in accordance with ASC Topic 842, Leases. In the event collectability of lease payments is not probable at the lease commencement date, we recognize revenue when payments are received. We regularly evaluate the collectability of our lease receivables on a lease by lease basis. The evaluation primarily consists of reviewing past due account balances and other factors such as the credit quality of the customer, historical trends of the customer and current economic conditions. We suspend the recognition of rental revenue when the collectability of amounts due are no longer probable and record a direct write-off of the lease receivable to rental revenue.
Recent Accounting Pronouncements
Please refer to Note 1 to our consolidated financial statements contained in this Annual Report for a discussion of recent accounting pronouncements.
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Management’s Current Outlook and Assumptions
As further discussed above, there remains uncertainties regarding the duration and to what extent the COVID-19 pandemic will ultimately impact the demand for our products and services or with our supply chain.
Regarding our Oil and Gas Markets business segment, prices for a barrel of WTI crude oil declined from over $100 in July 2014 to approximately $26 in February 2016, and have recovered to approximately $40 today. With this substantial net decline in crude oil prices and the recent reduced global demand for oil and gas as a result of the COVID-19 pandemic, oil and gas exploration and production companies experienced a significant reduction in cash flows resulting in sharp reductions in their capital spending budgets for oil and gas exploration-focused activities including seismic data acquisition activities. While we have experienced strong marine nodal rental activity in recent years including fiscal year 2020, the need for new seismic equipment, particularly land-based equipment, remains restrained due to our customers’ (i) limited capital resources, (ii) lack of visibility into future demand for their seismic services and (iii) in some cases, under-utilized legacy equipment.
Many of our land-based traditional seismic products can be damaged, destroyed or otherwise consumed during our customer’s field operations. We expect fiscal year 2021 demand for our land-based traditional seismic products may increase slightly over fiscal year 2020 levels.
We believe our “GCL”, which is a new version of our land-based wireless data recorder, will be a market leader similar to our GSX wireless unit. While it is uncertain what revenue impact the GCL will have during fiscal year 2021 in light of the tepid market demand for oil and gas seismic services and equipment, we expect our fiscal year 2021 land-based wireless product revenue to moderately exceed the levels we achieved in fiscal year 2020.
The vast majority of our oil and gas rental revenue in fiscal year 2020 was derived from short-term rentals of our OBX ocean-bottom recorder. We believe our OBX rental revenue may decrease substantially in fiscal year 2021 primarily due to the expiration of several rental contracts in fiscal year 2020 and indications from a customer considering the purchase of a substantial quantity of OBX units currently being rented, in addition to the consequences of the COVID-19 pandemic. Although we anticipate more rental contracts for our OBX equipment will be entered into in fiscal year 2021, we can make no assurance in this regard.
We believe that fiscal year 2021 revenue from our oil and gas reservoir products, and principally our borehole tools and services, to increase slightly over fiscal year 2020 levels. In the fourth quarter of fiscal year 2020, we received a request from a major oil and gas producer to propose on the manufacture of a large-scale seabed PRM system. We are in the process of responding to this request and we believe the potential customer will grant the award in the second or third quarter of fiscal year 2021. If we are awarded the contract, revenue from this contract will most likely not be recognized until latter part of fiscal year 2021, if any; fiscal year 2022 and beyond.
We expect fiscal year 2021 revenue from our Adjacent Markets products to increase over fiscal year 2020 levels. Demand for our adjacent markets products in fiscal year 2020 were negatively impacted by the COVID-19 pandemic. Although we cannot accurately determine the impact the COVID-19 pandemic will have on our fiscal year 2021 revenue, we are optimistic that demand for both our industrial, imaging products and contract manufacturing services will increase in fiscal year 2021.
We expect fiscal year 2021 revenue from our Emerging Markets products to increase over fiscal year 2020 primarily as a result of the contract awarded to Quantum from the U.S. Customs and Border Protection U.S. Border Patrol to provide a technology solution to the Department of Homeland Security. The Company expects most of the revenue from this contract will be recognized during the first six months of fiscal year 2021.
Item 7A. Quantitative and Qualitative Disclosures about Market Risk
Not required.
Item 8. Financial Statements and Supplementary Data
Our consolidated financial statements, including the reports thereon, the notes thereto and supplementary data begin at page F-1 of this Annual Report on Form 10-K and are incorporated herein by reference.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.
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Item 9A. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
Our management is responsible for establishing and maintaining a system of disclosure controls and procedures that are designed to ensure that information required to be disclosed in our reports filed under the Exchange Act is recorded, processed, summarized and reported within the time periods specified under SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”). Notwithstanding the foregoing, there can be no assurance that our disclosure controls and procedures will detect or uncover all failures of persons within the Company and its consolidated subsidiaries to report material information otherwise required to be set forth in our reports.
In connection with the preparation of this Annual Report on Form 10-K, we carried out an evaluation under the supervision and with the participation of our management, including the CEO and CFO, as of September 30, 2020 of the effectiveness of the Company’s disclosure controls and procedures, as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act. Based on that evaluation, the CEO and CFO concluded that our disclosure controls and procedures are effective as of September 30, 2020.
Management’s Report on Internal Control Over Financial Reporting
Our management is responsible for establishing and maintaining effective internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act). Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions or that the degree of compliance with the policies or procedures may deteriorate.
Our management assessed the effectiveness of our internal control over financial reporting as of September 30, 2020. In making this assessment, we used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control Integrated Framework (2013). Based on this assessment, our management concluded that, as of September 30, 2020, our internal control over financial reporting is effective based on those criteria.
Changes in Internal Control Over Financial Reporting
We previously reported a material weakness in our internal control over financial reporting. As of June 30, 2020 we did not maintain effective controls relating to our adoption of ASC 842 Leases. In our financial statements for the first quarter ended December 31, 2019 we determined that the collection of future operating lease revenue from one of our customers was less than probable while the operating lease receivable was not impaired. In our second quarter ended March 31, 2020, we determined the operating lease receivable was impaired and recorded a charge to bad debt expense to reflect the impairment. In accordance with the guidance of ASC 842, when collectability of the future payments is not deemed probable, lease revenue is limited to cash received while any existing operating lease receivables are immediately charged-off through rental revenue.
This error was subsequently identified and corrected which resulted in a revision of our unaudited consolidated balance sheet as of December 31, 2019, our unaudited consolidated statement of operations for the three months ended December 31, 2019 and our unaudited consolidated statements of operations for the three and six months ended March 31, 2020. The impact of this revision had no effect on our net loss for the nine months ended June 30, 2020.
Because of this material weakness, management concluded that we did not maintain effective internal control over financial reporting as of December 31, 2019, March 31, 2020 and June 30, 2020, based on criteria described in Internal Control – Integrated Framework (2013) issued by COSO.
To remediate the material weakness described above, we have designed and implemented a quarterly control to capture all new accounting pronouncements, and when determined necessary, will seek outside technical assistance to enhance our understanding and application of these new pronouncements.
We believe that this measure remediates the material weakness identified and strengthens our internal controls over financial reporting.
Item 9B. Other Information
None.
29
PART III
Item 10. Directors, Executive Officers and Corporate Governance
The information required by this Item is contained in our definitive Proxy Statement to be distributed within 120 days of September 30, 2020 in connection with our 2021 Annual Meeting of Stockholders under the captions “Election of Directors,” “Executive Officers and Compensation,” “Section 16(a) Beneficial Ownership Reporting Compliance” and “Code of Ethics” and is incorporated herein by reference.
Item 11. Executive Compensation
The information required by this Item is contained in our definitive Proxy Statement to be distributed within 120 days of September 30, 2020 in connection with our 2021 Annual Meeting of Stockholders under the caption “Executive Officers and Compensation” and is incorporated herein by reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
The information required by this Item is contained in our definitive Proxy Statement to be distributed within 120 days of September 30, 2020 in connection with our 2021 Annual Meeting of Stockholders under the caption “Security Ownership of Certain Beneficial Owners and Management” and is incorporated herein by reference, and in Item 5, “Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities,” contained in Part II hereof.
Item 13. Certain Relationships and Related Transactions and Director Independence
The information required by this Item is contained in our definitive Proxy Statement to be distributed within 120 days of September 30, 2020 in connection with our 2021 Annual Meeting of Stockholders under the caption “Certain Relationships and Related Transactions” and is incorporated herein by reference.
Item 14. Principal Accountant Fees and Services
The information required by this Item is contained in our definitive Proxy Statement to be distributed within 120 days of September 30, 2020 in connection with our 2021 Annual Meeting of Stockholders under the caption “Independent Public Accountants” and is incorporated herein by reference.
30
PART IV
Item 15. Exhibits and Financial Statement Schedules
Financial Statements and Financial Statement Schedules
The financial statements and financial statement schedules listed on the accompanying Index to Financial Statements (see page F-1) are filed as part of this Annual Report on Form 10-K.
Exhibits
ExhibitNumber Description of Documents
31
ExhibitNumber Description of Documents
32
ExhibitNumber Description of Documents
21.1 Subsidiaries of the Registrant.**
23.1 Consent of RSM US LLP.**
* This exhibit is a management contract or a compensatory plan or arrangement.
** Filed herewith.
Item 16. Form 10-K Summary
None.
33
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
GEOSPACE TECHNOLOGIES CORPORATION
By: /s/ WALTER R. WHEELER
Walter R. Wheeler, Director, President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this Annual Report on Form 10-K has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
Signature Title Date
Walter R. Wheeler (Principal Executive Officer)
Robert L. Curda (Principal Financial Officer and Principal Accounting Officer)
/s/ GARY D. OWENS Chairman of the Board November 20, 2020
Gary D. Owens
/s/ THOMAS L. DAVIS Director November 20, 2020
Thomas L. Davis
/s/ EDGAR R. GIESINGER, JR. Director November 20, 2020
Edgar R. Giesinger, Jr.
/s/ TINA M. LANGTRY Director November 20, 2020
Tina M. Langtry
/s/ RICHARD F. MILES Director November 20, 2020
Richard F. Miles
/s/ MICHAEL J. SHEEN Director November 20, 2020
Michael J. Sheen
34
GEOSPACE TECHNOLOGIES CORPORATION AND SUBSIDIARIES
INDEX TO FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES
Reports of Independent Registered Public Accounting Firm F-2
Consolidated Balance Sheets as of September 30, 2020 and 2019 F-4
Notes to Consolidated Financial Statements F-9
Schedule II—Valuation and Qualifying Accounts F-33
F-1
Report of Independent Registered Public Accounting Firm
To the Shareholders and the Board of Directors of Geospace Technologies Corporation
Opinion on the Financial Statements
We have audited the accompanying consolidated balance sheets of Geospace Technologies Corporation and its subsidiaries (the Company) as of September 30, 2020 and 2019, and the related consolidated statements of operations, comprehensive loss, stockholders' equity and cash flows for the years then ended, and the related notes to the consolidated financial statements (collectively, the financial statements). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of September 30, 2020 and 2019, and the results of its operations and its cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States of America.
Basis for Opinion
These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion.
Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
/s/ RSM US LLP
We have served as the Company's auditor since 2018.
Houston, Texas
November 20, 2020
F-2
Report of Independent Registered Public Accounting Firm
To the Stockholders and the Board of Directors of Geospace Technologies Corporation
Our audits of the consolidated financial statements referred to in our report dated November 20, 2020, (included elsewhere in this Annual Report on Form 10-K) also included the financial statement schedule of Geospace Technologies Corporation and its subsidiaries, listed in Item 15(a) of this Form 10-K. This schedule is the responsibility of Geospace Technologies Corporation's management. Our responsibility is to express an opinion based on our audits of the consolidated financial statements.
In our opinion, the financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.
/s/ RSM US LLP
Houston, Texas
November 20, 2020
F-3
Geospace Technologies Corporation and Subsidiaries
Consolidated Balance Sheets
(In thousands, except share amounts)
AS OF SEPTEMBER 30,
ASSETS
Current assets:
Property held for sale 587 —
Prepaid expenses and other current assets 953 1,008
Non-current financing receivables — 184
Deferred cost of revenue and other assets 8,119 479
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Deferred revenue and other liabilities 8,753 9,119
Non-current deferred revenue and other liabilities 4,567 51
Commitments and contingencies (Note 20)
Stockholders’ equity:
Accumulated other comprehensive loss (16,698 ) (15,757 )
Total liabilities and stockholders’ equity $ 186,845 $ 202,008
The accompanying notes are an integral part of the consolidated financial statements.
F-4
Geospace Technologies Corporation and Subsidiaries
Consolidated Statements of Operations
(In thousands, except share and per share amounts)
YEAR ENDED SEPTEMBER 30,
Revenue:
Cost of revenue:
Operating expenses:
Goodwill impairment 671 —
Change in estimated fair value of contingent consideration 1,100 (2,115 )
Gain on disposal of property — 7,047
Other income (expense):
Interest expense (38 ) (99 )
Foreign exchange gains, net 491 241
Income (loss) before income taxes (16,593 ) 2,271
Loss per common share:
Weighted average common shares outstanding:
The accompanying notes are an integral part of the consolidated financial statements.
F-5
Geospace Technologies Corporation and Subsidiaries
Consolidated Statements of Comprehensive Loss
(In thousands)
YEAR ENDED SEPTEMBER 30,
Other comprehensive income (loss):
Change in unrealized gains on available-for-sale securities, net of tax — 82
Foreign currency translation adjustments (941 ) (220 )
Other comprehensive loss (941 ) (138 )
Total comprehensive loss $ (20,183 ) $ (284 )
The accompanying notes are an integral part of the consolidated financial statements.
F-6
Geospace Technologies Corporation and Subsidiaries
Consolidated Statement of Stockholders’ Equity
For the years ended September 30, 2020 and 2019
(In thousands, except share amounts)
Common Stock Accumulated
Other comprehensive loss — — — — (138 ) (138 )
Issuance of restricted stock 8,000 — — — — —
Forfeiture of restricted stock (2,875 ) — — — — —
Issuance of common stock pursuant to exercise of options 24,500 — 215 — — 215
Other comprehensive loss — — — — (941 ) (941 )
Forfeiture of restricted stock (1,750 ) — — — — —
Stock-based compensation — — 2,305 — — 2,305
The accompanying notes are an integral part of the consolidated financial statements.
F-7
Geospace Technologies Corporation and Subsidiaries
Consolidated Statements of Cash Flows
(In thousands)
YEAR ENDED SEPTEMBER 30,
Cash flows from operating activities:
Adjustments to reconcile net loss to net cash provided by operating activities:
Deferred income tax expense 181 16
Property, plant and equipment depreciation 4,016 3,965
Amortization of other intangible assets 1,732 1,661
Goodwill impairment expense 671 —
Amortization of premiums on short-term investments — (9 )
Stock-based compensation expense 2,305 2,329
Inventory obsolescence expense 4,726 4,614
Change in estimate of collectability of rental revenue 7,993 —
Change in estimated fair value of contingent consideration 1,100 (2,115 )
Gross profit from sale of used rental equipment (743 ) (652 )
Gain on disposal of property — (7,047 )
Gain on disposal of equipment (116 ) (100 )
Realized loss on short-term investments — 66
Effects of changes in operating assets and liabilities:
Trade accounts and other receivables 2,482 (9,159 )
Deferred cost of revenue and other assets (7,786 ) 343
Accounts payable trade (2,453 ) (44 )
Deferred revenue and other liabilities 5,243 (377 )
Net cash provided by operating activities 18,122 5,629
Cash flows from investing activities:
Purchase of property, plant and equipment (2,916 ) (1,936 )
Investment in rental equipment (5,487 ) (34,070 )
Proceeds from the sale of property — 8,265
Proceeds from the sale of equipment 204 142
Proceeds from the sale of used rental equipment 4,149 4,856
Proceeds from the sale of short-term investments — 25,606
Business acquisition, net of acquired cash — (1,819 )
Payments for damages related to insurance claim — (650 )
Proceeds from insurance claim — 1,166
Net cash (used in) provided by investing activities (4,050 ) 1,560
Cash flows from financing activities:
Payments on contingent consideration (78 ) —
Proceeds from exercise of stock options and other — 215
Net cash provided by (used in) financing activities (78 ) 215
Effect of exchange rate changes on cash (233 ) (413 )
Increase in cash and cash equivalents 13,761 6,991
Cash and cash equivalents, beginning of fiscal year 18,925 11,934
Cash and cash equivalents, end of fiscal year $ 32,686 $ 18,925
The accompanying notes are an integral part of the consolidated financial statements.
F-8
Geospace Technologies Corporation and Subsidiaries
Notes to Consolidated Financial Statements
1. Summary of Significant Accounting Policies:
The Company
Geospace Technologies Corporation (“Geospace”) designs and manufactures instruments and equipment used by the oil and gas industry to acquire seismic data in order to locate, characterize and monitor hydrocarbon producing reservoirs. Geospace also designs and manufactures Adjacent Markets products including industrial products, imaging equipment, and provides contract manufacturing services, and Emerging Market products consisting of border and perimeter security products. Geospace and its subsidiaries are referred to collectively as the “Company”.
Basis of Presentation
The accompanying financial statements present the consolidated financial position, results of operations and cash flows of the Company in accordance with accounting principles generally accepted in the United States of America. All intercompany balances and transactions have been eliminated.
Reclassifications
Certain amounts previously presented in the consolidated financial statements have been reclassified to conform to the current year presentation. Such reclassifications had no effect on previously reported net loss, stockholders’ equity or cash flows.
Use of Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires the use of estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. The Company considers many factors in selecting appropriate operational and financial accounting policies and controls, and in developing the estimates and assumptions that are used in the preparation of these financial statements. The Company continually evaluates its estimates, including those related to bad debt reserves, collectability of rental revenue, inventory obsolescence reserves, self-insurance reserves, product warranty reserves, useful lives of long-lived assets, impairment of long-lived assets and intangible assets, contingent consideration, investment in debt security and deferred income tax assets. The Company bases its estimates on historical experience and various other factors that are believed to be reasonable under the circumstances. While management believes current estimates are reasonable and appropriate, actual results may differ from these estimates under different conditions or assumptions.
Cash and Cash Equivalents
The Company considers all highly-liquid investments purchased with an original or remaining maturity at the time of purchase of three months or less to be cash equivalents. At September 30, 2020 cash and cash equivalents included $5.8 million held by the Company’s foreign subsidiaries and branch offices. If the Company were to repatriate the cash held by its foreign subsidiaries, it could be required to accrue and pay taxes on any amount repatriated. The Tax Cut and Jobs Act (“2017 Tax Act”) creates new taxes on certain foreign earnings and also requires entities to pay a one-time transition tax on undistributed earnings of their foreign subsidiaries which were previously tax deferred. The Company has determined it is not required to pay transition tax on the undistributed earnings of its foreign subsidiaries since it had no accumulated foreign earnings on a consolidated basis.
Concentrations of Credit and Supplier Risk
The Company maintains its cash in bank deposit accounts that, at times, exceed federally insured limits. Management of the Company believes that the financial strength of the financial institutions holding such deposits minimizes the credit risk of such deposits.
The Company sells products to customers throughout the United States and various foreign countries. The Company’s normal credit terms for trade receivables are 30 days. In certain situations, credit terms may be extended to 60 days or longer. The Company performs ongoing credit evaluations of its customers and generally does not require collateral for its trade receivables. Additionally, the Company provides long-term financing in the form of promissory notes and sales-type leases when competitive conditions require such financing. In such cases, the Company may require collateral. Allowances are recognized for potential credit losses. One customer comprised 48.2% of the Company’s revenue during fiscal year 2020. At September 30, 2020, the Company had trade account receivables due from this customer of $7.3 million. Two customers comprised 25.2% and 19.7%, of the
F-9
Geospace Technologies Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
Company’srevenue during fiscal year 2019.At September 30, 2019, the Company had trade account receivables due from these two customers of $12.1million and $6.7million, respectively.
Certain models of the Company’s oil and gas marine wireless products require a timing device it purchases from a United States manufacturer. The Company currently does not possess the ability to manufacture this component and has no other reliable source for this device. If this manufacturer were to discontinue its production of this timing device, were to become unwilling to contract with the Company on competitive terms or were unable to supply the component in sufficient quantities to meet its requirements, the Company’s ability to compete in the marine wireless marketplace could be impaired, which could adversely affect its financial performance. Product sales requiring this device accounted for approximately 2% of the Company’s revenue during fiscal year 2020.
The Company purchases all of its thermal film from one manufacturer for its imaging products. Except for the film sold to the Company by this manufacturer, the Company knows of no other source for thermal film that performs as well in its imaging equipment. If the manufacturer were to discontinue producing thermal film, were to become unwilling to contract with the Company on competitive terms or were unable to supply thermal film in sufficient quantities to meet its requirements, the Company’s ability to compete in the direct thermal imaging marketplace could be impaired, which could adversely affect its financial performance. Thermal film sales represented approximately 8% of the Company’s revenue in fiscal year 2020.
Inventories
The Company records a write-down of its inventories when the cost basis of any manufactured product, including any estimated future costs to complete the manufacturing process, exceeds its net realizable value. Inventories are stated at the lower of cost or net realizable value. Cost is determined on the first-in, first-out method, except that certain of the Company’s foreign subsidiaries use an average cost method to value their inventories.
The Company periodically reviews the composition of its inventories to determine if market demand, product modifications, technology changes, excessive quantities on-hand and other factors hinder our ability to recover its investment in such inventories. The Company’s assessment is based upon historical product demand, estimated future product demand and various other judgments and estimates. Inventory obsolescence reserves are recorded when such assessments reveal that portions or components of the Company’s inventory investment will not be realized in its operating activities.
The Company reviews it inventories for classification purposes. The value of inventories not expected to be realized in cash, sold or consumed during its next operating cycle are classified as noncurrent assets.
Property, Plant and Equipment and Rental Equipment
Property, plant and equipment and rental equipment are stated at cost. Depreciation expense is calculated using the straight-line method over the following estimated useful lives:
Years
Rental equipment 2-5
Property, plant and equipment:
Machinery and equipment 3-15
Buildings and building improvements 10-50
Expenditures for renewals and betterments are capitalized. Repairs and maintenance expenditures are charged to expense as incurred. The cost and accumulated depreciation of assets sold or otherwise disposed of are removed from the accounts and any gain or loss thereon is reflected in the statements of operations.
Impairment of Long-lived Assets
The Company’s long-lived assets are reviewed for impairment whenever an event or change in circumstances indicates the carrying amount of an asset or group of assets may not be recoverable. The impairment review, if necessary, includes a comparison of expected future cash flows (undiscounted and without interest charges) to be generated by an asset group with the associated carrying value of the related assets. If the carrying value of the asset group exceeds the expected future cash flows, an impairment loss is recognized to the extent that the carrying value of the asset group exceeds its fair value. Impairment charges are included as a component of cost of revenue in the Company’s consolidated statements of operations.
F-10
Geospace Technologies Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
Goodwill
The Company conducts its evaluation of goodwill at the reporting unit level on an annual basis as of September 30 and more frequently if events or circumstances indicate that the carrying value of a reporting unit exceeds its fair value. The guidance on the testing of goodwill for impairment provides the option to first assess qualitative factors to determine if the fair value of a reporting unit exceeds its carrying amount. If, based on the qualitative assessment of events or circumstances, an entity determines it is more likely than not that the fair value of a reporting unit is more than its carrying amount then it is not necessary to perform a quantitative assessment. However, if an entity concludes otherwise, then a quantitative assessment must be performed. If, based on the quantitative assessment, the Company determines that the fair value of a reporting unit is less that its carrying amount, a goodwill impairment is recognized equal to the difference between the carrying amount of the reporting unit and its fair value, not to exceed the carrying amount of the goodwill.
At September 30, 2020, the Company assessed the goodwill associated with both its Oil and Gas Markets and Emerging Markets reporting units for impairment. The assessment primarily utilized an income approach based on discounted cash flows. As a result of the assessment, the Company determined that the fair market value of its Oil and Gas Markets reporting unit was less than its carrying amount and recorded an impairment charge of $0.7 million for the goodwill associated with this reporting unit. No impairment was indicated on the goodwill associated with its Emerging Markets reporting unit. The Company has no goodwill associated with its Adjacent Markets reporting unit.
Other Intangible Assets
Intangible assets are carried at cost, net of accumulated amortization. The estimated useful life of the Company’s other intangible assets are evaluated each reporting period to determine whether events or circumstances warrant a revision to the remaining amortization period. If the estimate of an intangible asset’s remaining useful life is changed, the amortization period should be changed prospectively. Amortization expense is calculated using the straight-line method over the following estimated useful lives:
Years
Developed technology 18
Trade names 5
Customer relationships 4
Non-compete agreements 4
Revenue Recognition
See Note 2 to these consolidated financial statements.
Deferred Revenue
The Company records deferred revenue when customer funds are received prior to the recognition of the associated revenue.
Contingent Consideration
The Company established earn-out liabilities in connection with its business acquisitions in fiscal year 2018 and 2019. The Company engaged the services of a valuation firm to measure the initial fair value of the earn-out liabilities as of the acquisition date for each business. The valuation technique used to measure the fair value of the liability was derived from models utilizing market observable inputs. The Company reviews the fair value of its contingent earn-out liabilities on a quarterly basis. Adjustments to the liabilities, if any, are included as a component of earnings in the consolidated statements of operations. See Note 20 to these consolidated financial statements for additional information.
Research and Development Costs
The Company expenses research and development costs as incurred. Research and development costs include salaries, employee benefit costs, department supplies, direct project costs and other related costs.
F-11
Geospace Technologies Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
Product Warranties
Most of the Company’s products do not require installation assistance or sophisticated instructions. The Company offers a standard product warranty obligating it to repair or replace equipment with manufacturing defects. The Company maintains a reserve for future warranty costs based on historical experience or, in the absence of historical product experience, management’s estimates. Reserves for future warranty costs are included within accrued expenses and other current liabilities on the consolidated balance sheets.
Changes in the product warranty reserve are reflected in the following table (in thousands):
Accruals for warranties issued during the year 386
Settlements made (in cash or in kind) during the year (845 )
Accruals for warranties issued during the year 790
Settlements made (in cash or in kind) during the year (761 )
Stock-Based Compensation
The Company accounts for stock-based compensation, including grants of restricted awards and unqualified stock options in accordance with Accounting Standards Codification Topic 718, which requires that all share-based payments (to the extent that they are compensatory) be recognized as an expense in the Company’s consolidated statements of operations based on their fair values on the award date and the estimated number of shares it ultimately expects to vest.
The Company recognizes stock-based compensation expense on a straight-line basis over the requisite service period of the award. The Company’s stock-based compensation plan and awards are more fully described in Note 16 to these consolidated financial statements.
Foreign Currency Gains and Losses
The assets and liabilities of the Company’s foreign subsidiaries and branch offices that have a foreign currency as their functional currency have been translated into U.S. dollars using the exchange rates in effect at the balance sheet date. Results of operations have been translated using the average exchange rates during the year. Resulting translation adjustments have been recorded as a component of accumulated other comprehensive loss in stockholders’ equity. Foreign currency transaction gains and losses are included in the statements of operations as they occur. Transaction gains and losses on intra-entity foreign currency transactions and balances, including advances and demand notes payable on which settlement is not planned or anticipated in the foreseeable future, are recorded in “accumulated other comprehensive loss” on our consolidated balance sheets.
Fair Value
Fair value is the price that would be received to sell an asset or the amount paid to transfer a liability in an orderly transaction between market participants (an exit price) at the measurement date. U.S. generally accepted accounting principles (“GAAP”) has established a fair value hierarchy which prioritizes the inputs to the valuation techniques used to measure fair value into three levels. These levels are determined based on the lowest level input that is significant to the fair value measurement. Level 1 represents unadjusted quoted prices in active markets for identical assets and liabilities. Level 2 represents quoted prices for similar assets and liabilities in active markets (other than those included in Level 1) which are observable, either directly or indirectly. Level 3 represents valuations derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable.
F-12
Geospace Technologies Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
Income Taxes
Income taxes are presented in accordance with the Accounting Standards Codification Topic 740 (“Topic 740”) guidance for accounting for income taxes. The estimated future tax effects of temporary differences between the tax basis of assets and liabilities and amounts reported in the accompanying consolidated balance sheets, as well as operating loss and tax credit carrybacks and carryforwards are recorded. Deferred tax assets and liabilities are determined based on differences between financial reporting and tax basis of assets and liabilities (temporary differences) and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse. The Company periodically reviews the recoverability of tax assets recorded on the balance sheet and provides valuation allowances if it is more likely than not that such assets will not be realized.
The Company follows the guidance of Topic 740 to analyze all tax positions that are less than certain. Topic 740 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. In accordance with Topic 740, the Company recognizes in its financial statements the impact of a tax position if that position is “more likely than not” to be sustained on audit, based on the technical merits of the position. The Company’s estimate of the potential outcome of any uncertain tax issue is subject to management’s assessment of relevant risks, facts, and circumstances existing at that time.
The Company classifies interest and penalties associated with the payment of income taxes, if any, in the Other Income (Expense) section of its consolidated statements of operations. The Company incurred no interest or penalties for the fiscal years ended September 30, 2020 and 2019.
Recently Adopted Accounting Pronouncements
In February 2016, the Financial Accounting Standards Board (“FASB”) issued guidance requiring a lessee to recognize assets and liabilities for leases with lease terms of more than 12 months. The recognition, measurement and presentation of expense and cash flows arising from a lease by a lessee primarily will depend on its classification of the lease as a finance or operating lease. However, unlike prior guidance, which requires only capital leases to be recognized on the balance sheet, the new guidance requires operating leases of the lessee to be recognized on the balance sheet if the operating lease term is more than 12 months. The guidance also requires lessors to write-off any lease receivables when assessment of collectability of future lease payments is not probable and the write-off be recorded as a reduction of lease income as opposed to bad debt expense.
The guidance also requires disclosures to help investors and other financial statement users to better understand the amount, timing and uncertainty of cash flows arising from leases. These disclosures include qualitative and quantitative requirements, providing additional information about the amounts recorded in the financial statements. The Company adopted this guidance on October 1, 2019 using the optional transition method, which allows it to initially apply the new guidance at the adoption date and recognize a cumulative-effect adjustment to the opening balance of retained earnings. No adjustment to the opening balance of retained earnings was required upon adoption. As a lessor of rental equipment, the adoption of this guidance had a material impact on the Company’s consolidated financial statements as it is now required to write-off existing operating lease receivables as a reduction of lease income when collectability of an operating lease receivable becomes less than probable.
In June 2018, the FASB issued guidance expanding the scope of ASC Topic 718, Compensation - Stock Compensation, to include share-based payment transactions for acquiring goods and services from non-employees. The Company adopted this guidance on October 1, 2019. The adoption of this guidance did not have any material impact on the consolidated financial statements.
In August 2018, the FASB issued guidance requiring certain existing disclosure requirements in ASC Topic 820, Fair Value Measurements and Disclosures, to be modified or removed, and certain new disclosure requirements to be added to this standard. In addition, the guidance allows entities to exercise more discretion when considering fair value measurement disclosures. The Company adopted this guidance on October 1, 2019. The adoption of this guidance did not have any impact on the Company’s consolidated financial statements.
In January 2017, the FASB issued guidance simplifying the current two-step goodwill impairment test by eliminating Step 2 of the test. The guidance requires a one-step impairment test in which an entity compares the fair value of a reporting unit with its carrying amount and recognizes an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value, if any. This guidance is effective for fiscal years beginning after December 15, 2019 and interim periods within those fiscal years, and should be applied on a prospective basis. Early adoption is permitted for the interim or annual goodwill impairment tests performed on testing dates after January 1, 2017. The Company adopted this guidance on July 1, 2020. The adoption of this guidance was considered in our September 2020 goodwill impairment assessment.
F-13
Geospace Technologies Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
Recently Issued Accounting Pronouncements
In June 2016, the FASB issued guidance surrounding credit losses for financial instruments that replaces the incurred loss impairment methodology in generally accepted accounting principles. The new impairment model requires immediate recognition of estimated credit losses expected to occur for most financial assets and certain other financial instruments. For available-for-sale debt securities with unrealized losses, credit losses will be recognized as allowances rather than reductions in the amortized cost of the securities. As a small reporting company, the Company must adopt this standard no later than the first quarter of its fiscal year ending September 30, 2024. Early adoption is permitted. The standard’s provisions will be applied as a cumulative-effect adjustment to retained earnings as of the beginning of the first effective reporting period. The Company intends to adopt this standard during the first quarter of its fiscal year ending September 30, 2024 and is currently evaluating the impact of this new guidance on its consolidated financial statements.
In December 2019, the FASB issued guidance on simplifying the accounting for income taxes. The guidance eliminates certain exceptions to the general principles in Topic 740 and clarifies and amends existing guidance to improve consistent application. This guidance is effective for fiscal years and interim periods within those fiscal years, beginning after December 15, 2020. Certain amendments within the guidance are required to be applied on a retrospective basis for all periods presented; others are to be applied using a modified retrospective approach with a cumulative-effect adjustment to retained earnings, if any, as of the beginning of the first reporting period in which the guidance is adopted; and yet others are to be applied using either basis. All other amendments not specified in the guidance should be applied on a prospective basis. Early adoption is permitted. An entity that elects to early adopt in an interim period should reflect any adjustments as of the beginning of the annual period that includes that interim period. Additionally, an entity that elects early adoption must adopt all the amendments in the same period. The Company intends to adopt this standard during the first quarter of its fiscal year ending September 30, 2022 and is currently evaluating the new guidance to determine the impact it will have on its condensed consolidated financial statements.
2. Revenue Recognition
On October 1, 2018, the Company adopted ASC Topic 606, Revenue from Contracts with Customers (“ASC 606”).This new standard applies to contracts for the sale of products and services, and does not apply to contracts for the rental or lease of products. The Company adopted the new standard using the modified retrospective method applied to those contracts that were not completed as of September 30, 2018. Results for reporting periods beginning October 1, 2018 are presented under the new standard and prior period amounts were not restated.
Under the new standard, the Company recognizes revenue when performance of contractual obligations are satisfied, generally when control of the promised goods or services is transferred to its customers, in an amount that reflects the consideration it expects to be entitled to in exchange for those goods or services.
The Company primarily derives product revenue from the sale of its manufactured products. Revenue from these product sales, including the sale of used rental equipment, is recognized when obligations under the terms of a contract are satisfied, control is transferred and collectability of the sales price is probable. The Company assesses collectability during the contract assessment phase. In situations where collectability of the sales price is not probable, the Company recognizes revenue when it determines that collectability is probable or non-refundable cash is received from its customers. Transfer of control generally occurs with shipment or delivery, depending on the terms of the underlying contract. The Company’s products are generally sold without any customer acceptance provisions, and the Company’s standard terms of sale do not allow customers to return products for credit.
Revenue from engineering services is recognized as services are rendered over the duration of a project, or as billed on a per hour basis. Field service revenue is recognized when services are rendered and is generally priced on a per day rate.
The Company also generates revenue from short-term rentals under operating leases of its manufactured products. Rental revenue is recognized as earned over the rental period if collectability of the rent is probable. Rentals of the Company’s equipment generally range from daily rentals to minimum rental periods of up to six months or longer. The Company has determined that ASC 606 does not apply to rental contracts, which are within the scope of ASC Topic 842, Leases.
The cumulative effect of the changes made to the Company’s consolidated balance sheet as of October 1, 2018 resulting from the adoption of ASC 606 the new standard was not material and did not impact beginning retained earnings. The impact on the timing of sales and services for the fiscal year ended September 30, 2019 resulting from the application of the new standard was not material.
As permissible under the new standard, sales taxes and transaction-based taxes are excluded from revenue. The Company does not disclose the value of unsatisfied performance obligations for contracts with an original expected duration of one year or less. Additionally, the Company expenses costs incurred to obtain contracts when incurred because the amortization period would have been one year or less. These costs are recorded in selling, general and administrative expenses.
F-14
Geospace Technologies Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
The Company has elected to treat shipping and handling activities in a sales transaction after the customer obtains control of the good as a fulfillment cost and not as a promised good service. Accordingly, fulfillment costs related to the shipping and handling of goods are accrued at the time of shipment. Amounts billed to a customer in a sales transaction related to reimbursable shipping and handling costs are included in revenue and the associated costs incurred by the Company for reimbursable shipping and handling expenses are reported in cost of sales. The Company incurred shipping and handling expenses of $0.3 million and $0.5 million, respectively, for the fiscal years ended September 30, 2020 and 2019, respectively.
During the second quarter of fiscal year 2020, the Company partially financed a $12.5 million product sale by entering into a $10.0 million promissory note with the customer. The note is for a three-year term with monthly principal and interest payments of $0.3 million. Due to the financial condition of the customer, the Company has concerns over the probable collectability of the promissory note. As a result, the Company has not recognized any revenue or cost of revenue on the product sale. The Company has received payments from the customer totaling $4.6 million (exclusive of interest) as of September 30, 2020 related to the product sale, which is reflected on the Company’s consolidated balance sheet as non-current deferred revenue. Management does not intend to recognize revenue and cost of revenue from the sale until it becomes probable that the customer will satisfy its financial obligation to the Company.
During the third quarter of fiscal year 2020, the Company was awarded a $10.7 million contract (inclusive of a subsequent contract amendment of $0.3 million) with the U.S. Customs and Border Protection U.S. Border Patrol to provide a technology solution to the Department of Homeland Security. Revenue recognized under the contract for fiscal year 2020 was $0.3 million. Unrecognized revenue for unsatisfied performance obligations on this contract at September 30, 2020 was $10.4 million. The Company anticipates the majority of the revenue on the remaining performance obligation on this contract will be recognized in fiscal year 2021. Unsatisfied performance obligations on all other contracts held by the Company at September 30, 2020 had an original duration of one year or less.
At September 30, 2020 and September 30, 2019, the Company had deferred contract liabilities of $0.2 million and zero, respectively, included as a component of deferred revenue. The Company had no deferred contract costs at September 30, 2020 and September 30, 2019. During fiscal year 2020, the Company recognized no revenue or cost of revenue from deferred contract liabilities or deferred contract costs. During the fiscal year ended September 30, 2019, the Company recognized revenue of $0.2 million from deferred contract liabilities and cost of revenue of $27,000 from deferred contract costs.
For each of the Company’s operating segments, the following table presents revenue only from the sale of products and the performance of services under contracts with customers (in thousands). The table excludes all revenue earned from rental contracts.
YEAR ENDED SEPTEMBER 30,
Oil and Gas Markets Product and Services Revenue:
Adjacent Markets Product and Services Revenue:
Emerging Markets Product and Services Revenue:
See Note 22 for more information on the Company’s operating segments.
For each of the geographic areas where the Company operates, the following table presents revenue (in thousands) from the sale of products and services under contracts with customers. The table excludes all revenue earned from rental contracts:
F-15
Geospace Technologies Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
YEAR ENDED SEPTEMBER 30,
Revenue is attributable to countries based on the ultimate destination of the product sold, if known. If the ultimate destination is not known, revenue is attributable to countries based on the geographic location of the initial shipment.
F-16
Geospace Technologies Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
3. Business Acquisition
On November 13, 2018, the Company acquired all of the intellectual property and related assets of the OptoSeis® fiber optic sensing technology business from PGS Americas, Inc. The assets of the OptoSeis® business are included in the Company’s Oil and Gas Markets business segment. The acquisition represented the Company’s strategy for the addition of breadth to its PRM and other products. The acquisition purchase price consisted of cash at closing of approximately $1.8 million and contingent earn-out payments of up to $23.2 million over a five-and-a half year period beginning on the date of acquisition. The contingent cash payments will be derived from certain eligible product and service revenue generated during the earn-out period.
In connection with the OptoSeis® acquisition, the Company recorded goodwill of $0.7 million (deductible for tax purposes), other intangible assets of $3.7 million, fixed assets of $1.7 million and established an initial contingent earn-out liability of $4.3 million.
Legal costs of $0.2 million related to the OptoSeis® acquisition are included in selling, general and administrative expenses for the fiscal year ended September 30, 2019.
For the fiscal year ended September 30, 2019, the estimated fair value of the acquired OptoSeis® assets was revised, including a $1.8 million addition to machinery and equipment, which was offset by a $1.0 million decrease in goodwill and a $0.8 million decrease in other intangible assets.
4. Investment in Debt Security
On July 13, 2020, the Company received an interest in a senior secured bond issued from an international seismic marine customer. The Company’s interest in the bond, which has a face value of $13.0 million, was received in exchange for $13.0 million of unpaid invoices and later fees owed by the customer. The bond is secured by a third in line lien on the assets owned by the customer and has an 8% interest rate with bi-annual interest and possible principal payments based on available excess cash flows. Interest payments can be made either in cash or in-kind payments in the form of additional debt security. In-kind interest payments require an 8.8% interest rate. The bond matures July 13, 2022. The bond is listed on the Oslo Alternative Bond Market; however, the actual marketability is unknown at this time.
As of September 30, 2020, the Company performed a fair value assessment of the investment to determine the bond’s initial carrying amount. In accordance with ASC 825, “Fair Value Instruments”, the Company has determined that the investment is a Level 3 primarily due to its current unknown marketability. Because of the distressed financial condition of the customer, the Company believes the fair value of the bond is nominal. The Company has classified the investment as a held-to-maturity security.
5. Derivative Financial Instruments
At September 30, 2020 and 2019, the Company’s Canadian subsidiary had CAN$3.4 million and CAN$9.3 million, respectively, of Canadian dollar denominated intercompany accounts payable owed to one of the Company’s U.S subsidiaries. In order to mitigate its exposure to movements in foreign currency rates between the U.S. dollar and Canadian dollar, the Company routinely enters into foreign currency forward contracts to hedge a portion of its exposure to changes in the value of the Canadian dollar. At September 30, 2019, the Company had a short-term hedge contract of CAN$7.0 million with a United States bank to reduce the impact on cash flows from movements in the Canadian dollar/U.S. dollar currency exchange rate, which was not designated as a hedge for accounting purposes. The Company had no hedge contracts at September 30, 2020.
The following table summarizes the gross fair value of all derivative instruments, which are not designated as hedging instruments and their location in the consolidated balance sheets (in thousands):
Derivative Instrument Location AS OF SEPTEMBER 30,
The following table summarizes the impact of the Company’s derivatives on the consolidated statements of operations (in thousands):
YEAR ENDED SEPTEMBER 30,
Foreign Currency Forward Contracts Other Income (Expense) $ 154 $ 552
F-17
Geospace Technologies Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
Amounts in the above table include realized and unrealized derivative gains and losses.
6. Fair Value of Financial Instruments
The Company’s financial instruments generally included cash and cash equivalents, an investment in debt security, a foreign currency forward contract, trade and financing receivables and accounts payable. Due to the short-term maturities of cash and cash equivalents, trade and financing receivables and accounts payable, the carrying amounts approximate fair value on the respective balance sheet dates. The valuation technique used to measure the fair value of the contingent consideration and investment in debt security was derived from models utilizing market observable inputs.
The Company measures its contingent consideration and foreign currency forward contracts at fair value on a recurring basis.
The following tables present the fair value of the Company’s contingent consideration and foreign currency forward contract by valuation hierarchy and input (in thousands):
Contingent consideration $ — $ — $ (10,962 ) $ (10,962 )
Contingent consideration $ — $ — $ (9,940 ) $ (9,940 )
Foreign currency forward contract — (4 ) — (4 )
Assets and Liabilities Measured on a Nonrecurring Basis
The measurements utilized to determine the implied fair value of the Company’s long-lived assets as of September 30, 2020 represented significant unobservable inputs (Level 3).
The following table summarizes changes in the fair value of the Company’s Level 3 financial instruments for the fiscal years ended September 30, 2019 and 2020:
Business acquisition 4,342
Fair value adjustments (2,115 )
Fair value adjustments 1,100
Payment of contingent consideration (78 )
F-18
Geospace Technologies Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
Adjustments to the fair value of the contingent consideration are based on Monte Carlo simulations utilizing inputs which include market comparable information and management assessments regarding potential future scenarios. The Company believes its estimates and assumptions are reasonable, however, there is significant judgement involved.
7. Accumulated Other Comprehensive Loss
Accumulated other comprehensive loss consisted of the following (in thousands):
Other comprehensive income (loss) 82 (220 ) (138 )
Other comprehensive loss — (941 ) (941 )
8. Accounts and Financing Receivables
Trade accounts receivable consisted of the following (in thousands):
AS OF SEPTEMBER 30,
Allowance for doubtful accounts (496 ) (951 )
The allowance for doubtful accounts represents the Company’s best estimate of probable credit losses. The Company determines the allowance based upon historical experience and a current review of its accounts receivable balances. Accounts receivable balances are charged off against the allowance whenever it is probable that the receivable balance will not be recoverable.
The following table summarizes changes in the Company’s allowance for doubtful accounts for the fiscal year ended September 30, 2020 (in thousands):
Bad debt expense, net of recoveries 63
Write-offs (518 )
In fiscal year 2020, the Company entered into an agreement with an international seismic marine customer to transition $13.0 million of unpaid invoices and late fees into a senior secured bond having a face value of $13.0 million. The bond was issued to the Company in July 2020. The customer had rented a significant amount of marine nodal equipment from the Company. The Company has experienced cash collection difficulties with this customer throughout fiscal year 2019 and through the third quarter of fiscal year 2020 due to the customer’s inability to generate sufficient cash flows to pay its obligations in a timely manner. During fiscal year 2020, the Company recorded an $8.0 million reversal of an operating lease receivable resulting in an $8.0 million charge to rental revenue to reduce to zero the carrying value of an operating lease receivable owed by the customer. During fiscal year 2020, the Company received cash payments of $8.1 million from this customer. Since the inception of the lease during fiscal year 2018, the Company has received cash payments in excess of $24 million from this customer. See Note 4 – Investment in Debt Security for more information on the Company’s senior secured bond.
F-19
Geospace Technologies Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
Financing receivables are reflected in the following table (in thousands):
AS OF SEPTEMBER 30,
Sales-type lease — 2,692
Total financing receivables 184 3,472
Unearned income:
Sales-type lease — (55 )
Total unearned income — (55 )
Total financing receivables, net of unearned income 184 3,417
Less current portion (184 ) (3,233 )
Non-current financing receivables $ — $ 184
Promissory notes receivable are generally collateralized by the products sold, and bear interest at rates ranging up to 7% per year. The promissory notes receivable (including the unrecognized $10.0 million promissory note receivable disclosed below) mature at various times through January 2023. The Company has, on occasion, extended or renewed notes receivable as they mature, but there is no obligation to do so.
During the second quarter of fiscal year 2020, the Company partially financed a $12.5 million product sale by entering into a $10.0 million secured promissory note with a customer. The note has a three-year term and bears interest at 7% per year. Principal and interest payments of $0.3 million are due monthly until maturity. Due to the financial condition of the customer, the note receivable is not reflected on the Company’s consolidated balance sheet due to collectability concerns. See Note 2 for more information on this matter.
The Company entered into a sales-type lease in September 2017 resulting from the sale of rental equipment. The sales-type lease had a term of three years. At September 30, 2020, the Company had received all payment obligations required under the lease and ownership of equipment was transferred to the lessee.
9. Inventories
Inventories consisted of the following (in thousands):
AS OF SEPTEMBER 30,
Inventory obsolescence expense totaled approximately $4.7 million and $4.6 million during fiscal years 2020 and 2019, respectively. Raw materials include semi-finished goods and component parts that totaled approximately $24.3 million and $25.2 million at September 30, 2020 and 2019, respectively.
F-20
Geospace Technologies Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
10. Leases
As Lessee
The Company has elected not to record operating right-of-use assets or operating lease liabilities on its consolidated balance sheet for leases having a minimum term of 12 months or less. Such leases are expensed on a straight-line basis over the lease term. The Company has one operating right-of use asset related to a leased facility in Austin, Texas. The lease commenced in May 2019 and is for a two-year term. The operating right-of-use asset had a balance of $0.1 million as of September 30, 2020
Future minimum lease payments related to the operating lease as of September 30, 2020 were as follows (in thousands):
For fiscal years ending September 30,
Less interest (1 )
Supplemental cash flow information related to the operating leases is as follows (in thousands):
YEAR ENDED
Cash paid for amounts included in the measurement of lease liability $ 165
Right-of-use asset established upon adoption of ASC 842 219
As Lessor
The Company leases equipment to customers primarily for minimum terms of six months or less. The majority of the Company’s rental revenue is generated from its marine-based wireless seismic data acquisition system.
All of the Company’s leasing arrangements as lessor are classified as operating leases except for one sales-type lease at September 30, 2019. The Company had no sales-type leases at September 30, 2020.
The Company regularly evaluates the collectability of its lease receivables on a lease by lease basis. The evaluation primarily consists of reviewing past due account balances and other factors such as the credit quality of the customer, historical trends of the customer and current economic conditions. The Company suspends revenue recognition when the collectability of amounts due are no longer probable and concurrently records a direct write-off of the lease receivable to rental revenue to limit rental revenue recognized to the cash collections received. As of September 30, 2020, the Company had lease receivables from customers, net of reserves, of $9.3 million.
Rental revenue for fiscal years 2020 and 2019 was $53.7 million and $50.0 million, respectively.
At September 30, 2020, the Company had no future minimum lease obligations due from its leasing customers as all equipment leased was on month-to-month terms.
Rental equipment consisted of the following (in thousands):
AS OF SEPTEMBER 30,
Rental equipment, primarily wireless recording equipment $ 114,783 $ 107,645
Accumulated depreciation and impairment (60,466 ) (45,583 )
Rental equipment depreciation expense was $17.9 million and $13.7 million in fiscal years 2020 and 2019, respectively.
11. Property, Plant and Equipment
The Company owns a property located in Bogotá, Colombia that it is marketing for sale. The property was used for warehousing its rental equipment operations, product sales and service support to its customers in South America. The property’s carrying value at September 30, 2020 was $0.6 million and has been reclassified from property, plant and equipment to property held for sale in the accompanying consolidated balance sheet as of September 30, 2020. The Company believes the fair market value less
F-21
Geospace Technologies Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
costs to sell of the property exceeds its carrying value and that the property will be sold within the next 12-months. The property is unencumbered. The Company continues to operate on a reduced scale in Colombia.
On August 1, 2019, the Company sold its real property located at 7334-7340 Gessner Road, Houston, Texas for a cash price of $8.3 million and realized a gain on disposal of property of $7.0 million. The property was unencumbered.
Property, plant and equipment consisted of the following (in thousands):
AS OF SEPTEMBER 30,
Land and land improvements $ 7,703 $ 7,933
Leasehold improvements 88 85
Transportation equipment 75 75
Accumulated depreciation and impairment (63,107 ) (60,559 )
Property, plant and equipment depreciation expense was $4.0 million for each of the fiscal years ended September 30, 2020 and 2019.
12. Goodwill and Other Intangible Assets
In connection with the acquisition of Quantum in July 2018, the Company recorded goodwill of $4.3 million and other intangible assets of $8.2 million. The operations of Quantum represent the Company’s Emerging Markets reporting unit.
In connection with the November 2018 acquisition of all the intellectual property and related assets of the OptoSeis® fiber optic sensing technology business from PGS Americas, Inc., the Company recorded goodwill of $0.7 million and other intangible assets of $3.7 million. The operations of OptoSeis® are included as a component of the Company’s Oil and Gas Markets reporting unit. Goodwill represents the excess cost of the businesses acquired over the fair market value of identifiable net assets at the dates of acquisition.
At September 30, 2020, the Company assessed the goodwill associated with both its Oil and Gas Markets and Emerging Markets reporting units for impairment. The fair value of the reporting units were estimated using the expected present value of future cash flows and judgements, recent industry multiples and using estimates, judgements and assumptions that management believes were appropriate under the circumstances. The estimates and judgments used in the assessment included multiples for EBITDA, the weighted average cost of capital, and the terminal growth rate. The Company determined the future cash flow and industry multiple analyses provided the best estimate of the fair value of its reporting units. Key assumptions in the impairment analysis include revenue and EBITDA projections, discount rates, long-term growth rates, and the effective tax rate the Company determined to be appropriate. These estimates and projections can be unpredictable, particularly for Quantum as an emerging business. The total Company’s estimate of reporting unit fair values was reconciled to its then market capitalization (based upon the stock market price) plus an estimated control premium.
F-22
Geospace Technologies Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
As a result of the assessment, the Company determined that the fair market value of its Oil and Gas Markets reporting unit was less than its carrying amount and recorded an impairment charge of $0.7 million for the entire goodwill associated with this reporting unit. The primary factors impacting the decrease in fair value of the Oil and Gas Markets reporting unit was the decline in current market conditions, including our share price, and the current outlook for sales and operating performance. No impairment was indicated on the goodwill associated with the Company’s Emerging Markets reporting unit. The Company has no goodwill associated with its Adjacent Markets reporting unit. Also see Note 1 to these consolidated financial statements.
As a result of these acquisitions, the Company’s consolidated goodwill and other intangible assets consisted of the following (in thousands):
Weighted-Average Remaining Useful Lives (in years) AS OF SEPTEMBER 30,
Other intangible assets:
Accumulated amortization (3,587 ) (1,855 )
Other intangible assets amortization expense was $1.7 million in each of fiscal years 2020 and 2019, respectively.
As of September 30, 2020, future estimated amortization expense of other intangible assets is as follows (in thousands):
For fiscal years ending September 30,
13. Long-Term Debt
The Company had no long-term debt outstanding at September 30, 2020 and 2019.
On March 2, 2011, the Company entered into a credit agreement with Frost Bank (the “Original Credit Agreement”). The Original Credit Agreement has been amended periodically since 2011 (as so amended, the “Credit Agreement”). In November 2018, the Company extended the maturity of the Credit Agreement from April 2019 to April 2020. In March 2019, the Company entered into an amendment to the Credit Agreement that altered the unencumbered liquid assets covenant to (i) reduce the minimum threshold from $10 million to $5 million and (ii) include unencumbered assets held outside the United States. The amendment also added another financial covenant that requires the Company to maintain a tangible net worth of not less than $140 million. Additionally, pursuant to the amendment, the Company’s principal place of business and the related real estate, located at 7007 Pinemont Drive, Houston, Texas was added as collateral securing its obligations under the credit agreement. In November 2019, we further amended the credit agreement to (i) extend the maturity date from April 2020 to April 2022, (ii) increase the unencumbered liquid assets covenant threshold from $5 million to $10 million effective in the first quarter of fiscal year 2021, (iii) to increase the tangible net worth requirement from $140 million to $145 million in the first quarter of fiscal year 2021 and (iv) remove the requirement that we obtain the consent of Frost Bank prior to paying dividends or repurchasing stock so long as we are in compliance with the covenants
F-23
Geospace Technologies Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
of the credit agreement. Under the Credit Agreement, the Company can borrow up to $30.0 million with amounts available for borrowing determined by a borrowing base. The borrowing base is determined based upon certain of the Company’s assets which include (i) 80% of certain accounts receivable plus (ii) 50% of certain notes receivable (such result not to exceed $10 million) plus (iii) 25% of certain inventories (such result not to exceed $20million). Subject to the borrowing base calculation, as of September 30, 2020, the amount available for borrowing was $17.7 million. Several of the Company’s domestic subsidiaries have guaranteed the obligations of the Company under the Credit Agreement and such subsidiaries have secured their obligations under such guarantees by the pledge of substantially all of the assets of such subsidiaries. The Company is required to make monthly interest payments on borrowed funds. The Credit Agreement limits the incurrence of additional indebtedness and contains other covenants customary in agreements of this type. The interest rate for borrowings under the Credit Agreement is based on the Wall Street Journal prime rate, which was 3.25% at September 30, 2020. At September 30, 2020, the Company was in compliance with all covenants under the Credit Agreement.
14. Deferred Revenue and Other Liabilities
Deferred revenue and other liabilities consisted of the following (in thousands):
AS OF SEPTEMBER 30,
Legal and professional fees 451 356
Non-current portion $ 4,567 $ 51
The Company is self-insured for certain losses related to employee medical claims. The Company has purchased stop-loss coverage for individual claims in excess of $175,000 per claimant per year in order to limit its exposure to any significant levels of employee medical claims. Self-insured losses are accrued based on the Company’s historical experience and on estimates of aggregate liability for uninsured claims incurred using certain actuarial assumptions followed in the insurance industry.
15. Employee Benefits
The Company’s U.S. employees are participants in the Geospace Technologies Corporation’s Employee’s 401(k) Retirement Plan (the “Plan”), which covers substantially all eligible employees in the United States. The Plan is a qualified salary reduction plan in which all eligible participants may elect to have a percentage of their compensation contributed to the Plan, subject to certain guidelines issued by the Internal Revenue Service. The Company’s share of discretionary matching contributions was approximately $0.8 million and $0.9 million in fiscal years 2020 and 2019, respectively.
The Company’s stock incentive plans in which key employees may participate are discussed in Note 16 to these consolidated financial statements.
16. Stockholders’ Equity
In September 1997, the board of directors and stockholders approved the 1997 Key Employee Stock Option Plan (as amended the “1997 Plan”) and, following amendments thereto, there has been reserved an aggregate of 2,250,000 shares of common stock for issuance thereunder. The 1997 Plan expired in November 2017.
In February 2014, the board of directors and stockholders approved the 2014 Long Term Incentive Plan (the “2014 Plan”), which replaced the 1997 Plan. Under the 2014 Plan, an aggregate of 1,500,000 shares of common stock may be issued. The Company is authorized to issue nonqualified and incentive stock options to purchase common stock, restricted stock awards (“RSAs”) and restricted stock units (“RSUs”) to key employees, directors and consultants under the 2014 Plan. Options have a term not to
F-24
Geospace Technologies Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
exceed ten years, with the exception of incentive stock options granted to employees owning ten percent or more of the outstanding shares of common stock, which have a term not to exceed five years. The exercise price of any option may not be less than the fair market value of the common stock on the date of grant. In the case of incentive stock options granted to an employee owning ten percent or more of the outstanding shares of common stock, the exercise price of such option may not be less than 110%of the fair market value of the common stock on the date of grant. An RSU represents a contingent right to receive one share of the common stock upon vesting. Under the 2014 Plan, the Company may issue RSAs and RSUs to employees for no payment by the employee or for a payment below the fair market value on the date of grant. The RSAs and RSUs are subject to certain restrictions described in the 2014 Plan.
At September 30, 2020, an aggregate of 370,110 shares of common stock were available for issuance under the 2014 Plan. No further awards of stock options may be made under the 1997 Plan.
The following table summarizes the combined activity under the equity incentive plans for the indicated periods:
Exercised — — — — — —
During fiscal years 2020 and 2019 the Company issued zero and 8,000 RSAs, respectively, to certain of its employees under the 2014 Plan, as amended. The weighted average grant date fair value of each RSA issued for fiscal year 2019 was $14.59 per share. The total grant date fair value of all RSAs issued for fiscal year 2019 was $0.1 million, which will be charged to expense over the next four years as the restrictions lapse. Compensation expense for the RSAs was determined based on the closing market price of the Company’s stock on the date of grant applied to the total number of shares that are anticipated to fully vest. Recipients of RSAs are entitled to vote such shares and are entitled to dividends, if paid.
During fiscal years 2020 and 2019, the Company issued 162,250 and 161,800 RSUs to certain of its employees, executive officers and directors under the 2014 Plan, as amended. The RSUs issued include both time-based and performance-based vesting provisions. The weighted average grant date fair value of each RSU issued for fiscal years 2020 and 2019 was $14.58 and $15.11 per unit. The total grant date fair value of all RSUs issued for fiscal years 2020 and 2019 was $2.4 million and $2.4 million, respectively, which will be charged to expense over the next four years as the restrictions lapse. Compensation expense for RSUs was determined based on the closing market price of the Company’s stock on the date of grant applied to the total number of units that are anticipated to fully vest.
All RSAs, RSUs and stock options outstanding at September 30, 2020 and 2019 were issued from the 2014 Plan. All remaining stock options outstanding were issued under the 2014 Plan. All stock options outstanding are nonqualified options.
The total intrinsic value of the Company’s nonqualified stock options exercised during fiscal year 2019 was $0.1 million. No nonqualified stock options were exercised during fiscal year 2020.
The following table summarizes information about stock options outstanding and exercisable at September 30, 2020:
Options Outstanding Options Exercisable
F-25
Geospace Technologies Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)