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  **U.S. SECURITIES AND EXCHANGE COMMISSION****WASHINGTON, D.C. 20549****FORM 10-Q**(Mark One)   þ  **Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934**For the Quarterly Period Ended June 30, 2010****or**   o **Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934****For the Transition Period From                      to                     .****Commission file number 000-25727****IKONICS CORPORATION**(Exact name of registrant as specified in its charter)   Minnesota 41-0730027   (State or other jurisdiction of (I.R.S. employerincorporation or organization) identification no.)   4832 Grand Avenue  Duluth, Minnesota 55807   (Address of principal executive offices) (Zip code)(218) 628-2217Issuer’s telephone numberNot Applicable(Former name, former address and former fiscal year, if changed since last report)     Check whether the issuer (1) filed all reports required to be filed by Section 13 or15(d) of the Securities Exchange Act during the preceding 12 months (or for such shorterperiod that the registrant was required to file such reports), and (2) has been subject tosuch filing requirements for the past 90 days. Yes þ No o     Indicate by check mark whether the registrant has submitted electronically and posted on itscorporate Web site, if any, every Interactive Data File required to be submitted and postedpursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months(or for such shorter period that the registrant was required to submit and post such files.)     Yes o No o     Indicate by check mark whether the registrant is a shell company (as defined in Rule12b-2 of the Exchange Act).     Yes o No þ     Indicate by check mark whether the registrant is a large accelerated filer, an acceleratedfiler, a non-accelerated filer, or a smaller reporting company. See the definitions of “largeaccelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of theExchange Act.       Large accelerated filer o Accelerated filer o Non-accelerated filer o Smaller reporting company þ    (Do not check if a smaller reporting company)       State the number of shares outstanding of each of the issuer’s classes of commonequity, as of the latest practical date: Common Stock, $.10 par value — 1,974,807 sharesoutstanding as of August 10, 2010.  
 

 
**IKONICS Corporation**QUARTERLY REPORT ON FORM 10-Q           PAGE NO.PART I. FINANCIAL INFORMATION           Item 1. Financial Statements:             Condensed Balance Sheets as of June 30, 2010 (unaudited)and December 31, 2009  3          Condensed Statements of Operations for the Three Months andSix Months Ended June 30, 2010 and 2009 (unaudited)  4          Condensed Statements of Cash Flows for the Six Months EndedJune 30, 2010 and 2009 (unaudited)  5          Notes to Condensed Financial Statements (unaudited)  6        Item 2. Management’s Discussion and Analysis of Financial Condition andResults of Operations  12        Item 3. Quantitative and Qualitative Disclosures about Market Risk  19        Item 4. Controls and Procedures  19        PART II. OTHER INFORMATION  20          SIGNATURES  21  EX-31.1 EX-31.2 EX-32
 

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PART I — FINANCIAL INFORMATION**ITEM 1. Condensed Financial Statements****IKONICS CORPORATION****CONDENSED BALANCE SHEETS**           **June 30**  **December 31**   **2010**  **2009**   **(unaudited)**     **ASSETS**         CURRENT ASSETS:        Cash $1,068,180  $1,304,586 Short-term investments  1,609,577   802,165 Trade receivables, less allowance of $68,000 in 2010 and$78,000 in 2009  2,055,642   2,015,798 Inventories  2,021,242   2,070,602 Deposits, prepaid expenses and other assets  223,135   61,337 Deferred income taxes  163,000   163,000        Total current assets  7,140,776   6,417,488                 PROPERTY, PLANT, AND EQUIPMENT, at cost:        Land and building  5,888,445   5,883,794 Machinery and equipment  2,493,250   2,456,218 Office equipment  748,811   741,895 Vehicles  234,650   241,006           9,365,156   9,322,913 Less accumulated depreciation  4,220,178   4,088,669           5,144,978   5,234,244         INTANGIBLE ASSETS, less accumulated amortization of $353,202 in2010 and $325,576 in 2009  310,656   345,540                   $12,596,410  $11,997,272        **LIABILITIES AND STOCKHOLDERS’ EQUITY**         CURRENT LIABILITIES:        Accounts payable $347,778  $286,610 Accrued compensation  330,466   337,365 Other accrued expenses  89,056   104,408 Income taxes payable  100,376   80,803        Total current liabilities  867,676   809,186         DEFERRED INCOME TAXES  162,000   162,000                 Total liabilities  1,029,676   971,186                 STOCKHOLDERS’ EQUITY:        Preferred stock, par value $.10 per share; authorized 250,000 shares; issued none        Common stock, par value $.10 per share; authorized 4,750,000 shares;issued and outstanding 1,974,807 shares in 2010 and 1,967,057 in 2009  197,481   196,706 Additional paid-in capital  2,246,549   2,198,289 Retained earnings  9,122,704   8,631,091        Total stockholders’ equity  11,566,734   11,026,086          $12,596,410  $11,997,272        See notes to condensed financial statements.
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**IKONICS CORPORATION****CONDENSED STATEMENTS OF OPERATIONS (Unaudited)**                   **Three Months**  **Six Months**   **Ended June 30**  **Ended June 30**   **2010**  **2009**  **2010**  **2009** NET SALES $4,248,055  $3,786,501  $7,932,632  $7,349,713                  COST OF GOODS SOLD  2,418,296   2,329,999   4,619,078   4,487,897                               GROSS PROFIT  1,829,759   1,456,502   3,313,554   2,861,816                  SELLING, GENERAL ANDADMINISTRATIVE EXPENSES  1,122,475   1,095,839   2,322,864   2,317,420                  RESEARCH AND DEVELOPMENTEXPENSES  204,498   155,993   365,202   323,276                               INCOME FROM OPERATIONS  502,786   204,670   625,488   221,120                  GAIN ON SALE OF NON-MARKETABLEEQUITY SECURITIES  —   9,631   —   29,762                  INTEREST INCOME  3,886   2,050   7,405   2,120                               INCOME BEFORE INCOME TAXES  506,672   216,351   632,893   253,002                  INCOME TAX EXPENSE  163,400   69,603   141,280   53,119                               NET INCOME $343,272  $146,748  $491,613  $199,883                               EARNINGS PER COMMON SHARE:                Basic $0.17  $0.07  $0.25  $0.10                               Diluted $0.17  $0.07  $0.25  $0.10                               WEIGHTED AVERAGE COMMON SHARESOUTSTANDING :                Basic  1,972,447   1,971,938   1,969,767   1,980,532                               Diluted  1,974,158   1,973,514   1,970,587   1,981,677              See notes to condensed financial statements.
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**IKONICS CORPORATION****CONDENSED STATEMENTS OF CASH FLOWS (Unaudited)**           **Six Months**   **Ended June 30**   **2010**  **2009** CASH FLOWS FROM OPERATING ACTIVITIES:        Net income $491,613  $199,883 Adjustments to reconcile net income to net cash provided byoperating activities:        Depreciation  202,478   214,318 Amortization  27,626   27,625 Stock based compensation  14,487   10,396 (Gain) loss on sale of equipment and vehicles  (10,766)  13,582 Loss on intangible asset abandonment  29,918   12,700 Gain on sale of non-marketable equity securities  —   (29,762)Deferred income taxes  —   35,000 Changes in working capital components:        Trade receivables  (39,844)  22,128 Inventory  49,360   90,678 Deposits, prepaid expenses and other assets  (161,798)  92,843 Income tax refund receivable  —   148,623 Accounts payable  61,168   (31,551)Accrued expenses  (22,251)  (73,030)Income taxes payable  20,131   —        Net cash provided by operating activities  662,122   733,433                 CASH FLOWS FROM INVESTING ACTIVITIES:        Purchases of property, plant and equipment  (121,646)  (72,934)Proceeds from sale of equipment and vehicles  19,200   18,000 Purchases of intangibles  (22,660)  (4,132)Purchases of short-term investments  (1,207,412)  (600,000)Proceeds on sale of short-term investments  400,000   — Proceeds from sale of non-marketable equity securities  —   29,762        Net cash used in investing activities  (932,518)  (629,304)                CASH FLOWS FROM FINANCING ACTIVITIES:        Repurchase of common stock  —   (123,844)Proceeds from exercise of stock options  33,990   —        Net cash provided by (used in) financing activities  33,990   (123,844)                NET DECREASE IN CASH  (236,406)  (19,715)         CASH AT BEGINNING OF PERIOD  1,304,586   901,738                 CASH AT END OF PERIOD $1,068,180  $882,023                 SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION        Cash paid for income taxes, net of refunds received of $81,422 and$116,307, respectively $156,149  $(106,514)       See notes to condensed financial statements.
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**IKONICS CORPORATION****NOTES TO CONDENSED FINANCIAL STATEMENTS**(Unaudited)1. Basis of Presentation  The balance sheet of IKONICS Corporation (the “Company”) as of June 30, 2010, and therelated statements of operations for the three and six months ended June 30, 2010 and 2009,and cash flows for the six months ended June 30, 2010 and 2009, have been prepared withoutbeing audited.  In the opinion of management, these statements reflect all adjustments (consisting of onlynormal recurring adjustments) necessary to present fairly the financial position of IKONICSCorporation as of June 30, 2010, and the results of operations and cash flows for allperiods presented.  Certain information and footnote disclosures normally included in financial statementsprepared in accordance with accounting principles generally accepted in the United States ofAmerica, have been condensed or omitted. Therefore, these statements should be read inconjunction with the financial statements and notes thereto included in the Company’s AnnualReport on Form 10-K for the year ended December 31, 2009.  The results of operations for interim periods are not necessarily indicative of results thatwill be realized for the full fiscal year.2. Short Term Investments  The Company’s $1,610,000 of short-term investment is comprised of fully insured certificatesof deposit with maturities ranging from six to twelve months and interest rates ranging from1.2% to 2.0%.3. Inventory   The major components of inventory are as follows:           June 30, 2010  Dec 31, 2009 Raw materials $1,304,106  $1,333,549 Work-in-progress  253,769   277,876 Finished goods  1,371,079   1,351,736 Reduction to LIFO cost  (907,712)  (892,559)        Total Inventory $2,021,242  $2,070,602        
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**IKONICS CORPORATION****NOTES TO CONDENSED FINANCIAL STATEMENTS**(Unaudited)4. Earnings Per Common Share (EPS)  Basic EPS is calculated using net income divided by the weighted average of common sharesoutstanding. Diluted EPS is similar to Basic EPS except that the weighted average number ofcommon shares outstanding is increased to include the number of additional common sharesthat would have been outstanding if the potential dilutive common shares, such as those shares subject to options, had been issued.  Shares used in the calculation of diluted EPS are summarized below:           Three Months Ended   June 30, 2010  June 30, 2009 Weighted average common shares outstanding  1,972,447   1,971,938 Dilutive effect of stock options  1,711   1,576        Weighted average common and common equivalent shares outstanding  1,974,158   1,973,514                   Six Months Ended   June 30, 2010  June 30, 2009 Weighted average common shares outstanding  1,969,767   1,980,532 Dilutive effect of stock options  820   1,145        Weighted average common and common equivalent shares outstanding  1,970,587   1,981,677        5. Stock-based Compensation  The Company maintains a stock incentive plan which authorizes the issuance of up to 442,750shares of common stock. Of those shares, 41,750 were subject to outstanding options and125,073 were reserved for future grants at June 30, 2010. The plan provides for grantingeligible participants stock options or other stock awards, as described by the plan, atoption prices ranging from 85% to 110% of fair market value at the date of grant. Optionsgranted expire up to seven years after the date of grant. Such options generally becomeexercisable over a one to three year period.  The Company charged compensation cost of $7,600 against income for the three months endedJune 30, 2010 compared to $6,600 for the three months ended June 30, 2009. For the firstsix months of 2010, the Company charged compensation cost of approximately $14,500 againstincome compared to approximately $10,400 for the same period in 2009. As of June 30, 2010there was approximately $51,700 of unrecognized compensation cost related to unvestedshare-based compensation awards granted. That cost is expected to be recognized over thenext three years.  The Company receives a tax deduction for certain stock option exercises during the period inwhich the options are exercised, generally for the excess of the market price at the timethe stock options are exercised over the exercise price of the options, which increased theAPIC pool, which is the amount that represents the pool of excess tax benefits available toabsorb tax shortages. There were no excess tax benefits recognized during the three or sixmonth period ending June 30, 2010 and 2009, respectively. The Company’s APIC pool totaledapproximately $111,000 at June 30, 2010 and December 31, 2009, respectively.
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**IKONICS CORPORATION****NOTES TO CONDENSED FINANCIAL STATEMENTS**(Unaudited)  Proceeds from the exercise of stock options were $34,000 six months ended June 30, 2010.There were no options exercised during the six months ended June 30, 2009.  The fair value of options granted during the six months ended June 30, 2010 and 2009 wereestimated using the Black-Scholes option pricing model with the following assumptions:           2010  2009 Dividend yield  0%  0%Expected volatility  45.2%  47.2%Expected life of option Five Years  Five Years Risk-free interest rate  2.5%  2.0%Fair value of each option on grant date $3.08  $2.10   There were 4,000 options and 21,750 options granted during the six months ended June 30,2010 and 2009, respectively.  Stock option activity during the six months ended June 30, 2010 was as follows:               Weighted       Average       Exercise   Shares  Price Outstanding at beginning of period  45,500  $5.91 Granted  4,000   7.39 Exercised  (7,750)  4.39 Expired and forfeited  —             Outstanding at June 30, 2010  41,750   6.34         Exercisable at June 30, 2010  18,583   6.90           The aggregate intrinsic value of all options outstanding and for those exercisable at June30, 2010 was $36,000 and $11,000, respectively.
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**IKONICS CORPORATION****NOTES TO CONDENSED FINANCIAL STATEMENTS**(Unaudited)6. Segment Information  The Company’s reportable segments are strategic business units that offer different productsand have varied customer bases. There are three reportable segments: Domestic, Export,and IKONICS Imaging. Domestic sells screen printing film, emulsions, and inkjet receptive film to distributorslocated in the United States and Canada. IKONICS Imaging sells photo resistant film, artsupplies, glass, metal medium and related abrasive etching equipment to end user customerslocated in the United States and Canada. It is also entering the market for etchedceramics, glass and silicon wafers, and is developing and selling proprietary inkjettechnology. Export sells primarily the same products as Domestic and IKONICS Imaging toforeign customers. The accounting policies applied to determine the segment information arethe same as those described in the summary of significant accounting policies included inthe Company’s Annual Report on Form 10-K for the year ended December 31, 2009.  Management evaluates the performance of each segment based on the components of divisionalincome, and with the exception of trade receivables, does not allocate assets andliabilities to segments. Financial information with respect to the reportable segmentsfollows:  **For the three months ended June 30, 2010:**                               **IKONICS**         **Domestic**  **Export**  **Imaging**  **Other**  **Total** Net sales $1,791,392  $1,472,989  $983,674  $—  $4,248,055 Cost of goods sold  903,151   1,004,707   510,438   —   2,418,296                 Gross profit  888,241   468,282   473,236   —   1,829,759 Selling, general andadministrative*  255,752   166,995   283,406   416,322   1,122,475 Research anddevelopment*  —   —   —   204,498   204,498                  Income from operations $632,489  $301,287  $189,830  $(620,820) $502,786                   **For the three months ended June 30, 2009:**                               **IKONICS**         **Domestic**  **Export**  **Imaging**  **Other**  **Total** Net sales $1,705,462  $1,169,869  $911,170  $—  $3,786,501 Cost of goods sold  912,497   928,447   489,055   —   2,329,999                 Gross profit  792,965   241,422   422,115   —   1,456,502 Selling, general andadministrative*  233,341   116,309   292,619   453,570   1,095,839 Research anddevelopment*  —   —   —   155,993   155,993                  Income from operations $559,624  $125,113  $129,496  $(609,563) $204,670                 
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**IKONICS CORPORATION****NOTES TO CONDENSED FINANCIAL STATEMENTS**(Unaudited)  **For the six months ended June 30, 2010:**                               **IKONICS**         **Domestic**  **Export**  **Imaging**  **Other**  **Total** Net sales $3,291,563  $2,629,779  $2,011,290  $—  $7,932,632 Cost of goods sold  1,701,356   1,805,715   1,112,007   —   4,619,078                 Gross profit  1,590,207   824,064   899,283   —   3,313,554 Selling, general andadministrative*  486,607   325,654   568,067   942,536   2,322,864 Research anddevelopment*  —   —   —   365,202   365,202                  Income from operations $1,103,600  $498,410  $331,216  $(1,307,738) $625,488                   **For the six months ended June 30, 2009:**                               **IKONICS**         **Domestic**  **Export**  **Imaging**  **Other**  **Total** Net sales $3,353,332  $2,123,473  $1,872,908  $—  $7,349,713 Cost of goods sold  1,796,024   1,643,136   1,048,737   —   4,487,897                 Gross profit  1,557,308   480,337   824,171   —   2,861,816 Selling, general andadministrative*  505,528   255,622   584,527   971,743   2,317,420 Research anddevelopment*  —   —   —   323,276   323,276                  Income from operations $1,051,780  $224,715  $239,644  $(1,295,019) $221,120                  * The Company does not allocate all general and administrative expenses or any research anddevelopment expenses to its operating segments for internal reporting.  Trade receivables by segment as of June 30, 2010 and December 31, 2009 were as follows:           June 30, 2010  Dec 31, 2009 Domestic $888,062  $976,967 Export  871,946   740,547 IKONICS Imaging  339,886   331,117 Other, net of allowances  (44,252)  (32,833)        Total $2,055,642  $2,015,798        7. Sale of Non-Marketable Equity Securities  The Company received and realized a gain of $29,762 during the first six months of 2009related to the 2007 sale of its equity investment in Apprise Technologies, Inc.8. Income Taxes   The Company reports a liability for unrecognized tax benefit taken or expected to be takenwhen they are uncertain. During the first six months of 2010 and 2009, the statute oflimitations for the relevant taxing authority to examine and challenge the tax position foran open year expired, resulting in decreases in
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**IKONICS CORPORATION****NOTES TO CONDENSED FINANCIAL STATEMENTS**(Unaudited)  income tax expense of $27,000 for the first six months of 2010 and $21,000 for the first sixmonths of 2009. As of June 30, 2010, there was no liability for unrecognized tax benefitscompared to a liability of $27,000 as of June 30, 2009. The liability for unrecognized taxbenefits was previously included in other accrued expenses.  The Company is subject to taxation in the United States and various states. The materialjurisdictions that are subject to examination by tax authorities primarily include Minnesotaand the United States, for tax years 2006, 2007, 2008, and 2009.  It has been the Company’s policy to recognize interest and penalties related to uncertaintax positions in income tax expense. The Company had accrued approximately $8,000 ofinterest related to uncertain tax positions at December 31, 2009, all of which was reversedand included in income tax benefit on the Statement of Operations for the first six monthsof 2010. The unrecognized tax benefits at June 30, 2009 related to taxation of foreignexport sales.
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IKONICS CORPORATION     *The information presented below in Management’s Discussion and Analysis of Financial Conditionand Results of Operations contains forward-looking statements within the meaning of the safe harborprovisions of Section 21E of the Securities Exchange Act of 1934, as amended. Such statements aresubject to risks and uncertainties, including those discussed under “Factors that May Affect FutureResults” below, that could cause actual results to differ materially from those projected. Becauseactual results may differ, readers are cautioned not to place undue reliance on theseforward-looking statements. Certain forward-looking statements are indicated by italics.***ITEM 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations**     The following management’s discussion and analysis focuses on those factors that had amaterial effect on the Company’s financial results of operations during the second quarter of 2010,the six months ended June 30, 2010 and the same periods of 2009. It should be read in connectionwith the Company’s unaudited financial statements and notes thereto included in this Form 10-Q andthe Company’s audited financial statements, including related notes, and Management’s Discussionand Analysis of Financials Condition and Results of Operations contained in the Company’s 2009Annual Report on Form 10-K.**Factors that May Affect Future Results** **•** *The Company’s expectation that its effective tax rate will return to 35% to 36% ofpretax income for the remainder of 2010 compared to the tax expense recorded in thefirst six months of 2010*—The effective tax rate for the final six months of 2010 may beaffected by changes in federal and state tax law, unanticipated changes in theCompany’s financial position or the Company’s operating activities and/or managementdecisions could increase or decrease its effective tax rate.  **•** *The Company’s belief that the quality of its receivables is high and that stronginternal controls are in place to maintain proper collections*—This belief may beimpacted by domestic economic conditions, by economic, political, regulatory or socialconditions in foreign markets, or by the failure of the Company to properly implementor maintain internal controls.  **•** *The Company’s expectation that it will obtain a new line of credit similar to itscurrent line of credit when the current line of credit expires—*This expectation may beimpacted by factors such as changes in credit markets, the interest rate environment,general economic conditions, the Company’s financial results and condition, and theCompany’s anticipated need for capital to fund business operations and capitalexpenditures.  **•** *The belief that the Company’s current financial resources, cash generated fromoperations and the Company’s capacity for debt and/or equity financing will besufficient to fund current and anticipated business operations and capitalexpenditures. The belief that the Company’s low debt levels and available line ofcredit make it unlikely that a decrease in product demand would impair the Company’sability to fund operations*—Changes in anticipated operating results, creditavailability, equity market conditions or the Company’s debt levels may further enhanceor inhibit the Company’s ability to maintain or raise appropriate levels of cash.  **•** *The Company’s expectations as to the level and use of planned capital expendituresand that capital expenditures will be funded with cash on hand and cash generated fromoperating activities*—This expectation may be affected by changes in the Company’santicipated capital expenditure requirements resulting from unforeseen requiredmaintenance, repairs, or capital asset additions. The funding of planned or unforeseenexpenditures may also be affected by changes in anticipated operating results resultingfrom decreased sales, lack of acceptance of new products or increased operatingexpenses or by other unexpected events affecting the Company’s financial position.
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 **•** *The Company’s belief that its vulnerability to foreign currency fluctuations andgeneral economic conditions in foreign countries is not significant*—This belief may beimpacted by economic, political and social conditions in foreign markets, changes inregulatory and competitive conditions, a change in the amount or geographic focus ofthe Company’s international sales, or changes in purchase or sales terms.  **•** *The Company’s plans to continue to invest in research and development efforts,expedite internal product development and invest in technological alliances, as well asthe expected focus and results of such investments*—These plans and expectations may beimpacted by general market conditions, unanticipated changes in expenses or sales,delays in the development of new products, technological advances, the ability to findsuitable and willing technology partners or other changes in competitive or marketconditions.  **•** *The Company’s efforts to grow its international business*—These efforts may beimpacted by economic, political and social conditions in current and anticipatedforeign markets, regulatory conditions in such markets, unanticipated changes inexpenses or sales, changes in competitive conditions or other barriers to entry orexpansion.  **•** *The Company’s belief as to future activities that may be undertaken to expand theCompany’s business*—Actual activities undertaken may be impacted by general marketconditions, competitive conditions in the Company’s industry, unanticipated changes inthe Company’s financial position, lack of acceptance of new products or the inabilityto identify attractive acquisition targets or other business opportunities.**Critical Accounting Estimates**     The Company prepares its financial statements in conformity with accounting principlesgenerally accepted in the United States of America. Therefore, the Company is required to makecertain estimates, judgments and assumptions that the Company believes are reasonable based uponthe information available. These estimates and assumptions affect the reported amounts of assetsand liabilities at the date of the financial statements and the reported amounts of revenues andexpenses during the periods presented. The accounting estimates, which IKONICS believes are themost critical to aid in fully understanding and evaluating its reported financial results, includethe following:     *Accounts Receivable.*The Company performs ongoing credit evaluations of its customers andadjusts credit limits based upon payment history and the customer’s current credit worthiness, asdetermined by review of the current credit information. The Company continuously monitorscollections and payments from its customers and maintains a provision for estimated credit lossesbased upon historical experience and any specific customer collection issues that have beenidentified. While such credit losses have historically been within expectations and the provisionsestablished, the Company cannot guarantee that it will continue to experience the same collectionhistory that has occurred in the past. The general payment terms are net 30-45 days for domesticcustomers and net 30-90 days for foreign customers. A small percentage of the accounts receivablebalance is denominated in a foreign currency with no concentration in any given country. At theend of each reporting period, the Company analyzes the receivable balance for customers paying in aforeign currency. These balances are adjusted to each quarter or year spot rate in accordance withguidance related to foreign currency matters.     *Inventories.*Inventories are valued at the lower of cost or market value using the last in,first out (LIFO) method. The Company monitors its inventory for obsolescence and recordsreductions in cost when required.     *Income Taxes.*At June 30, 2010, the Company had net current deferred tax assets of $163,000and net noncurrent deferred tax liabilities of $162,000. The deferred tax assets and liabilitiesresult primarily from temporary differences in property and equipment, accrued expenses, andinventory reserves. In connection with the recording of a $919,000 impairment charge in 2009related to an investment in a non-marketable equity security, theCompany has recorded a deferred tax asset and corresponding full valuation allowance in the amountof $331,000
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as of June 30, 2010 and December 31, 2009 as it is more likely that this asset will notbe realized. The deferred tax asset related to the capital loss can be carried back three yearsand carried forward five years and must be offset by a capital gain. The Company has determinedthat is more likely than not that the remaining deferred tax assets will be realized and that anadditional valuation allowance for such assets is not currently required. The Company reports aliability for unrecognized tax benefits taken or expected to be taken when they are uncertain. AtDecember 31, 2009 the Company had recorded a liability of $27,000 related to an uncertain taxposition which was eliminated during the six months ended June 30, 2010.     *Revenue Recognition.*The Company recognizes revenue on sales of products when title passeswhich can occur at the time of shipment or when the goods arrive at the customer location dependingon the agreement with the customer. The Company sells its products to both distributors andend-users. Sales to distributors and end-users are recorded based upon the criteria governed bythe sales, delivery, and payment terms stated on the invoices from the Company to the purchaser.In addition to transfer of title / risk of loss, all revenue is recorded in accordance with thecriteria outlined within the provisions regarding revenue recognition including: (a) persuasive evidence of an arrangement (principally in the formof customer sales orders and the Company’s sales invoices)  (b) delivery and performance (evidenced by proof of delivery, e.g.the shipment of film and substrates with bill of lading used for proof ofdelivery for FOB shipping point terms, and the carrier booking confirmationreport used for FOB destination terms). Once the finished product is shippedand physically delivered under the terms of the invoice and sales order, theCompany has no additional performance or service obligations to complete  (c) a fixed and determinable sales price (the Company’s pricing isestablished and is not based on variable terms, as evidenced in either theCompany’s invoices or the limited number of distribution agreements; theCompany rarely grants extended payment terms and has no history of concessions)  (d) a reasonable likelihood of payment (the Company’s terms arestandard, and the Company does not have a substantial history of customerdefaults or non-payment)Sales are reported on a net basis by deducting credits, estimated normal returns and discounts.The Company’s return policy does not vary by geography. The Company is not under a warrantyobligation and the customer has no rotation or price protection rights. Freight billed tocustomers is included in sales. Shipping costs are included in cost of goods sold.**Results of Operations*****Quarter Ended June 30, 2010 Compared to Quarter Ended June 30, 2009***     *Sales.*The Company realized a 12.2% sales increase during the second quarter of 2010 withsales of $4.2 million, compared to $3.8 million in sales during the same period in 2009. Exportsales for the second quarter of 2010 were up 25.9% versus the second quarter of 2009 due to strongsales to Europe and Latin America. IKONICS Imaging 2010 second quarter sales also increased by8.0% over the same period in 2009 as the Company realized higher film sales related to both itsDigital Texturing initiative and traditional photo resistant film customers. Domestic sales grew5.0% in second quarter of 2010 as both film and emulsion shipments were higher during the period.     *Gross Profit*. Gross profit was $1.8 million, or 43.1% of sales, in the second quarter of 2010compared to $1.5 million, or 38.5% of sales, for the same period in 2009. Export gross profitpercentage increased to 31.8% during the second quarter of 2010 compared to 20.6% in the secondquarter of 2009 due to increased volume and an improved sales mix. A more favorable sales mix alsoimproved IKONICS Imaging gross profit percentage from
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46.3% in the second quarter of 2009 to 48.1% in the second quarter of 2010. The DomesticChromaline 2010 second quarter gross profit percentage was 49.6% compared to 46.5% for the sameperiod in 2009.     *Selling, General and Administrative Expenses*. Selling, general and administrative expenseswere $1.2 million, or 26.4% of sales, in the second quarter of 2010, and $1.1 million, or 28.9% ofsales, for the same period in 2009. The increase reflects higher sales personnel and travelexpenses.     *Research and Development Expenses*. Research and development expenses during the secondquarter of 2010 were $204,000, or 4.8% of sales, versus $156,000, or 4.1% of sales, for the sameperiod in 2009. The increase is related to a $30,000 abandonment of patent applications. TheCompany records patent application costs as an asset and amortizes those costs upon successfulcompletion of the application process or expenses those costs when an application is abandoned.     *Gain on Sale of Non-Marketable Equity Securities.*The Company realized a gain of $9,600 inthe second quarter of 2009 on the sale of its investment in the common and preferred stock ofApprise Technologies, Inc. The original sale took place during 2007. The $9,600 was related to aportion of the original sales price that was placed in escrow at the time of the sale forindemnification obligations as part of the agreement between Apprise and its purchaser. TheCompany did not have any sales of non-marketable equity securities in the second quarter of 2010.     *Interest Income.*The Company earned $3,900 of interest income in the second quarter of 2010compared to $2,000 of interest income in the second quarter of 2009. The interest earned in secondquarter of 2010 and 2009 is related to interest received from the Company’s short-term investments,which consisted of fully insured certificates of deposit with maturities ranging from six to twelvemonths.     *Income Taxes.*For the second quarter of 2010, the Company realized income tax expense of$163,000, or an effective rate of 32.3% versus $70,000, or an effective rate of 32.2% for thesecond quarter of 2009. The income tax provision differs from the expected tax expense primarilydue to the benefits of the domestic manufacturing deduction, and state credits for research anddevelopment.***Six Months Ended June 30, 2010 Compared to the Six Months Ended June 30, 2009***     *Sales.*The Company’s sales increased 7.9% during the first six months of 2010 to $7.9 millionversus sales of $7.3 million during the first six months of 2009. Strong sales in Europe and LatinAmerica drove a 23.8% Export sales increase for the first six months. IKONICS Imaging alsorealized a 7.4% sales increase over 2009 from improved film shipments to the digital texturing andthe photo resistant film markets. Partially offsetting these sales increases, Domestic Chromalineshipments decreased 1.8% during the first six months of 2010 over the same period in 2009 due tolower private label film shipments.     *Gross Profit*. Gross Profit for the first six months of 2010 was $3.3 million, or 41.8% ofsales compared to $2.9 million, or 38.9% of sales, for the same period in 2009. Export grossprofit percentage increased to 31.3% during the first six months of 2010 compared to 22.6% in halfof 2009 due to higher volumes and an improved sales mix. Improved volumes and sales mix alsoaccounted for IKONICS Imaging gross profit percentage increase from 44.0% in 2009 to 44.7% in 2010.Manufacturing cost reductions resulted in improved Domestic Chromaline gross profit percentages asDomestic’s margin improved from 46.4% in 2009 to 48.3% in 2010.     *Selling, General and Administrative Expenses*. Selling, general and administrative expenseswere $2.3 million, or 29.3% of sales, in the first half of 2010 compared to $2.3 million, or 31.5%of sales, for the same period in 2009, as higher sales personnel and travel expenses were partiallyoffset by lower bad debt expense.     *Research and Development Expenses*. Research and development expenses during the first half of2010 were $365,000, or 4.6% of sales, versus $323,000, or 4.4% of sales, for the same period in2009. The increase is related to the $30,000 abandonment of patent applications. The Companyrecords patent application costs as an asset and amortizes those costs upon successful completionof the application process or expenses those costs when an application is abandoned.
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     *Gain on Sale of Non-Marketable Equity Securities.*The Company realized a gain of $29,800during the first six months of 2009 on the sale of its investment in the common and preferred stockof Apprise Technologies, Inc. The original sale took place during 2007. The final $29,800received in the first six months of 2009 was related to a portion of the original sales price thatwas placed in escrow at the time of the sale for indemnification obligations as part of theagreement between Apprise and its purchaser.     *Interest Income.*The Company earned $7,400 of interest income during the first half of 2010compared to $2,100 of interest income for the same period in 2009. The interest earned in firstsix months of 2010 and 2009 is related to interest received from the Company’s short-terminvestments, which consisted of fully insured certificates of deposit with maturities ranging fromsix to twelve months.     *Income Taxes*. During the first six months of 2010, the Company realized an income tax expenseof $141,000, or an effective rate of 22.3%, compared to income tax expense of $53,000, or aneffective rate of 21.0%, for the same period in 2009. The effective tax rate for the first sixmonths of 2010 and 2009 was impacted by derecognizing a liability for unrecognized tax benefitsrelating to a tax year where the statute of limitations expired during the first six months. A$27,000 liability was derecognized in the first half of 2010 while a $21,000 liability wasderecognized in the first half of 2009. During the first half of 2010, the Company also recordedan out-of-period tax benefit adjustment of $15,000 relating to December 31, 2009 estimates for taxcredits as well as the receipt of interest of approximately $13,000 related to Minnesota stateincome tax returns. The Company expects that for the remainder of 2010, the Company will recordthe provision for income taxes at an effective tax rate of 35% to 36%, as it recognizes benefitsfrom the domestic manufacturing deduction, research and development credits, and state incometaxes.**Liquidity and Capital Resources**     The Company has financed its operations principally with funds generated from operations.These funds have been sufficient to cover the Company’s normal operating expenditures, annualcapital requirements, and research and development expenditures.     Cash on hand was $1,068,000 and $882,000 at June 30, 2010 and 2009, respectively. The Companygenerated $662,000 in cash from operating activities during the six months ended June 30, 2010,compared to generating $733,000 of cash from operating activities during the same period in 2009.Cash provided by operating activities is primarily the result of net income adjusted for non-cashdepreciation, amortization, gain on sale of nonmarketable equity securities, deferred taxes, andcertain changes in working capital components discussed in the following paragraph.     During the first six months of 2010, trade receivables increased by $40,000. The increase inreceivables was driven by higher sales volumes. The Company believes that the quality of itsreceivables is high and that strong internal controls are in place to maintain proper collections.Inventory levels decreased $49,000 due to lower raw material levels. Deposits, prepaid expensesand other assets increased $162,000 as a result of the Company prepaying for printers as part ofits digital texturing initiative. Accounts payable increased $61,000 due to of the timing ofpayments to and purchases from vendors. Accrued liabilities decreased $22,000, reflecting thereversal of a liability for unrecognized tax benefits relating to a tax year where the statute oflimitations expired during the first six months.     During the first half of 2010, investing activities used $933,000. The Company invested$1,207,000 in fully insured certificates of deposits with two $200,000 certificates of depositmaturing during the first six months of 2010. Purchases of property and equipment were $122,000,mainly for three vehicles and equipment purchases. The Company received $19,000 from vehiclesales. Also during the first six months of 2010, the Company incurred $23,000 in patentapplication costs that the Company records as an asset and amortizes upon successful completion ofthe application process.
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     During the first six months of 2009, investing activities used $629,000. The Company invested$600,000 in fully insured certificates on deposits. Purchases of property and equipment were$73,000, mainly for new equipment to support the Company’s new business initiatives and researchactivities. Also during the first six months of 2009, the Company incurred $4,000 in patentapplication costs that the Company records as an asset and amortizes upon successful completion ofthe application process. The Company received proceeds of approximately $30,000 in the first sixmonths of 2009 on the 2007 sale of its investment in the common and preferred stock of AppriseTechnologies, Inc.     During the first six months of 2010 the Company received $34,000 from financing activitiesfrom the issuance of 7,750 shares of common stock upon the exercise of stock options. The Companyused $124,000 in financing activities during the first six months of 2009 to repurchase 26,926shares of its own stock.     A bank line of credit provides for borrowings of up to $1,250,000. The line of credit termruns from October 31, 2009 to October 30, 2010. The Company expects to obtain a similar line ofcredit when the current line of credit expires. Borrowings under this line of credit arecollateralized by accounts receivable and inventories and bear interest at 2.5 percentage pointsover the 30-day LIBOR rate. The Company did not utilize this line of credit during the first sixmonths of 2010 and there were no borrowings outstanding as of June 30, 2010. The line of creditwas also not utilized during first six months of 2009, and there were no borrowings outstandingunder this line as of June 30, 2009.     The Company believes that current financial resources, its line of credit, cash generated fromoperations and the Company’s capacity for debt and/or equity financing will be sufficient to fundcurrent and anticipated business operations. The Company also believes that its low debt levelsand available line of credit make it unlikely that a decrease in demand for the Company’s productswould impair the Company’s ability to fund operations.**Capital Expenditures**     Through the first six months of 2010, the Company had $122,000 in capital expenditures.Capital expenditures during the first six months were mainly for three vehicles for sales personsand equipment. The Company plans for other capital expenditures during 2010 to include ongoingmanufacturing equipment upgrades. Capital expenditures are expected to be approximately $100,000for the second half of 2010 and will be funded with cash generated from operating activities.**International Activity**     The Company markets its products to numerous countries in North America, Europe, LatinAmerica, Asia and other parts of the world. Foreign sales were approximately 33% of total salesduring the first six months of 2010 compared to 29% of sales during the same period in 2009.Higher volumes in Europe and Latin American positively impacted 2010 first half sales volumes.Fluctuations of certain foreign currencies have not significantly impacted the Company’s operationsbecause the Company’s foreign sales are not concentrated in any one region of the world. TheCompany believes its vulnerability to uncertainties due to foreign currency fluctuations andgeneral economic conditions in foreign countries is not significant.     The Company’s foreign transactions are primarily negotiated, invoiced and paid in U.S.dollars, while a portion is transacted in Euros. IKONICS has not implemented an economic hedgingstrategy to reduce the risk of foreign currency translation exposures, which management does notbelieve to be significant based on the scope and geographic diversity of the Company’s foreignoperations as of June 30, 2010. Furthermore, the impact of foreign exchange on the Company’sbalance sheet and operating results was not material in either 2010 or 2009.
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**Future Outlook**     IKONICS has spent on average over 4% of its sales dollars for the past few years in researchand development and has made capital expenditures related to its digital technology program. TheCompany plans to maintain its efforts in this area and expedite internal product development aswell as form technological alliances with outside experts to commercialize new productopportunities.     The Company made substantial progress on its new business initiatives during the first half of2010. Photomachining and sound deadening are in commercial operation and supplying product tomajor electronics, defense and aerospace customers. A Digital Texturing printer was placed at abeta site in the fourth quarter of 2009; it is performing to the Company’s expectations and isgenerating sales of related consumables. The digital texturing program was negatively impacted bythe 2009 business failure of the Company’s printer supplier, imaging Technology international.However, the Company has made arrangements with a manufacturer that the Company believes isfinancially strong and technically adept for sourcing future machines. The Company is producingand selling custom substrates for various inkjet applications and is currently developing, under aresearch contract, a proprietary film product for a major customer.     Other future activities undertaken to expand the Company’s business may include acquisitions,building improvements, equipment additions, new product development and marketing opportunities.In addition to its traditional emphasis on domestic markets, the Company will continue efforts togrow its business internationally by attempting to develop new markets and expanding market sharewhere it has already established a presence.**Recent Accounting Pronouncements**     The Company does not expect that the adoption of other recent accounting pronouncements willhave a material impact on its financial statements.**Off Balance Sheet Arrangements**     The Company has no off-balance sheet arrangements.
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**ITEM 3. Quantitative and Qualitative Disclosures about Market Risk**     Not applicable**ITEM 4. Controls and Procedures**     As of the end of the period covered by this report, the Company conducted an evaluation, underthe supervision and with the participation of the principal executive officer and principalfinancial officer, of the Company’s disclosure control and procedures (as defined in Rules13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934 (the “Exchange Act”)). Based onthis evaluation, the principal executive officer and principal financial officer concluded that theCompany’s disclosure controls and procedures are effective to ensure that information required tobe disclosed by the Company in reports that it files or submits under the Exchange Act is (i)recorded, processed, summarized and reported within the time periods specified in SEC rules andforms and (ii) accumulated and communicated to the Company’s management, including its principalexecutive officer and principal financial officer, as appropriate to allow timely decisionsregarding required disclosure.     There was no change in the Company’s internal control over financial reporting identified inconnection with the evaluation required by Rule 13a-15(d) and Rule 15d-15(d) of the Exchange Actthat occurred during the period covered by this report that has materially affected, or isreasonably likely to materially affect, the Company’s internal control over financial reporting.
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PART II. OTHER INFORMATION**ITEM 1. Legal Proceedings**     None**ITEM 1A. Risk Factors**     Not applicable**ITEM 2. Unregistered Sales of Equity Securities and Use of Proceeds**     Not applicable**ITEM 3. Defaults upon Senior Securities**     Not applicable**ITEM 4. [Removed and Reserved]****ITEM 5. Other Information**     None**ITEM 6. Exhibits**     The following exhibits are filed as part of this Quarterly Report on Form 10-Q for thequarterly period ended June 30, 2010:   Exhibit Description3.1 Restated Articles of Incorporation of Company, as amended.1 3.2 By-Laws of the Company, as amended.2 31.1 Rule 13a-14(a)/15d-14(a) Certifications of CEO 31.2 Rule 13a-14(a)/15d-14(a) Certifications of CFO 32 Section 1350 Certifications     Copies of Exhibits will be furnished upon request and payment of the Company’s reasonableexpenses in furnishing the Exhibits. 1 Incorporated by reference to the like numberedExhibit to the Company’s Registration Statement on Form 10-SB (File No.000-25727). 2 Incorporated by reference to the like numbered Exhibit to theCompany’s Current Report on Form 8-K filed with the Commission on February 22,2007 (File No. 000-25727).
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IKONICS CORPORATION**SIGNATURES**     In accordance with the requirements of the Securities Exchange Act of 1934, the registrantcaused this report to be signed on its behalf by the undersigned, thereunto duly authorized.      IKONICS CORPORATION**