UNITED STATES


SECURITIES AND EXCHANGE COMMISSION


Washington, D.C. 20549





FORM 10 - Q





(Mark One)





x Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.


For the quarterly period ended March 31, 2011





or





 ̈ Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.


For the transition period from _____to _____





Commission file number 0-7441





SIERRA MONITOR CORPORATION


(Exact name of registrant as specified in its charter)





California

95-2481914(State or other jurisdiction of incorporation or organization)

(I.R.S. Employer Identification No.)





1991 Tarob Court


Milpitas, California 95035


(Address and zip code of principal executive offices)





(408) 262-6611


(Registrant's telephone number, including area code)




Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the past 12 months (or for such shorter period that the registrant was required to filed such reports), and (2) has been subject to such filing requirements for the last 90 days.            Yes x  No  ̈





Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).                                                                                                                                             Yes  ̈  No  ̈





Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company.  See the definitions of “large accelerated filer,”  “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.




Large accelerated filer
 ̈
Accelerated filer
 ̈Non-accelerated filer
 ̈ (Do not check if a smaller reporting company)
Smaller reporting company
x





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










PART I:  FINANCIAL INFORMATION




ITEM 1.  FINANCIAL STATEMENTS


SIERRA MONITOR CORPORATION


Condensed Balance Sheets




March 31, 2011

(unaudited)


December 31,

2010AssetsCurrent assets:Cash

$
1,477,933


$
1,645,433Trade receivables, less allowance for doubtful accounts of approximately $85,000 and $82,000, respectively


2,005,321



1,708,886Inventories, net


2,531,992



2,115,003Prepaid expenses


164,348



178,819Income tax deposit


3,700



-Deferred income taxes - current


298,410



298,410Total current assets


6,481,704



5,946,551Property and equipment, net


396,105



294,424Other assets


179,322



154,816Total assets

$
7,057,131


$
6,395,791Liabilities and Shareholders' EquityCurrent liabilities:Accounts payable

$
804,136


$
704,539Accrued compensation expenses


404,751



432,127Other current liabilities


116,591



72,888Income taxes payable


222,087



20,879Total current liabilities


1,547,565



1,230,433Deferred tax liability


54,095



54,095Total liabilities

$
1,601,660


$
1,284,528Commitments and contingenciesShareholders' equity:Common stock, $0.001 par value; 20,000,000 shares authorized; 9,896,942 shares issued and outstanding, respectively


9,897



9,897Additional paid-in capital


2,722,479



2,694,894Retained earnings


2,723,095



2,406,472Total shareholders' equity


5,455,471



5,111,263Total liabilities and shareholders’ equity

$
7,057,131


$
6,395,791





See accompanying notes to the unaudited interim condensed financial statements.


Page 2 of 16




SIERRA MONITOR CORPORATION




Condensed Statements of Operations


(Unaudited)




For the three months endedMarch 31,

2011


March 31,

2010Net sales

$
4,168,417


$
2,903,080Cost of goods sold


1,659,274



1,224,042Gross profit


2,509,143



1,679,038Operating expensesResearch and development


545,074



483,022Selling and marketing


884,439



831,976General and administrative


552,217



486,2391,981,730



1,801,237Income (loss) from operations


527,413



(122,199
)Interest income


292



1,047Income (loss) before income taxes


527,705



(121,152
)Income tax provision (benefit)


211,082



(48,046
)Net  income (loss)

$
316,623


$
(73,106
)Net income (loss) available to common shareholders per common share:Basic

$
0.03


$
(0.01
)Diluted

$
0.03


$
(0.01
)Weighted average number of common shares used in per share computations:Basic


9,896,942



11,438,212Diluted


10,102,942



11,438,212




See accompanying notes to the unaudited interim condensed financial statements.


Page 3 of 16




SIERRA MONITOR CORPORATION




Condensed Statements of Cash Flows


(Unaudited)




For the three months endedMarch 31,

2011


March 31,

2010Cash flows from operating activities:Net income (loss)

$
316,623


$
(73,106
)Adjustments to reconcile net income (loss) to net cash used in operating activities:Depreciation and amortization


64,068



64,882Allowance for doubtful accounts


3,000



13,000Provision for inventory losses


15,000



-Stock-based compensation expense


27,585



27,210Change in operating assets and liabilities:Trade receivables


(299,435
)


(279,934
)Inventories


(431,989
)


(244,381
)Prepaid expenses


14,471



13,157Other assets


(5,394
)


-Income tax deposit


(3,700
)


(5,048
)Deferred income taxes


-



(54,253
)Accounts payable


99,597



175,330Income taxes payable


201,208



(34,251
)Accrued compensation expenses


(27,376
)


(18,730
)Other current liabilities


43,703



41,394Net cash provided by (used in) operating activities


17,361



(374,730
)Cash flows from investing activities:Purchases of property and equipment


(149,048
)


(27,523
)Purchases of other assets


(35,813
)


-Net cash used in investing activities


(184,861
)


(27,523
)Net decrease in cash


(167,500
)


(402,253
)Cash at beginning of period


1,645,433



2,203,018Cash at end of period

$
1,477,933


$
1,800,765Supplemental cash flow information:Cash paid for income taxes

$
9,824


$
40,458




See accompanying notes to the unaudited interim condensed financial statements.


Page 4 of 16




SIERRA MONITOR CORPORATION


Notes to the Interim Condensed Financial Statements


(Unaudited)


March 31, 2011




Basis of Presentation




The accompanying unaudited interim condensed financial statements have been prepared by Sierra Monitor Corporation (the “Company”) pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”).  Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been omitted pursuant to such SEC rules and regulations; nevertheless, the Company believes that the disclosures are adequate to make the information presented not misleading.  Amounts related to disclosure of December 31, 2010 balances within these interim condensed financial statements were derived from the audited 2010 financial statements and notes thereto.  These financial statements and the notes hereto should be read in conjunction with the financial statements and notes thereto included in the Company's Annual Report on Form 10-K for the year ended December 31, 2010, which was filed with the SEC on March 25, 2011.  In the opinion of the Company, all adjustments, including normal recurring adjustments necessary to present fairly the financial position, results of operations, and cash flows of the Company for the interim period have been included.  The results of operations for the interim period are not necessarily indicative of the results for any subsequent interim period or for the full year.




Summary of Business




The Company was formed in 1978 and delivers information technology for environment measurement and control by developing specialized embedded software that is deployed on proprietary hardware platforms. Embedded software enables data transfer between subsystems using protocol and physical medium translation.  Proprietary hardware platforms allow the Company to increase the value proposition while protecting its intellectual property.




The Company’s hardware platforms include original equipment modules for installation in customer devices and controllers, gateway boxes generally used by integrators for machine to machine (“M2M”) protocol translation, and multi-component safety systems generally focused on gas and fire detection.  Each of the hardware platforms utilize the Company’s proprietary data handling software allowing communication from lower level sensor systems through to the highest levels of Internet Protocol (“IP”) networks.




By providing an intelligent interface, the Company’s products enable various machines, devices, systems and people to reliably communicate useful information for the measurement and control of various environments including buildings, plants, factories and over the Internet.  By delivering the data on various communications levels, including Ethernet, Internet, LONworks, Profibus, and others, the Company’s products make it possible for data to be accessed at more appropriate levels, such as control rooms or remote locations.




The Company’s products, including gas detection systems, environment controls for remote telephone company structures and protocol gateways, are based on complex proprietary software developed by the Company.  The software, embedded in each of the Company’s product groups, provides key functions including sensor management, utilization of data for alarm and control purposes and delivery of data across various networks including the Internet.




Gas monitoring products manufactured by the Company are sold for a variety of safety applications including oil, gas and chemical processing plants, wastewater treatment facilities, alternate fuel vehicle maintenance garages and other users or producers of hazardous gases.  Environment controllers, which provide management of environmental conditions in small structures such as local DSL distribution nodes and buildings at cell tower sites, are sold to telecommunications companies and their suppliers.  The Company’s FieldServer products are sold generally to integration companies that implement building and plant automation projects and to manufacturers of equipment for the same industry.


Page 5 of 16




The Company’s common stock is quoted on the OTC Bulletin Board under the symbol “SRMC.OB”.




Accounting Policies




a)
Revenue Recognition




The Company recognizes revenues when all of the following conditions exist:  a) persuasive evidence of an arrangement exists in the form of an accepted purchase order; b) delivery has occurred, based on shipping terms, or services have been rendered; c) the Company’s price to the buyer is fixed or determinable, as documented on the accepted purchase order; and d) collectibility is reasonably assured.  By product and service type, revenues are recognized when the following specific conditions are met:





Gas Detection and Environment Control Products




Gas detection and environment control products are sold as off-the-shelf products with prices fixed at the time of order. Orders delivered to the Company by phone, fax, mail or email are considered valid purchase orders and once accepted by the Company are deemed to be the final understanding between us and our customer as to the specific nature and terms of the agreed-upon sale transaction.  Products are shipped and are considered delivered when (a) for FOB factory orders they leave our shipping dock or (b) for FOB customer dock orders upon confirmation of delivery.  The creditworthiness of customers is generally assessed prior to the Company accepting a customer’s first order. The Company purchases credit insurance through the Export-Import Bank of the United States to insure payment of small international orders that are released on open credit.  Larger international orders and customers who have developed a history of payment problems are generally required to prepay or pay through a letter-of-credit.




Gas Detection and Environment Control Services




Gas detection and environment control services consist of field service orders (technical support) and training, which are provided separate from product orders.  Orders are accepted in the same forms as discussed under Gas Detection and Environment Control Products above with hourly prices fixed at the time of order. Revenue recognition occurs only when the service activity is completed.  Such services are provided to current and prior customers, and, as noted above, creditworthiness has generally already been assessed. In cases where the probability of receiving payment is low, a credit card number is collected for immediate processing.





FieldServer Products




FieldServer products are sold in the same manner as Gas Detection and Environment Control Products (as discussed above) except that the products contain embedded software, which is integral to the operation of the device.  The software embedded in FieldServer products includes two items:  (a) a compiled program containing (i) the basic operating system for FieldServer products, which is common to every unit, and (ii) the correct set of protocol drivers based on the customer order (see FieldServer Services below for more information); and (b) a configuration file that identifies and links each data point as identified by the customer.  The Company does not deem the hardware, operating systems with protocol drivers and configuration files to be separate units of accounting because the Company does not believe that they have value on a stand-alone basis.  The hardware is useless without the software, and the software is only intended to be used in FieldServer hardware.  Additionally, the software included in each sale is deemed to not require significant production, modification or customization, and therefore the Company recognizes revenues upon the shipment or delivery of products (depending on shipping terms), as described in Gas Detection and Environment Control Products above.


Page 6 of 16




FieldServer Services




FieldServer services consist of orders for custom development of protocol drivers.  Generally customers place orders for FieldServer products concurrently with their order for protocol drivers.  However, if custom development of the protocol driver is required, the product order is not processed until development of the protocol driver is complete. Orders are received in the same manner as described in FieldServer Products above, but due to the non-recurring engineering aspect of the customized driver development the Company is more likely to have a written evidence trail of a quotation and a hard copy order.  The driver development involves further research after receipt of order, preparation of a scope document to be approved by the customer and then engineering time to write, test and release the driver program.  When development of the driver is complete the customer is notified and can proceed with a FieldServer product (see FieldServer Productsabove).  Revenues for driver development are billed and recognized upon shipment or delivery of the related product that includes the developed protocol drivers (as noted in FieldServer Products above). Collectibility is reasonably assured as described in FieldServer Products above.




Discounts and Allowances




Discounts are applied at time of order entry and sales are processed at net pricing.  No allowances are offered to customers.




b)
Recent Accounting Pronouncements




Recent accounting pronouncements discussed in the notes to the December 31, 2010 audited financial statements, filed previously with the SEC in our Annual Report on Form 10-K on March 25, 2011, that are required to be adopted during the year ending December 31, 2010, did not have or are not expected to have a significant impact on the Company’s 2011 financial statements.




c)
Employee Stock-Based Compensation




As of March 31, 2011, the Company had one approved stock-based employee compensation plan for issuing stock options, the 2006 Stock Plan.  The Company’s 1996 Stock Plan expired by its terms in March 2006, but the 1996 Stock Plan will continue to govern awards previously granted thereunder that have not expired or otherwise terminated.




Under the 2006 Stock Plan, the Company initially reserved 500,000 shares of common stock for issuance. Stock options are granted under the 2006 Stock Plan at the fair market value of the Company's common stock at the grant date, vest ratably over 4 years, and expire 10 years from the grant date. Prior to January 1, 2006, stock-based compensation cost related to stock options was not recognized in net income since the stock options underlying those plans had exercise prices greater than or equal to the market value of the underlying stock on the date of the grant.




All share-based payments to employees (incentive stock options) are recognized in the financial statements based on their fair values at the date of grant.  The calculated fair value is recognized as expense (net of any capitalization) over the requisite service period, net of estimated forfeitures, using the straight-line method.  The Company considers many factors when estimating expected forfeitures, including types of awards, employee class and historical experience.  The modified prospective method of application requires compensation expense to be recognized in the financial statements for all unvested stock options beginning in the quarter of award.  The cost is based on the grant date fair value of the stock option.  Compensation expense recognized in future periods for share-based compensation will be adjusted for the effects of estimated forfeitures.




Page 7 of 16




For the three-month periods ended March 31, 2011 and 2010, general and administrative expenses included $27,585 and $27,210, respectively, decreasing (increasing) the Company's income (loss) from continuing operations, income (loss) before provision (benefit) for income taxes and net income (loss) resulting from the recognition of compensation expense associated with employee stock options. There was no material impact on the Company's basic and diluted net income per share as a result of recognizing the employee stock-based compensation expense. The Company did not modify the terms of any previously granted stock options during the three-month periods ended March 31, 2011 and 2010.




Inventories




A summary of inventories are as follows:


March 31, 2011


December 31, 2010Raw materials

$
941,429


$
798,986Work-in-process


880,077



700,264Material at vendor


461,990



394,677Finished goods


365,562



323,142Less: Allowance for obsolescence reserve


(117,066
)


(102,066
)$
2,531,992


$
2,115,003




Net Income (Loss) Per Share




Basic income (loss) per share (“EPS”) is computed using the weighted average number of common shares outstanding during the period.  Diluted EPS is computed using the weighted average number of common and dilutive potential common shares outstanding during the period.  Dilutive potential common shares consist of common stock issuable upon exercise of stock options using the treasury stock method.  No adjustments to earnings were made for purposes of per share calculations.




At March 31, 2011, outstanding options to acquire 481,000 shares of common stock were not considered potentially dilutive common shares due to the exercise price of such options being higher than the stock price used in the EPS calculation.  At March 31, 2010, outstanding options to acquire 56,000 shares of common stock were not considered potentially dilutive common shares due to the exercise price of such options being higher than the stock price used in the EPS calculation.




During the three-month period ended March 31, 2010 the Company reported a net loss.  As a result, 314,719 shares of common stock issuable upon exercise of stock options were excluded from the calculation of diluted loss per share for the three-month period ended March 31, 2010, because their inclusion would have been anti-dilutive.




The following is a reconciliation of the shares used in the computation of basic and diluted EPS for the periods ended March 31, 2011 and 2010, respectively:


Three months endedMarch 31,

2011


March 31,

2010Basic EPS – weighted-average number of common shares outstanding


9,896,942



11,438,212Effect of dilutive potential common shares – stock options outstanding


206,000



-Diluted EPS – weighted-average number of common shares and potential common shares outstanding


10,102,942



11,438,212




Comprehensive Income (Loss)




The Company has no components of other comprehensive income (loss) and, accordingly, comprehensive income (loss) is the same as net income (loss) for all periods presented.


Page 8 of 16




Concentrations




No customers made up more than 10% of accounts receivable at March 31, 2011, and no customermade up more than 10% of accounts receivable at December 31, 2010.  Also, no customers individually made up more than 10% of net sales for the three month periods ended March 31, 2011 and March 31, 2010.




The Company currently maintains substantially all of its day to day operating cash with a major financial institution.  At times, cash balances may be in excess of the amounts insured by the Federal Deposit Insurance Corporation.  Cash balances of approximately $1,228,000 and $1,395,000were in excess of such insured amounts at March 31, 2011 and December 31, 2010, respectively.




Segment Information




The Company operates in one segment, industrial instrumentation.  The Company’s chief operating decision maker, the Chief Executive Officer (“CEO”), evaluates the performance of the Company and makes operating decisions based on financial data consistent with the presentation in the accompanying condensed financial statements.




In addition, the CEO reviewed the following information on revenues by product category for the periods ended March 31:





Three months endedMarch 31, 2011


March 31, 2010Gas detection devices

$
1,722,760


$
1,277,440Environment controllers


335,673



258,186FieldServers


2,109,984



1,367,454$
4,168,417


$
2,903,080




Line of Credit




The Company maintains a line of credit with its commercial bank in the maximum amount of $1,000,000.  No borrowings have been made under the Company’s line of credit during the first three months of fiscal year 2011 and there were no outstanding balances at March 31, 2011 and December 31, 2010.  As of March 31, 2011, the Company is in compliance with covenants required by the line of credit.




Stock Option Grants




No stock options were granted during the three-month periods ended March 31, 2011 and 2010.




Stock Option Exercises and Expirations




No stock options were exercised by employees and no stock options expired during the three-month period ended March 31, 2011.  During the three-month period ended March 31, 2010, no stock options were exercised by employees and no stock options expired.


Page 9 of 16




ITEM 2:  MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS




This Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended.  Statements that are not statements of historical fact may be deemed to be forward-looking statements.  The words “believe,” “expect,” “intend,” “plan,” “project,” “will,” and similar words and phrases as they relate to us also identify forward-looking statements.  Such forward-looking statements include any expectations of operating and non-operating expense, including research and development expense, sufficiency of resources, including cash and accounts receivable, estimates of allowances for doubtful accounts, credit lines or other financial items; any statements of the plans, strategies and objectives of management for future operations and identified opportunities; any statements concerning proposed new products, services, developments and related research and development activities; any statements related to the Company’s positioning to support current and near term levels of business; any statements of belief; and any statement of assumptions underlying any of the foregoing. Such statements reflect our current views and assumptions and are not guarantees of future performance.  These statements are subject to various risks and uncertainties.  Our actual results could differ materially from those anticipated in these forward-looking statements as a result of certain factors, including, without limitation, those issues described under the heading “Critical Accounting Policies,” and those risk factors indentified in Item1A, Risk Factors, of our Annual Report on Form 10-K for our fiscal year ended December 31, 2010, as such section may be updated in our subsequent Forms 10-K, 10-Q and 8-K filed with, or furnished to, the SEC and elsewhere.  We urge you to review and consider the various disclosures made by us from time to time in our filings with the SEC that attempt to advise you of the risks and factors that may affect our future results.  We expressly disclaim any obligation to release publicly any updates or revisions to any forward-looking statement to reflect any changes in expectations, or any change in events or circumstances on which those statements are based, unless otherwise required by law.




Results of Operations




For the three months ended March 31, 2011, Sierra Monitor Corporation (“we” or the “Company”) reported net sales of $4,168,417 compared to $2,903,080 for the three months ended March 31, 2010.  The results for the first quarter of fiscal 2011 represent a 44% increase from the same period in the prior year.




Our overall sales in the first quarter of 2011 benefited from our strong backlog at the end of 2010 combined with continued order bookings at the beginning of the year, which has traditionally been a period of lower activity.




Our sales of gas detection products, including industrial accounts and military sales, increased by approximately 35% in the first quarter of 2011 compared to the same period in 2010.  Sales to industrial accounts were 24% higher and military sales were 96% higher in the first quarter of 2011 compared to the same period in 2010.  Our sales to the U.S. Navy are dependent upon military spending and we generally experience quarterly fluctuations in military sales consistent with the change in the first quarter of 2011 compared to the first quarter of 2010.




In the first quarter of 2011, our sales of environmental controllers to the telecommunications industry were 30% higher compared to the first quarter of 2010.  Sales of environment controllers depend on deployment of new remote structures and purchases of spare parts by AT&T, Verizon and other carriers and currently represent approximately 8% of our total net sales.




Sales of our FieldServer products increased approximately 54% in the first quarter of 2011 compared to the first quarter of 2010.  FieldServer products include box products and original equipment manufacturer (“OEM”) modules.  Box products provide a platform for delivery and operation of our software for building automation integration and are generally sold to integrators.  OEM products are sold to companies that integrate our products into their commercial offerings.  While demand for box products increased 27% in the first quarter of compared to the same period in 2010, OEM sales were 96% higher in the first quarter of 2011 compared to the same period in 2010.  The increase in OEM product sales is due to additional manufacturers moving from testing and qualification stages to full production demands combined with an improved general economy compared to the same period in 2010.


Page 10 of 16




Gross profit for the three-month period ended March 31, 2011 was $2,509,143, or 60% of net sales, compared to $1,679,038, or 58% of net sales, in the same period the previous year.  Changes in our gross profit are generally influenced by product mix, channel of distribution and price discounting.  Price discounting, which reduces the gross margin is generally related to competitive pricing for large gas detection projects.  In the first quarter of 2011 there were no large, discounted, gas detection projects shipped.  The improved gross margins are primarily the result of favorable product mix and lack of discounting to distribution channels and large project customers.  Although we are experiencing a gradual increase in labor and materials costs these increases have not significantly impacted our overall profit margins.




Expenses for research and development, which include new product development and engineering to sustain existing products, were $545,074 or 13% of net sales, for the three-month period ended March 31, 2011, compared with $483,022 or 17% of net sales, in the comparable period in 2010.   Higher compensation expenses and costs related to the release of a redesign of one of our FieldServer products contributed to the increase in research and development expenses in the first quarter of 2011 compared with the first quarter of 2010.




Selling and marketing expenses, which consist primarily of salaries, commissions and promotional expenses, for the three-month period ended March 31, 2011 were $884,439, or 21% of net sales, compared to $831,976, or 29% of net sales, in the same period in the prior year.  The higher selling and marketing expenses in the first quarter of 2011 compared to the same period last year are due, primarily, to increased compensation and benefit expenses including higher sales commission expenses as a result of the higher net sales level.




General and administrative expenses for the first quarter of 2011 were $552,217, or 13% of net sales, compared to $486,239, or 17% of net sales, in the same period in the prior year.  General and administrative expenses have increased due, in part, to higher compensation expenses, higher professional services fees primarily related to audits and higher information technology support expenses.




Our income from operations for the three-month period ended March 31, 2011 was $527,413, or 13% of net sales, compared to loss from operations of $122,199, or -4% of net sales, in the same period in the prior year.  The increased income is primarily the result of higher net sales.




Net income for the three-month period ended March 31, 2011 was $316,623, or approximately 8% of net sales, compared to net loss of $73,106, or approximately -3% of net sales, for the same period in the prior year.  The increase in net income is primarily the result of higher net sales.




Liquidity and Capital Resources




During the three months ended March 31, 2011, net cash provided by operating activities was approximately $17,000 compared to approximately $375,000 consumed for the same period in 2010.  Working capital was approximately $4,934,000 at March 31, 2011, an increase of approximately $218,000 from December 31, 2010.  At March 31, 2011, our balance sheet reflected approximately $1,478,000 of cash and $2,005,000 of net trade receivables. At December 31, 2010, our total cash on hand was approximately $1,645,000 and our net trade receivables were $1,709,000.




At March 31, 2011, we had no long term liabilities.


Page 11 of 16




We maintain a $1,000,000 line of credit, secured by certain assets of the Company, with our commercial bank which matures on July 10, 2011. The line of credit requires annual renewal and compliance with certain restrictive covenants, including the requirement to maintain a quick ratio of 1.3:1.0 and a profitability test. At March 31, 2011, the Company was in compliance with the financial covenants and there were no borrowings on this line of credit.




We believe that our present resources, including cash and accounts receivable, are sufficient to fund the Company’s anticipated level of operations through at least January 1, 2012.  There are no current plans for significant capital equipment expenditures and no other known demands, commitments, events or uncertainties that will result in or that are reasonably likely to result in the Company’s liquidity increasing or decreasing in any material way.




Critical Accounting Policies




The preparation of financial statements and related disclosures in conformity with accounting principles generally accepted in the United States of America requires management to make judgments, assumptions and estimates that affect the amounts reported in the Company’s condensed financial statements and the accompanying notes.  The amounts of assets and liabilities reported on our balance sheets and the amounts of revenues and expenses reported for each of our fiscal periods are affected by estimates and assumptions, which are used for, but not limited to, the accounting for revenue recognition, accounts receivable, doubtful accounts and inventories.  Actual results could differ from these estimates.  The following critical accounting policies are significantly affected by judgments, assumptions and estimates used in the preparation of the condensed financial statements:




a)
Revenue Recognition




The Company recognizes revenues when all of the following conditions exist:  a) persuasive evidence of an arrangement exists in the form of an accepted purchase order; b) delivery has occurred, based on shipping terms, or services have been rendered; c) the Company’s price to the buyer is fixed or determinable, as documented on the accepted purchase order; and d) collectibility is reasonably assured.  By product and service type, revenues are recognized when the following specific conditions are met:





Gas Detection and Environment Control Products




Gas detection and environment control products are sold as off-the-shelf products with prices fixed at the time of order. Orders delivered to the Company by phone, fax, mail or email are considered valid purchase orders and once accepted by the Company are deemed to be the final understanding between us and our customer as to the specific nature and terms of the agreed-upon sale transaction.  Products are shipped and are considered delivered when (a) for FOB factory orders they leave our shipping dock or (b) for FOB customer dock orders upon confirmation of delivery.  The creditworthiness of customers is generally assessed prior to the Company accepting a customer’s first order. Additionally, international customers and customers who have developed a history of payment problems are generally required to prepay or pay through a letter-of-credit.





Gas Detection and Environment Control Services




Gas detection and environment control services consist of field service orders (technical support) and training, which are provided separate from product orders.  Orders are accepted in the same forms as discussed for Gas Detection and Environment Control Products above with hourly prices fixed at the time of order. Revenue recognition occurs only when the service activity is completed.  Such services are provided to current and prior customers, and, as noted above, creditworthiness has generally already been assessed. In cases where the probability of receiving payment is low, a credit card number is collected for immediate processing.


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FieldServer Products




FieldServer products are sold in the same manner as Gas Detection and Environment Control Products (as discussed above) except that the products contain embedded software, which is integral to the operation of the device.  The software embedded in FieldServer products includes two items:  (a) a compiled program containing (i) the basic operating system for FieldServer products, which is common to every unit, and (ii) the correct set of protocol drivers based on the customer order (see FieldServer Services below for more information); and (b) a configuration file that identifies and links each data point as identified by the customer.  The Company does not deem the hardware, operating systems with protocol drivers and configuration files to be separate units of accounting because the Company does not believe that they have value on a stand-alone basis.  The hardware is useless without the software, and the software is only intended to be used in FieldServer hardware.  Additionally, the software included in each sale is deemed to not require significant production, modification or customization, and therefore the Company recognizes revenues upon the shipment or delivery of products (depending on shipping terms), as described in Gas Detection and Environment Control Products above.





FieldServer Services




FieldServer services consist of orders for custom development of protocol drivers.  Generally customers place orders for FieldServer products concurrently with their order for protocol drivers.  However if custom development of the protocol driver is required, the product order is not processed until development of the protocol driver is complete. Orders are received in the same manner as described in FieldServer Products above, but due to the non-recurring engineering aspect of the customized driver development the Company is more likely to have a written evidence trail of a quotation and a hard copy order.  The driver development involves further research after receipt of order, preparation of a scope document to be approved by the customer and then engineering time to write, test and release the driver program.  When development of the driver is complete the customer is notified and can proceed with a FieldServer product (see FieldServer Productsabove).  Revenues for driver development are billed and recognized upon shipment or delivery of the related product that includes the developed protocol drivers (as noted in FieldServer Products above). Collectibility is reasonably assured as described in FieldServer Products above.




Discounts and Allowances




Discounts are applied at time of order entry and sales are processed at net pricing.  No allowances are offered to customers.




b)
Accounts Receivable and Related Allowances




Our domestic sales are generally made on an open account basis unless specific experience or knowledge of the customer’s potential inability or unwillingness to meet the payment terms dictate secured payments.  Our international sales are generally made based on secure payments, including cash wire advance payments and letters of credit.  International sales are made on open account terms where sufficient historical experience justifies the credit risks involved.  In many of our larger sales, the customers are frequently construction contractors who are in need of our field services to complete their work and obtain payment.   Management’s ability to manage the credit terms and take advantage of the leverage provided by the clients’ need for our services is critical to the effective application of credit terms and minimization of accounts receivable losses.


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We maintain an allowance for doubtful accounts which is analyzed on a periodic basis to insure that it is adequate.  We believe that we have demonstrated the ability to make reasonable and reliable estimates of allowances for doubtful accounts based on significant historical experience.




c)
Inventories




Inventories are stated at the lower of cost or estimated market, cost being determined on the first-in, first-out method.  The Company uses an Enterprise Requirements Planning (“ERP”) software system which provides data upon which management relies to determine inventory trends and identify excesses.  The carrying value of inventory is reduced to market for slow moving and obsolete items based on historical experience and current product demand.  We evaluate the carrying value of inventory quarterly.  The adequacy of these carrying amounts is dependent upon management’s ability to forecast demands accurately, manage product changes efficiently, and interpret the data provided by the ERP system.




ITEM 4:  CONTROLS AND PROCEDURES




Evaluation of disclosure controls and procedures.Our management evaluated, with the participation of Gordon R. Arnold, our principal executive and principal financial officer, the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15(d)-15(e) under the Securities Exchange Act of 1934, as amended) as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on this evaluation, Mr. Arnold has concluded that our disclosure controls and procedures were effective as of the end of the period covered by this report to ensure that information we are required to disclose in reports that we file or submit under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms, and is accumulated and communicated to management, including our principal executive officer and principal financial officer, as appropriate, to allow timely decisions regarding required disclosure.




Changes in internal control over financial reporting.There was no change in our internal control over financial reporting that occurred during the period covered by this Quarterly Report on Form 10-Q that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.




Inherent Limitations of Internal Controls.Our management, including our principal executive and principal financial officer, does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent or detect all error and all fraud.  A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met.  The design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Further, because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within us have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of a simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the control. The design of any system of controls also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving our stated goals under all potential future conditions. Projections of any evaluation of the effectiveness of controls to future periods are subject to risks. Over time, controls may become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected.


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PART II:  OTHER INFORMATION




ITEM 6.          EXHIBITS




ExhibitNumber

Description3.1(1)

Articles of Incorporation of the Registrant.3.2(2)

Bylaws of the Registrant.31.1

Certification of Chief Executive Officer pursuant to Rule 13a-14(a) or Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant toSection 302 of the Sarbanes-Oxley Act of 2002.31.2

Certification of Chief Financial Officer pursuant to Rule 13a-14(a) or Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant toSection 302 of the Sarbanes-Oxley Act of 2002.32

Certification of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.




(1)
Incorporated by reference to the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 1989.


(2)
Incorporated by reference to the Company’s Quarterly Report on Form 10-QSB (File No. 000-07441) for the fiscal quarter ended June 30, 1998 filed with the SEC on August 14, 1998.




SIGNATURES




Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.





SIERRA MONITOR CORPORATIONRegistrantDate:      May 11, 2011
By:
/s/ Gordon R. ArnoldGordon R. ArnoldPresidentChief Executive OfficerChief Financial Officer


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Index to Exhibits





ExhibitNumber

Description3.1(1)

Articles of Incorporation of the Registrant.3.2(2)

Bylaws of the Registrant.31.1

Certification of Chief Executive Officer pursuant to Rule 13a-14(a) or Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant toSection 302 of the Sarbanes-Oxley Act of 2002.31.2

Certification of Chief Financial Officer pursuant to Rule 13a-14(a) or Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant toSection 302 of the Sarbanes-Oxley Act of 2002.32

Certification of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.




(1)
Incorporated by reference to the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 1989.
  (2)
Incorporated by reference to the Company’s Quarterly Report on Form 10-QSB (File No. 000-07441) for the fiscal quarter ended June 30, 1998, filed with the SEC on August 14, 1998.


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