EDGAR 10-K Filing

Company CIK: 1356949
Filing Year: 2021
Filename: 1356949_10-K_2021_0001753926-21-000067.json

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ITEM 1. BUSINESS
ITEM 1. BUSINESS
Overview
We are a provider of industrial products including electrical wire and cable, industrial fasteners, hardware and related services to the U.S. market. We sell electrical products through wholesale electrical distributors and fastener products through industrial distributors. As of December 31, 2020, we also sold mechanical wire and cable, fabricated steel wire rope and synthetic lifting and hardware products. We provide our customers with a single-source solution by offering a large selection of in-stock items, exceptional customer service and high levels of product expertise.
Our wide product selection and specialized services support our position in the supply chain between manufacturers and the customer. The breadth and depth of wire and cable, fasteners and related hardware that we offer requires significant warehousing resources and a large number of SKUs (stock-keeping units). While manufacturers may have the space and capabilities to maintain a large supply of inventory, we do not believe that any single manufacturer has the breadth and depth of product that we offer. More importantly, manufacturers historically have not offered the services that our customers need, such as complimentary custom cutting, cable coiling, paralleling, bundling, striping, cable management for large capital projects, and same day shipment, and do not have multiple distribution centers across the nation.
Our Cable Management Program addresses our customers’ requirement for sophisticated and efficient just-in-time product management for large capital projects. This program entails purchasing and storing dedicated inventory so our customers have immediate product availability for the duration of their projects. Advantages of this program include extra pre-allocated safety stock, firm pricing, zero cable surplus and just-in-time delivery. Used on large construction and capital expansion projects, our Cable Management Program combines the expertise of our cable specialists with dedicated project inventory and superior logistics to allow complex projects to be completed on time, within budget and with minimal residual waste.
History
We were founded in 1975 and have a long history of exceptional customer service, broad product selection and high levels of product expertise. In 1987, we completed our first initial public offering and were subsequently purchased in 1989 by ALLTEL Corporation and in 1997 by investment funds affiliated with Code, Hennessy & Simmons LLC. In 2006, we completed our second initial public offering. In 2010, we purchased Southwest Wire Rope LP (“Southwest”), its general partner Southwest Wire Rope GP LLC and its wholly owned subsidiary, Southern Wire (“Southern”), and subsequently merged the acquired businesses into our operating subsidiary. In 2016, we acquired Vertex Corporate Holdings, Inc., and its subsidiaries (“Vertex”) from DXP Enterprises. Vertex is a master distributor of industrial fasteners, and this acquisition expanded our product offerings to the industrial marketplace that purchases our wire and cable products. In December 2020, we completed the sale of substantially all of the assets of Southern, and in March 2021, we completed the sale of substantially all of the assets of Southwest (other than Southwest accounts receivable), to Southern Rigging Companies, LLC.
Products
We offer products in most categories of electrical wire and cable, including: continuous and interlocked armor cable; control and power cable; electronic wire and cable; flexible and portable cord; instrumentation and thermocouple cable; lead and high temperature cable; medium voltage cable; premise and category wire and cable, primary and secondary aluminum distribution cable, as well as hardware and corrosion resistant products including inch and metric bolts, screws, nuts, washers, rivets and hose clamps. We also offer private branded products, including our proprietary brand LifeGuard, a low-smoke, zero-halogen cable. Our products are used in repair and replacement work, also referred to as Maintenance, Repair and Operations ("MRO"), and related projects, larger-scale projects in the utility, industrial and infrastructure markets and a diverse range of industrial applications including communications, energy, engineering and construction, general manufacturing, marine construction and marine transportation, mining, infrastructure, oilfield services, petrochemical, transportation, utility, wastewater treatment and food and beverage.
Targeted Markets
Our business is driven, in part, by the strength, growth prospects and activity in the end-markets in which our products are used, which are primarily in the continental United States, where we target the utility, industrial and infrastructure markets.
Industrial Market. The industrial market is one of the largest segments of the U.S. economy and is comprised of a diverse base of manufacturing and production companies. The largest driver of our success in this market results from the level of U.S. investment in upstream, midstream and downstream oil and gas exploration, transportation and production. We provide a wide variety of products specifically designed for use in manufacturing, metal/mineral, and oil and gas markets.
Utility Market. The utility market includes large investor-owned utilities, rural cooperatives and municipal power authorities. We are not a significant distributor of power lines used for the transmission of electricity but have products in our portfolio that are used in this sector. We sell our core products for the construction of power plants and the related pollution control equipment used to comply with environmental standards as well as plant modernizations implemented to extend the life of power generation facilities. Our customers utilize our cable management services to supply the wire and cable required in the construction of new power plants and upgrading of existing power plants.
Infrastructure Market. Investments in the development, construction and maintenance of infrastructure markets (including commercial buildings, education and health care; air, ground and rail transportation; telecommunications, and wastewater) are opportunities for our product and service offerings.
Distribution Logistics
Our national distribution presence and value-added services make us an essential partner in the supply chain for our suppliers, customers and end users. We have successfully expanded our business from the original location in Houston, Texas to 19 locations nationwide, which includes two third-party logistics providers. Our standard practice is to process customers' orders the same day they are received. Our strategically located distribution centers generally allow for ground delivery nationwide within 24 hours of shipment. Orders are delivered through a variety of distribution methods, including less-than-truck-load, truck-load, air or parcel service providers, direct from supplier, cross-dock shipments and customer pick-up. Freight costs are typically borne by our customers. Due to our shipment volume, we have preferred pricing relationships with our contract carriers.
Customers
During 2020, we served over 8,500 customers, shipping approximately 41,000 SKUs to approximately 14,000 customer locations nationwide. No customer represented 10% or more of our 2020 sales.
Suppliers
We obtain products from leading suppliers and believe we have strong relationships with our top suppliers. Starting in mid-2020, we reduced our purchases from one of our top suppliers to a single product line. We source a portion of our products from offshore. While alternative sources are available for the vast majority of our products, we have strategically concentrated our purchases with our top suppliers in order to maximize product quality, delivery dependability, purchasing efficiencies, and vendor rebates. As a result, in 2020, approximately 55% of our purchases came from ten suppliers. We do not believe we are dependent on any one supplier for any of the industrial products that we sell.
Sales
We market our products and related services through an inside sales force situated in our regional offices, a field sales force focused on key geographic markets, and regional sales agencies. By operating under a decentralized structure, region managers are able to adapt quickly to market-specific occurrences, allowing us to compete effectively with local competitors. We believe the knowledge, experience and tenure of our sales force are critical to serving our fragmented and diverse customer and end-user base.
Competition
The industrial products market remains very competitive and fragmented, with several hundred electrical wire and cable, and fastener competitors serving this market. The product offerings and levels of service from the other providers of product with which we compete vary widely at the national, regional or local levels. In addition to the direct competition with other product providers, we also face, on a varying basis, competitors that sell products directly or through multiple distribution channels to end-users or other resellers.
In the markets that we sell our industrial products, competition is primarily based on product line breadth, quality, product availability, service capabilities and price.
Employees
At December 31, 2020, we had 338 employees. Our sales and marketing staff accounted for 152 employees, including 25 field sales personnel and 94 inside sales and technical support personnel. We believe that our employee relations are good.
Website Access
We maintain an internet website at www.houwire.com. We make available, under the “Investor Relations” tab on our website, our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and, if applicable, amendments to those reports, as well as proxy and information statements, as soon as reasonably practicable after such documents are electronically filed with or furnished to the Securities and Exchange Commission (the “SEC”). Information contained on our website is not part of, and should not be construed as being incorporated by reference into, this Annual Report on Form 10-K.
Government Regulation
We are subject to regulation by various federal, state and local agencies. We believe we are in compliance in all material respects with existing applicable statutes and regulations affecting environmental issues and our employment, workplace health and workplace safety practices.

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ITEM 1A. RISK FACTORS
ITEM 1A. RISK FACTORS
In addition to other information in this Annual Report on Form 10-K, the following risk factors should be carefully considered in evaluating our business, because such factors may have a significant impact on our business, operating results, cash flows and financial condition. As a result of the risks set forth below and elsewhere in this Annual Report, actual results could differ materially from those projected in any forward-looking statements.
Industry and General Economic Risks
The COVID-19 pandemic, efforts to mitigate or disrupt the pandemic and the related weak, or weakening of, economic conditions have had a negative impact on our business, and the duration and extent of the pandemic could prolong or increase the adverse impact.
We depend on continued demand from our customers to purchase our products and services and on our customers’ ability to pay. The ongoing COVID-19 pandemic has caused a slowdown of economic activity around the world, disruptions in global supply chains and significant volatility and disruption of financial markets, and we expect these impacts may continue for the foreseeable future. The COVID-19 pandemic has had a particularly adverse impact on the oil and gas industry, which is one of our most important end-markets. A dramatic reduction in oil and gas prices has led to reduced investment in upstream, midstream and downstream oil and gas exploration, transportation and production and lessened the demand for our products and services.
Because the duration of the COVID-19 pandemic and its economic consequences are uncertain, rapidly changing and difficult to predict, the pandemic’s impact on our operations, financial performance and liquidity, as well as its impact on our ability to successfully execute our business strategy, remains uncertain and difficult to predict. Further, the ultimate impact of the COVID-19 pandemic on our operations and financial performance depends on many factors that are not within our control, including, but not limited, to: governmental, business, suppliers', and individuals’ actions that have been and continue to be taken in response to the pandemic; the impact of the pandemic and actions taken in response on global and regional economies, travel, and economic activity; general economic uncertainty in the global markets we serve and volatility in financial markets; global economic conditions and levels of economic growth; and the pace of recovery when the COVID-19 pandemic subsides. While vaccines have been approved and are being made available, it is unclear how broadly they will be accepted or how quickly they will lead to an end to the pandemic. As a result, it is currently not practicable to predict the precise nature or the extent of any continued adverse impact of the COVID-19 pandemic on our business, and on the global economy as a whole. It is also currently not possible to predict how long the pandemic will last or the time that it will take for economic activity to return to prior levels. As a result, we expect COVID-19 to continue to negatively impact our operating results in future periods, including by increasing many of the risks described below. However, we are currently unable to provide any assurance as to the magnitude and duration of any such impact.
Downturns in capital spending and cyclicality in the markets we serve have had and could continue to have a material adverse effect on our financial condition and results of operations.
The majority of our products are used in the construction, maintenance, repair and operation of facilities, plants and projects in the communications, energy, engineering and construction, general manufacturing, infrastructure, oil and gas, marine construction, marine transportation, mining, oilfield services, transportation, utility, wastewater treatment and food and beverage industries. The demand for our products and services depends to a large degree on the capital spending levels of end-users in these markets. Many of these end-users defer capital expenditures or cancel projects during economic downturns or periods of uncertainty. In addition, certain of the markets we serve are cyclical, which affects capital spending by end-users in these industries.
Our operating results are affected by fluctuations in commodity prices.
Copper, steel, aluminum, nickel and petrochemical products are components of the products we sell. Fluctuations in the costs of these and other commodities have historically affected our operating results. If commodity prices decline, the net realizable value of our existing inventory could be reduced, and our gross profit could be adversely affected. To the extent higher commodity prices result in increases in the costs we pay for our products, we attempt to reflect the increase in the prices we charge our customers. While we historically have been able to pass most of these cost increases on to our customers, to the extent we are unable to do so in the future, it could have a material adverse effect on our operating results. In addition, if commodity costs increase, our customers may delay or decrease their purchases of our products.
Our sales are impacted by the level of activity in the oil and gas industry.
We estimate that approximately one-third of our sales directly depend upon the level of capital and operating expenditures in the oil and gas industry, including capital and other expenditures in connection with exploration, drilling, production, gathering, transportation, refining and processing operations. Demand for the products we distribute is sensitive to the level of exploration, development and production activity of, and the corresponding capital and other expenditures by, oil and gas companies. A material decline in oil or gas prices, inability to access capital, and consolidation within the industry could all depress levels of exploration, development and production activity and, therefore, could lead to a decrease in our sales due to curtailed capital and MRO expenditures.
Epidemics and other events outside our control, and our inability to successfully mitigate the effects of such events, may harm our business.
All of our facilities are subject to natural or man-made disasters such as floods, fires, acts of terrorism, failures of utilities and epidemics or pandemics such as the coronavirus COVID-19. If such an event were to occur, our business could be harmed due to the event or our inability to successfully mitigate the effects of the particular event. Potential harms include the loss of business continuity, the loss of business data and damage to infrastructure.
Our production and supply chains could be severely affected if our employees or the regions in which our facilities or suppliers are located are affected by a significant outbreak of any disease, epidemic or pandemic. For example, a facility could be closed by government authorities for a sustained period of time, some or all of our workforce could be unavailable due to quarantine, fear of catching the disease or other factors, and local, national or international transportation or other infrastructure could be affected, leading to delays or loss of production. In addition, our suppliers and customers are subject to similar risks, which could lead to a shortage of inventory or components, or a reduction in our customers’ demand for our products.
An increase in competition could decrease sales or earnings.
We operate in a highly competitive industry. We compete directly with national, regional and local providers of industrial products. Competition is primarily focused in the local service area and is generally based on product line breadth, quality, product availability, service capabilities and price. Some of our existing competitors have, and new market entrants may have, greater financial and marketing resources than we do. To the extent existing or future competitors seek to gain or retain market share by reducing prices, we may be required to lower our prices, thereby adversely affecting our financial results. Existing or future competitors also may seek to compete with us for acquisitions, which could have the effect of increasing the price and reducing the number of suitable acquisitions. Other companies, including our current customers, could seek to compete directly with our private branded products, which could adversely affect our sales of those products and ultimately our financial results. Our existing customers, as well as suppliers, could seek to compete with us by offering services similar to ours, as well as the increasing trend of our suppliers to sell direct to our customer and industry consolidation, which could adversely affect our market share and our financial results. In addition, competitive pressures resulting from economic conditions and the industry trend toward consolidation could adversely affect our growth and profit margins.
Changes to the U.S. tax, tariff and import/export regulations may have a negative effect on our results of operations.
We import a relatively small but growing percentage of our wire and cable products, as well as a significant portion of our hardware products, from foreign manufacturers. Changes resulting from the 2017 Tax Cuts and Jobs Act could disrupt supply chains on imported goods which could result in limited availability of supply, or cost competitiveness of supply. In addition, recent proposals regarding tariffs have created uncertainty about future trade policies, and any changes in import tariffs or other trade regulations could have a negative impact on our cash flow and require us to change our sourcing and supply chain strategies, adversely affecting our profitability.
Business and Operational Risks
We have risks associated with inventory.
Our business requires us to maintain substantial levels of inventory. We must identify the right mix and quantity of products to keep in our inventory to fulfill customer orders. Failure to do so could adversely affect our sales and earnings. However, if our inventory levels are too high, we are at risk that unexpected changes in circumstances, such as a shift in market demand, drop in prices or loss of a customer, could have a material adverse impact on the net realizable value of our inventory.
We have risks associated with our customers’ access to credit.
Poor credit market conditions may adversely impact the availability of construction and other project financing, upon which many of our customers depend, resulting in project cancellations or delays. Our utility and industrial customers may also face limitations when trying to access the credit markets to fund ongoing operations or capital projects. Credit constraints experienced by our customers may result in lost revenues, reduced gross margins for us and, in some cases, higher than expected bad debt losses.
If we are unable to maintain our relationships with our customers, it could have a material adverse effect on our financial results.
We rely on customers to purchase our industrial products. The number, size, business strategy and operations of these customers vary widely from market to market. Our success depends heavily on our ability to identify and respond to our customers’ needs.
In 2020, our ten largest customers accounted for approximately 33% of our sales. If we were to lose one or more of our large customers, or if one or more of our large customers were to significantly reduce their purchases from us, and we were unable to replace the lost sales on similar terms, we could experience a significant loss of revenue and profits. In addition, if one or more of our key customers failed or were
unable to pay, we could experience a write-off or write-down of the related receivables, which could adversely affect our earnings. We participate with national marketing groups and engage in joint promotional sales activities with the members of those groups. Any exclusion of us from, or refusal to allow us to participate in, such national marketing groups could have a material adverse effect on our sales and our results of operations.
An inability to obtain the products that we distribute could result in lost revenues and reduced profits and damage our relationships with customers.
In 2020, we sourced products from approximately 344 suppliers. However, we have adopted a strategy to concentrate our purchases with a small number of suppliers in order to maximize product quality, delivery dependability, purchasing efficiencies and vendor rebates. As a result, in 2020 approximately 55% of our purchases came from ten suppliers. If any of these suppliers changes its sales strategy or decides to terminate its business relationship with us, our sales and earnings could be adversely affected unless and until we were able to establish relationships with suppliers of comparable products. In addition, if we are not able to obtain the products we distribute from either our current suppliers or other competitive sources, we could experience a loss of revenue, reduction in profits and damage to our relationships with our customers. Supply shortages may occur as a result of unanticipated demand or production cutbacks, shortages of raw materials, labor disputes or weather conditions affecting products or shipments, transportation disruptions or other reasons beyond our control. When shortages occur, suppliers often allocate products among their customers, and our allocations might not be adequate to meet our customers' needs.
Loss of key personnel or our inability to attract and retain new qualified personnel could hurt our ability to operate and grow successfully.
Our success depends to a significant extent on the services of our executive officers, key management and sales personnel. We do not have key man life insurance covering any of our executive officers. We may not be able to retain our executive officers, key personnel or attract additional qualified management and sales personnel. The loss of any of our executive officers or our other key management and sales personnel or our inability to recruit and retain qualified personnel could hurt our ability to operate and make it difficult to maintain our market share and to execute our growth strategies.
A change in vendor rebate programs could adversely affect our gross margins and results of operations.
The terms on which we purchase products from many of our suppliers entitle us to receive a rebate based on the volume of our purchases. These rebates effectively reduce our costs for products. If suppliers adversely change the terms of some or all of these programs, the changes may lower our gross margins on products we sell and may have an adverse effect on our operating results.
Information Technology Risks
If we encounter difficulties with our management information systems, including cyber-attacks, we would experience problems managing our business.
We believe our management information systems are a competitive advantage in maintaining a leadership position in the industrial supply industry. We rely upon our management information systems to manage and replenish inventory, determine pricing, fill and ship orders on a timely basis and coordinate our sales and marketing activities. If we experience problems with our management information systems, we could experience product shortages, diminished inventory control or an increase in accounts receivable. As a result of the COVID-19 pandemic, remote access to our networks and systems has increased substantially. All management information systems are vulnerable to security threats, such as hacking, viruses, malicious software, and other unlawful attempts to disrupt or gain access to these systems. The steps we have taken to mitigate these risks may not be effective to prevent breaches of our information technology infrastructure, some of which is managed by third parties, and we may be more vulnerable to a successful cyber-attack or information security incident while our workforce works remotely. Breaches of our IT infrastructure could lead to disruptions in our business, potentially including the theft, destruction, loss, misappropriation, or release of confidential employee and customer information stored on our IT systems or confidential data or other business information and subject us to potential lawsuits or other material legal liabilities. These disruptions could adversely affect our operations, financial position, and results of operations.
Legal and Regulatory Risks
We may be subject to product liability claims that could be costly and time consuming.
We sell industrial products. As a result, from time to time we have been named as a defendant in lawsuits alleging that these products caused physical injury or injury to property. We rely on product warranties and indemnities from the product manufacturers, as well as insurance that we maintain, to protect us from these claims. However, if manufacturers' warranties and indemnities and our insurance coverage are not available or inadequate to cover every claim, it could have an adverse effect on our operating results.
Credit and Liquidity Risks
We may be adversely affected by the expected discontinuation of LIBOR.
In November 2020, ICE Benchmark Administration, the administrator of U.S. Dollar LIBOR, announced that, following required consultations, (i) it intends to cease publication of 1-week and 2-month USD LIBOR at the end of 2021 and (ii) subject to compliance with applicable regulations, it does not intend to cease publication of the remaining USD LIBOR tenors until June 30, 2023. This announcement is expected to effectively end LIBOR rates beginning June 2023, and, while other alternatives have been proposed, it is unclear which, if any, alternative to LIBOR will be available and widely accepted in major financial markets. Our loan agreement permits both base rate borrowings and LIBOR borrowings. If an alternative to LIBOR is not available and widely accepted after 2023, our ability to borrow at an alternative to the base rate under our loan agreement may be adversely impacted, and the costs associated with any potential future borrowings may increase.

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ITEM 1B. UNRESOLVED STAFF COMMENTS
ITEM 1B. UNRESOLVED STAFF COMMENTS
None.

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ITEM 2. PROPERTIES
ITEM 2. PROPERTIES
Facilities
We operate out of 19 distribution centers strategically located throughout the United States with approximately 885,000 square feet of distribution space. We own two facilities in Houston, Texas, including our corporate headquarters. All of the other facilities are leased, except for our two locations operated by third-party logistics providers, which are provided under service agreements. Seventeen of the facilities, in addition to containing inventory for re-sale, house knowledgeable sales staff. We believe that our properties are in good operating condition and adequately serve our current business operations.

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ITEM 3. LEGAL PROCEEDINGS
ITEM 3. LEGAL PROCEEDINGS
From time to time, we are involved in lawsuits that are brought against us in the normal course of business. We are not currently a party to any legal proceedings that we expect, either individually or in the aggregate, to have a material adverse effect on our business or financial condition.

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ITEM 4. MINE SAFETY DISCLOSURE
ITEM 4. MINE SAFETY DISCLOSURES
Not applicable.
SUPPLEMENTAL ITEM. EXECUTIVE OFFICERS OF THE REGISTRANT
Name/Office
Age
Business Experience
During Last 5 Years
James L. Pokluda III
President and Chief Executive Officer
Chief Executive Officer since January 2012 and President since May 2011. Prior thereto, Vice President Sales & Marketing of the Company from April 2007 until May 2011.
Eric W. Davis
Vice President and Chief Financial Officer
Vice President, Chief Financial Officer, Treasurer and Secretary since November 2020. Prior thereto, Interim Chief Financial Officer from June 2020 until November 2020, President - Heavy Lift from October 2015 until June 2020 and Vice President & Controller from December 2001 until October 2015.
Jerry M. Zurovchak
Senior Vice President and Chief Operating Officer
Senior Vice President and Chief Operating Officer since June 2020. Prior thereto, Director, Operations from September 2019 June 2020.
PART II

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ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
Our common stock is listed on The NASDAQ Global Market under the symbol “HWCC”. As of December 31, 2020, there were 1,457 holders of record, including participants in security position listings. This figure does not include those beneficial holders whose shares may be held by brokerage firms and clearing agencies.
Purchases of Equity Securities by the Issuer and Affiliated Purchasers
The board authorized a stock repurchase program of $25 million in March 2014. The program has no expiration date. Purchases under the stock repurchase program were suspended in November 2016 and reactivated in August 2019. At December 31, 2020, there was $8.1 million available under the program to repurchase stock.
Dividend Policy
We paid a quarterly cash dividend from August 2007 until August 2016. The Board of Directors determined to suspend the regular dividend in November 2016, to redeploy funds for other purposes. We do not intend to resume the payment of cash dividends in the foreseeable future.
Securities Authorized for Issuance under Equity Compensation Plans
The information called for by this Item regarding securities available for issuance is provided in response to Item 12.

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ITEM 6. SELECTED FINANCIAL DATA
ITEM 6. SELECTED FINANCIAL DATA
You should read the following selected financial information together with our consolidated financial statements and the related notes and the "Management's Discussion and Analysis of Financial Condition and Results of Operations" appearing elsewhere in this Form 10-K. We have derived the consolidated statement of operations data for each of the years ended December 31, 2020, 2019 and 2018, and the consolidated balance sheet data at December 31, 2020 and 2019, from our audited financial statements, which are included in this Form 10-K. We have derived the consolidated statement of operations data for each of the years ended December 31, 2017 and 2016, and the consolidated balance sheet data at December 31, 2018, 2017 and 2016 from our audited financial statements, which are not included in this Form 10-K.
Year Ended December 31,
2017
(Dollars in thousands, except share data)
CONSOLIDATED STATEMENT OF OPERATIONS DATA:
Sales $ 286,017 $ 338,286 $ 356,858 $ 317,697 $ 261,644
Cost of sales 222,968 258,364 271,650 245,035 208,694
Gross profit 63,049 79,922 85,208 72,662 52,950
Operating expenses:
Salaries and commissions 33,007 37,180 38,110 36,570 29,369
Other operating expenses 28,896 33,238 30,962 28,716 24,714
Depreciation and amortization 3,377 2,502 2,178 2,772 3,018
Impairment charge - 2,384
Loss on divestiture/classification to held for sale (HFS classification) 8,727 - - - -
Total operating expenses 74,380 73,040 71,310 68,058 59,485
Operating income (loss) (11,331 ) 6,882 13,898 4,604 (6,535 )
Interest (expense) (1,887 ) (3,057 ) (2,907 ) (2,073 ) (845 )
Income (loss) before income taxes (13,218 ) 3,825 10,991 2,531 (7,380 )
Income tax (expense) benefit (1,275 ) (2,355 ) (2,753 ) 1,374
Net income (loss) $ (12,582 ) $ 2,550 $ 8,636 $ (222 ) $ (6,006 )
Earnings (loss) per share:
Basic $ (0.76 ) $ 0.16 $ 0.53 $ (0.01 ) $ (0.37 )
Diluted $ (0.76 ) $ 0.15 $ 0.52 $ (0.01 ) $ (0.37 )
Weighted average common shares outstanding:
Basic 16,504,141 16,433,644 16,389,876 16,269,611 16,345,679
Diluted 16,504,141 16,552,866 16,523,599 16,269,611 16,345,679
As of December 31,
2017
(Dollars in thousands)
CONSOLIDATED BALANCE SHEET DATA:
Cash and cash equivalents $ - $ 4,096 $ 1,393 $ - $ -
Accounts receivable, net $ 41,279 $ 56,965 $ 59,793 $ 57,396 $ 44,677
Inventories, net $ 68,470 $ 114,069 $ 94,325 $ 88,115 $ 79,783
Total assets $ 157,712 $ 240,148 $ 203,057 $ 194,039 $ 175,870
Book overdraft (1) $ 1,662 $ - $ - $ 3,028 $ 3,181
Revolver debt $ 22,580 $ 83,500 $ 71,316 $ 73,555 $ 60,388
Stockholders’ equity $ 91,894 $ 103,628 $ 100,678 $ 90,744 $ 90,131
(1) Our book overdraft is funded by our revolving credit facility as soon as the related checks clear our disbursement accounts.

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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
You should read the following discussion in conjunction with our consolidated financial statements and related notes appearing elsewhere in this Form 10-K. In addition to historical information, this discussion contains forward-looking statements that involve risks, uncertainties and assumptions that could cause actual results to differ materially from our expectations. Factors that could cause such differences include those described in “Risk Factors” and elsewhere in this Form 10-K. Certain tabular information may not foot due to rounding.
Overview
Since our founding 45 years ago, we have grown to be a large provider of industrial products to the U.S. market. Today, we serve over 8,500 customers. Our products are used in MRO activities and related projects, as well as for larger-scale projects in the utility, industrial and infrastructure markets and a diverse range of industrial applications including communications, energy, engineering and construction, general manufacturing, mining, infrastructure, oilfield services, petrochemical, transportation, utility, wastewater treatment and food and beverage. In the past few years, activity in the MRO market has fluctuated, while the level of competition has increased.
Our revenue is driven in part by the level of capital spending within the end-markets we serve. Because many of these end-markets defer capital expenditures during periods of economic downturns, our business has experienced cyclicality. Our revenue has been and will continue to be impacted by fluctuations in capital spending and by our ability to drive demand through our sales and marketing initiatives and the continued development and marketing of our private branded products, such as LifeGuardTM. In 2020, we were negatively impacted by the COVID-19 pandemic by reducing economic activity and demand for our products, especially in the oil and gas industry, which is our biggest market. Although economic activity and commodity prices have recently begun to show signs of recovery, we cannot yet predict how long the pandemic will continue to have a negative impact on our sales and level of demand.
Our direct costs will continue to be influenced significantly by the prices we pay our suppliers to procure the products we distribute to our customers. Changes in these costs may result, for example, from increases or decreases in raw material costs, changes in our relationships with suppliers or changes in vendor rebates. Our operating expenses will continue to be affected by our investment in sales, marketing and customer support personnel and commissions paid to our sales force for revenue and profit generated. Some of our operating expenses are related to our fixed infrastructure, including rent, utilities, information technology, administrative salaries, maintenance, insurance and supplies. To meet our customers’ needs for an extensive product offering and short delivery times, we will need to continue to maintain adequate inventory levels. Our ability to obtain this inventory will depend, in part, on our relationships with suppliers.
Critical Accounting Policies and Estimates
Critical accounting policies are those that both are important to the accurate portrayal of a company’s financial condition and results of operations, and require subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain.
In order to prepare financial statements that conform to accounting principles generally accepted in the United States, commonly referred to as GAAP, we make estimates and assumptions that affect the amounts reported in our financial statements and accompanying notes. Certain estimates are particularly sensitive due to their significance to the financial statements and the possibility that future events may be significantly different from our expectations.
We have identified the following accounting policies as those that require us to make the most subjective or complex judgments in order to fairly present our consolidated financial position and results of operations. Actual results in these areas could differ materially from management’s estimates under different assumptions and conditions.
Allowance for Doubtful Accounts
We maintain an allowance for doubtful accounts receivable for estimated losses resulting from the inability of our customers to make required payments. Consistent with industry practices, we require payment from most customers within 30-60 days of the invoice date. We have an estimation procedure, based on historical data and recent changes in the aging of the receivables, that we use to record an allowance. A 20% change in our estimate at December 31,2020 would have resulted in a change in income before income taxes of less than $0.1 million for the year ended December 31, 2020.
Refund Liability
We estimate the gross profit impact of returns and allowances for previously recorded sales. This liability is calculated on historical and statistical returns and allowances data and adjusted as trends in the variables change. A 20% change in our estimate at December 31, 2020 would have resulted in a change in income before income taxes of approximately $0.4 million for the year ended December 31, 2020.
Vendor Rebates
Some of our arrangements with our vendors entitle us to receive a rebate of a specified amount when we achieve any of a number of measures, generally related to the volume of purchases from the vendor. We account for such rebates as a reduction of the prices of the vendor’s products and therefore as a reduction of inventory until we sell the product, at which time such rebates reduce cost of sales. Throughout the year, we estimate the amount of the rebates earned based on purchases to date relative to the total purchase levels expected to be achieved during the rebate period. We continually revise these estimates to reflect rebates expected to be earned based on actual purchase levels and forecasted purchase volumes for the remainder of the rebate period. A 20% change in our estimate of total rebates earned during 2020 would have resulted in a change in loss before income taxes of $0.8 million for the year ended December 31, 2020.
Inventory Reserves
Inventories are valued at the lower of cost, using the average cost method, or net realizable value. We continually monitor our inventory levels at each of our distribution centers. Our reserve for inventory is based on the age of the inventory, movements of our inventory over the prior twelve months and the experience of our purchasing and sales departments in estimating demand for the product in the succeeding year. Our inventories are generally not susceptible to technological obsolescence. At December 31, 2020 and 2019, inventory reserves totaled $3.1 million and $3.6 million, respectively. A 20% change in our inventory reserve estimate at December 31, 2020 would have resulted in a change in income before income taxes of $0.6 million.
Goodwill
Goodwill represents the excess of the amount we paid to acquire businesses over the estimated fair value of tangible assets and identifiable intangible assets acquired, less liabilities assumed. Determining the fair value of assets acquired and liabilities assumed requires management’s judgment and often involves the use of significant estimates and assumptions, including assumptions with respect to future cash flows, discount rates and asset lives among other items. At December 31, 2020, our goodwill balance was $9.8 million, representing 6.2% of our total assets. In connection with the sale of Southern, we wrote-off $12.5 million of goodwill at December 31, 2020.
We conduct impairment testing for goodwill annually in the fourth quarter of our fiscal year and more frequently, on an interim basis, when an event occurs or circumstances change that indicate that the fair value of a reporting unit may have declined below its carrying value. Events or circumstances which could indicate a probable impairment include, but are not limited to, financial performance, industry and market conditions, macroeconomic conditions, reporting unit-specific events, historical results of goodwill impairment testing and the timing of the last performance of a quantitative assessment.
We test goodwill at the reporting unit level, which is defined as an operating segment or one level below an operating segment that constitutes a business for which financial information is available and is regularly reviewed by management. We have determined that, in 2020, we had four reporting units for this purpose. At December 31, 2020, we only had three reporting units due to the sale of Southern. Before testing goodwill, we consider whether or not to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more-likely-than-not that the fair value of a reporting unit is less than its carrying amount and whether an impairment test is required.
The goodwill impairment test consists of assessing qualitative factors to determine whether it is more-likely-than-not that the fair value of a reporting unit is less than its carrying amount, including goodwill. We may bypass the qualitative assessment for any reporting unit in any period and proceed directly to performing the quantitative goodwill impairment test. The quantitative goodwill impairment test, used to identify both the existence of impairment and the amount of impairment loss, compares the fair value of a reporting unit with its carrying amount, including goodwill. If the fair value of a reporting unit exceeds its carrying amount, goodwill of the reporting unit is considered not impaired. If the carrying amount of a reporting unit exceeds its fair value, an impairment loss is recognized in an amount equal to that excess, limited to the total amount of goodwill allocated to that reporting unit.
When performing goodwill impairment testing, the fair values of reporting units are determined based on valuation techniques using the best available information. Inherent in such fair value determinations are certain judgments and estimates relating to future cash flows, including our interpretation of current economic indicators and market valuations, and assumptions about our strategic plans. In developing fair values for our reporting units, we may employ a market multiple or a discounted cash flow methodology, or a combination thereof. The market multiple methodology compares us to similar companies on the basis of risk characteristics to determine our risk profile relative to the comparable companies as a group. This analysis generally focuses on quantitative considerations, which include financial performance and other quantifiable data, and qualitative considerations, which include any factors which are expected to impact future financial performance. The most significant assumptions affecting the market multiple methodology are the market multiples and control premium. A control premium represents the value an investor would pay above non-controlling interest transaction prices in order to obtain a controlling interest in the respective unit.
The discounted cash flow methodology establishes fair value by estimating the present value of the projected future cash flows to be generated from the reporting unit. The discount rate applied to the projected future cash flows to arrive at the present value is intended to reflect all risks of ownership and the associated risks of realizing the stream of projected future cash flows. The discounted cash flow methodology uses our projections of financial performance. The most significant assumptions used in the discounted cash flow methodology are the discount rate and expected future revenue and operating margins, which vary among reporting units. If actual results are not consistent with our assumptions and judgments used in estimating future cash flows and asset fair values, we may be exposed to future impairment losses that could be material to our results of operations.
Intangible Assets
Our intangible assets, excluding goodwill, represent tradenames and customer relationships acquired in purchase transactions, as well as internal-use software acquired in 2020. At December 31, 2020, our intangible asset balance was $7.4 million, representing 4.7% of our total assets. Tradenames are not being amortized and are treated as indefinite-lived assets. Tradenames are tested for recoverability in the fourth quarter of our fiscal year, and more frequently, on an interim basis, when an event occurs or circumstances change that indicate that the fair value may have declined below its carrying value. We consider whether or not to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more-likely-than-not that the fair value of an intangible asset is less than its carrying amount. If as a result of our qualitative assessment, we determine that an impairment test is required, or alternatively, if we elect to forego the qualitative assessment, we perform a quantitative test and, if required, record an impairment for the difference in the discounted cash flows and the carrying value. The results of the interim qualitative test in the first and second quarter of 2020 indicated that certain of the tradenames at Southwest and Vertex were impaired. Accordingly, we performed a quantitative test on Southwest and Vertex which resulted in an impairment charge of $0.2 million in March 2020 and $0.2 million in June 2020.
We assign useful lives to our intangible assets based on the periods over which we expect the assets to contribute directly or indirectly to our future cash flows. Customer relationships are amortized over 6 to 9 year useful lives and internal software is amortized over 3 year useful life. If events or circumstances were to indicate that any of our definite-lived intangible assets might be impaired, we would assess recoverability based on the estimated undiscounted future cash flows to be generated from the applicable intangible asset.
When performing quantitative assessments for impairment, we use various assumptions in determining the current fair value of these indefinite-lived intangible assets, including future expected cash flows and discount rates under the relief from royalty method, as well as other fair value measures. If actual results are not consistent with our assumptions and judgments used in estimating future cash flows and asset fair values, we may be exposed to future impairment charges that could be material to our results of operations.
Income Taxes
We determine deferred tax assets and liabilities based on differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes and measure them using the enacted tax rates and laws that will be in effect when the differences are expected to reverse.
Estimates, judgments and assumptions are required in determining whether deferred tax assets will be fully or partially realized. We establish a valuation allowance to reduce the deferred tax assets when it is more-likely-than-not that some portion or all of the deferred tax assets will not be realized. In evaluating the ability to realize deferred tax assets, we consider all available positive and negative evidence, in determining whether, based on the weight of that evidence, a valuation allowance is needed for part or all of the deferred tax assets. In determining the need for a valuation allowance on our deferred tax assets, we place greater weight on recent and objectively verifiable current information, as compared to more forward-looking information that is used in valuing other assets on the consolidated balance sheet. We have considered taxable income in prior carryback years, future reversals of existing taxable temporary differences, future taxable income, and tax planning strategies in assessing the need for the valuation allowance.
We establish liabilities for estimated tax issues, and the provisions and benefits resulting from changes to those liabilities are included in our annual tax provision along with related interest. We recognize interest on any tax issue as a component of interest expense and any related penalties in other operating expenses.
Impact of the COVID-19 Pandemic
The COVID-19 pandemic has spread throughout the United States and the countries in which our offshore suppliers are located. Governments in affected regions have implemented safety precautions which include quarantines, travel restrictions, business closures, cancellations of public gatherings and other measures as they deem necessary. Many organizations and individuals, including our Company and our employees are taking additional steps to avoid or reduce infection, including limiting travel and working remotely. We continue to monitor our operations and government recommendations and have made modifications to our normal operations because of the pandemic, including requiring most of our nonessential employees to work remotely. We have maintained a substantial portion of our operational capacity at our warehouses across the continental United States and have instituted several health and safety protocols and procedures to safeguard our employees.
The rapid development and uncertainty of the COVID-19 pandemic precludes any prediction as to the ultimate effect of the COVID-19 outbreak on our business. However, the outbreak has had an adverse impact on our business, including reductions in the demand for our products, especially from the oil and gas market. In response, we applied for and received funds under the Paycheck Protection Program and have implemented several cost savings measures which included furloughing employees, reducing headcount, temporary payroll reductions, and other actions to decrease corporate and non-critical expenses. These cost savings measures, which began to have an impact in the latter part of the second quarter, resulted in additional savings for the balance of the year. While we cannot reasonably estimate the length or severity of this pandemic, we currently anticipate an adverse impact on our consolidated financial position, consolidated results of operations, and consolidated cash flows at least through the first quarter of 2021.
Sales
Our primary source of revenue is the sale of industrial products based upon purchase orders or contracts with customers, as well as billing for freight charges. Revenue is recognized at a point in time once we have determined that the customer has obtained control over the product. Control is typically deemed to have been transferred to the customer when the product is shipped or delivered (either by customer pickup or through common carrier). Sales incentives earned by customers are accrued in the same month as the shipment is invoiced and are accounted for as a reduction in sales.
Cost of Sales
Cost of sales consists primarily of the average cost of the industrial products that we sell. We also incur shipping and handling costs in the normal course of business. Cost of sales also reflects cash discounts for prompt payment to vendors and vendor rebates generally related to annual purchase targets, as well as inventory obsolescence charges.
Operating Expenses
Operating expenses include all expenses, excluding freight, incurred to receive, sell and ship product and administer the operations of the Company.
Salaries and Commissions. Salary expense includes the base compensation, and any overtime earned by hourly personnel, for all sales, administrative and warehouse employees and stock compensation expense for options and restricted stock granted to employees. Commission expense is earned by inside sales personnel based on gross profit dollars generated, by field sales personnel from generating sales and meeting various objectives, by sales, national and marketing managers for driving the sales process, by region managers based on the profitability of their branches and by corporate managers based primarily on our profitability and also on other operating metrics.
Other Operating Expenses. Other operating expenses include all payroll taxes, health insurance, travel expenses, public company expenses, advertising, management information system expenses, facility rent and all distribution expenses such as packaging, reels, and repair and maintenance of equipment and facilities.
Depreciation and Amortization. We incur depreciation expense on costs related to capitalized property and equipment on a straight-line basis over the estimated useful lives of the assets, which range from three to thirty years. We incur amortization expense on leasehold improvements and finance leases over the shorter of the lease term or the life of the related asset and on intangible assets over the estimated life of the asset.
Interest Expense
Interest expense consists primarily of interest we incur on our debt.
Results of Operations
The following discussion compares our results of operations for the years ended December 31, 2020, 2019, and 2018.
The following table shows, for the periods indicated, information derived from our consolidated statements of operations, expressed as a percentage of sales for the period presented.
Year Ended December 31,
Sales 100.00 % 100.0 % 100.0 %
Cost of sales 78.0 % 76.4 % 76.1 %
Gross profit 22.0 % 23.6 % 23.9 %
Operating expenses:
Salaries and commissions 11.5 % 11.0 % 10.7 %
Other operating expenses 10.1 % 9.8 % 8.7 %
Depreciation and amortization 1.2 % 0.7 % 0.6 %
Impairment charge 0.1 % n/m n/m
Loss on divestiture/HFS classification 3.1 % - -
Total operating expenses 26.0 % 21.6 % 20.0 %
Operating income (loss) (4.0 )% 2.0 % 3.9 %
Interest income (expense) (0.7 )% (0.9 )% (0.8 )%
Income (loss) before income taxes (4.6 )% 1.1 % 3.1 %
Income tax (expense) benefit 0.2 % (0.4 )% (0.7 )%
Net income (loss) (4.4 )% 0.8 % 2.4 %
Note: Due to rounding, percentages may not add up to total operating expenses, operating income (loss), income (loss) before income taxes or net income (loss).
Comparison of Years Ended December 31, 2020 and 2019
Sales
Year Ended
December 31,
(Dollars in millions) Change
Sales $ 286.0 $ 338.3 $ (52.3 ) (15.5 )%
Our sales in 2020 decreased $52.3 million or 15.5% from 2019. The decrease in sales was primarily due to the decline in the oil and gas market, in addition to reduced market demand, both as a result of the COVID-19 pandemic. We estimate sales for our project business, which targets end markets for Environmental Compliance, Engineering & Construction, Industrials, Utility Power Generation, and Mechanical Wire Rope, decreased 10%, while Maintenance, Repair, and Operations (MRO) sales decreased 17%, as compared to 2019.
Gross Profit
Year Ended
December 31,
(Dollars in millions) Change
Gross profit $ 63.0 $ 79.9 $ (16.9 ) (21.1 )%
Gross profit as a percent of sales 22.0 % 23.6 %
Gross profit decreased $16.9 million or 21.1% from 2019. The decrease in gross profit was primarily due to decreased sales from the decline in the oil and gas market caused by the COVID-19 pandemic. Gross margin (gross profit as a percentage of sales) decreased from 23.6% in 2019 to 22.0% in 2020 due to the $0.6 million inventory returned under a one-time agreement with a vendor in the second quarter of 2020, as well as lower rebates from vendors and reduced prompt pay discounts.
Operating Expenses
Year Ended
December 31,
(Dollars in millions) Change
Operating expenses:
Salaries and commissions $ 33.0 $ 37.2 $ (4.2 ) (11.2 )%
Other operating expenses 28.9 33.2 (4.3 ) (13.1 )%
Depreciation and amortization 3.4 2.5 0.9 35.0 %
Impairment charge 0.4 0.1 0.3 210.8 %
Loss on divestiture/HFS classification 8.7 0.0 8.7 n/m
Total operating expenses $ 74.4 $ 73.0 $ 1.3 1.8 %
Operating expenses as a percent of sales 26.0 % 21.6 %
Note: Due to rounding, numbers may not add up to total operating expenses.
Salaries and Commissions. Salaries and commissions decreased $4.2 million or 11.2% due to expense management necessitated by the decrease in oil and gas prices and the COVID-19 pandemic, as well as lower commissions resulting from the decrease in sales. Reduced full-time headcount, reduced temporary labor and partial-year salary reductions all contributed to the lower salaries and commissions expense.
Other Operating Expenses. Other operating expenses decreased $4.3 million or 13.1% also due to expense management in response to the COVID-19 pandemic, primarily from lower travel and entertainment, advertising, office and warehouse supply expenses. In the third quarter of 2019, we recorded a $2.2 million early lease termination liability related to Vertex’s former Massachusetts facility.
Depreciation and Amortization. Depreciation and amortization increased to$3.4 million in 2020 from $2.5 million in 2019 primarily due to depreciation on right-of-use assets and amortization of internal-use software acquired in the third quarter of 2020.
Impairment Charge. We recorded non-cash impairment charges in 2020 and 2019 with respect to tradenames at our Southwest and Vertex reporting units. (See Note 4 to our Consolidated Financial Statements)
Loss on divestiture/HFS classification. In December 2020, we completed the sale of Southern to Southern Rigging Companies, LLC (“Southern Rigging”) for $17.5 million, net of the final working capital adjustment. In January 2021, we entered into an agreement to sell Southwest to Southern Rigging for $5.0 million, subject to a working capital adjustment, and as such, have classified Southwest as held for sale as of December 31, 2020. In connection with the divestiture of Southern and the classification of Southwest as held for sale, we recorded non-cash losses of $8.7 million in December 2020. (See Note 13 to our Consolidated Financial Statements)
Interest Expense
Interest expense decreased 38.3% from $3.1 million in 2019 to $1.9 million in 2020 due to lower average debt and a decrease in interest rates. Average debt was $72.0 million in 2020 compared to $76.6 million in 2019. The average effective interest rate decreased from 3.8% in 2019 to 2.3% in 2020.
Income Tax
The income tax benefit of $0.6 million in 2020 decreased from the income tax expense of $1.3 million in 2019. The effective income tax rate was 4.8% in 2020 compared to 33.3% in 2019. The effective tax rate is affected by recurring items, such as nondeductible expenses, share-based compensation and state taxes. In addition, the effective tax rate for 2020 included a benefit of 13.9% for the sale of Southern.
Comparison of Years Ended December 31, 2019 and 2018
Sales
Year Ended
December 31,
(Dollars in millions) Change
Sales $ 338.3 $ 356.9 $ (18.6 ) (5.2 )%
Our sales in 2019 decreased $18.6 million or 5.2% from 2018. The decrease in sales was primarily due to reduced industrial market demand in oil and gas geographies, reduced demand for fasteners and reduced availability of inventory due to supply chain disruptions resulting from the on-going trade discussions between the United States and China. We estimate sales for our project business, which targets end markets for Environmental Compliance, Engineering & Construction, Industrials, Utility Power Generation, and Mechanical Wire Rope, decreased 5%, while MRO sales decreased 6%, as compared to 2018. When adjusted for fluctuations in commodity prices of approximately 2%, we estimate that MRO and project business sales decreased by 4% and 3%, respectively.
Gross Profit
Year Ended
December 31,
(Dollars in millions) Change
Gross profit $ 79.9 $ 85.2 $ (5.3 ) (6.2 )%
Gross profit as a percent of sales 23.6 % 23.9 %
Gross profit decreased $5.3 million or 6.2% from 2018. The decrease in gross profit was primarily due to decreased sales. Gross margin was near flat at 23.6% in 2019 compared to 23.9% in 2018.
Operating Expenses
Year Ended
December 31,
(Dollars in millions) Change
Operating expenses:
Salaries and commissions $ 37.2 $ 38.1 $ (0.9 ) (2.4 )%
Other operating expenses 33.2 31.0 2.3 7.4 %
Depreciation and amortization 2.5 2.2 0.3 14.9 %
Impairment charge 0.1 0.1 0.1 0.0 %
Total operating expenses $ 73.0 $ 71.3 $ 1.7 2.4 %
Operating expenses as a percent of sales 21.6 % 20.0 %
Note: Due to rounding, numbers may not add up to total operating expenses.
Salaries and Commissions. Salaries and commissions decreased $0.9 million or 2.4% primarily due to lower commissions resulting from the reduction in sales and gross profit.
Other Operating Expenses. Other operating expenses increased $2.3 million or 7.4% primarily due to the $2.2 million early termination liability related to Vertex’s Massachusetts facility lease and additional warehouse distribution expenses resulting from the closure of this facility and two additional warehouse moves in the fourth quarter.
Depreciation and Amortization. Depreciation and amortization increased slightly to $2.5 million in 2019 from $2.2 million in 2018 primarily due to depreciation on right-of-use assets from the adoption of Accounting Standards Update (“ASU”) 842.
Impairment Charge. We recorded non-cash impairment charges in 2019 and 2018 with respect to tradenames at our Southwest reporting unit. (See Note 4 to our Consolidated Financial Statements)
Operating expenses as a percentage of sales increased to 21.6% in 2019 from 20.0% in 2018, as operating expenses increased combined with a reduction in sales.
Interest Expense
Interest expense increased 5.2% to $3.1 million in 2019 from $2.9 million in 2018 due to higher debt to fund increased working capital and the payment of the early termination liability discussed above. Average debt was $76.6 million in 2019 compared to $76.8 million in 2018. The average effective interest rate increased slightly to 3.8% in 2019 from 3.7% in 2018.
Income Tax
Income tax expense decreased 45.9% to $1.3 million in 2019 from $2.4 million in 2018. The effective income tax rate was 33.3% in 2019 compared to 21.4% in 2018. The effective tax rate is affected by recurring items, such as nondeductible expenses, share -based compensation and state taxes. In addition, the effective tax rate for 2018 included a benefit of (9.5%) for the release of the valuation allowance on our net deferred tax assets.
Impact of Inflation and Commodity Prices
Our results of operations are affected by changes in the inflation rate and commodity prices. Moreover, because copper, steel, aluminum, nickel and petrochemical products are components of the industrial products we sell, fluctuations in the costs of these and other commodities have historically affected our operating results. To the extent commodity prices decline, the net realizable value of our existing inventory could also decline, and our gross profit can be adversely affected because of either reduced selling prices or lower of cost or net realizable value adjustments in the carrying value of our inventory. If we turn our inventory approximately three times a year, the impact of changes in commodity prices in any particular quarter would primarily affect the results of the succeeding two calendar quarters. If we are unable to pass on to our customers future cost increases due to inflation or rising commodity prices, our operating results could be adversely affected.
Liquidity and Capital Resources
Our primary capital needs are for working capital obligations, capital expenditures, and other general corporate purposes, including acquisitions. Our primary sources of working capital are cash from operations supplemented by bank borrowings.
Liquidity is defined as the ability to generate adequate amounts of cash to meet the current need for cash. We assess our liquidity in terms of our ability to generate cash to fund our operating activities. Significant factors which could affect liquidity include the following:
• the adequacy of available bank lines of credit;
• cash flows generated from operating activities;
• capital expenditures;
• acquisitions; and
• the ability to attract long-term capital with satisfactory terms
Comparison of Years Ended December 31, 2020 and 2019
Our net cash provided by operating activities was $36.9 million in 2020 compared to net cash used in operating activities of $5.6 million in 2019. We had a net loss of $12.6 million in 2020 compared to net income of $2.6 million in 2019.
Changes in our operating assets and liabilities resulted in cash provided by operating activities of $33.4 million in 2020. The majority of the change was due to decreases in inventories of $36.3 million, primarily due to efforts to reduce debt, decreases in accounts receivable of $13.6 million due to decreased sales. The main uses of cash were a decrease in accrued and other liabilities of $9.6 million, a decrease in trade accounts payable of $7.2 million as a result of the decrease in inventory, and lease payments of $3.6 million.
Net cash provided by investing activities was $14.7 million in 2020 compared to net cash used in investing activities of $2.4 million in 2019. The net cash provided by was primarily due to the sale of the Southern reporting unit in December 2020.
Net cash used in financing activities was $55.6 million in 2020 compared to cash provided by financing activities of $10.7 million in 2019. Net payments on the revolver of $60.9 million were the primary uses of cash in 2020, offset by the Paycheck Protection Plan loan of $6.2 million received in the second quarter of 2020.
Comparison of Years Ended December 31, 2019 and 2018
Our net cash used in operating activities was $5.6 million in 2019 compared to cash provided by operating activities of $5.3 million in 2018. We had net income of $2.6 million in 2019 compared to $8.6 million in 2018.
Changes in our operating assets and liabilities resulted in cash used in operating activities of $19.3 million in 2019. The majority of the change was due to increased inventories of $20.3 million and lease payments of $6.2 million. Partially offsetting these uses of cash was the increase of accounts payable of $2.6 million, increase in accrued liabilities of $2.4 million and decrease in accounts receivable of $2.6 million.
Net cash used in investing activities was $2.4 million in 2019 compared to $1.5 million in 2018. The increase was primarily due to expenditures for the computer system upgrade and conversion.
Net cash provided by financing activities was $10.7 million in 2019 compared to cash used in financing activities of $2.5 million in 2018. Net borrowings under our revolver of $12.2 million and the purchase of treasury stock of $1.2 million were the main components of financing activities in 2019.
Indebtedness
Our principal source of liquidity at December 31, 2020 was working capital of $91.4 million compared to $138.5 million at December 31, 2019. We also had available borrowing capacity of approximately $47.5 million at December 31, 2020 and 22.8 million at December 31, 2019 under our loan agreement.
We believe that we will have adequate availability of capital to fund our present operations, meet our commitments on our existing debt, and fund anticipated growth over the next twelve months, including expansion in existing and targeted market areas. We continually seek potential acquisitions and from time to time hold discussions with acquisition candidates. If suitable acquisition opportunities or working capital needs arise that would require additional financing, we believe that our financial position and earnings history provide a solid base for obtaining additional financing resources at competitive rates and terms. Additionally, based on market conditions, we may decide to issue additional shares of common or preferred stock to raise funds.
Loan and Security Agreement
HWC Wire & Cable Company, Vertex, and Bank of America, N.A., as agent and lender, are parties to the Fourth Amended and Restated Loan and Security Agreement (the “Loan Agreement”), as amended on December 10, 2019. The Loan Agreement provides a $115 million revolving credit facility and expires on March 12, 2024. Under certain circumstances we may request an increase in the commitment by an additional $50 million. Borrowings under the Loan Agreement bear interest at the British Bankers Association LIBOR Rate plus 100 to 150 basis points based on availability, if a LIBOR loan, or at a fluctuating rate equal to the greatest of the agent’s prime rate, the federal funds rate plus 50 basis points, or LIBOR for a 30-day interest period plus 150 basis points, if a base rate loan. The unused commitment fee is 25 basis points. Availability under the Loan Agreement is limited to a borrowing base equal to 85% of the value of eligible accounts receivable, plus the lesser of 70% of the value of eligible inventory or 90% of the net orderly liquidation value percentage of the value of eligible inventory, in each case less certain reserves. The Loan Agreement is secured by substantially all of our property, other than real estate.
Covenants in the Loan Agreement require us to maintain a specified minimum fixed charge coverage ratio, unless certain availability levels exist. Repaid amounts can be re-borrowed subject to the borrowing base. As of December 31, 2020, we met the availability-based covenant.
On May 4, 2020, we received a $6.2 million Paycheck Protection Program (“PPP”) loan from Bank of America (“Lender”), funded under the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”), pursuant to a Promissory Note issued by the Company to Lender. We used the funds to pay payroll related expenses as well as rent expenses, as allowed by the terms of the loan. We have applied for loan forgiveness and believe we will achieve 90-95% forgiveness. Any portion of the loan that is not forgiven will be due on May 4, 2022.
Capital Expenditures
We made capital expenditures of $1.1 million, $2.4 million and $1.5 million in the years ended December 31, 2020, 2019 and 2018, respectively.
Off-Balance Sheet Arrangements
We have no off-balance sheet arrangements.
Financial Derivatives
We have no financial derivatives.
Climate Risk
Our operations are subject to inclement weather conditions, which could potentially be related to climate change, including hurricanes, earthquakes and abnormal weather events. Our previous experience from these events has had a minimal effect on our operations.
Factors Affecting Future Results
This Annual Report on Form 10-K contains statements that may be considered forward-looking. These statements can be identified by the fact that they do not relate strictly to historical or current facts. They use words such as "aim," "anticipate," "believe," "could," "estimate," "expect," "intend," "may," "plan," "project," "should," "will be," "will continue," "will likely result," "would" and other words and terms of similar meaning in conjunction with a discussion of future operating or financial performance. You should read statements that contain these words carefully, because they discuss our future expectations, contain projections of our future results of operations or of our financial position or state other "forward-looking" information. Actual results could differ materially from the results indicated by these statements, because the realization of those results is subject to many risks and uncertainties. Some of these risks and uncertainties are discussed in greater detail under Item 1A, "Risk Factors."
All forward-looking statements are based on current management expectations and speak only as of the date of this filing. Except as required under federal securities laws and the rules and regulations of the SEC, we do not have any intention, and do not undertake, to update any forward-looking statements to reflect events or circumstances arising after the date of this Form 10-K.

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ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
ITEM 7A. - Not applicable and has been omitted.

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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Houston Wire & Cable Company
Index to consolidated financial statements
Page
Reports of Independent Registered Public Accounting Firms
and
Consolidated Balance Sheets as of December 31, 2020 and 2019
Consolidated Statements of Operations for the years ended December 31, 2020, 2019 and 2018
Consolidated Statements of Stockholders’ Equity for the years ended December 31, 2020, 2019 and 2018
Consolidated Statements of Cash Flows for the years ended December 31, 2020, 2019 and 2018
Notes to Consolidated Financial Statements
Report of Independent Registered Public Accounting Firm
To the Shareholders, Board of Directors and Audit Committee
Houston Wire & Cable Company
Houston, Texas
Opinion on the Financial Statements
We have audited the accompanying consolidated balance sheet of Houston Wire & Cable Company (the "Company") as of December 31, 2020, and the related consolidated statements of operations, stockholders’ equity and cash flows for the year ended December 31, 2020, and the related notes (collectively referred to as the "financial statements"). In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2020, and the results of its operations and its cash flows for the year ended December31, 2020, in conformity with accounting principles generally accepted in the United States of America.
Basis for Opinion
These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company's financial statements based on our audit.
We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) ("PCAOB") and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audit we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion.
Our audit included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures include examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audit also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audit provide a reasonable basis for our opinion.
Critical Audit Matter
The critical audit matter communicated below is a matter arising from the current-period audit of the financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.
Tradename Impairment Assessment
The Company’s indefinite lived intangible assets consist of tradenames with a balance of approximately $2.1 million at December 31, 2020. As described in Notes 1 and 4 to the consolidated financial statements, the tradenames are carried at acquisition fair value net of any impairment charges recognized. The Company tests indefinite lived intangible assets for impairment at least annually on October 1, or more frequently whenever events or circumstances occur indicating that they may be impaired. To estimate the fair value of the tradenames, the Company utilizes the relief from royalty method.
The principal consideration for our determination that performing procedures relating to the impairment assessments of the tradenames is a critical audit matter was due to the subjective nature of the assumptions used to estimate the fair value of the tradenames. In particular, the fair value estimate was sensitive to significant assumptions, such as forecasted revenue growth rates, terminal period revenue growth rate, discount rate and royalty rate, which are affected by expectations about future market or economic conditions, including uncertainty resulting from the COVID-19 pandemic.
To test the estimated fair value of the Company’s tradenames, with the support of our internal valuation specialists, we performed audit procedures that included, among others, assessing the valuation methodology and testing the significant assumptions discussed above and the underlying data used by the Company in its analysis. We also compared the significant assumptions used by management to current industry and economic trends.
We have served as the Company's auditor since 2020.
/s/ BKD, LLP
Houston, Texas
March 25, 2021
Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors of Houston Wire & Cable Company
Opinion on the Financial Statements
We have audited the accompanying consolidated balance sheet of Houston Wire & Cable Company (the Company) as of December 31, 2019, and the related consolidated statements of operations, stockholders’ equity, and cash flows for the years ended December 31, 2019 and 2018, and the related notes (collectively referred to as the consolidated financial statements). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company at December 31, 2019, and the results of its operations and its cash flows for the years ended December 31, 2019 and 2018, in conformity with U.S. generally accepted accounting principles.
Basis for Opinion
These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures include examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
/s/ Ernst & Young LLP
We have served as the Company’s auditor from 1997 to 2020.
Houston, Texas
March 13, 2020
Houston Wire & Cable Company
Consolidated Balance Sheets
December 31,
(In thousands, except share data)
Assets
Current assets:
Cash $ - $ 4,096
Accounts receivable, net
Trade 38,057 50,325
Other 3,222 6,640
Inventories, net 68,470 114,069
Income tax receivable - 1,353
Prepaids and other current assets 2,086 1,833
Assets held for sale 6,398 -
Total current assets 118,233 178,316
Property and equipment, net 7,458 14,589
Intangible assets, net 7,390 10,282
Goodwill 9,849 22,353
Deferred income taxes 3,396
Operating lease right-of-use assets, net 10,879 13,481
Other assets
Total assets $ 157,712 $ 240,148
Liabilities and stockholders’ equity
Current liabilities:
Book overdraft $ 1,662 $ -
Trade accounts payable 5,809 13,858
Accrued and other current liabilities 13,547 23,261
Income taxes 1,232 -
Operating lease liabilities 2,699 2,742
Liabilities held for sale 1,398 -
Total current liabilities 26,347 39,861
Revolver debt 22,580 83,500
Paycheck Protection Program Loan 6,185 -
Operating lease long term liabilities 8,736 11,182
Other long-term obligations 1,970 1,977
Total liabilities 65,818 136,520
Stockholders’ equity:
Preferred stock, $0.001 par value; 5,000,000 shares authorized, none issued and outstanding - -
Common stock, $0.001 par value; 100,000,000 shares authorized: 20,988,952 shares issued: 16,870,326 and 16,556,950 shares outstanding at December 31, 2020 and 2019, respectively
Additional paid-in capital 48,795 52,304
Retained earnings 96,080
108,626
Treasury stock (53,002 ) (57,323 )
Total stockholders’ equity 91,894
103,628
Total liabilities and stockholders’ equity $ 157,712 $ 240,148
The accompanying notes are an integral part of these consolidated financial statements.
Houston Wire & Cable Company
Consolidated Statements of Operations
Year Ended December 31,
(In thousands, except share and per share data)
Sales $ 286,017 $ 338,286 $ 356,858
Cost of sales 222,968 258,364 271,650
Gross profit 63,049 79,922 85,208
Operating expenses:
Salaries and commissions 33,007 37,180 38,110
Other operating expenses 28,896 33,238 30,962
Depreciation and amortization 3,377 2,502 2,178
Impairment charge
Loss on divestiture/classification of held for sale (HFS classification) 8,727 - -
Total operating expenses 74,380 73,040 71,310
Operating income (loss) (11,331 ) 6,882 13,898
Interest (expense) (1,887 ) (3,057 ) (2,907 )
Income (loss) before income taxes (13,218 ) 3,825 10,991
Income tax (expense) benefit (1,275 ) (2,355 )
Net income (loss) $ (12,582 ) $ 2,550 $ 8,636
Earnings (loss) per share:
Basic $ (0.76 ) $ 0.16 $ 0.53
Diluted $ (0.76 ) $ 0.15 $ 0.52
Weighted average common shares outstanding:
Basic 16,504,141 16,433,644 16,389,876
Diluted 16,504,141 16,552,866 16,523,599
The accompanying notes are an integral part of these consolidated financial statements.
Houston Wire & Cable Company
Consolidated Statements of Stockholders’ Equity
Additional
Total
Common Stock Paid-In Retained Treasury Stock Stockholders’
Shares Amount Capital Earnings Shares Amount Equity
(In thousands, except share data)
Balance at January 1, 2018 20,988,952 $ 21 $ 54,006 $ 97,336 (4,497,771 ) $ (60,619 ) $ 90,744
Net income - - - 8,636 - - 8,636
Repurchase of treasury shares - - - - (25,368 ) (175 ) (175 )
Amortization of unearned stock compensation - - 1,059 - - - 1,059
Amortization of reclassed liability awards - - - - -
Impact of forfeited awards - - - (13,332 ) (179 ) -
Impact of released vested restricted stock units - - (353 ) - 26,185 -
Issuance of restricted stock awards - - (1,788 ) - 132,985 1,788 -
Dividend accrual reversal - - - - -
Balance at December 31, 2018 20,988,952 53,514 105,975 (4,377,301 ) (58,832 ) 100,678
Net income - -
2,550 - - 2,550
Repurchase of treasury shares - - - - (262,231 ) (1,188 ) (1,188 )
Amortization of unearned stock compensation - - 1,471 - - - 1,471
Impact of forfeited awards - - - (9,142 ) (117 ) -
Impact of released vested restricted stock units - - (1,019 ) - 77,046 1,019 -
Settlement of director’s deferred compensation - - - - 2,251
Issuance of restricted stock awards - - (1,779 ) - 137,375 1,779 -
Cumulative effect of accounting change (Note 7) - - - - -
Balance at December 31, 2019
20,988,952 52,304 108,626 (4,432,002 ) (57,323 ) 103,628
Net loss - - - (12,582 ) - - (12,582 )
Repurchase of treasury shares - - - - (25,201 ) (64 ) (64 )
Amortization of unearned stock compensation - - - - -
Impact of forfeited awards - - 2,235 - (173,131 ) (2,235 ) -
Impact of released vested restricted stock units - - (1,055 ) - 81,708 1,055 -
Issuance of restricted stock awards - - (5,565 ) - 430,000 5,565 -
Dividend accrual reversal - - -
Balance at December 31, 2020 20,988,952 $ 21 $ 48,795 $ 96,080 (4,118,626 ) $ (53,002 ) $ 91,894
The accompanying notes are an integral part of these consolidated financial statements.
Houston Wire & Cable Company
Consolidated Statements of Cash Flows
Year Ended December 31,
(In thousands)
Operating activities
Net income (loss)
$ (12,582 )
$ 2,550
$ 8,636
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
Impairment charge
Depreciation and amortization
3,377
2,502
2,178
Amortization of unearned stock compensation
1,471
1,298
Non-cash lease expense
3,570
5,887
-
Provision for doubtful accounts
Provision for refund liability
Provision for inventory obsolescence
1,033
Loss on divestiture/HFS classification
8,727
-
-
Deferred income taxes
(2,796 )
(1,344 )
Other non-cash items
Changes in operating assets and liabilities:
Accounts receivable
13,611
2,625
(2,507 )
Inventories
36,301
(20,259 )
(6,825 )
Income taxes
2,585
(918 )
Prepaid expenses and other current assets
(265 )
1,201
Lease payments
(3,582 )
(6,194 )
-
Book overdraft
1,662
-
(3,028 )
Trade accounts payable
(7,189 )
2,605
2,804
Accrued and other current liabilities
(9,591 )
2,394
2,460
Other operating activities
(408 )
(359)
Net cash provided by (used in) operating activities
36,876
(5,606 )
5,338
Investing activities
Purchase of property and equipment
(1,092 )
(2,379 )
(1,503 )
Purchase of intangibles-software
(1,774 )
-
-
Proceeds from disposals of property and equipment
Cash received from divestiture
17,509
-
-
Net cash used in investing activities
14,667
(2,374 )
(1,483 )
Financing activities
Borrowings on revolver
291,356
364,671
367,513
Payments on revolver
(352,276 )
(352,487 )
(369,752 )
Proceeds from Paycheck Protection Program loan
6,185
-
-
Payment of dividends
(3 )
(36 )
(48 )
Purchase of treasury stock/stock surrendered on vested awards
(64 )
(1,172 )
(175 )
Lease payments
(837 )
(293 )
-
Net cash (used in) provided by financing activities
(55,639 )
10,683
(2,462 )
Net change in cash
(4,096 )
2,703
1,393
Cash at beginning of year
4,096
1,393
-
Cash at end of year
$ -
$ 4,096
$ 1,393
Supplemental disclosures
Cash paid during the year for interest
$ 2,017
$ 3,011
$ 2,811
Cash paid during the year for income taxes
$
$ 1,762
$ 3,696
The accompanying notes are an integral part of these consolidated financial statements.
Houston Wire & Cable Company
Notes to Consolidated Financial Statements
1. Organization and Summary of Significant Accounting Policies
Description of Business
Houston Wire & Cable Company (the “Company”), through its wholly owned subsidiaries, provides industrial products to the U.S. market through nineteen locations in thirteen states throughout the United States. In December 2020, the Company completed the sale of Southern Wire (“Southern”) to Southern Rigging Companies, LLC (“Southern Rigging”) for $17.5 million, net of the final working capital adjustment, and was negotiating an agreement for the sale of substantially all of the assets of Southwest Wire Rope (“Southwest”) to Southern Rigging. Accordingly, Southwest is classified as held for sale as of December 31, 2020. (See Note 13) The Company has no other business activity.
Basis of Presentation and Principles of Consolidation
The consolidated financial statements include the accounts of the Company and its subsidiaries and have been prepared following accounting principles generally accepted in the United States (“GAAP”) and the requirements of the Securities and Exchange Commission (“SEC”). The financial statements include all normal and recurring adjustments that are necessary for a fair presentation of the Company’s financial position and operating results. All significant inter-company balances and transactions have been eliminated.
Use of Estimates
The preparation of the financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. The most significant estimates are those relating to the allowance for doubtful accounts, the refund liability, the inventory obsolescence reserve, vendor rebates, the realization of deferred tax assets and the valuation of goodwill and indefinite-lived assets. Actual results could differ materially from the estimates and assumptions used for the preparation of the financial statements.
Accounts Receivable
Accounts receivable consists primarily of receivables from customers, less an allowance for doubtful accounts of $0.3 million at December 31, 2020 and $0.2 million at December 31, 2019. Consistent with industry practices, the Company requires payment frommost customers within 30-60 days of the invoice date. The Company has an estimation procedure, based on historical data and recent changes in the aging of its receivables, that it uses to record an allowance. The Company reviews delinquent accounts, typically over 90 days, and writes-off balances, as appropriate, after collection efforts have been exhausted. The Company has no contractual repurchase arrangements with its customers. Credit losses have been within management’s expectations.
Inventories
Inventories are carried at the lower of cost, using the average cost method, and net realizable value and consist primarily of goods purchased for resale, less a reserve for obsolescence and unusable items and unamortized vendor rebates. The reserve for inventory is based upon a number of factors, including the experience of the purchasing and sales departments, age of the inventory, new product offerings, and other factors. The reserve for inventory may periodically require adjustment as the factors identified above change.
Vendor Rebates
Under many of the Company’s arrangements with its vendors, the Company receives a rebate of a specified amount of consideration, payable when the Company achieves any of a number of measures, generally related to the volume level of purchases from the vendors. The Company accounts for such rebates as a reduction of the prices of the vendors’ products and therefore as a reduction of inventory until it sells the products, at which time such rebates reduce cost of sales in the accompanying consolidated statements of operations. Throughout the year, the Company estimates the amount of the rebates earned based on purchases to date relative to the total purchase levels expected to be achieved during the rebate period. At year end, the Company recalculates the rebates earned based on actual purchases made.
Property and Equipment
The Company provides for depreciation on a straight-line method over the following estimated useful lives:
Buildings
25 to 30 years
Machinery and equipment
3 to 10 years
Leasehold improvements are depreciated over their estimated life or the term of the lease, whichever is shorter.
Total depreciation expense was approximately $1.7 million for the years ended December 31, 2020 and 2019, and $1.4 million for the year ended December 31, 2018.
Goodwill
Goodwill represents the excess of the amount paid to acquire businesses over the estimated fair value of tangible assets and identifiable intangible assets acquired, less liabilities assumed. Determining the fair value of assets acquired and liabilities assumed requires management’s judgment and often involves the use of significant estimates and assumptions, including assumptions with respect to future cash flows, discount rates and asset lives among other items. At December 31, 2020, the goodwill balance was $9.8 million, representing 6.3% of the Company’s total assets.
The Company conducts impairment testing for goodwill annually in the fourth quarter of its fiscal year and more frequently, on an interim basis, when an event occurs or circumstances change that indicate that the fair value of a reporting unit may have declined below its carrying value. Events or circumstances which could indicate a probable impairment include, but are not limited to, financial performance, industry and market conditions, macroeconomic conditions, reporting unit-specific events, historical results of goodwill impairment testing and the timing of the last performance of a quantitative assessment.
The Company tests goodwill at the reporting unit level, which is defined as an operating segment or one level below an operating segment that constitutes a business for which financial information is available and is regularly reviewed by management. The Company determined that, in 2020, it had four reporting units for this purpose. At December 31, 2020, the Company only had three reporting units due to the sale of Southern. Before testing goodwill, the Company considers whether or not to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more-likely-than-not that the fair value of a reporting unit is less than its carrying amount and whether an impairment test is required. If as a result of the qualitative assessment, the Company determines that an impairment test is required, or alternatively, if the Company elects to forego the qualitative assessment, the Company performs a quantitative assessment and records an impairment to goodwill to the extent the carrying amount of the reporting unit, including goodwill, exceeds the fair value of the reporting unit. See Note 4 for more details.
Intangibles
Intangible assets, consist of customer relationships and tradenames from the acquisition of Southwest and Southern in 2010 and the acquisition of Vertex in 2016, as well as internal-use software acquired in 2020. The Southern intangible assets were written off at December 31, 2020 in connection with the sale. The customer relationships and internal-use software are amortized over 9 and 3 year useful lives, respectively. If events or circumstances were to indicate that any of the Company’s definite-lived intangible assets might be impaired, the Company would assess recoverability based on the estimated undiscounted future cash flows to be generated from the applicable intangible asset. If the undiscounted cash flows were less than the carrying value, then the intangible assets would be written down to their fair value. Tradenames have an indefinite life and are not being amortized and are tested for impairment on an annual basis. See Note 4 for more details.
Leases
At the inception of a contract, the Company assesses whether the contract is, or contains, a lease. The assessment is based on (1) whether the contract involves the use of a distinct identified asset, (2) whether the Company obtains the right to substantially all the economic benefit from the use of the asset throughout the period, and (3) whether the Company has the right to direct the use of the asset. All significant lease arrangements are recognized at lease commencement. Leases with a lease term of 12 months or less at inception are not recorded on the Consolidated Balance Sheets and are expensed on a straight-line basis over the lease term in the Consolidated Statements of Operations. The Company determines the lease term by assuming the exercise of renewal options that are reasonably certain. As most of the leases do not provide an implicit interest rate, the Company uses the incremental borrowing rate which approximates to a collateralized rate at the commencement date to determine the present value of future payments that are reasonably certain. See Note 7 for more details.
Self Insurance
The Company retains certain self-insurance risks for health benefits. The Company limits its exposure to these self-insurance risks by maintaining excess and aggregate liability coverage. Self-insurance reserves are established based on claims filed and estimates of claims incurred but not reported. The estimates are based on information provided to the Company by its claims administrators.
Segment Reporting
The Company operates in a single operating and reportable segment, sales of industrial products, including electrical and mechanical wire and cable, industrial fasteners, hardware and related services to the U.S. market. The Company’s chief operating decision maker (“CODM”) is its Chief Executive Officer. The CODM makes operational and resource decisions based on company-wide sales and margin performance compared to the established strategic goals of the Company.
Revenue Recognition, Returns & Allowances
The Company’s primary source of revenue is the sale of industrial products based upon purchase orders or contracts with customers. Revenue is recognized at a point in time once the Company has determined that the customer has obtained control over the product. Control is typically deemed to have been transferred to the customer when the product is shipped, or delivered (either by customer pickup or through common carrier). It is not normal Company practice to grant extended payment terms. Revenue is recognized net of any sales taxes collected, which are subsequently remitted to the appropriate taxing authorities. The Company treats its transportation costs (shipping and handling) as fulfillment costs and not as a separate performance obligation. These transportation costs are recorded in cost of sales.
The amount of revenue recognized reflects the consideration the Company expects to be entitled to receive in exchange for products sold. Revenue is recorded at the transaction price net of estimates of variable consideration, which may include product returns, trade discounts and allowances. The Company accrues for variable consideration using the expected value method. Estimates of variable consideration are included in revenue to the extent that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur.
Customers are permitted to return product only on a case-by-case basis. Product exchanges are handled as a credit, with any replacement item being re-invoiced to the customer. Customer returns are recorded as a refund liability, included in accrued and other liabilities, with a corresponding reduction to sales. The Company estimates the gross profit impact of returns and allowances for previously recorded sales. This liability is calculated on historical and statistical returns and allowances data and adjusted as trends in the variables change. The Company has no installation obligations.
The Company may offer sales incentives, which are accrued monthly as an adjustment to sales.
Shipping and Handling
The Company incurs shipping and handling costs in the normal course of business. Freight amounts invoiced to customers are included as sales, and freight charges are included as a component of cost of sales.
Credit Risk
No single customer accounted for 10% or more of the Company’s sales in 2020, 2019 or 2018. The Company performs periodic credit evaluations of its customers and generally does not require collateral.
Financial Instruments
The carrying values of accounts receivable, trade accounts payable and accrued and other current liabilities approximate fair value, due to the short maturity of these instruments.
Stock-Based Compensation
Restricted stock awards, units and cash awards are valued at the closing price of the Company’s stock on the grant date and are granted under the Company’s 2017 Stock Plan. Stock options issued under the Company’s now-expired 2006 Stock Plan have an exercise price equal to the fair value of the Company’s stock on the grant date. The Company recognizes compensation expense ratably over the vesting period. The Company’s stock-based compensation expense is included in salaries and commissions expense for employees and in other operating expenses for non-employee directors in the accompanying Consolidated Statements of Operations.
The Company receives a tax deduction for certain stock option exercises in the period in which the options are exercised, generally for the excess of the market price on the date of exercise over the exercise price of the options. The Company reports excess tax benefits from the award of equity instruments as operating cash flows. Excess tax benefits result when a deduction reported for tax return purposes for an award of equity instruments exceeds the cumulative compensation cost for the instruments recognized for financial reporting purposes.
Income Taxes
Deferred tax assets and liabilities are determined based on differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse. A valuation allowance for deferred tax assets is recognized when it is more-likely-than-not that some or all of the benefit from the deferred tax assets will not be realized. To assess that likelihood, the Company uses its current financial position, results of operations, both actual and forecasted, the reversal of deferred tax liabilities, and tax planning strategies to determine whether a valuation allowance is required.
Recently Adopted Accounting Standards
The Financial Accounting Standards Board (the “FASB”) Accounting Standards Codification (“ASC”) is the sole source of authoritative GAAP other than SEC issued rules and regulations that apply only to SEC registrants. The FASB issues an Accounting Standard Update (“ASU”) to communicate changes to the codification. The Company considers the applicability and impact of all ASUs. The following are those recent ASUs that were recently adopted by the Company.
In August 2018, the FASB issued ASU 2018-13, “Fair Value Measurement (Topic 820): Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurement.” The amendments in this update eliminate, add and modify certain disclosure requirements for fair value measurements as part of the FASB’s disclosure framework project. The Company adopted this ASU in the first quarter of 2020, and the adoption did not have a material impact on the Company’s consolidated financial statements.
In August 2018, the FASB issued ASU 2018-15, “Intangibles - Goodwill and Other - Internal-Use Software (Subtopic 350-40); Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract.” The amendments in this update require implementation costs incurred by customers in cloud computing arrangements (i.e., hosting arrangements) to be capitalized under the same premises of authoritative guidance for internal-use software, and deferred over the non-cancellable term of the cloud computing arrangement plus any option renewal periods that are reasonably certain to be exercised by the customer or for which the exercise is controlled by the service provider. The Company adopted this ASU in the first quarter of 2020, and the adoption did not have a material impact on the Company’s consolidated financial statements.
Recent Accounting Pronouncements
In November 2019, the FASB issued ASU 2019-11, “Codification Improvements to Topic 326, Financial Instruments - Credit Losses.” This ASU, among other narrow-scope improvements, clarifies guidance around how to report expected recoveries. This ASU permits organizations to record expected recoveries on assets purchased with credit deterioration. In addition to other narrow technical improvements, the ASU also reinforces existing guidance that prohibits organizations from recording negative allowances for available-for-sale debt securities. The effective date and transition methodology are the same as in ASU 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. The FASB deferred the effective dates of this ASU for smaller reporting companies (“SRC”) to fiscal years beginning after December 15, 2022. As of December 31, 2020, the Company qualifies as a SRC and expects to adopt this ASU in the first quarter of 2023.
In December 2019, the FASB issued ASU 2019-12, “Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes.” This ASU removes specific exceptions to the general principles in Topic 740 in GAAP. It eliminates the need for an organization to analyze whether certain exceptions apply in a given period. This ASU also improves financial statement preparers’ application of income tax-related guidance and simplifies GAAP for: a) Franchise taxes that are partially based on income; b) Transactions with a government that result in a step up in the tax basis of goodwill; c) Separate financial statements of legal entities that are not subject to tax; and d) Enacted changes in tax laws in interim periods. For public business entities, ASU 2019-12 is effective for fiscal years beginning after December 15, 2020, and interim periods within those fiscal years. The Company is currently assessing the impact of this ASU on its consolidated financial statements.
In March 2020, the FASB issued ASU 2020-04, “Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting.” The amendments in the ASU provide optional guidance for a limited time to ease the potential burden in accounting for reference rate reform. The new guidance provides optional expedients and exceptions for applying U.S. GAAP to contracts, hedging relationships and other transactions affected by reference rate reform if certain criteria are met. The amendments apply only to contracts and hedging relationships that reference London Interbank Offered Rate ("LIBOR") or another reference rate expected to be discontinued due to reference rate reform. The provisions of the new guidance were effective upon issuance and generally can be applied through December 31, 2022 with the option to apply the guidance at any point during that time period. The Company currently has a debt agreement that references LIBOR and will apply the new guidance as this agreement is modified to reference other rates.
2. Earnings (loss) per Share
Basic earnings (loss) per share is calculated by dividing net income (loss) by the weighted average number of common shares outstanding. Diluted earnings (loss) per share include the dilutive effects of options and unvested restricted stock awards and units.
The following reconciles the denominator used in the calculation of diluted earnings (loss) per share:
Year Ended December 31,
Denominator:
Weighted average common shares for basic earnings per share 16,504,141 16,433,644 16,389,876
Effect of dilutive securities - 119,222 133,723
Denominator for diluted earnings per share 16,504,141 16,552,866 16,523,599
Stock awards to purchase 843,336, 369,325 and 298,406 shares of common stock were not included in the diluted net income (loss) per share calculation for 2020, 2019 and 2018, respectively, as their inclusion would have been anti-dilutive. For the first quarter of 2018, the Company calculated earnings per share using the “two-class” method, whereby unvested share-based payment awards that contained non-forfeitable rights to dividends or dividend equivalents were considered “participating securities”, and therefore, these participating securities were treated as a separate class in computing earnings per share.
3. Detail of Selected Balance Sheet Accounts
Accounts Receivable
The following table summarizes the changes in the allowance for doubtful accounts for the past three years:
(In thousands)
Balance at beginning of year $ 211 $ 182 $ 172
Bad debt expense
Write-offs, net of recoveries (113 ) (90 ) (63 )
Current year divestiture (3 ) - -
Balance at end of year $ 296 $ 211 $ 182
Inventories
The following table summarizes the changes in the inventory reserves for the past three years:
(In thousands)
Balance at beginning of year
$ 3,584
$ 3,709
$ 3,925
Provision for inventory write-downs
1,033
Deduction for inventory write-offs
(1,146 )
(640 )
(831 )
Current year divestiture/HFS classification
(328 )
-
-
Balance at end of year
$ 3,143
$ 3,584
$ 3,709
Property and Equipment, net
Property and equipment are stated at cost and consist of:
At December 31,
(In thousands)
Land $ 617 $ 2,476
Buildings 3,168 8,712
Machinery and equipment (1) 17,203 19,199
20,988 30,387
Less accumulated depreciation (13,530 ) (15,798 )
Total $ 7,458 $ 14,589
(1) This includes finance leases. See Note 7 for more details.
Intangible assets
Intangible assets consist of: At December 31,
(In thousands)
Tradenames $ 2,081 $ 5,816
Customer relationships 6,990 18,620
Internal-use software 1,774 -
10,845 24,436
Less accumulated amortization:
Tradenames - -
Customer relationships (3,301 ) (14,154 )
Internal-use software (154 ) -
(3,455 ) (14,154 )
Total $ 7,390 $ 10,282
As of December 31, 2020, accumulated amortization on the remaining acquired/purchased intangible assets was $3.4 million, and amortization expense was $0.9 million in the year ended December 31, 2020 and $0.8 million in the years ended December 31, 2019 and 2018. Future amortization expense to be recognized on the remaining acquired/purchased intangible assets is expected to be as follows:
Annual
Amortization
Expense
(In thousands)
$ 1,368
1,368
1,213
Goodwill
At December 31,
(In thousands)
Balance at beginning of year $ 22,353 $ 22,353
Less current year divestiture (12,504 ) -
Balance at end of year (1) $ 9,849 $ 22,353
(1) The balance is net of $12.6 million of accumulated impairment losses, of which none were recorded in 2020 or 2019.
Accrued and Other Current Liabilities
Accrued and other current liabilities consist of:
At December 31,
(In thousands)
Customer rebates
$ 3,833
$ 4,979
Payroll, commissions, and bonuses
2,272
1,930
Accrued inventory purchases
11,122
Property taxes
1,078
Freight
Refund liability
1,765
1,182
Prepayments on customer orders (1)
Professional fees
Accrued interest
Lease obligations
Other
1,129
1,365
Total
$ 13,547
$ 23,261
(1) This amount represents prepayments by customers for inventory. As the customer requests their inventory, the Company ships the material, reduce the prepayment and recognize the revenue.
4. Impairment of Goodwill and Intangible Assets
The Company tests goodwill and indefinite lived intangibles for impairment at least annually or more frequently whenever events or circumstances occur indicating that it might be impaired. During the first and second quarter of 2020, the Company’s market capitalization declined significantly, driven by macroeconomic and geopolitical conditions due in large part to the COVID-19 outbreak, which has contributed to a decline in demand for the Company’s products, a decline in overall financial performance, partially due to the decline in oil prices, and a deterioration of industry and market conditions. Based on these events, the Company concluded that it was more-likely-than-not that the fair values of certain of its reporting units were less than their carrying values. Therefore, the Company performed interim goodwill impairment tests in both the first and second quarter.
Goodwill impairment is evaluated at each reporting unit that has goodwill; the Southern and Vertex reporting units as of December 31, 2019 and the Vertex reporting unit as of December 31, 2020. At December 31, 2019, the Company determined that the fair values of these two reporting units, as well as certain of the Company’s indefinite lived intangibles, exceeded their respective carrying values. The goodwill balance of Vertex at December 31, 2020 was $9.8 million, and due to its negative carrying value, no goodwill impairment was recorded.
During June 2020, the Company determined the fair value of its Vertex reporting unit’s tradenames was below its carrying value, and as a result recorded an impairment charge of $0.1 million. The Company also determined the fair value of its Southwest reporting unit’s tradenames was below its carrying value, and as a result, recorded an impairment charge of $0.1 million in June 2020 and $0.2 million in March 2020.
As part of the divestiture of the Southern reporting unit, the Company wrote-off its $12.5 million goodwill balance and as part of the HFS classification of the Southwest reporting unit, wrote-off its $1.0 million tradenames balance at December 31, 2020.
A qualitative assessment was performed as of October 1, 2019 for the Southern, Southwest and Vertex reporting units. The results of the test indicated that it was more-likely-than-not that the fair value of the reporting units exceeded their respective carrying values except for certain of the tradenames of the Southwest reporting unit for which a quantitative test was necessary and an impairment charge of $0.1 million was recorded for 2019.
The Company is still anticipating growth in the business acquired in Vertex reporting unit. If this projected growth is not achieved and or there are future reductions in our market capitalization or market multiples, further goodwill and intangible assets impairments may result.
5. Debt
On March 12, 2019 and December 10, 2019, the Company, as guarantor, HWC Wire & Cable Company and Vertex, as borrowers, and Bank of America, N.A., as agent and lender, entered into the Second and Third Amendments, respectively, to the Fourth Amended and Restated Loan and Security Agreement (such agreement, as so amended, the “Loan Agreement”). The Second Amendment extended the expiration date until March 12, 2024 and the Third Amendment increased the revolving credit facility to $115 million .. Under certain circumstances, the Company may request an increase in the commitment by an additional $50 million.
Portions of the loan may be converted to LIBOR loans in minimum amounts of $1.0 million and integral multiples of $0.1 million. LIBOR loans bear interest at the British Bankers Association LIBOR Rate plus 100 to 150 basis points based on availability, and loans not converted to LIBOR loans bear interest at a fluctuating rate equal to the greatest of the agent’s prime rate, the federal funds rate plus 50 basis points, or 30-day LIBOR plus 150 basis points. The unused commitment fee is 25 basis points.
Availability under the Loan Agreement is limited to a borrowing base equal to 85% of the value of eligible accounts receivable, plus the lesser of 70% of the value of eligible inventory or 90% of the net orderly liquidation value percentage of the value of eligible inventory, in each case less certain reserves. The Loan Agreement is secured by substantially all of the property of the Company, other than real estate.
The Loan Agreement includes, among other things, covenants that require the Company to maintain a specified minimum fixed charge coverage ratio, unless certain availability levels exist. Additionally, the Loan Agreement allows for the unlimited payment of dividends and repurchases of stock, subject to the absence of events of default and maintenance of a fixed charge coverage ratio and minimum level of availability. The Loan Agreement contains certain provisions that may cause the debt to be classified as a current liability, in accordance with GAAP, if availability falls below certain thresholds, even though the ultimate maturity date under the Loan Agreement remains March 12, 2024. At December 31, 2020, the Company was in compliance with the availability-based covenant governing its indebtedness.
The Company’s borrowings at December 31, 2020 and 2019 were $28.8 million and $83.5 million, respectively. The weighted average interest rates on outstanding borrowings were 1.9% and 3.4% at December 31, 2020 and 2019, respectively.
At December 31, 2020, the Company had available borrowing capacity of $47.5 million under the terms of the Loan Agreement. The Company paid $0.1 million for each of the years ended December 31, 2020, 2019, and 2018 for the unused facility.
The carrying amount of long term debt approximates fair value as it bears interest at variable rates. The fair value is a Level 2 measurement as defined in ASC Topic 820, “Fair Value Measurement.”
On May 4, 2020, the Company received a $6.2 million Paycheck Protection Program (“PPP”) loan from Bank of America (“Lender”), funded under the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”), pursuant to a Promissory Note issued by the Company to Lender. The Company used the funds to pay its payroll related expenses as well as rent expenses, as allowed by the terms of the loan. The Company has applied for loan forgiveness and expects to achieve 90-95% forgiveness. The forgiveness amount will be equal to the amount that the Company used for the approved expenses: a minimum of 60% on payroll related expenses and up to 40% on non-payroll expenses. Any amount of the loan that is not forgiven will be due two years from the funding date of May 4, 2020 to repay the balance of the PPP loan. No principal or interest payments will be due prior to the end of the six-month deferment period and the interest rate on the balance of the loan will not exceed 1.0% per annum.
Principal repayment obligations for succeeding fiscal years are as follows:
(In thousands)
$ -
2022 (1) 6,185
-
22,580
Total $ 28,765
(1) The Company has applied for loan forgiveness and believes that it will achieve 90-95% forgiveness, or approximately $5.6-$5.9 million.
6. Income Taxes
The provision (benefit) for income taxes consists of:
Year Ended December 31,
(In thousands)
Current:
Federal
$ 1,814
$
$ 3,041
State
Total current
2,160
3,699
Deferred:
Federal
(2,592 )
(1,246 )
State
(204 )
(98 )
Total deferred
(2,796 )
(1,344 )
Total
$ (636 )
$ 1,275
$ 2,355
A reconciliation of the U.S. Federal statutory tax rate to the effective tax rate on income before taxes is as follows:
Year Ended December 31,
Federal statutory rate
21.0 %
21.0 %
21.0 %
State taxes, net of federal benefit
(1.1 )
3.4
4.3
Impairment, non-deductible portion
-
-
0.1
Share-based compensation
(1.5 )
3.7
1.2
Non-deductible items
(0.3 )
5.4
2.1
Valuation allowance
-
-
(9.5 )
Current year divestiture
(13.9 )
-
-
Other
0.6
(0.2 )
2.2
Total effective tax rate
4.8 %
33.3 %
21.4 %
Significant components of the Company’s deferred taxes were as follows:
Year Ended
December 31,
(In thousands)
Deferred tax assets:
Operating lease right-of-use assets
$ 3,203
$ 3,425
Inventory reserve
1,072
Uniform capitalization adjustment
1,523
1,633
Stock compensation expense
Accrued commission
Held for sale
1,577
-
Property and equipment, net
-
Refund liability
-
Other
Total deferred tax assets
8,667
7,119
Deferred tax liabilities
Operating lease right-of-use assets
(3,075 )
(3,316 )
Goodwill
(232 )
(838 )
Intangible assets
(1,555 )
(2,230 )
Other
(409 )
(135 )
Total deferred tax liabilities
(5,271 )
(6,519 )
Net deferred tax assets
$ 3,396
$
The Company does not have any unrecognized tax benefits recorded at December 2020, 2019 and 2018. The Company recognizes interest on any tax issue as a component of interest expense and any related penalties in other operating expenses. As of December 31, 2020 and 2019, the Company recorded no provision for interest or penalties related to uncertain tax positions. The tax years 2016 through 2020 remain open to examination by the major taxing jurisdictions to which the Company is subject.
7. Leases
Effective January 1, 2019, the Company adopted ASU No. 2016-02, “Leases (Topic 842)” and the series of related ASUs that followed (collectively referred to as “Topic 842”). The most significant changes under the new guidance include clarification of the definition of a lease, and the requirements for lessees to recognize a right-of-use (ROU) asset and a lease liability for all qualifying leases with terms longer than twelve months in the consolidated balance sheet. In addition, under Topic 842, additional disclosures are required to meet the objective of enabling users of financial statements to assess the amount, timing and uncertainty of cash flows arising from leases.
The Company elected the practical expedient available under ASU 2018-11 “Leases: Targeted Improvements,” which allows the Company to apply the transition provision for Topic 842 at the Company’s adoption date instead of at the earliest comparative period presented in the Company’s financial statements. Therefore, the Company recognized and measured leases existing at January 1, 2019 but without retrospective application. The Company also elected all other available practical expedients except the hindsight practical expedient.
In electing the practical expedients, the Company utilized the transition practical expedient package whereby the Company did not reassess (i) whether any of the Company’s expired or existing contracts contain a lease, (ii) the classification for any expired or existing leases and (iii) initial direct costs for any existing leases.
The impact of Topic 842 on the Company’s consolidated balance sheet as of January 1, 2019 was the recognition of ROU assets and lease liabilities for operating leases, while the Company’s accounting for finance leases remained substantially unchanged. The Company’s finance leases were immaterial prior to the adoption of Topic 842, and no change was made to the classification of these leases. As a result of the adoption of Topic 842, beginning retained earnings was impacted by $0.1 million and there was no impact to the consolidated statement of operations.
The Company leases property including warehouse space, offices, vehicles and equipment. The Company determines if an arrangement is a lease at inception. As part of the transition to the new standard, the Company reviewed agreements with suppliers, vendors, customers, and other outside parties to determine if any agreements met the definition of an embedded lease. This is based on the nature of the contracts reviewed, and various factors, including identified assets included in the agreement to which the Company has exclusive rights of control as described by Topic 842. The Company concluded that these are not material agreements with parties that would constitute an embedded lease. For purposes of calculating operating lease liabilities, lease terms may be deemed to include options to extend or terminate the lease when it is reasonably certain that the Company will exercise that option.
Beginning January 1, 2019, operating ROU assets and operating lease liabilities are recognized based on the present value of lease payments over the lease term at commencement date. Operating leases in effect prior to January 1, 2019 were recognized at the present value of the remaining lease payments over the remaining lease term as of January 1, 2019. The Company is required to determine a discount rate in order to calculate the present value of lease payments. If the rate is not included in the lease or cannot be readily determined, the Company uses its incremental secured borrowing rate based on lease term information available at the commencement date of the lease in determining the present value of lease payments. The Company recognizes lease components and non-lease components together and not as separate parts of a lease for all leases. The Company will exercise this practical expedient in the future by asset class.
Lease Type Statement of Operations Classification
(In thousands)
Consolidated operating lease expense Operating expenses $ 3,570 $ 5,887
Consolidated financing lease amortization Depreciation and amortization
Consolidated financing lease interest Interest expense
Consolidating financing lease expense
Net lease cost
$ 4,546 $ 6,253
Rent expense was approximately $3.7 million in 2018.
The value of the net assets and liabilities generated by the leasing activity of the Company as lessee as of December 31, 2020 and December 31, 2019 were as follows:
Lease Type Balance Sheet Classification
(In thousands)
Total ROU operating lease assets (1) Operating lease right-of-use assets, net $ 10,879 $ 13,481
Total ROU financing lease assets (2) Property and equipment, net 2,793 2,430
Total lease assets
$ 13,672 $ 15,911
Total current operating lease obligation Operating lease liabilities $ 2,699 $ 2,742
Total current financing lease obligation Accrued and other current liabilities
Total current lease obligation
$ 3,555 $ 3,335
Total long term operating lease obligation Operating lease long term liabilities $ 8,736 $ 11,182
Total long term financing lease obligation Other long term liabilities 1,958 1,860
Total long term lease obligation
$ 10,694 $ 13,042
(1) Operating lease assets are recorded net of accumulated amortization of $4.3 million and $2.3 million as of December 31, 2020 and 2019, respectively.
(2) Financing lease assets are recorded net of accumulated amortization of $1.2 million and $0.4 million as of December 31, 2020 and 2019, respectively.
The future minimum lease payments for finance and operating lease liabilities of the Company as lessee as of December 31, 2020 were as follows:
Maturity Date of Lease Liabilities Operating Leases Financing Leases Total
(In thousands)
Year one $ 3,222 $ 968 $ 4,190
Year two 3,186 4,073
Year three 2,654 3,407
Year four 2,330 2,736
Year five 1,076 1,107
Subsequent years -
Total lease payments 12,734 3,045 15,779
Less: Interest (1,299 ) (231 ) (1,530 )
Present value of lease liabilities $ 11,435 $ 2,814 $ 14,249
The weighted average remaining lease terms and discount rates of the leases held by the Company as of December 31, 2020 and 2019 were as follows:
Lease Type
Weighted Average
Term in Years
Weighted Average Interest Rate
2019
Operating leases 4.2 4.9 5.3 5.3
Financing leases 3.4 4.2 4.7 5.3
The cash outflows of the leasing activity of the Company as lessee for the twelve months ended December 31, 2020 and 2019 were as follows:
Cash Flow Source
Classification
(In thousands)
Operating cash outflows from operating leases Operating activities $ 3,442 $ 6,140
Operating cash outflows from financing leases Operating activities
Financing cash outflows from financing leases Financing activities
During the years ended December 31, 2020 and 2019, the Company recorded non-cash ROU financing lease assets and corresponding financing lease obligations totaling $1.2 million and $2.5 million, respectively, primarily related to warehouse machinery and IT infrastructure lease agreements.
Also during the year ended December 31, 2019, the Company modified certain terms of the lease agreement with the landlord of Vertex’s Massachusetts facility, including early termination of the lease on November 30, 2019 and Vertex subleasing a portion of the space until the end of November. In connection with the modification, the Company recognized expense related to the early termination of approximately $2.2 million in 2019.
8. Stockholders’ Equity
On March 7, 2014, the Board of Directors adopted a stock repurchase program under which the Company is authorized to purchase up to $25 million of its outstanding shares of common stock from time to time, depending on market conditions, trading activity, business conditions and other factors. Shares of stock purchased under the program are held as treasury shares and may be used to satisfy the exercise of options, issuance of restricted stock, to fund acquisitions or for other uses as authorized by the Board of Directors. In November 2016, the Board of Directors suspended purchases under the stock repurchase program. In August 2019, the plan was reactivated and during 2019, the Company purchased an aggregate of 235,500 shares for a total cost of $1.1 million. There were no purchases under the program in 2020.
Under the terms of the 2017 Stock Plan, the Company acquired 25,201 shares and 26,731 shares that were surrendered by the holders to pay withholding taxes in 2020 and 2019, respectively. (See Note 10)
The Company paid a quarterly cash dividend from August 2007 until August 2016. The Company has not paid a cash dividend since 2016.
The Company is authorized to issue 5,000,000 shares of preferred stock, par value $.001 per share. The Board of Directors is authorized to fix the particular preferences, rights, qualifications and restrictions of each series of preferred stock. In connection with the adoption of a now terminated stockholder rights plan, the Board of Directors designated 100,000 shares as Series A Junior Participating Preferred Stock. No shares of preferred stock have been issued.
9. Retirement-related Benefits
Defined Contribution Plan
The Company maintains a combination profit-sharing plan and salary deferral plan for the benefit of its employees who are not covered by a collective bargaining agreement. Employees who are eligible to participate in the plan can contribute a percentage of their base compensation, up to the maximum percentage allowable not to exceed the limits of Internal Revenue Code Sections 401(k), 404, and 415, subject to the IRS-imposed dollar limit. Employee contributions are invested in certain equity and fixed-income securities, based on employee elections. From January 1, 2018 through April 30, 2020, the Company matched 100% of the first 1% of the employee’s contribution. The Company’s match for the year ended December 31, 2020 was $0.1 million and for the years ended December 31, 2019 and 2018 was $0.2 million for each year.
Defined Benefit Plan
The Company has a non-contributory defined benefit pension plan for those current and former employees of Vertex who are subject to a collective bargaining agreement. Effective November 30, 2019, there are no active employees in the plan as the plan was frozen with the closure of Vertex’s Massachusetts facility. The benefit provisions to participants of the defined benefit plan were calculated based on the number of years of service and an annual negotiated plan benefit per year of service. Annual compensation (or future compensation increases) is not used in calculating the benefit or future plan contributions. It is the Company’s policy to fund amounts for pensions sufficient to meet the minimum funding requirements set forth in applicable employee benefit laws, which currently approximate the benefit payments made each year. A total contribution of less than $0.1 million was made during each of the years ended December 31, 2020, 2019 and 2018. As of November 30, 2019, the defined benefit plan is inactive, with no additional incremental benefits being accrued.
The current projected benefit obligation was $0.8 million and $1.3 million as of December 31, 2020 and 2019, respectively. The discount rate used to determine the projected benefit obligation was 2.0% and 3.2% in 2020 and 2019, respectively.
The fair value of the assets of the defined benefit plan was $0.8 million and $1.3 million in 2020 and 2019, respectively. The plan assets are all classified as Level 1 and as such have readily observable prices and therefore a reliable fair market value.
10. Incentive Plans
The Houston Wire & Cable Company 2017 Stock Plan (the “2017 Plan”) as amended in 2019, provides for discretionary grants of stock options, stock awards, stock units and stock appreciation rights (SARs) to employees and directors up to a total of 2,500,000 shares. Shares issuable under the 2017 Plan may be authorized but unissued shares or treasury shares. If any award granted under the 2017 Plan expires, terminates or is forfeited or cancelled for any reason, the shares subject to the award will again be available for issuance. Any shares subject to an award that are delivered to the Company or withheld by the Company on behalf of a participant as payment for the award (including the exercise price of a stock option or SAR) or as payment for any withholding taxes due in connection with the award, or that are purchased by the Company with proceeds received from a stock option exercise, will not again be available for issuance. The 2017 Plan’s purpose is to attract and retain outstanding individuals as employees and directors of the Company and its subsidiaries and to provide them with additional incentive to expand and improve the Company's profits by giving them the opportunity to acquire or increase their proprietary interest in the Company.
The 2017 Plan succeeded the Company’s 2006 Stock Plan (the “2006 Plan”), which expired on May 1, 2017. The types of equity awards previously authorized under the 2006 Plan did not significantly differ from those permitted under the 2017 Plan.
Stock Option Awards
The Company may grant options to purchase its common stock to employees and directors of the Company under the 2006 Plan and 2017 Plan at no less than the fair market value of the underlying stock on the date of grant. These options are granted for a term not exceeding ten years and may be forfeited in the event the employee or director terminates his or her employment or relationship with the Company. Options granted to employees generally vest over three to five years, and options granted to directors generally vest one year after the date of grant. Shares issued to satisfy the exercise of options may be newly issued shares or treasury shares. Each plan contains anti-dilutive provisions that permit an adjustment of the number of shares of the Company’s common stock represented by each option for any change in capitalization. Compensation cost for options granted is charged to expense on a straight line basis over the term of the option.
The fair value of each option awarded is estimated on the date of grant using a Black-Scholes option-pricing model. Expected volatilities are based on historical volatility of the Company’s stock and other factors. The expected life of options granted represents the period of time that options granted are expected to be outstanding. The risk-free rate for periods within the life of the option is based on the U.S. Treasury yield curve in effect at the time of grant. There were no options granted in 2020, 2019 or 2018.
All granted stock options have vested, with the last grant having an expiration date of December 20, 2021. The following summarizes stock option activity and related information: Schedule of stock option activity
Options
(in 000’s) Weighted
Average
Exercise Price Aggregate
Intrinsic
Value Weighted
Average
Remaining
Contractual Life
(in years)
2019 2019
Outstanding-Beginning of year 13.72 13.40 $ - $ - 1.75 2.52
Granted - -
-
Exercised - -
-
Forfeited (13 ) (22 ) 13.23 13.04
Expired (19 ) (10 ) 12.14 10.32
Outstanding-End of year 14.11 13.72 $ - $ - 0.97 1.75
Exercisable-End of year 14.11 13.72 $ - $ - 0.97 1.75
There was no excess tax benefit for the years ended December 31, 2020, 2019 and 2018.
There were no options exercised in the years ended December 31, 2020, 2019 and 2018. There is no intrinsic value of options outstanding and exercisable as of December 31, 2020 as the closing stock price at the end of 2020 creates a negative intrinsic value.
The total grant-date fair value of options vested during 2020 and 2019 was $0, as all the options vested as of December 31, 2018.
Restricted Stock Awards, Restricted Stock Units and Cash Awards
As a result of the approval of the 2017 Plan by the stockholders at the 2018 Annual Meeting, all cash/liability awards granted prior to stockholder approval of the 2017 Plan were reclassified to restricted stock units (equity) effective May 8, 2018. The total liability reclassified to additional paid-in-capital was $0.4 million. This modification resulted in an increase in total fair value of $0.1 million, recognized over the terms of the grants, which range from 1 to 5 years.
On November 3, 2020, the Board of Directors granted to the Company’s newly appointed Chief Financial Officer 55,000 voting shares of restricted stock under the 2017 Plan. The shares vest in one-third increments on the first, second and third anniversaries of the date of grant, as long as he is then employed by the Company. Any dividends declared will be accrued and paid if and when the related shares vest.
On June 26, 2020, the Board of Directors granted 10,000 restricted stock units to the newly named executive chairman of the board. The award vests in two equal installments on June 26, 2021 and June 26, 2022. The award entitles the executive chairman of the board to receive a number of shares of the Company’s common stock equal to the number of vested restricted stock units, together with dividend equivalents from the date of grant, at such time as his service on the board terminates for any reason.
On December 3, 2019, the Board of Directors granted to the Company’s President and Chief Executive Officer 78,125 voting shares of restricted stock and to the former Chief Financial Officer, 19,531 voting shares of restricted stock under the 2017 Plan. The former Chief Financial Officer’s shares were forfeited when he left the Company in July 2020. The President and Chief Executive Officer’s shares vest in one-third increments on the first, second and third anniversaries of the date of grant, in each case as long he is then employed by the Company. Any dividends declared will be accrued and paid if and when the related shares vest.
Also, on December 3, 2019, the Board of Directors granted 250,000 shares of restricted stock to the Company’s President and Chief Executive Officer and 125,000 shares of restricted stock to the former Chief Financial Officer. The former Chief Financial Officer’s shares were forfeited when he left the Company in July 2020. The President and Chief Executive Officer’s grant vests if there is a Change in Control of the Company (as defined in the 2017 Plan) on or before December 2, 2024, as long as he remains in continuous employment with the Company until the Change in Control or if he is terminated by the Company without cause within one year before the Change in Control. Any dividends declared will be accrued and paid if and when the related shares vest.
The Board of Directors also granted 39,719 voting shares of restricted stock under the 2017 Plan to members of management in December 2019. The shares vest in one-third increments on the third, fourth and fifth anniversaries of the date of grant, in each case as long as the recipient is then employed by the Company. Any dividends declared will be accrued and paid if and when the related shares or units vest.
Following the Annual Meeting of Stockholders on May 7, 2019, the Company granted restricted stock units with a grant date value of $60,000 to each nonemployee director who was elected, for an aggregate of 58,920 restricted stock units. Each award of restricted stock units vested at the date of the 2020 Annual Meeting of Stockholders. Each non-employee director is entitled to receive a number of shares of the Company’s common stock equal to the number of vested restricted stock units, together with dividend equivalents from the date of grant, at such time as the director’s service on the board terminates for any reason.
On March 12, 2019, the Board of Directors granted 52,910 performance stock units to the Company’s President and Chief Executive Officer and 13,228 performance stock units to the former Chief Financial Officer. The former Chief Financial Officer’s units were forfeited when he left the Company in July 2020. The President and Chief Executive Officer’s performance stock units vests on December 31, 2021, based on and subject to the Company’s achievement of cumulative EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortization) and stock price performance goals over a three-year period, as long as he is then employed by the Company, and upon vesting will be settled in shares of our common stock. Any dividends declared will be accrued and paid if and when the related shares vest.
Restricted common shares and restricted stock units are measured at fair value on the date of grant based on the quoted price of the common stock. Such value is recognized as compensation expense over the corresponding vesting period which ranges from one to five years, based on the number of awards that vest.
The following summarizes restricted stock activity for the years ended December 31, 2020 and 2019: Schedule of restricted stock activity
Shares
Shares
(in 000’s) Weighted
Average
Market
Value at
Grant Date Shares
(in 000’s) Weighted
Average
Market
Value at
Grant Date
Non-vested -Beginning of year $ 5.18 $ 6.78
Granted 2.86 3.84
Vested (95 ) 5.59 (107 ) 7.24
Cancelled/Forfeited (173 ) 5.33 (9 ) 6.34
Expired - - - -
Non-vested -End of year $ 4.26 5.18
Units
Shares
(in 000’s) Weighted
Average
Market
Value at
Grant Date Shares
(in 000’s) Weighted
Average
Market
Value at
Grant Date
Non-vested -Beginning of year $ 6.83 $ 7.59
Granted 2.19 5.88
Vested (137 ) 6.94 (60 ) 7.59
Cancelled/Forfeited (18 ) 6.18 (3 ) 7.65
Expired - - - -
Non-vested -End of year 6.44 6.83
Total stock-based compensation cost was $0.9 million for the year ended December 31, 2020, $1.5 million for the year ended December 31, 2019, and $1.3 million for the year ended December 31, 2018. Total income tax benefit recognized for equity awards stock-based compensation arrangements was $0.2 million for each of the years ended December 31, 2020, 2019 and 2018.
As of December 31, 2020, there was $0.8 million of total unrecognized compensation cost related to non-vested, stock-based compensation arrangements. The cost is expected to be recognized over a weighted average period of approximately 17 months. There are 1,631,123 shares available for future grants under the 2017 Plan at December 31, 2020.
11. Commitments and Contingencies
The Company had aggregate purchase commitments for fixed inventory quantities of approximately $32.0 million at December 31, 2020.
The Company had outstanding under the Loan Agreement letters of credit totaling $0.7 million to certain vendors as of December 31, 2020.
From time to time, we are involved in lawsuits that are brought against us in the normal course of business. We are not currently a party to any legal proceedings that we expect, either individually or in the aggregate, to have a material adverse effect on the Company’s consolidated financial position, cash flows, or results from operations.
12. Select Quarterly Financial Data (unaudited)
The following table presents the Company’s unaudited quarterly results of operations for each of the last eight quarters in the period ended December 31, 2020. The unaudited information has been prepared on the same basis as the audited consolidated financial statements. Schedule of unaudited quarterly results of operations
Year Ended December 31, 2020
Fourth
Quarter
Third
Quarter
Second
Quarter
First
Quarter
(in thousands, except per share data)
Sales
$ 65,460
$ 70,247
$ 66,777
$ 83,533
Gross profit
$ 14,231
$ 14,990
$ 14,236
$ 19,592
Operating (loss) income
$ (10,210 )1
$ (519 )
$ (2,188 )
$ 1,586
Net (loss) income
$ (10,229 )1
$ (735 )
$ (2,163 )
$
Earnings (loss) per share:
Basic
$ (0.61 )1
$ (0.04 )
$ (0.13 )
$ 0.03
Diluted
$ (0.61 )1
$ (0.04 )
$ (0.13 )
$ 0.03
Year Ended December 31, 2019
Fourth
Quarter
Third
Quarter
Second
Quarter
First
Quarter
(in thousands, except per share data)
Sales
$ 82,287
$ 85,403
$ 85,326
$ 85,270
Gross profit
$ 18,695
$ 19,431
$ 20,537
$ 21,259
Operating income
$
$ (87)
$ 3,030
$ 3,863
Net income
$ (656 )
$ (721)
$ 1,643
$ 2,284
Earnings per share:
Basic
$ (0.04 )
$ (0.04)
$ 0.10
$ 0.14
Diluted
$ (0.04 )
$ (0.04)
$ 0.10
$ 0.14
(1) This includes the loss on divestitures/HFS classification of $8,727.
13. Divestitures
Divestiture of Southern and Southwest reporting units
On December 2, 2020, the Company entered into an asset purchase agreement to dispose of our Southern reporting unit. Upon the closing of this transaction on December 31, 2020, the Company received $17.5 million in cash, net of working capital adjustments of $1.5 million. An additional $1.0 million is due from escrow and will be released one year following the close of the transaction. For the year ended December 31, 2020, the Company recognized a pre-tax loss on divestiture of approximately $2.0 million related to the transaction in its consolidated statements of income. The loss recognized included selling costs of $0.3 million. The Company also recorded a tax benefit of $15.4 million related to this transaction.
In addition, in January 2021 the Company entered into an asset purchase agreement to sell the Southwest reporting unit, other than accounts receivable. Upon the closing of this transaction, the Company will receive approximately $5.0 million in cash, subject to estimated working capital adjustments. As of December 31, 2020, the Southwest reporting unit was classified as held for sale in the Company’s consolidated financial statements and measured at the expected sales price less estimated selling costs. The Company incurred a loss on classification of the assets held for sale of $6.7 million, which includes $0.1 million of selling costs incurred prior to year-end, and the Company ceased depreciation of these properties upon their classification as held for sale.
The following is a summary of net assets and net liabilities related to Southwest as of December 31, 2020, that were classified as held for sale: Schedule of net assets and net liabilities classified as held for sale
Inventory $ 5,145
Prepaid expenses
PP&E 6,877
Intangibles 1,020
Other assets
Total assets 13,109
Less: Loss on classification to held for sale (6,711 )
Assets classified as held for sale $ 6,398
Accounts payable $ 969
Accrued liabilities
Long term lease liabilities
Liabilities classified as held for sale $ 1,398
The Company evaluated the divestitures of the Southern and Southwest reporting units individually and in the aggregate and determined that they did not represent a strategic shift that had a major effect on the Company’s operations or financial results and did not qualify as a significant component of the Company. As a result, the divestitures were not reported as discontinued operations.
14.
Subsequent Events
Completion of Sale of Southwest
On March 12, 2021, the Company completed the sale of substantially all of the assets, other than accounts receivable of approximately $2.9 million, of its Southwest reporting unit and received $3.4 million in cash, subject to final working capital adjustments. An additional $0.8 million is due from escrow and will be released no later than one year following the close of the transaction.
Agreement and Plan of Merger
On March 25, 2021, the Company announced that it entered into an Agreement and Plan of Merger with Omni Cable, LLC (“OmniCable”) and a subsidiary of OmniCable pursuant to which, subject to the satisfaction of customary closing conditions, the subsidiary will be merged with and into the Company, and the Company will become a wholly-owned subsidiary of OmniCable. Under the terms of the merger agreement, at the effective time of the merger each share of the Company’s common stock will be converted into the right to receive $5.30 in cash, without interest. In addition, each of the 300,461 stock-based equity awards outstanding under the Company’s stock and deferred compensation plans will be cancelled in exchange for $5.30. No consideration will be paid for stock options, all of which have exercise prices above the merger price.
The merger is subject to the satisfaction or waiver of certain closing conditions, including, among other things: (1) the adoption of the merger agreement by the holders of a majority of the outstanding shares of Company common stock; (2) the absence of certain legal impediments preventing the completion of the merger; (3) the accuracy of the representations and warranties of the parties and the compliance of the parties with their respective covenants, subject to customary qualifications, including with respect to materiality; and (4) conditions relating to the Company’s tangible net book value and indebtedness. The Company expects the merger to be completed in the second quarter of 2021.

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ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.

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ITEM 9A. CONTROLS AND PROCEDURES
ITEM 9A. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
In accordance with Exchange Act Rules 13a-15 and 15a-15, we carried out an evaluation, under the supervision and with the participation of management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of our disclosure controls and procedures as of the end of the period covered by this report. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of December 31, 2020.
Design and Evaluation of Internal Control over Financial Reporting
Pursuant to Section 404 of the Sarbanes-Oxley Act of 2002, we included a report of management’s assessment of the design and effectiveness of our internal controls as part of this Annual Report on Form 10-K for the fiscal year ended December 31, 2020.
There has been no change in our internal controls over financial reporting that occurred during the quarter ended December 31, 2020 that has materially affected, or is reasonably likely to materially affect, our internal controls over financial reporting.
MANAGEMENT’S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
The Company has assessed the effectiveness of its internal control over financial reporting as of December 31, 2020 based on criteria established by Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) (“COSO Framework”). The Company’s management is responsible for establishing and maintaining adequate internal controls over financial reporting.
Internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. Internal control over financial reporting includes those policies and procedures that: (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements. Because of the inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies and procedures may deteriorate.
The Company’s assessment of the effectiveness of its internal control over financial reporting included testing and evaluating the design and operating effectiveness of its internal controls. In management’s opinion, the Company has maintained effective internal control over financial reporting as of December 31, 2020, based on criteria established in the COSO Framework.
/s/ James L. Pokluda III
/s/ Eric W. Davis
James L. Pokluda III
Eric W. Davis
President and Chief Executive Officer
Chief Financial Officer, Treasurer
and Secretary (Chief Accounting Officer)

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ITEM 9B. OTHER INFORMATION
ITEM 9B. OTHER INFORMATION
None.
PART III

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ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
The information called for by Item 10 relating to directors and nominees for election to the Board of Directors is incorporated herein by reference to the “Proposal No. 1 - Election of Directors” section of the registrant’s definitive Proxy Statement relating to the Annual Meeting of Stockholders to be held on May 25, 2021. The information called for by Item 10 relating to executive officers and certain significant employees is set forth in Part I of this Annual Report on Form 10-K.
The information called for by Item 10 relating to disclosure of delinquent Form 3, 4 or 5 filers is incorporated herein by reference to the “General - Delinquent Section 16(a) Reports” section of the registrant’s definitive Proxy Statement relating to the Annual Meeting of Stockholders to be held on May 25, 2021.
The information called for by Item 10 relating to the code of ethics is incorporated herein by reference to the “Corporate Governance - Code of Business Conduct” section of the registrant’s definitive Proxy Statement relating to the Annual Meeting of Stockholders to be held on May 25, 2021.
The information called for by Item 10 relating to the procedures by which security holders may recommend nominees to the Board of Directors is incorporated herein by reference to the “Corporate Governance - Committee Established by the Board of Directors - Nominating and Corporate Governance Committee - Stockholder Recommendations for Director Nominations” section of the registrant’s definitive Proxy Statement relating to the Annual Meeting of Stockholders to be held on May 25, 2021.
The information called for by Item 10 relating to the audit committee and the audit committee financial expert is incorporated herein by reference to the “Corporate Governance - Committees Established by the Board of Directors - Audit Committee” section of the registrant’s definitive Proxy Statement relating to the Annual Meeting of Stockholders to be held on May 25, 2021.

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ITEM 11. EXECUTIVE COMPENSATION
ITEM 11. EXECUTIVE COMPENSATION
The information called for by Item 11 is incorporated herein by reference to the “Executive Compensation” and “Director Compensation” sections of the registrant’s definitive Proxy Statement relating to the Annual Meeting of Stockholders to be held on May 25, 2021.

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ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
The information called for by Item 12 is incorporated herein by reference to the “Stock Ownership of Certain Beneficial Owners and Management” and “Equity Compensation Plan Information” sections of the registrant’s definitive Proxy Statement relating to the Annual Meeting of Stockholders to be held on May 25, 2021.

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ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
The information called for by Item 13 is incorporated herein by reference to the “Corporate Governance and Board Committees - Director Independence” and “Related Person Transaction Policy” sections of the registrant’s definitive Proxy Statement relating to the Annual Meeting of Stockholders to be held on May 25, 2021.

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ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The information called for by Item 14 is incorporated herein by reference to the “Principal Independent Accountant Fees and Services” section of the registrant’s definitive Proxy Statement relating to the Annual Meeting of Stockholders to be held on May 25, 2021.
PART IV

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ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) The following financial statements of our Company and Report of the Independent Registered Public Accounting Firm are included in Part II:
• Reports of Independent Registered Public Accounting Firms
• Consolidated Balance Sheets as of December 31, 2020 and 2019
• Consolidated Statements of Operations for the years ended December 31, 2020, 2019 and 2018
• Consolidated Statements of Stockholders’ Equity for the years ended December 31, 2020, 2019 and 2018
• Consolidated Statements of Cash Flows for the years ended December 31, 2020, 2019 and 2018
• Notes to Consolidated Financial Statements
(b) Financial Statement Schedules:
Financial statement schedules have been omitted because they are either not applicable or the required information has been disclosed in the financial statements or notes thereto.
(c) Exhibits
Exhibits are set forth on the attached exhibit index