UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended December 31, 2017
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _________ to _________
Commission File Number 001-33525
COMMAND SECURITY CORPORATION
(Exact name of registrant as specified in its charter)
| New York | 14-1626307 | |
(State or other jurisdiction of incorporation or organization) |
(I.R.S. Employer Identification No.) |
| 512 Herndon Parkway, Suite A, Herndon, VA | 20170 | |
| (Address of principal executive offices) | (Zip Code) |
(703) 464-4735
(Registrant’s telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (Section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes [X] No [ ]
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definition of “accelerated filer,” “large accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
| Large accelerated filer [ ] | Accelerated filer [ ] | Non-accelerated filer [ ] | Smaller reporting company [X] |
| Emerging Growth Company [ ] |
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. [ ]
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X]
The number of outstanding shares of the registrant’s common stock as of February 1, 2018 was 10,107,108.
Table of Contents
| 2 |
COMMAND SECURITY CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
| Three Months Ended | Nine Months Ended | |||||||||||||||
| December 31, 2017 | December 31, 2016 | December 31, 2017 | December 31, 2016 | |||||||||||||
| Revenues | $ | 48,191,790 | $ | 42,672,114 | $ | 141,735,867 | $ | 121,414,727 | ||||||||
| Cost of revenues | 42,652,033 | 37,966,280 | 125,676,120 | 106,999,771 | ||||||||||||
| Gross profit | 5,539,757 | 4,705,834 | 16,059,747 | 14,414,956 | ||||||||||||
| Operating expenses | ||||||||||||||||
| General and administrative | 4,508,240 | 4,981,889 | 14,094,801 | 13,465,209 | ||||||||||||
| Provision for (recoveries of) doubtful accounts, net | (14,284 | ) | 78,459 | (131,902 | ) | (29,454 | ) | |||||||||
| 4,493,956 | 5,060,348 | 13,962,899 | 13,435,755 | |||||||||||||
| Operating income (loss) | 1,045,801 | (354,514 | ) | 2,096,848 | 979,201 | |||||||||||
| Other expenses | ||||||||||||||||
| Interest expense | 147,617 | 78,060 | 370,025 | 218,831 | ||||||||||||
| Income (loss) before income taxes and equity earnings (loss) in minority investment of unconsolidated affiliate | 898,184 | (432,574 | ) | 1,726,823 | 760,370 | |||||||||||
| Equity earnings (loss) in minority investment of unconsolidated affiliate | (68,500 | ) | 73,000 | (123,400 | ) | (57,000 | ) | |||||||||
| Income (loss) before income taxes | 829,684 | (359,574 | ) | 1,603,423 | 703,370 | |||||||||||
| Provision for (benefit from) income taxes | 1,613,000 | (152,000 | ) | 1,973,000 | 313,000 | |||||||||||
| Net income (loss) | $ | (783,316 | ) | $ | (207,574 | ) | $ | (369,577 | ) | $ | 390,370 | |||||
| Income (loss) per share of common stock | ||||||||||||||||
| Basic | $ | (0.08 | ) | $ | (0.02 | ) | $ | (0.04 | ) | $ | 0.04 | |||||
| Diluted | $ | (0.08 | ) | $ | (0.02 | ) | $ | (0.04 | ) | $ | 0.04 | |||||
| Weighted average number of common shares outstanding | ||||||||||||||||
| Basic | 9,941,909 | 9,842,686 | 9,881,595 | 9,817,097 | ||||||||||||
| Diluted | 9,941,909 | 9,842,686 | 9,881,595 | 10,208,632 | ||||||||||||
See accompanying notes to condensed consolidated financial statements
| 3 |
COMMAND SECURITY CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
| December 31, 2017 | March 31, 2017 | |||||||
| (Unaudited) | ||||||||
| ASSETS | ||||||||
| Current assets: | ||||||||
| Cash and cash equivalents | $ | 712,241 | $ | 1,042,291 | ||||
| Accounts receivable, net of allowance for doubtful accounts of $279,016 and $542,489, respectively | 40,958,832 | 29,189,233 | ||||||
| Prepaid expenses | 1,816,412 | 1,784,990 | ||||||
| Other assets | 2,322,077 | 2,821,172 | ||||||
| Total current assets | 45,809,562 | 34,837,686 | ||||||
| Furniture and equipment at cost, net | 569,252 | 146,345 | ||||||
| Other assets: | ||||||||
| Intangible assets, net | 936,142 | 1,028,582 | ||||||
| Minority investment in unconsolidated affiliate | 389,891 | 513,291 | ||||||
| Other assets | 3,387,237 | 5,253,946 | ||||||
| Total other assets | 4,713,270 | 6,795,819 | ||||||
| Total assets | $ | 51,092,084 | $ | 41,779,850 | ||||
| LIABILITIES AND STOCKHOLDERS’ EQUITY | ||||||||
| Current liabilities: | ||||||||
| Checks issued in advance of deposits | $ | 962,257 | $ | 583,201 | ||||
| Short-term borrowings | 21,538,853 | 12,228,679 | ||||||
| Accounts payable | 1,623,050 | 1,215,591 | ||||||
| Accrued expenses and other liabilities | 10,283,784 | 11,503,474 | ||||||
| Total current liabilities | 34,407,944 | 25,530,945 | ||||||
| Insurance reserves | 489,687 | 366,323 | ||||||
| Other non-current liabilities | 51,110 | - | ||||||
| Total liabilities | 34,948,741 | 25,897,268 | ||||||
| Stockholders’ equity: | ||||||||
| Preferred stock, convertible Series A, $.0001 par value | - | - | ||||||
| Common stock, $.0001 par value per share | 1,172 | 1,160 | ||||||
| Treasury stock, at cost, 1,607,200 shares and 1,752,200 shares, respectively | (2,646,788 | ) | (2,885,579 | ) | ||||
| Additional paid-in capital | 18,926,586 | 18,535,051 | ||||||
| Accumulated earnings (deficit) | (137,627 | ) | 231,950 | |||||
| Total stockholders’ equity | 16,143,343 | 15,882,582 | ||||||
| Total liabilities and stockholders’ equity | $ | 51,092,084 | $ | 41,779,850 | ||||
See accompanying notes to condensed consolidated financial statements
| 4 |
COMMAND SECURITY CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
(Unaudited)
| Preferred Stock | Common Stock | Treasury Stock | Additional Paid In Capital | Accumulated Earnings / (Deficit) | Total | |||||||||||||||||||
| Balance at March 31, 2016 | - | 1,155 | (2,885,579 | ) | 18,410,595 | 2,556,539 | 18,082,710 | |||||||||||||||||
| Options exercised, net | 5 | 95,964 | 95,969 | |||||||||||||||||||||
| Stock based compensation tax benefit | 10,577 | 10,577 | ||||||||||||||||||||||
| Stock compensation cost | 11,443 | 11,443 | ||||||||||||||||||||||
| Net income | 390,370 | 390,370 | ||||||||||||||||||||||
| Balance at December 31, 2016 | - | 1,160 | (2,885,579 | ) | 18,528,579 | 2,946,909 | 18,591,069 | |||||||||||||||||
| Stock compensation cost | 6,472 | 6,472 | ||||||||||||||||||||||
| Net loss | (2,714,959 | ) | (2,714,959 | ) | ||||||||||||||||||||
| Balance at March 31, 2017 | - | 1,160 | (2,885,579 | ) | 18,535,051 | 231,950 | 15,882,582 | |||||||||||||||||
| Options exercised, net | 12 | 173,150 | 173,162 | |||||||||||||||||||||
| Issuance of treasury stock | 238,791 | (17,191 | ) | 221,600 | ||||||||||||||||||||
| Stock compensation cost | 235,576 | 235,576 | ||||||||||||||||||||||
| Net loss | (369,577 | ) | (369,577 | ) | ||||||||||||||||||||
| Balance at December 31, 2017 | $ | - | $ | 1,172 | $ | (2,646,788 | ) | $ | 18,926,586 | $ | (137,627 | ) | $ | 16,143,343 | ||||||||||
See accompanying notes to condensed consolidated financial statements
| 5 |
COMMAND SECURITY CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Nine Months Ended December 31, | ||||||||
| 2017 | 2016 | |||||||
| Cash flows from operating activities: | ||||||||
| Net income (loss) | $ | (369,577 | ) | $ | 390,370 | |||
| Adjustments to reconcile net income (loss) to net cash provided by operating activities: | ||||||||
| Depreciation and amortization | 164,006 | 348,449 | ||||||
| Recoveries of doubtful accounts | (131,902 | ) | (29,454 | ) | ||||
| Equity loss in minority investment of unconsolidated affiliate | 123,400 | 57,000 | ||||||
| Rent expense | 3,208 | 15,904 | ||||||
| Stock based compensation costs | 235,576 | 11,443 | ||||||
| Insurance reserves | 123,364 | (67,920 | ) | |||||
| Deferred income taxes | 1,850,322 | 5,095 | ||||||
| Change in receivables, prepaid expenses and other current assets | (11,143,242 | ) | (9,936,062 | ) | ||||
| Change in accounts payable and other liabilities | (815,438 | ) | 188,562 | |||||
| Change in other long term liabilities | 51,110 | (700,000 | ) | |||||
| Net cash used in operating activities | (9,909,173 | ) | (9,716,613 | ) | ||||
| Cash flows from investing activities: | ||||||||
| Purchases of equipment | (504,868 | ) | (10,394 | ) | ||||
| Net cash used in investing activities | (504,868 | ) | (10,394 | ) | ||||
| Cash flows from financing activities: | ||||||||
| Net advances on short-term borrowings | 9,310,174 | 8,645,066 | ||||||
| Change in checks issued in advance of deposits | 379,056 | 759,708 | ||||||
| Proceeds from option exercises, net | 394,761 | 106,546 | ||||||
| Net cash provided by financing activities | 10,083,991 | 9,511,320 | ||||||
| Net change in cash and cash equivalents | (330,050 | ) | (215,687 | ) | ||||
| Cash and cash equivalents, beginning of period | 1,042,291 | 1,486,854 | ||||||
| Cash and cash equivalents, end of period | $ | 712,241 | 1,271,167 | |||||
Supplemental Disclosures of Cash Flow Information
| Cash paid during the nine months ended December 31 for: | 2017 | 2016 | ||||||
| Interest | $ | 329,086 | $ | 208,621 | ||||
| Income taxes | 7,802 | 6,415 | ||||||
See accompanying notes to condensed consolidated financial statements
| 6 |
COMMAND SECURITY CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
The accompanying condensed consolidated financial statements presented herein have not been audited, and have been prepared in accordance with the instructions to Form 10-Q which do not include all of the information and note disclosures required by generally accepted accounting principles in the United States. These financial statements should be read in conjunction with our consolidated financial statements and notes thereto as of and for the fiscal year ended March 31, 2017. In this discussion, the words “Company,” “we,” “our,” “us” and terms of similar import should be deemed to refer to Command Security Corporation and its consolidated subsidiaries.
The condensed consolidated financial statements for the interim period shown in this report are not necessarily indicative of our results to be expected for any period after the date hereof, including for the fiscal year ending March 31, 2018, or for any other subsequent period. The condensed consolidated financial statements include the consolidated accounts of the Company with all intercompany transactions eliminated. In the opinion of our management, the accompanying condensed consolidated financial statements reflect all adjustments, consisting of only normal recurring adjustments, considered necessary for a fair presentation of the financial statements included in this quarterly report. All such adjustments are of a normal recurring nature.
| 1. | Recently Issued Accounting Standards |
In May 2014, the FASB and the International Accounting Standards Board (IASB) issued, ASU 2014-09 (Topic 606) Revenue from Contracts with Customers. The guidance substantially converges final standards on revenue recognition between the FASB and IASB providing a framework on addressing revenue recognition issues and, upon its effective date, replaces almost all existing revenue recognition guidance, including industry-specific guidance, in current U.S. generally accepted accounting principles. In July 2015, the FASB issued ASU No. 2015-14, “Revenue from Contracts with Customers (Topic 606): Deferral of the Effective Date”, which deferred the effective date of ASU No. 2014-09 by one year, making it effective for the Company’s fiscal year ending March 31, 2019. Subsequently, the FASB also issued a series of amendments to the new revenue standards. The new revenue standards may be applied retrospectively to each prior period presented or retrospectively with the cumulative effect recognized as of the date of adoption. The new revenue standards are not expected to have a material impact on the amount and timing of revenue recognized in the Company’s consolidated financial statements.
In November 2015, the FASB issued ASU 2015-17, “Balance Sheet Classification of Deferred Taxes”. ASU 2015-17 simplifies the presentation of deferred taxes by requiring deferred tax assets and liabilities to be classified as non-current on the balance sheet. The Company adopted this standard during the quarter ended June 30, 2017, and applied the new standard retrospectively. Other than the reclassification of the current deferred tax asset to long term assets, the adoption of this guidance did not have a material impact on the Company’s financial position, results of operations, or cash flows.
In February 2016, the FASB issued ASU No. 2016-02, “Leases (Topic 842)”, which requires lessees to recognize a lease liability and a right-to-use asset on the balance sheet for all leases, except certain short-term leases. ASU 2016-02 is effective beginning with the Company’s fiscal year ending March 31, 2020, with early adoption permitted, and must be implemented using a modified retrospective approach for all leases existing at, or entered into after the beginning of the earliest comparative period that is presented in the financial statements. The Company is currently evaluating the impact of ASU 2016-02 on its consolidated financial statements. The adoption of this guidance is expected to result in a significant increase in assets and liabilities on the Company’s balance sheet, with no material impact on the statements of operations. However, the ultimate impact of adopting ASU 2016-02 will depend on the Company’s lease portfolio as of the adoption date.
In March 2016, the FASB issued ASU No. 2016-09, “Improvements to Employee Share-Based Payment Accounting”, which simplifies accounting and presentation of share-based payments, primarily relating to the recognition and classification of excess tax benefits, accounting for forfeitures and tax withholding requirements. ASU 2016-09 is effective for the Company’s fiscal year ending March 31, 2018. Previously, excess tax benefits or deficiencies from the Company’s equity awards were recorded as additional paid-in capital in its balance sheets. Upon adoption during the first quarter of the Company’s fiscal year ending March 31, 2018, the Company began recording any excess tax benefits or deficiencies from its equity awards in its statements of income in the reporting periods in which the benefit or deficiency is realized. As a result, the Company’s income tax expense and associated effective tax rate are impacted by fluctuations in stock price between the grant dates and exercise dates of equity awards. The amendments also allow for a one-time accounting policy election to either account for forfeitures as they occur or to estimate forfeitures as required by current guidance. The Company elected to account for forfeitures as they occur. The adoption of this accounting policy did not have a material impact on the Company’s financial position, results of operations or cash flows.
In August 2016, the FASB issued new guidance on cash flow statement presentation ASU 2016-15, Statement of Cash Flows (Topic 230); Classification of Certain Cash Receipts and Cash Payments. This ASU addresses diversity in how certain cash receipts and cash payments are presented and classified in the statement of cash flows. The new guidance is effective beginning with the Company’s fiscal year ending March 31, 2019, with early adoption permitted. The adoption of ASU 2016-15 is not expected to have a material impact on the Company’s consolidated financial statements.
In January 2017, the FASB issued ASU 2017-04 “Intangibles – Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment”, which eliminates Step 2 from the goodwill impairment test. Instead, an entity should perform its annual or interim goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount and recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value, not to exceed the total amount of goodwill allocated to the reporting unit. ASU 2017-04 is effective for annual or any interim goodwill tests in fiscal years beginning after December 15, 2019. The adoption is not expected to have a material impact on the consolidated financial statements.
| 7 |
COMMAND SECURITY CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
| 2. | Short-Term Borrowings: |
On February 12, 2009, we entered into a $20.0 million credit facility (the “Credit Agreement”) with Wells Fargo Bank, National Association (“Wells Fargo”). This credit facility, which was most recently amended in March 2017 (see below) and matures March 31, 2020, contains customary affirmative and negative covenants, including, among other things, covenants requiring us to maintain certain financial ratios and is collateralized by customer accounts receivable and certain other assets of the Company as defined in the Credit Agreement.
The Credit Agreement provides for a letter of credit sub-line in an aggregate amount of up to $1.5 million. The Credit Agreement also provides for interest to be calculated on the outstanding principal balance of the revolving loans at the floating 90 day LIBOR rate plus 1.75%. For LIBOR loans, interest will be calculated on the outstanding principal balance of the LIBOR loans at the floating 30 day LIBOR rate plus 1.75%.
On March 30, 2017, we entered into an eighth amendment (the “Eighth Amendment”) to our Credit Agreement. The Eighth Amendment extended the Credit Agreement from March 31, 2017 to March 31, 2020, increased the revolving line of credit from $20.0 million to $27.5 million, amended the terms of the “Minimum Excess Availability” covenant and redefined the term “Borrowing Base”.
Under the Credit Agreement, as of December 31, 2017, the interest rate was 3.125% for LIBOR loans and 3.5% for revolving loans, an increase of 0.5% and 0.75%, respectively, as compared with December 31, 2016. At December 31, 2017, we had approximately $0.7 million of cash on hand. We also had $12.5 million in LIBOR loans outstanding, $9.0 million of revolving loans outstanding and $0.3 million outstanding under our letters of credit sub-line under the Credit Agreement, representing 85% of the maximum borrowing capacity under the Credit Agreement based on our “eligible accounts receivable” (as defined in the Credit Agreement) as of such date. As of the close of business January 31, 2018, we had total short term borrowings, net of cash, of approximately $17 million, representing approximately 79% of the maximum borrowing capacity under the Credit Agreement based on our “eligible accounts receivable” (as defined in the Credit Agreement) as of such date.
| 3. | Other Assets: |
| December 31, 2017 | March 31, 2017 | |||||||
| Workers’ compensation insurance | $ | 2,322,077 | $ | 2,804,341 | ||||
| Deferred tax asset | 3,265,453 | 5,115,775 | ||||||
| Security deposits | 121,784 | 138,171 | ||||||
| Other receivables | - | 16,831 | ||||||
| 5,709,314 | 8,075,118 | |||||||
| Current portion | (2,322,077 | ) | (2,821,172 | ) | ||||
| Total non-current portion | $ | 3,387,237 | $ | 5,253,946 | ||||
The other asset workers’ compensation insurance represents the net amount of the payments made to cover the workers’ compensation insurance premium against the actual premium due as well as the difference in the amount deposited to the loss fund less the estimated workers’ compensation claims and reserves related to the historical loss claims as well as the estimates related to claims incurred but not reported. There is no offsetting claim liability reported as the Company has determined that there is a sufficient amount deposited into the loss funds to cover the estimated claims reserve as well as the estimate related to claims incurred but not reported.
| 8 |
COMMAND SECURITY CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
| 4. | Minority Investment in Unconsolidated Affiliate |
In March 2014, the Company made a 20% minority investment in Ocean Protection Services LLC, a Delaware limited liability company (“OPS LLC”) which at that time owned 100% of a holding company, OPS Acquisitions, Ltd (“OPSA Ltd”), which in turn owns 100% of the operating company, Ocean Protection Services, Ltd. (“OPS Ltd.”), a UK based company specializing in maritime security, risk management and risk analysis. The Company purchased 2,000 Class A Common Units of OPS LLC for a purchase price of $2.125 million. The excess of the carrying value of the Company’s investment in OPS LLC and the proportionate share of the underlying net assets of OPS Ltd. is largely attributable to goodwill. Since the Company’s initial investment, there have been no additional capital contributions made or distributions received.
On September 7, 2016, the majority owner of OPS LLC consented to a restructuring transaction wherein 70% of its investment in OPSA Ltd. was transferred to a group comprising former management and owners of OPS Ltd. and the holder of the senior debt of OPSA Ltd. On September 21, 2016, the majority owner of OPS LLC transferred its 80% interest in OPS LLC to the Company resulting in the Company owning 100% of OPS LLC. No cash consideration was paid by the Company and no liabilities were undertaken by the Company in connection with the OPS LLC transfer to the Company. As a result, OPS LLC became a wholly-owned subsidiary of the Company thereby indirectly increasing the Company’s interest in OPSA Ltd. (and OPS Ltd.) from 20% to 30%.
During the quarter and year ended March 31, 2017, the Company performed an impairment analysis of its investment in OPSA and concluded the investment to be impaired and, accordingly, recorded a $2.1 million impairment charge in the year ended March 31, 2017.
The following summarizes the condensed consolidated statements of operations of OPSA Ltd. for the nine months ended:
| December 31, 2017 | December 31, 2016 | |||||||
| Net operating revenues | $ | 2,943,842 | $ | 6,425,792 | ||||
| Gross profit | $ | 653,302 | $ | 1,906,846 | ||||
| Operating income (loss) | $ | (630,011 | ) | $ | 175,636 | |||
| Net loss from continuing operations | $ | (411,334 | ) | $ | (310,959 | ) | ||
| 5. | Accrued Expenses and Other Liabilities: |
| December 31, 2017 | March 31, 2017 | |||||||
| Payroll and related expenses | $ | 7,953,059 | $ | 8,076,807 | ||||
| Taxes and fees payable | 381,264 | 325,763 | ||||||
| Accrued interest payable | 55,596 | 13,508 | ||||||
| Other | 1,893,865 | 3,087,396 | ||||||
| Total | $ | 10,283,784 | $ | 11,503,474 | ||||
| 6. | Insurance Reserves: |
We have insurance policies covering workers’ compensation claims in states where we perform services. Estimated accrued liabilities are based on our historical loss experience and the ratio of claims paid to our historical payout profiles. Charges for estimated workers’ compensation related losses incurred and included in cost of sales were $403,002 and $633,008 for the three months ended December 31, 2017 and 2016, respectively, and $1,646,824 and $2,404,788 for the nine months ended December 31, 2017 and 2016, respectively.
The nature of our business also subjects us to claims or litigation alleging that we are liable for damages as a result of the conduct of our employees or others. We insure against such claims and suits through general liability policies with third-party insurance companies.
Our insurance coverage limits are currently $1.0 million per occurrence for non-aviation related business (with additional first and second layer excess liability policies of $5.0 million and $10.0 million, respectively) and $30.0 million per occurrence for aviation related business. We retain the risk for the first $25,000 of general liability non-aviation related operations. The aviation related deductible is $5,000 per occurrence, with the exception of $50,000 for airport wheelchair and electric cart operations, $25,000 for damage to aircraft and $100,000 for skycap operations. Estimated accrued liabilities are based on specific reserves in connection with existing claims as determined by third party risk management consultants and actuarial factors and the timing of reported claims. These are all factored into estimated losses incurred but not yet reported to us.
Cumulative amounts estimated to be payable by us with respect to pending and potential claims for all years in which we are liable under our general liability retention and workers’ compensation policies have been accrued as liabilities. Such accrued liabilities are necessarily based on estimates; accordingly, our ultimate liability may exceed or be less than the amounts accrued. The methods of making such estimates and establishing the resultant accrued liability are reviewed continually and any adjustments resulting therefrom are reflected in our current results of operations.
Workers’ compensation annual costs are comprised of premiums as well as incurred losses as determined at the end of the coverage period, subject to minimum and maximum amounts. Workers’ compensation insurance claims and reserves include accruals of estimated settlements for known claims, as well as accruals of estimates for claims incurred but not yet reported as provided by a third party. In estimating these accruals, we consider historical loss experience and make judgments about the expected levels of costs per claim. We believe our estimates of future liability are reasonable based upon our methodology; however, changes in health care costs, accident frequency and severity and other factors could materially affect these estimates. The Company continually monitors changes in claim type and incident and evaluates the workers’ compensation insurance accrual, making necessary adjustments based on the evaluation of these qualitative data points.
| 9 |
COMMAND SECURITY CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
| 7. | Income Taxes |
On December 22, 2017, the United States (“U.S.”) enacted significant changes to the U.S. tax law following the passage and signing of H.R.1, “An Act to Provide for Reconciliation Pursuant to Titles II and V of the Concurrent Resolution on the Budget for Fiscal Year 2018” (the “Tax Act”) (previously known as “The Tax Cuts and Jobs Act”). The Tax Act included significant changes to existing tax law, including a permanent reduction to the U.S. federal corporate income tax rate from 34% to 21%, a one-time repatriation tax on deferred foreign income, deductions, credits and business related exclusions.
The permanent reduction to the U.S. federal corporate income tax rate from 34% to 21% was effective January 1, 2018 (the “Effective Date”). When a U.S. federal tax rate change occurs during a fiscal year, taxpayers are required to compute a weighted daily average rate for the fiscal year of enactment. As a result of the Tax Act, the Company has calculated a U.S. federal statutory corporate income tax rate of 31% for the fiscal year ending March 31, 2018 and applied this rate in computing the income tax provision for the three and nine months ended December 31, 2017. The U.S. federal statutory corporate income tax rate of 31% is the weighted daily average rate between the pre-enactment U.S. federal statutory tax rate of 34% applicable to the Company’s fiscal year ending March 31, 2018 prior to the Effective Date and the post-enactment U.S. federal statutory tax rate of 21% applicable thereafter. The Company expects the U.S. federal statutory rate to be 21% for fiscal years beginning after March 31, 2018.
On December 22, 2017, the SEC issued Staff Accounting Bulletin 118 (“SAB 118”). SAB 118 expresses views of the SEC regarding ASC Topic 740, Income Taxes (“ASC 740”) in the reporting period that includes the enactment date of the Tax Act. The SEC staff issuing SAB 118 (the “Staff”) recognized that a registrant’s review of certain income tax effects of the Tax Act may be incomplete at the time financial statements are issued for the reporting period that includes the enactment date, including interim periods therein. If a company does not have the necessary information available, prepared or analyzed for certain income tax effects of the Tax Act, SAB 118 allows a company to report provisional numbers and adjust those amounts during the measurement period not to extend beyond one year. For the three months ended December 31, 2017, the Company has recorded all known and estimable impacts of the Tax Act that are effective for the fiscal year ending March 31, 2018. Future adjustments to the provisional numbers will be recorded as discrete adjustments to income tax expense in the period in which those adjustments become estimable and/or are finalized.
As of March 31, 2017, the Company had net deferred tax assets totaling approximately $5.1 million. The lower future tax rate means the future benefits of existing deferred tax assets would need to be computed at the new, lower tax rate which would result in a reduction in deferred tax assets and an increase in income tax expense in the period of enactment.
As a direct result of the permanent reduction in federal tax rates from 34% to 21%, the value of these net deferred tax assets has declined. Accordingly, the Company’s income tax provision for the three and nine months ended December 31, 2017 includes a $1.35 million non-cash charge to reduce the value of deferred tax assets to the revised value based on the new, lower tax rate.
| Three
and Nine Months Ended December 31, 2017 | ||||
| Net Impact on U.S. deferred tax assets and liabilities (provisional) | $ | 1,350,000 | ||
The Company determined that the impact of the U.S. federal corporate income tax rate change on the U.S. deferred tax assets and liabilities is provisional because the number cannot be calculated until the underlying timing differences are known rather than estimated.
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The following table sets forth the effective tax rates for the Company for the nine months ended December 31, 2017 and 2016.
| Nine months ended December 31, | ||||||||
| 2017 | 2016 | |||||||
| Statutory federal income tax rate | 30.8 | % | 34.0 | % | ||||
| State and local income taxes | 7.1 | % | 7.3 | % | ||||
| Permanent differences | -6.0 | % | 13.1 | % | ||||
| Minority investment in unconsolidated affiliate | 2.8 | % | -3.3 | % | ||||
| Remeasurement of deferred tax assets | 84.2 | % | 0.0 | % | ||||
| Other | 4.1 | % | -6.6 | % | ||||
| Effective tax rate | 123.0 | % | 44.5 | % | ||||
The increase in the effective tax rate for the nine months ended December 31, 2017 as compared with the nine months ended December 31, 2016 was primarily attributable to the $1.35 million impact of the U.S. federal corporate income tax rate change on the Company’s deferred tax assets.
| 8. | Earnings per Share: |
Under the requirements of FASB ASC 260-10, Earnings Per Share, the dilutive effect of our common shares that have not been issued, but that may be issued upon the exercise or conversion, as the case may be, of rights or options to acquire such common shares, is excluded from the calculation for basic earnings per share. Diluted earnings per share reflects the additional dilution that would result from the issuance of our common shares if such rights or options were exercised or converted, as the case may be, and is presented for the three and nine months ended December 31, 2017 and 2016.
For the three and nine months ended December 31, 2017, and for the three months ended December 31, 2016, the Company reported a net loss and, accordingly, potential common shares that would cause dilution, such as employee stock options and restricted stock units (RSUs), have been excluded from the diluted share count because their inclusion would have been anti-dilutive. For the three and nine months ended December 31, 2017 and for the three months ended December 31, 2016, the fully diluted shares would have been 10,540,256, 10,476,975 and 10,230,974, respectively.
| 9. | Contingencies: |
The nature of our business is such that there is a significant volume of routine claims and lawsuits that are made against the Company, the vast majority of which never lead to the award of substantial damages. We maintain general liability and workers’ compensation insurance coverage that we believe is appropriate to the relevant level of risk and potential liability that we face, relating to these matters. Some of the claims brought against us could result in significant payments; however, the exposure to us under general liability non-aviation related operations is limited to the first $25,000 per occurrence. The aviation related deductible is $5,000 per occurrence, with the exception of $50,000 for airport wheelchair and electric cart operations, $25,000 for damage to aircraft and $100,000 for skycap operations. Any punitive damage award would not be covered by the general liability insurance policy. The only other potential impact would be on future premiums, which may be adversely affected by an unfavorable claims history.
We have been named or could be named as a defendant in uninsured employment related claims including claims related to wages and related benefits that are pending before various courts, the Equal Employment Opportunities Commission or various state and local agencies. We have instituted policies to minimize these occurrences and monitor those that do occur. At this time, we are unable to determine the impact on the financial position and results of operations that these claims may have, should the investigations conclude that such claims are valid. The impact of these claims could have a material adverse effect on the Company’s financial position or results of operations.
We have employment agreements with certain of our officers and key employees with varying terms. The agreements generally provide for annual salaries and for salary continuation for a specified number of months under certain circumstances, including a change in control of the Company.
Approximately 60% of our workforce is not subject to a labor union. The remaining 40% of our workforce, including in particular, a number of employees based in our New York City security services office and at our airport offices at John F. Kennedy International and LaGuardia airports are subject to collective bargaining agreements. Two of the agreements, covering approximately 7% of our employees, expired on March 31, 2017 and June 28, 2017. We are currently involved in negotiations to renew the expired agreements. The remaining nine agreements are set to expire in September 2018 and thereafter.
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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with our condensed consolidated financial statements and the related notes contained in this quarterly report.
Forward Looking Statements
Certain of our statements contained in this Management’s Discussion and Analysis of Financial Condition and Results of Operations section of this quarterly report and, in particular, those under the heading “Outlook,” contain forward-looking statements. The words “may,” “will,” “should,” “expect,” “anticipate,” “believe,” “plans,” “intend” and “continue,” or the negative of these words or other variations on these words or comparable terminology typically identify such statements. These statements are based on our management’s current expectations, estimates, forecasts and projections about the industry in which we operate generally, and other assumptions made by our management, some or many of which may be incorrect. In addition, other written or verbal statements that constitute forward-looking statements may be made by us or on our behalf. While our management believes these statements are accurate, our business is dependent upon general economic conditions and various conditions specific to the industries in which we operate. Moreover, we believe that the current business environment is more challenging and difficult than it has been in the past several years, if not longer. If the business of any substantial customer or group of customers fails or is materially and adversely affected by the current economic environment or otherwise, they may seek to substantially reduce their expenditures for our services. Any loss of business from our substantial customers could cause our actual results to differ materially from the forward-looking statements that we have made in this quarterly report. Further, other factors, including, but not limited to, those relating to the shortage of qualified labor, competitive conditions and adverse changes in economic conditions of the various markets in which we operate, could adversely impact our business, operations and financial condition and cause our actual results to fail to meet our expectations, as expressed in the forward-looking statements that we have made in this quarterly report. These forward-looking statements are not guarantees of future performance, and involve certain risks, uncertainties and assumptions that we may not be able to accurately predict. We undertake no obligation to update publicly any of these forward-looking statements, whether as a result of new information, future events or otherwise.
As provided for under the Private Securities Litigation Reform Act of 1995, we wish to caution shareholders and investors that the important factors under the heading “Risk Factors” in our Annual Report on Form 10-K filed with the Securities and Exchange Commission with respect to our fiscal year ended March 31, 2017, could cause our actual financial condition and results from operations to differ materially from our anticipated results or other expectations expressed in our forward-looking statements in this quarterly report.
Critical Accounting Policies and Estimates
Critical accounting policies are defined as those most important to the portrayal of a company’s financial condition and results and that require the most difficult, subjective or complex judgments. The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements, the disclosure of contingent assets and liabilities, and the reported amounts of revenues and expenses during the reporting period. The estimates that we make include allowances for doubtful accounts, depreciation and amortization, income tax assets and insurance reserves. Estimates are based on historical experience, where applicable or other assumptions that management believes are reasonable under the circumstances. We have identified the policies described below as our critical accounting policies. Due to the inherent uncertainty involved in making estimates, actual results may differ from those estimates under different assumptions or conditions.
Revenue Recognition
We record revenues as services are provided to our customers. Revenues consist primarily of aviation and security services, which are typically billed at hourly rates. These rates may vary depending on base, overtime and holiday time worked. Revenue is reported net of applicable taxes.
Accounts Receivable
We periodically evaluate the requirement for providing for billing adjustments and/or reflect the extent to which we will be able to collect our accounts receivable. We provide for billing adjustments where management determines that there is a likelihood of a significant adjustment for disputed billings. Criteria used by management to evaluate the adequacy of the allowance for doubtful accounts include, among others, the creditworthiness of the customer, current trends, prior payment performance, the age of the receivables and our overall historical loss experience. Individual accounts are charged off against the allowance as management deems them to be uncollectible.
Minority Investment in Unconsolidated Affiliate
The Company uses the equity method to account for its investment in OPSA. Equity method investments are recorded at original cost and adjusted periodically to recognize: (i) our proportionate share of investees’ net income or losses after the date of the investment; (ii) additional contributions made or distributions received; and (iii) impairment losses resulting from adjustments to net realizable value. The Company reviews its investment accounted for under the equity method of accounting for impairment whenever events or changes in circumstances indicate a loss in the value of the investment may be other than temporary.
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Intangible Assets
Intangible assets are stated at cost and consist primarily of customer lists that are being amortized on a straight-line basis over a period of ten years, and goodwill, which is reviewed annually for impairment. The life assigned to customer lists acquired is based on management’s estimate of our expected customer attrition rate. The attrition rate is estimated based on historical contract longevity and management’s operating experience. We test for impairment annually or when events and circumstances warrant such a review, if earlier. Any potential impairment is evaluated based on anticipated undiscounted future cash flows and actual customer attrition in accordance with FASB ASC 360, Property, Plant and Equipment.
Insurance Reserves
General liability estimated accrued liabilities are calculated on an undiscounted basis based on actual claim data and estimates of incurred but not reported claims developed utilizing historical claim trends. Projected settlements and incurred but not reported claims are estimated based on pending claims, historical trends and related data.
Workers’ compensation annual costs are comprised of premiums as well as incurred losses as determined at the end of the coverage period, subject to minimum and maximum amounts. Workers’ compensation insurance claims and reserves include accruals of estimated settlements for known claims, as well as accruals of estimates for claims incurred but not yet reported as provided by a third party. In estimating these accruals, we consider historical loss experience and make judgments about the expected levels of costs per claim. We believe our estimates of future liability are reasonable based upon our methodology; however, changes in health care costs, accident frequency and severity and other factors could materially affect the estimate for these liabilities. The Company continually monitors changes in claim type and incident and evaluates the workers’ compensation insurance accrual, making necessary adjustments based on the evaluation of these qualitative data points.
Income Taxes
Income taxes are based on income (loss) for financial reporting purposes and reflect a current tax liability (asset) for the estimated taxes payable (recoverable) in the current year tax return and changes in deferred taxes. Deferred tax assets or liabilities are determined based on differences between financial reporting and tax bases of assets and liabilities and are measured using enacted tax laws and rates. A valuation allowance is provided on deferred tax assets if it is determined that it is more likely than not that the asset will not be realized.
We recognize the effect of income tax positions only if those positions are more likely than not of being sustained. Recognized income tax positions are measured at the largest amount that is greater than 50% likely of being realized. Changes in recognition or measurement are reflected in the period in which the change in judgment occurs. In the event that interest and/or penalties are assessed in connection with our tax filings, interest will be recorded as interest expense and penalties as selling, general and administrative expense. We did not have any unrecognized tax benefits as of December 31, 2017 and 2016.
Stock Based Compensation
FASB ASC 718, Stock Compensation, requires all share-based payments to employees, including grants of stock options and restricted stock units (“RSUs”) to be recognized in the financial statements based on their fair values at grant date and the recognition of the related expense over the period in which the share-based compensation vests. We use the modified-prospective transition method. Under the modified-prospective transition method, we recognize compensation expense in our financial statements issued subsequent to the date of adoption for all share-based payments granted, modified or settled. Non-cash charges of $235,576 and $11,443 for stock based compensation have been recorded for the nine months ended December 31, 2017 and 2016, respectively.
During the three months ended September 30, 2017, the Company issued 285,000 shares of RSUs to its board of directors, executive officers and certain other employees pursuant to the Company’s Amended and Restated 2009 Omnibus Equity Incentive Plan (“Plan”). These RSUs were valued based on the fair value at $3.24 per share, the closing price of the Company’s common stock on July 21, 2017. The RSUs vest ratably over 36 months or earlier in certain circumstances as described in the Plan. The valuation of restricted stock units with only a service condition or a service and performance condition requires no significant assumptions as the fair value for these types of equity awards is based solely on the fair value of the Company’s stock price on the date of grant.
Reclassifications
Certain amounts previously reported for prior periods have been reclassified to conform to the current year presentation in the accompanying condensed financial statements. Such reclassifications had no effect on the results of operations or shareholders’ equity as previously recorded.
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Overview
We principally provide uniformed security officers and aviation services to commercial, residential, financial, industrial, aviation and governmental customers through approximately 18 offices throughout the United States. In conjunction with providing these services, we assume responsibility for a variety of functions, including recruiting, hiring, training and supervising all operating personnel as well as paying such personnel and providing them with uniforms, fringe benefits and workers’ compensation insurance.
Our customer-focused mission is to provide the best personalized supervision and management attention necessary to deliver timely and efficient security solutions so that our customers can operate in safe environments without disruption or loss. Technology underpins our efficiency, accuracy and dependability. We use a sophisticated software system that integrates scheduling, payroll and billing functions, giving customers the benefit of customized programs using the personnel best suited to the job.
Renewing and extending existing contracts and obtaining new contracts are crucial to our ability to generate revenues, earnings and cash flow. In addition, our growth strategy involves the acquisition and integration of complementary businesses in order to increase our scale within certain geographical areas, increase our market share in the markets in which we operate, gain market share in the markets in which we do not currently operate and improve our profitability. We intend to pursue suitable acquisition opportunities for contract security officer businesses. We frequently evaluate acquisition opportunities and, at any given time, may be in various stages of due diligence or preliminary discussions with respect to a number of potential acquisitions. However, we cannot assure you that we will identify any suitable acquisition candidates or, if identified, that we will be able to complete the acquisition of such candidates on favorable terms or at all.
The global security industry has grown largely due to an increasing fear of crime and terrorism. In the United States, the demand for security-related products and central station monitoring services also has grown steadily. We believe that there is continued heightened attention to and demand for security due to worldwide events, and the ensuing threat, or perceived threat, of criminal and terrorist activities. For these reasons, we expect that security will continue to be a key area of focus both domestically in the United States and abroad.
Demand for security officer services is dependent upon a number of factors, including, among other things, demographic trends, general economic variables such as growth in the gross domestic product, unemployment rates, consumer spending levels, perceived and actual crime rates, government legislation, terrorism sensitivity, war/external conflicts and technology.
Results of Operations
Revenues
Our revenues increased by $5.5 million, or 12.9%, to $48.2 million for the three months ended December 31, 2017, from $42.7 million in the corresponding period of the prior year. The increase in revenues was due mainly to the commencement of work under new contracts with a large on-line retailer and its web services division in June and July 2017. These increases were partly offset by reductions in revenues from a major transportation company of approximately $5.9 million following the Company’s decision to terminate its relationship with this customer effective August 31, 2017.
Our revenues increased by $20.3 million, or 16.7%, to $141.7 million for the nine months ended December 31, 2017 from $121.4 million in the corresponding period of the prior year. The increase in revenues for the nine months ended December 31, 2017 was due mainly to the commencement of work under new contracts with a large on-line retailer and its web services division in June and July 2017, and the commencement of work under the contracts with the USPS in June 2016. These increases were partly offset by reductions in revenues from a major transportation company of approximately $6.7 million following the Company’s decision to terminate its relationship with this customer effective August 31, 2017.
Gross Profit
Our gross profit increased by $0.8 million, or 17.7%, to $5.5 million (11.5% of revenues) for the three months ended December 31, 2017, from $4.7 million (11.0% of revenues) in the corresponding period of the prior year. The increase in gross profit was due mainly to the above-mentioned changes in revenue, a reduction in overhead costs associated with the above mentioned terminated contract, a decrease in workers compensation and general liability insurance expense. The increase was partly offset by higher labor costs including training, overtime and subcontractor costs related to the commencement of the above-mentioned new contracts.
Our gross profit increased by $1.6 million, or 11.4%, to $16.1 million (11.3% of revenues) for the nine months ended December 31, 2017, from $14.4 million (11.9% of revenues) in the corresponding period of the prior year. The increase in gross profit was due mainly to the commencement of work under new contracts with a large on-line retailer as discussed above, a reduction in overhead costs associated with the above mentioned terminated contract and a decrease in workers’ compensation insurance expense. These increases were partly offset by increased labor costs including training, overtime and subcontractor costs related to the commencement of the above-mentioned new contracts and a decrease in profits from a large international airline following a reduction in scope of services with this customer as well as increased labor costs and overall price reductions driven by competitive pressures. Cost of sales for the nine months ended December 31, 2017 includes approximately $90,000 of startup costs incurred in connection with and prior to the commencement of work under the above-mentioned new contracts.
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General and Administrative Expenses
Our general and administrative expenses decreased by $0.5 million, or 9.5%, to $4.5 million (9.4% of revenues) for the three months ended December 31, 2017, from $5.0 million (11.7% of revenues) in the corresponding period of the prior year. The decrease in general and administrative expenses was driven primarily by decreased legal, labor settlement and information technology costs, partly offset by an increase in start-up costs incurred in connection with the previously announced contract to provide security services in Honduras for the United States Department of State and an increase in consulting fees.
Our general and administrative expenses increased by $0.6 million, or 4.7%, to $14.1 million (9.9% of revenues) for the nine months ended December 31, 2017, from $13.5 million (11.1% of revenues) in the corresponding period of the prior year. The increase in general and administrative expenses for the nine months ended December 31, 2017 was driven primarily by increased non-cash stock compensation costs of approximately $224,000, severance costs, increased general and administrative salaries and wages directly associated with the above-mentioned new business, partly offset by lower legal, labor settlement, and amortization costs. In addition, general and administrative costs for the nine months ended December 31, 2017, includes approximately $0.4 million of startup costs incurred in connection with and prior to the commencement of work on the above-mentioned new contracts.
Provision for Doubtful Accounts
The provision for doubtful accounts for the three months ended December 31, 2017, net of recoveries, decreased by $92,743 to net recoveries of $14,284 as compared with net expense of $78,459 in the corresponding period of the prior year. The decrease in the net provision for doubtful accounts was primarily due to recoveries of specific accounts previously deemed uncollectible.
The provision for doubtful accounts for the nine months ended December 31, 2017, net of recoveries, decreased by $102,448 to net recoveries of $131,902 as compared with net recoveries of $29,454 in the corresponding period of the prior year. The decrease in the net provision for doubtful accounts for the nine months ended December 31, 2017 was driven primarily by recoveries of specific accounts previously deemed uncollectible.
We periodically evaluate the requirement to provide for billing adjustments and/or credit losses on our accounts receivable. We provide for billing adjustments in cases where our management determines that there is a likelihood of a significant adjustment for disputed billings. Criteria used by management to evaluate the adequacy of the allowance for doubtful accounts include, among others, the creditworthiness of the customer, current trends, prior payment performance, the age of the receivables and our overall historical loss experience. Individual accounts are charged off against the allowance for doubtful accounts as our management deems them to be uncollectible. We do not know if bad debts will increase in future periods.
Interest Expense
Interest expense increased by $69,557, or 89.1%, to $147,617 for the three months ended December 31, 2017, from $78,060 in the corresponding period of the prior year. The increase in interest expense for the three months ended December 31, 2017 was due mainly to higher average outstanding borrowings in support of increased revenues and higher average interest rates under our credit agreement with Wells Fargo, described below.
Interest expense increased by $151,194, or 69.1%, to $370,025 for the nine months ended December 31, 2017, from $218,831 in the corresponding period of the prior year. The increase in interest expense for the nine months ended December 31, 2017 was due primarily to higher average outstanding borrowings in support of increased revenues and higher interest rates under our credit agreement with Wells Fargo, described below.
Equity Earnings (Loss) in Minority Investment of Unconsolidated Affiliate
The Company uses the equity method to account for its investment in OPS Acquisitions Ltd. (“OPSA”). Equity method investments are recorded at original cost and adjusted periodically to recognize: (i) our proportionate share of investees’ net income or losses after the date of the investment; (ii) additional contributions made or distributions received; and (iii) impairment losses resulting from adjustments to net realizable value. The Company reviews its investment accounted for under the equity method of accounting for impairment whenever events or changes in circumstances indicate a loss in the value of the investment may be other than temporary.
The Company’s proportionate share of the net loss of OPSA for the three months ended December 31, 2017 was $68,500 as compared with net income of $73,000 in the corresponding period of the prior year.
The Company’s proportionate share of the net loss of OPSA for the nine months ended December 31, 2017 was $123,400 as compared with net loss of $57,000 in the corresponding period of the prior year. The increase in the company’s proportionate share of net loss of OPSA was due primarily to a decline in total missions and corresponding revenues.
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Provision for income taxes
The provision for income taxes increased by $1.77 million to $1.61 million for the three months ended December 31, 2017, compared with a benefit of $0.15 million in the corresponding period of the prior year. The Company’s effective tax rate increased by 152% to 194% for the three months ended December 31, 2017 compared with 42.3% in the corresponding period of the prior year. The difference between the Company’s effective tax rate of 194% for the three months ended December 31, 2017 and the Company’s statutory tax rate of approximately 38% is primarily attributable to a $1.35 million non-cash charge to adjust for the decline in the value of deferred tax assets resulting from the reduction in the federal corporate income tax rate, permanent tax differences related to the exercise of stock options and the Company’s proportionate share of the net loss of OPSA.
The provision for income taxes increased by $1.66 million to $1.97 million for the nine months ended December 31, 2017 compared to $0.3 million in the corresponding period of the prior year. The Company’s effective tax rate increased by 78.5% to 123% for the nine months ended December 31, 2017 compared with 44.5% in the corresponding period of the prior year. The difference between the Company’s effective tax rate of 123% for the nine months ended December 31, 2017 and the Company’s statutory tax rate of approximately 38% is primarily attributable to a $1.35 million non-cash charge to adjust for the decline in the value of deferred tax assets resulting from the reduction in the federal corporate income tax rate, permanent tax differences related to the exercise of stock options and the Company’s proportionate share of the net loss of OPSA.
Liquidity and Capital Resources
We pay approximately 85% of our employees on a bi-weekly basis with the remaining employees being paid on a weekly basis, while customers pay for services generally within 60 days from the invoice date. We maintain a commercial revolving loan arrangement, currently with Wells Fargo Bank, National Association (“Wells Fargo”). We fund our payroll and operations primarily through borrowings under our $27.5 million credit facility with Wells Fargo (as amended, the “Credit Agreement”), described below under “Short Term Borrowings.”
We principally use short-term borrowings under our Credit Agreement to fund our accounts receivable. Our short-term borrowings have supported the accounts receivable associated with our organic growth. We intend to continue to use short-term borrowings to support our working capital requirements.
We believe that our existing funds, cash generated from operations, and existing sources of and access to financing are adequate to satisfy our working capital, capital expenditure and debt service requirements for the foreseeable future. However, we cannot assure you that this will continue to be the case. We may be required to obtain alternative or additional financing to maintain and expand our existing operations through the sale of our securities, an increase in the amount of available borrowings under our Credit Agreement, obtaining additional financing from other financial institutions, or otherwise. The failure by us to obtain such financing, if needed, would have a material adverse effect upon our business, financial condition and results of operations.
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Short-Term Borrowings:
On February 12, 2009, we entered into a $20.0 million credit facility (the “Credit Agreement”) with Wells Fargo Bank, National Association (“Wells Fargo”). This credit facility, which was most recently amended in March 2017 (see below) and matures March 31, 2020, contains customary affirmative and negative covenants, including, among other things, covenants requiring us to maintain certain financial ratios and is collateralized by customer accounts receivable and certain other assets of the Company as defined in the Credit Agreement.
The Credit Agreement provides for a letter of credit sub-line in an aggregate amount of up to $1.5 million. The Credit Agreement also provides for interest to be calculated on the outstanding principal balance of the revolving loans at the floating 90 day LIBOR rate plus 1.75%. For LIBOR loans, interest will be calculated on the outstanding principal balance of the LIBOR loans at the floating 30 day LIBOR rate plus 1.75%.
On March 30, 2017, we entered into an eighth amendment (the “Eighth Amendment”) to our Credit Agreement. The Eighth Amendment extended the Credit Agreement from March 31, 2017 to March 31, 2020, increased the revolving line of credit from $20.0 million to $27.5 million, amended the terms of the “Minimum Excess Availability” covenant and redefined the term “Borrowing Base”.
Under the Credit Agreement, as of December 31, 2017, the interest rate was 3.125% for LIBOR loans and 3.5% for revolving loans. At December 31, 2017, we had approximately $0.7 million of cash on hand. We also had $12.5 million in LIBOR loans outstanding, $9.0 million of revolving loans outstanding and $0.3 million outstanding under our letters of credit sub-line under the Credit Agreement, representing 85% of the maximum borrowing capacity under the Credit Agreement based on our “eligible accounts receivable” (as defined in the Credit Agreement) as of such date. As of the close of business January 31, 2018, we had total short term borrowings, net of cash, of approximately $17 million, representing approximately 79% of the maximum borrowing capacity under the Credit Agreement based on our “eligible accounts receivable” (as defined in the Credit Agreement) as of such date.
Investments and Capital Expenditures
We have no material commitments for capital expenditures at this time.
Working Capital
Our working capital increased by $2.1 million, or 22.5%, to $11.4 million as of December 31, 2017, from $9.3 million as of March 31, 2017.
We had checks drawn in advance of future deposits of $1.0 million at December 31, 2017 and $0.6 million at March 31, 2017. Cash balances, book overdrafts and payroll and related expenses can fluctuate materially from day to day depending on such factors as collections and timing of payroll payments.
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Outlook
Operating Initiatives
During the last few years the Company has pursued several initiatives to improve our competitive and strategic position. Significant progress has been made in rebuilding and strengthening our management team and improving the efficiency and functional effectiveness of our organization, systems and processes. The Company re-entered the U.S. federal government market with the commencement of work on the U.S. Postal Service (USPS) contract in June 2016. Also consistent with the Company’s initiative to compete for larger contract opportunities, the Company commenced work on a new multi-state security services contract with a large on-line retailer in April 2016 in the Southeast region and in June 2017 we commenced work with this customer in the Northeast/Mid-west region of the country. The Company also recently announced a new contract to provide physical security for data centers for the web services segment of the major on-line retailer which commenced in July 2017. In addition, the Company announced on October 2, 2017 the award of a five year contract with the Department of State to provide armed security at the U.S. Embassy in Honduras which will open another line of security services. We expect to continue to pursue similar large contract opportunities in multiple end markets.
With a stronger foundation and a more effective organization, the Company remains engaged in a corporate-wide campaign with four basic focus areas:
| ● | Improved performance through better systems, procedures and training; | |
| ● | Profitable top line revenue growth through identification of larger bid and proposal opportunities including new federal and/or international opportunities and potential acquisitions; | |
| ● | Dedicated marketing and sales efforts in specific industry sectors that complement our core capabilities, geography and operational expertise; and, | |
| ● | Attention to details and discipline that will drive operating efficiencies, and enhance enterprise value. |
These strategic initiatives may result in future costs related to new business development expenses, severance and other employee-related matters, litigation risks and expenses, and other costs. At this time we are unable to determine the scope of these potential costs.
Financial Results
Our future revenues will largely depend on our ability to gain additional business from new and existing customers in our security officer and aviation services divisions at acceptable margins, while minimizing terminations of contracts with existing customers. In addition, our growth strategy involves the acquisition and integration of complementary businesses to increase our scale within certain geographical areas, capture market share in the markets in which we operate, enter new markets and improve our profitability. We intend to pursue acquisition opportunities for contract security officer businesses. Our ability to complete future acquisitions will depend on our ability to identify suitable acquisition candidates, negotiate acceptable terms for their acquisition and, if necessary, finance those acquisitions. Our security services division continues to experience organic growth over recent quarters as demand for our security services has steadily increased. Our current focus is on increasing our revenues, as our sales and marketing team and branch managers’ work to develop new business and retain profitable contracts. During recent years, the Department of Homeland Security and the Transportation Security Administration have implemented numerous security measures that affect airline operations, including expanded cargo and baggage screening, and are likely to implement additional measures in the future. Additional measures taken to enhance either passenger or cargo security procedures in the future may increase the airline industry’s demand for third party services provided by us. Additionally, our aviation services division is continually subject to such government regulation, which has adversely affected us in the past with the federalization of the pre-board screening services and the document verification process at several of our domestic airport locations.
Our gross profit margin during the nine months ended December 31, 2017 was 11.3%. During the three months ended September 30, 2017, our gross profit margin was under pressure from the combination of startup costs related to new business and the decision by the company to terminate its relationship with a major transportation company. We expect our gross profit margin to remain under pressure due primarily to continued price competition, including competition from companies that have substantially greater financial and other resources than we have. However, we expect these effects will be moderated by continued operational efficiencies resulting from better management and leveraging of our cost structures, workflow process efficiencies associated with our integrated financial software system and higher contributions from our continuing new business development.
Our security services division generated approximately $97.0 million or 68.5% of our total revenues in the nine months ended December 31, 2017. Our aviation services division generated approximately $44.7 million or 31.5% of our total revenues in the nine months ended December 31, 2017.
In the nine months ended December 31, 2017, the Company had six customers who, in the aggregate, represented approximately 60% of the Company’s revenues, with two of those customers representing 23% and 14% of total revenues, respectively. These customers include three major transportation & logistics customers, one domestic and one international airline and a northeast U.S. based healthcare facility. Any loss of business with these customers could have a material adverse effect on our business, financial condition and results of operation. The contract with one of these customers was terminated effective August 31, 2017. The remaining five customers, in the aggregate, represent approximately 54% of the Company’s revenues.
As noted earlier, on February 12, 2009, we entered into a $20.0 million Credit Agreement with Wells Fargo, which was most recently amended in March 2017, as described above. As of the close of business January 31, 2018, we had total short term borrowings, net of cash, of approximately $17 million, representing approximately 79% of the maximum borrowing capacity under the Credit Agreement based on our “eligible accounts receivable” (as defined in the Credit Agreement) as of such date, which we believe is sufficient to meet our needs for the foreseeable future barring any increase in reserves imposed by Wells Fargo. We believe that existing funds, cash generated from operations, and existing sources of and access to financing are adequate to satisfy our working capital, planned capital expenditures and debt service requirements for the foreseeable future, barring any increase in reserves imposed by Wells Fargo. However, we cannot assure you that this will be the case, and we may be required to obtain alternative or additional financing to maintain and expand our existing operations through the sale of our securities, an increase in the amount of available borrowings under our Credit Agreement, obtaining additional financing from other financial institutions or otherwise. The financial markets generally, and the credit markets in particular, continue to be volatile, both in the United States and in other markets worldwide. The current market situation has resulted generally in substantial reductions in available loans to a broad spectrum of businesses, increased scrutiny by lenders of the credit-worthiness of borrowers, more restrictive covenants imposed by lenders upon borrowers under credit and similar agreements and, in some cases, increased interest rates under commercial and other loans. If we require alternative or additional financing at this or any other time, we cannot assure you that such financing will be available upon commercially acceptable terms or at all. If we fail to obtain additional financing when and if required by us, our business, financial condition and results of operations would be materially adversely affected.
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Item 3. Quantitative and Qualitative Disclosures about Market Risk
During the nine months ended December 31, 2017, we did not hold a portfolio of securities instruments for either trading or speculative purposes. Periodically, we hold securities instruments for other than trading purposes. Due to the short-term nature of our investments, we believe that we have no material exposure to changes in the fair value as a result of market fluctuations.
We are exposed to market risk in connection with changes in interest rates, primarily in connection with outstanding balances under our revolving line of credit with Wells Fargo, which was entered into for purposes other than trading purposes. Based on our average outstanding balances during the nine months ended December 31, 2017, a 1% change in the prime and/or LIBOR lending rates could impact our financial position and results of operations by approximately $44,000 over the remainder of our fiscal year ending March 31, 2018. For additional information on the revolving line of credit with Wells Fargo, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources – Short Term Borrowings.”
Reference is made to Item 2 of Part I of this quarterly report, “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Forward Looking Statements.”
Item 4. Controls and Procedures
We maintain “disclosure controls and procedures”, as such term is defined under Rule 13a-15(e) of the Securities Exchange Act of 1934 (the “Exchange Act”), that are designed to ensure that information required to be disclosed in our Exchange Act reports is recorded, processed, summarized, and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosures.
We believe that a control system, no matter how well designed and operated, cannot provide absolute assurance that the objectives of the control system are met, and no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within a company have been detected. Our disclosure controls and procedures are designed to provide reasonable assurance of achieving their objectives and our Chief Executive Officer and Chief Financial Officer have concluded that such controls and procedures are effective at the reasonable assurance level.
An evaluation was performed under the supervision and with the participation of management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures. Based on that evaluation and subject to the foregoing, the Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of December 31, 2017. There have been no changes in our internal control over financial reporting that occurred during the quarter ended December 31, 2017 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
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| Item 1. | Legal Proceedings |
See our discussion under Note 9 “Contingencies” to the Notes to Condensed Consolidated Financial Statements included in Item 1 of Part I of this Quarterly Report on Form 10-Q, which is incorporated herein by reference.
| Item 1A. | Risk Factors |
There have been no material changes to our risk factors from those disclosed in our Annual Report on Form 10-K for our fiscal year ended March 31, 2017.
| Item 6. | Exhibits |
| Exhibit 31.1* Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. | |
| Exhibit 31.2* Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. | |
| Exhibit 32.1** Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350 as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. | |
| Exhibit 32.2** Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350 as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. | |
| Exhibit 99.1* Press Release dated February 5, 2018. | |
| Exhibit 101* The following materials from our Quarterly Report on Form 10-Q for the quarter ended December 31, 2017 are formatted in eXtensible Business Reporting Language (XBRL): (i) Condensed Consolidated Statements of Income for the three and nine months ended December 31, 2017 and December 31, 2016, (ii) Condensed Consolidated Balance Sheets as of December 31, 2017 and March 31, 2017, (iii) Condensed Consolidated Statements of Changes in Stockholders’ Equity for the nine months ended December 31, 2017 and December 31, 2016, (iv) Condensed Consolidated Statements of Cash Flows for the nine months ended December 31, 2017 and December 31, 2016, and (v) Notes to the Unaudited Condensed Consolidated Financial Statements. | |
| *Filed herewith | |
| **Furnished herewith |
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Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| COMMAND SECURITY CORPORATION | ||
| Date: February 5, 2018 | By: | /s/ Craig P. Coy |
| Craig P. Coy | ||
| Chief Executive Officer | ||
| (Principal Executive Officer) | ||
| /s/ N. Paul Brost | ||
| N. Paul Brost | ||
| Chief Financial Officer | ||
| (Principal Financial and Accounting Officer) | ||
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