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Section 1: 10-Q (FORM 10-Q)

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

 

Form 10-Q

 

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

 

For the quarterly period ended June 30, 2018

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: 1-13738

 

PSYCHEMEDICS CORPORATION

(Exact Name of Registrant as Specified in its Charter)

 

Delaware   58-1701987
     

(State or Other Jurisdiction of

Incorporation or Organization)

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

289 Great Road

Acton, MA

  01720
     
(Address of Principal Executive Offices)   (Zip Code)

  

Registrant's telephone number including area code: (978) 206-8220

 

 

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 (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, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

  Large accelerated filer
  Accelerated filer
  Non–accelerated filer ☐  [Do not check if a smaller reporting company]
  Smaller reporting company
  Emerging growth company

 

If an emerging growth company, indicate by checkmark 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 Securities Exchange Act of 1934). Yes            No   X   

 

The number of shares of Common Stock of the Registrant, par value $0.005 per share, outstanding at July 20, 2018 was 5,507,262.

1

 

 

PSYCHEMEDICS CORPORATION

FORM 10-Q FOR THE QUARTER ENDED JUNE 30, 2018

 

INDEX

 

  Page
PART I - FINANCIAL INFORMATION  
   
Item 1 - Financial Statements (Unaudited)
  Condensed Consolidated Balance Sheets as of June 30, 2018 and December 31, 2017 3
  Condensed Consolidated Statements of Income and Comprehensive Income for the Three months and Six months ended June 30, 2018 and 2017 4
  Condensed Consolidated Statements of Cash Flows for the Six months ended June 30, 2018 and 2017

5

  Notes to Condensed Consolidated Financial Statements 6
     
Item 2 - Management's Discussion and Analysis of Financial Condition and Results of Operations
     
  Overview 15
  Results of Operations 15
  Liquidity and Capital Resources 16
     
Item 3 - Quantitative and Qualitative Disclosures About Market Risk 18
   
Item 4 - Controls and Procedures 18
     
     

PART II - OTHER INFORMATION

Item 1A  - Risk Factors 19
Item 2     - Unregistered Sales of Equity Securities and Use of Proceeds 19
Item 6     - Exhibits 19
   
Signatures 19
   

2

 

 

PSYCHEMEDICS CORPORATION

CONDENSED CONSOLIDATED BALANCE SHEETS

(in thousands, except par value)

(UNAUDITED)

 

 
 
 
 
June 30,
2018
 
 
December 31,
2017
       
ASSETS          
Current Assets:          
Cash and cash equivalents  $7,721   $8,165 
Accounts receivable, net of allowance for doubtful accounts of $77 in 2018 and $64 in 2017    5,195    4,488
Prepaid expenses and other current assets   1,465    1,212 
Total Current Assets   14,381    13,865 
           
Fixed Assets, net of accumulated amortization and depreciation of $13,181 in 2018 and $11,670 in 2017    11,129       11,811
Other assets   915    832 
           
Total Assets  $26,425   $26,508 
           
LIABILITIES AND SHAREHOLDERS' EQUITY          
           
Current Liabilities:          
Accounts payable  $1,117   $398 
Accrued expenses   3,014    2,870 
Current portion of long-term debt   957    957 
           
Total Current Liabilities   5,088    4,225 
           
Long-term debt   1,942    2,420 
Deferred tax liabilities, long-term   1,138    1,243 
Total Liabilities   8,168    7,888 
           
Commitments and Contingencies (Note 8)          
           
Shareholders' Equity:          
Preferred stock, $0.005 par value, 873 shares authorized, no shares issued or outstanding  --      --  
Common stock, $0.005 par value; 50,000 shares authorized 6,175 shares issued in 2018 and 6,160 shares issued in 2017 31
31
Accumulated other comprehensive loss   (1,403)   (238)
Additional paid-in capital   31,208    31,022 
Accumulated deficit   (1,497)   (2,113)
Less - Treasury stock, at cost, 668 shares   (10,082)   (10,082)
           
Total Shareholders' Equity   18,257    18,620 
           
Total Liabilities and Shareholders' Equity  $26,425   $26,508 

 

See accompanying notes to condensed consolidated financial statements

 

3

 

 

PSYCHEMEDICS CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME

(in thousands, except per share amounts)

(UNAUDITED)

 

   Three Months Ended
June 30,
  Six Months Ended
June 30,
   2018  2017  2018  2017
             
             
Revenues  $10,787   $9,684   $21,722   $19,893 
Cost of revenues   5,615    5,075    11,195    9,968 
                     
Gross profit   5,172    4,609    10,527    9,925 
                     
                     
Operating Expenses:                    
General & administrative   1,457    1,334    3,308    2,809 
Marketing & selling   1,301    1,244    2,540    2,487 
Research & development   358    321    717    651 
                     
Total Operating Expenses   3,116    2,899    6,565    5,947 
                     
Operating income   2,056    1,710    3,962    3,978 
Other income (expense)   24    (12)   56    (34)
                     
Net income before provision for income taxes   2,080    1,698    4,018    3,944 
                     
Provision for income taxes   903    791    1,590    1,537 
                     
Net income  $1,177   $907   $2,428   $2,407 
                     
Other Comprehensive Income (Loss):                    
Foreign currency translation   (1,154)   (71)   (1,165)   (71)
Total Comprehensive Income  $23   $836   $1,263   $2,336 
                     
Basic net income per share  $0.21   $0.17   $0.44   $0.44 
                     
Diluted net income per share  $0.21   $0.16   $0.44   $0.44 
                     
Dividends declared per share  $0.18   $0.15   $0.36   $0.30 

 

See accompanying notes to condensed consolidated financial statements

 

4

 

 

PSYCHEMEDICS CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

(UNAUDITED)

 

   Six Months Ended
   June 30,
   2018  2017
       
CASH FLOWS FROM OPERATING ACTIVITIES:          
Net income  $2,428   $2,407 
Adjustments to reconcile net income to net cash provided by operating activities:          
Depreciation and amortization   1,528    1,381 
Deferred income taxes   (105)   87 
Stock-based compensation   278    317 
Changes in assets and liabilities:          
Accounts receivable   (857)   574 
Prepaid expenses and other current assets   (253)   (809)
Accounts payable   322    (976)
Accrued expenses   259    449 
Net cash provided by operating activities   3,600    3,430 
           
CASH FLOWS FROM INVESTING ACTIVITIES:          
Purchases of equipment and leasehold improvements   (281)   (343)
Cost of internally developed software   (152)   (398)
Other assets   (102)   2 
Net cash used in investing activities   (535)   (739)
           
CASH FLOWS FROM FINANCING ACTIVITIES:          
Proceeds from issuance of stock, net of tax withholding   (92)   (198)
Payments of equipment financing   (478)   (1,776)
Cash dividends paid   (1,812)   (1,640)
Net cash used in financing activities   (2,382)   (3,614)
           
Effect of exchange rate changes on cash and cash equivalents   (1,127)   (54)
Net decrease in cash and cash equivalents   (444)   (977)
Cash and cash equivalents, beginning of period   8,165    3,938 
Cash and cash equivalents, end of period  $7,721   $2,961 
           
Supplemental Disclosures of Cash Flow Information:          
Cash paid for income taxes  $1,910   $1,891 
Cash paid for interest  $56   $41 
Purchases of equipment through accounts payable and accrued liabilities  $397   $13 

 

See accompanying notes to condensed consolidated financial statements

5

 

 


PSYCHEMEDICS CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

1.Basis of Presentation

 

The interim condensed consolidated financial statements of Psychemedics Corporation (the “Company”) presented herein, have been prepared pursuant to the rules of the Securities and Exchange Commission for quarterly reports on Form 10-Q and do not include all the information and note disclosures required by accounting principles generally accepted in the United States of America. These statements should be read in conjunction with the consolidated financial statements and notes thereto for the year ended December 31, 2017, included in the Company's 2017 Annual Report on Form 10-K (“10-K”), as filed with the Securities and Exchange Commission.

 

The condensed consolidated balance sheet as of June 30, 2018, the condensed consolidated statements of income and comprehensive income for the three-month and six-month periods ended June 30, 2018 and 2017, and the condensed consolidated statements of cash flows for the six-month periods ended June 30, 2018 and 2017 are unaudited but, in the opinion of management, include all adjustments necessary for a fair presentation of results for these interim periods. The condensed consolidated balance sheet as of December 31, 2017 has been derived from the Company’s annual financial statements that were audited by an independent registered public accounting firm, but does not include all of the information and footnotes required for complete annual financial statements.

 

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. The results of operations for the three months and six months ended June 30, 2018 may not be indicative of the results that may be expected for the year ending December 31, 2018, or any other period.

 

Unless the context requires otherwise, the terms “we”, “us”, “our”, or “the Company” refer to Psychemedics Corporation and its consolidated subsidiaries.

 

2.Cash and Cash Equivalents

 

The Company considers all highly liquid investments with original maturities of 90 days or less to be cash equivalents. Cash equivalents consisted exclusively of cash in the bank and bank certificates of deposits.

 

6

 

 

PSYCHEMEDICS CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

3.Stock-Based Compensation

 

The Company’s 2006 Incentive Plan (“the Plan”) provides for cash based awards or the grant or issuance of stock-based awards. As of June 30, 2018, 80 thousand shares remained available for future grant under the Plan.

 

A summary of the Company’s stock option activity for the six months ended June 30, 2018 is as follows (in 000’s except per share amounts):

 

     Number of
Shares
  Weighted Average
Exercise Price
Per Share
  Weighted Average
Remaining
Contractual Life
  Aggregate
Intrinsic
Value(1)
  Outstanding, December 31, 2017    279   $15.40    8.7 years   $1,436 
  Granted    117   $21.04           
  Exercised    -                
  Forfeited    -                
  Outstanding, June 30, 2018    396   $17.07    8.7 years   $1,068 
                        
  Exercisable, June 30, 2018    133   $14.82    8.1 years   $590 

 

(1)The aggregate intrinsic value on this table was calculated based on the amount, if any, by which the closing market value of the Company’s stock on June 30, 2018 ($19.24) exceeded the exercise price of the underlying options, multiplied by the number of shares subject to each option.

 

A summary of the Company’s stock unit award activity for the six months ended June 30, 2018 is as follows (in 000’s except per share amounts):

 

     Number of Shares  Weighted Average Price per Share (2)  Weighted Average Fair Value (2)
            
  Outstanding & Unvested, December 31, 2017   33   $16.08   $516 
  Granted   6   $21.04   $126 
  Converted to common stock   (15)          
  Cancelled   (5)          
  Forfeited   -           
  Outstanding & Unvested, June 30, 2018   19   $18.20   $343 

 

(2)Weighted average price per share is the weighted grant price based on the closing market price of each of the stock grants related to each grant of stock unit awards. The weighted average fair value is the weighted average share price times the number of shares.

 

As of June 30, 2018, a total of 495 thousand shares of common stock were reserved for issuance under the Plan. As of June 30, 2018, the unamortized fair value of awards relating to outstanding SUAs and options was $1.5 million, which is expected to be amortized over a weighted average period of 3.3 years.

7

 

 

PSYCHEMEDICS CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

4.Basic and Diluted Net Income Per Share

 

Basic net income per share is computed by dividing net income by the weighted average number of common shares outstanding during the period. Diluted net income per share is computed by dividing net income by the weighted average number of common and dilutive common equivalent shares outstanding during the period. The number of dilutive common equivalent shares outstanding during the period was determined in accordance with the treasury-stock method. Common equivalent shares consisted of common stock issuable upon the exercise of outstanding options and common stock issuable upon the vesting of outstanding, unvested SUAs. Basic and diluted weighted average common shares outstanding for the three months and six months ended June 30, 2018 and 2017 were as follows:

 

   Three Months Ended June 30,  Six Months Ended June 30,
   2018  2017  2018  2017
Weighted average common shares outstanding, basic   5,502    5,477    5,497    5,469 
Dilutive common equivalent shares   52    64    55    64 
Weighted average common shares outstanding, diluted   5,554    5,541    5,552    5,533 

 

The computation of diluted earnings per share for the three and six month periods ended June 30, 2018 excludes the effect of the potential exercise of stock awards, including stock options, when the average market price of the common stock is lower than the exercise price of the related options during the period. These stock awards are not included in the computation of diluted income per share because the effect would be antidilutive. For the three and six month periods ended June 30, 2018, the number of antidilutive stock awards excluded from the diluted earnings per share was 84 thousand and 40 thousand, respectively.

 

5. Business Segment Reporting

 

The Company manages its operations as one segment, drug testing services. As a result, the financial information disclosed herein materially represents all of the financial information related to the Company’s principal operating segment. All Brazil sales are through one independent distributor, which is the only customer greater than 10% of sales. The Company’s revenues by geographic region are as follows:

 

     Three Months Ended June 30,  Six Months Ended June 30,
     2018  2017  2018  2017
  Consolidated Revenue:  (in 000's)  (in 000's)
  United States  $7,565   $6,591   $14,860   $13,045 
  Brazil   3,101    3,023    6,628    6,719 
  Other   121    70    234    129 
  Total Revenue  $10,787   $9,684   $21,722   $19,893 

 

8

 

PSYCHEMEDICS CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

6.Fair Value Measurements

 

The Company has financial instruments, such as accounts receivable, accounts payable, and accrued expenses, which are stated at carrying amounts that approximate fair value because of the short maturity of those instruments. The carrying amount of the Company’s long-term debt approximates fair value as the interest rate on the debt approximates the estimated borrowing rate currently available to the Company.

 

7.Subsequent Events

 

On July 24, 2018, the Company declared a quarterly dividend of $0.18 per share for a total of $991 thousand, which will be paid on August 17, 2018 to shareholders of record on August 7, 2018.

 

8.Commitments and Contingencies

 

The Company is subject to legal proceedings and claims which arise in the ordinary course of its business. While the ultimate outcome of individual legal claims is inherently unpredictable, we believe that the final resolution of any pending actions will not have a material adverse effect on our results of operations, financial position, liquidity or capital resources.

 

9.Debt and Other Financing Arrangements

 

On March 20, 2014, the Company entered into an equipment financing arrangement (“Loan Agreement”) with Banc of America Leasing & Capital, which it amended on August 8, 2014, September 15, 2015 and October 30, 2017. The terms of the arrangement are detailed in the 10-K.

 

The weighted average interest rate on outstanding debt under the Loan Agreement was 3.8% and 3.6% for the three months and six months ended June 30, 2018, respectively. The interest expense was $28 thousand and $56 thousand for the three months and six months ended June 30, 2018, respectively. As of June 30, 2018, the interest rate was 3.9% and there was $2.9 million of outstanding debt related under the loan agreement. The Company was in compliance with all loan covenants as of June 30, 2018.

 

9

 

 

PSYCHEMEDICS CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

9.Debt and Other Financing Arrangements (continued)

 

The annual principal repayment requirements for debt obligations as of June 30, 2018 were as follows (in 000’s):

 

  2018   $479   
  2019    891   
  2020    702   
  2021    446   
  2022    381   
  Total long-term debt    2,899   
  Less current portion of long-term debt    (957)  
  Total long-term debt, net of current portion   $1,942   

 

10.Significant Customers

 

The Company had one customer that represented 31% of revenue for the six months ended June 30, 2018 and 34% for the comparable period in 2017. The Company had one customer that represented 17% of the total accounts receivable balance as of June 30, 2018 and 23% of the total accounts receivable balance as of December 31, 2017.

 

11.Recently Adopted Accounting Pronouncements

 

In May 2014, the Financial Accounting Standard’s Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2014-09, “Revenue from Contracts with Customers” (Topic 606). The guidance in this update affects any entity that either enters into contracts with customers to transfer goods or services or enters into contracts for the transfer of nonfinancial assets unless those contracts are within the scope of other standards (for example, insurance contracts or lease contracts). The guidance in this update supersedes the revenue recognition requirements in Accounting Standards Codification (“ASC”) Topic 605, “Revenue Recognition”, and most industry-specific guidance throughout the Industry Topics of the Codification.

 

Effective January 1, 2018, the Company adopted the requirements of Topic 606 using the modified retrospective method, which requires the recognition of the cumulative effect of initially applying the standard (if any) as an adjustment to opening retained earnings for the fiscal year beginning January 1, 2018.  The adoption of Topic 606 did not result in the recognition of a cumulative adjustment to opening retained earnings under the modified retrospective approach, nor did it have a material effect on the Company’s financial position or results of operations.  See also Note 13 – “Revenue”.

 

10

 

 

PSYCHEMEDICS CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

11.Recently Adopted Accounting Pronouncements (continued)

 

In March 2018, the FASB issued ASU 2018-05, “Income Taxes (Topic 740): Amendments to SEC Paragraphs Pursuant to SEC Staff Accounting Bulletin No. 118”, which updates the income tax accounting in U.S. GAAP to reflect the Securities and Exchange Commission (“SEC”) interpretive guidance released on December 22, 2017, when the Tax Act was signed into law. The Company is currently evaluating the impacts the adoption of this accounting guidance will have on its consolidated financial statements.

 

12.Accounting Pronouncements Issued But Not Yet Effective

 

In February 2016, the FASB issued ASU 2016-02, “Leases”, which introduces the recognition of lease assets and lease liabilities by lessees for those leases classified as operating leases under previous guidance. The new standard establishes a right-of-use ("ROU") model that requires a lessee to record an ROU asset and a lease liability on the balance sheet for all leases with terms longer than 12 months. The new standard will become effective for fiscal years beginning after December 15, 2018 and interim periods within those fiscal years, with early adoption permitted. The Company is currently evaluating the impacts the adoption of this accounting guidance will have on its consolidated financial statements.

 

In February 2018, the FASB issued ASU 2018-02, “Income Statement – Reporting Comprehensive Income” (Topic 220) Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income, which will allow a reclassification from accumulated other comprehensive income to retained earnings for the tax effects resulting from the Tax Cuts and Jobs Act (Tax Reform Act) that are stranded in accumulated other comprehensive income. This standard also requires certain disclosures about stranded tax effects. ASU 2018-2, however, does not change the underlying guidance that requires that the effect of a change in tax laws or rates be included in income from continuing operations. ASU 2018-02 will be effective for the Company’s fiscal year 2020, with the option to early adopt at any time prior to the effective date. It must be applied either in the period of adoption or retrospectively to each period in which the effect of the change in the U.S. federal corporate income tax rate in the Tax Reform Act is recognized. The Company is currently evaluating the impacts the adoption of this accounting guidance will have on its consolidated financial statements.

 

11

 

 

PSYCHEMEDICS CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

13.Revenue

 

Adoption of ASC Topic 606, “Revenue from Contracts with Customers”

 

On January 1, 2018, the Company adopted Topic 606 using the modified retrospective method.  The adoption of Topic 606 did not have a material effect on the Company’s financial position or results of operations.

 

Revenue is recognized when control of the services is transferred to our customers, in an amount that reflects the consideration (none of which is variable) we expect to be entitled to in exchange for those services. The Company typically invoices customers monthly for services provided and payments are generally due within 30 to 60 days of the invoice date.

 

The table below disaggregates our external revenue by major source.  For additional revenue detail relating to geographic breakdown of sales, see Note 5 – “Business Segment Reporting”.

 

   Three Months Ended June 30,  Six Months Ended June 30,
   2018  2017  2018  2017
   (in 000's)  (in 000's)
Testing  $9,864   $8,739   $19,896   $18,141 
Shipping/Collection (hair)   812    834    1,636    1,518 
Other   111    111    190    234 
Total Revenue  $10,787   $9,684   $21,722   $19,893 

 

Testing Revenue

 

Drug and alcohol tests for drugs of abuse using hair, performed in the Company’s forensic laboratory in California, represents our primary service. Sales to customers are initiated through sales agreements, most of which have standard terms. Most tests are identified through a chain of custody form (“CCF”) and can therefore be uniquely tracked. Revenue is recognized when performance obligations under the terms of the contract with a customer are satisfied; generally, this occurs with the transfer of control of our service, which occurs at a specific point-in-time. The specific point-in-time is the completion of the test and availability of test results to the customer.  Most tests are completed the same day that the hair specimen is received. Substantially all tests are completed within a few days. As the tests are performed in a forensic laboratory, the exact date and time of each test completion is available and used in the timing of recognition of revenue.

 

Revenue is measured as the amount of consideration the Company expects to receive in exchange for providing services.  Sales and other taxes the Company pays concurrent with revenue-producing activities are excluded from revenue.   

 

12

 

PSYCHEMEDICS CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

13.Revenue (continued)

 

Shipping and Hair Collection Revenue

 

Shipping revenue represents the amount billed to customers related to shipping of the hair specimen and CCF (“sample”) to the Company’s laboratory. Collection revenue represents the amount billed to customers related to the collection of the hair specimen. This collection is done by third parties who have contracted with the Company. Shipping and hair collection revenue is recognized when performance obligations under the terms of the contract with a customer are satisfied; generally, this occurs with the transfer of control of the Company’s service, which occurs at a specific point-in-time. The specific point-in-time is the completion of the test (associated with the shipping or hair collection charge) and availability of test results to the customer.  

 

Revenue is measured as the amount of consideration the Company expects to receive in exchange for providing services.  As the Company controls the service before transferring to the customer, it is considered a principal in the transaction, and therefore records revenues on gross basis, with shipping and hair collection costs in costs of revenues.

 

Other Revenue

 

Other revenue represents several items including; urine testing performed by other labs, medical review officer charges, legal/testifying services, a retail test which is sent to the laboratory for testing, and other miscellaneous charges. The total of all of these items is approximately 1% of sales. The amounts are generally billed to customers as services are performed, which occurs at a specific point-in-time.  

 

Practical Expedients and Exemptions

 

The Company generally expenses sales commissions when incurred because the amortization period is one year or less. These costs are recorded within selling, general and administrative expense.

 

13

 

 

Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

FACTORS THAT MAY AFFECT FUTURE RESULTS

 

From time to time, information provided by the Company or statements made by its employees may contain "forward-looking" information which involves risks and uncertainties. In particular, statements contained in this report which are not historical facts (including, but not limited to, the Company's expectations regarding earnings, earnings per share, revenues, operating cash flows, profitability, margins, pricing, dividends, future business, growth opportunities, new accounts, customer base, test volume, sales and marketing strategy, business strategy, general and administrative expenses, marketing and selling expenses, research and development expenses, anticipated operating results, foreign drug testing laws and regulations and the enforcement of such laws and regulations, including effective dates of such laws and regulations, required investments in plant, property and equipment, strategies with respect to governmental agencies and regulations, cost savings, capital expenditures, liquidity of investments and anticipated cash requirements) may be "forward-looking" statements. The Company's actual results may differ from those stated in any "forward-looking" statements. Factors that may cause such differences include, but are not limited to, risks associated with employee hiring practices of the Company’s principal customers, development of markets for new products and services offered by the Company, costs associated with capacity expansion, government regulation (including, but not limited to, Food and Drug Administration regulations and foreign government regulation including Brazilian commercial drivers license drug test laws and regulations), risks associated with the delay in the implementation of new regulations, risks associated with foreign currency fluctuations, R&D spending, competition (including, without limitation, competition from other companies pursuing the same growth opportunities), the Company’s ability to maintain its reputation and brand image, the ability of the Company to achieve its business plans, cost controls, leveraging of its global operating platform, risks of information technology system failures and data security breaches, the uncertain global economy, the Company’s ability to attract, develop and retain executives and other qualified employees and independent contractors, including distributors, the Company’s ability to obtain and protect intellectual property rights, litigation risks, and general economic conditions. With respect to the continued payment of cash dividends, factors include, but are not limited to, available surplus, cash flow, capital expenditure reserves required, debt service obligations, and other factors that the Board of Directors of the Company may take into account.

 

Given these uncertainties, you should not place undue reliance on these forward-looking statements. Forward-looking statements represent the Company’s estimates and assumptions only as of the filing date of this Report. The Company expressly disclaim any duty to provide updates to forward-looking statements, and the estimates and assumptions associated with them, after the filing date of this Report, in order to reflect changes in circumstances or expectations, or the occurrence of unanticipated events, except to the extent required by applicable securities laws. All of the forward-looking statements are qualified in their entirety by reference to the factors discussed above and under “Risk Factors” set forth in Part I Item 1A of the Company’s Annual Report on Form 10-K for the year ended December 31, 2017, as well as the risks and uncertainties discussed elsewhere in this Report. The Company qualifies all of its forward-looking statements by these cautionary statements. The Company cautions you that these risks are not exhaustive. The Company operates in a continually changing business environment and new risks emerge from time to time.

 

14

 

 

OVERVIEW

 

Revenue for the second quarter of 2018 was $10.8 million compared to $9.7 million in 2017, an increase of 11%. The Company reported net income of $1.2 million, or $0.21 per diluted share for the three months ended June 30, 2018 versus $0.9 million, or $0.16 per diluted share for the same period in 2017, an increase of 30%. The increase in net income was primarily attributable to the increase in revenues and to a lower tax rate as compared to 2017. Net income for the six months ended June 30, 2018 and 2017 was $2.4 million. The Company declared $0.36 per share of cash dividends to its shareholders in the six months ended June 30, 2018 compared to $0.30 for the same period in 2017. The Company has paid 87 consecutive quarterly cash dividends.

 

RESULTS OF OPERATIONS

 

Revenue growth of 11% for the three months ended June 30, 2018 was primarily due to a 17% increase in volume, offset by a 2% decrease of average revenue per sample and a 4% negative impact from foreign currency exchange. During the quarter, the Brazilian Real to US dollar exchange rate increased 12% above the second quarter of 2017. Excluding the impact of foreign currency, total revenue would have been up 15% for the quarter. Revenues from domestic business increased 15%. Revenues from international business increased 4%. Excluding the impact of foreign currency, revenues from international business would have increased 16% for the quarter. Revenue for the six months ended June 2018 was $21.7 million compared to $19.9 million for the comparable period in 2017, an increase of 9%. This was primarily due to a 16% increase in volume, offset by a 5% decrease of average revenue per sample and a 2% negative impact from foreign currency exchange.

 

Gross profit was $5.2 million for the three months ended June 30, 2018, compared to $4.6 million for the same period in 2017, an increase of $0.6 million, or 12%. Direct costs increased by $540 thousand or 11% for the three months ended June 30, 2018 compared to the same period in 2017. The gross profit margin was 48% for the three months ended June 30, 2018 and 2017. Gross profit for the six months ended June 30, 2018 increased $0.6 million to $10.5 million compared to $9.9 million for the comparable period in 2017. Direct costs increased by $1.2 million or 12% for the six months ended June 30, 2018 when compared to the same period in 2017. The gross profit margin for the six month period ended June 30, 2018 was 48% compared to 50% for the comparable period in 2017. The decrease was primarily driven by the impact from foreign currency exchange.

 

General and administrative (“G&A”) expenses increased $123 thousand to $1.5 million for the three months ended June 30, 2018 compared to $1.3 million for the same period in 2017. As a percentage of revenue, G&A expenses were 14% for the three months ended June 30, 2018 and 2017. General and administrative expenses were $3.3 million for the six months ended June 30, 2018 compared to $2.8 million for the same period in 2017. As a percentage of revenue, G&A expenses were 15% and 14% for the six months ended June 30, 2018 and 2017, respectively.

 

Marketing and selling expenses were $1.3 million for the three months ended June 30, 2018 compared to $1.2 million for the same period in 2017. Total marketing and selling expenses represented 12% of revenue for the three months ended June 30, 2018 and 13% for the comparable period in 2017. Marketing and selling expenses were $2.5 million for the six months ended June 30, 2018 and 2017. As a percentage of revenue, marketing and selling expenses were 12% and 13% for the six months ended June 30, 2018 and 2017, respectively.

 

15

 

Research and development (“R&D”) expenses for the three months ended June 30, 2018 were $358 thousand compared to $321 thousand for the comparable period of 2017. R&D expenses represented 3% of revenue for the three months ended June 30, 2018 and 2017. R&D expenses were $0.7 million for the six months ended June 30, 2018 and 2017. As a percentage of revenue, R&D expenses were 3% for the six months ended June 30, 2018 and 2017.

 

Provision for income taxes consists primarily of federal and state income taxes in the United Sates and income taxes in Brazil. We estimate income taxes in each of the jurisdictions in which we operate. During the three months ended June 30, 2018 and 2017, the Company recorded tax provisions of $0.9 million and $0.8 million, respectively. These provisions represented effective tax rates of 43% for the three months ended June 30, 2018 and 47% for the comparable period of 2017. The decrease in the tax rate was driven by the reduction in the U.S. federal income tax rate, partially offset by Brazilian income taxes. During the six months ended June 30, 2018 and 2017, the Company recorded tax provisions of $1.6 million and $1.5 million, respectively. These provisions represented effective tax rates of 40% for the six months ended June 30, 2018 and 39% for the comparable period of 2017. The Company currently expects the year-end tax rate to be approximately 40%. This rate can fluctuate significantly based on the mix of business and pre-tax income, as Brazil income taxes are based on revenue.

 

LIQUIDITY AND CAPITAL RESOURCES

 

At June 30, 2018, the Company had approximately $7.7 million of cash and cash equivalents. The Company's operating activities generated net cash of $3.6 million for the six months ended June 30, 2018. Investing activities used $0.5 million of cash while financing activities used $2.4 million of cash during the first six months of 2018.

 

Cash provided by operating activities of $3.6 million reflected net income of $2.4 million adjusted for depreciation and amortization of $1.5 million, stock-based compensation of $278 thousand and a decrease of deferred income taxes of $105 thousand. This was affected by the following changes in assets and liabilities: a decrease in accounts receivable of $857 thousand, a decrease in prepaid expenses and other current assets of $253 thousand, an increase in accounts payable of $322 thousand and an increase in accrued expenses of $259 thousand.

 

Cash used in investing activities included purchases of equipment and leasehold improvements of $281 thousand, cost of internally developed software of $152 thousand and other assets of $102 thousand. We anticipate spending less than $0.5 million in additional capital purchases for the remainder of 2018.

 

Cash used by financing activities of $2.4 million included cash dividends to shareholders of $1.8 million and $478 thousand from long-term debt payments.

 

16

 

Contractual obligations and other commercial commitments as of June 30, 2018 were as follows (in 000’s):

 

     Less Than One Year  1-3
Years
  4-5
Years
  After
5 Years
  Total  
  Debt principal  $957   $1,353   $589   $-   $2,899   
  Operating leases   883    934    179    -    1,996   
  Total  $1,840   $2,287   $768   $-   $4,895   

 

At June 30, 2018, the Company's principal sources of liquidity included an aggregate of approximately $7.7 million of cash and cash equivalents and equipment financing line of credit availability of $1.9 million.  The Company had $9.3 million and $9.6 million of working capital as of June 30, 2018 and December 31, 2017, respectively. Management currently believes that such funds, together with cash generated from operations and future equipment financing, should be adequate to fund anticipated working capital and capital equipment requirements for the next 12 months.   Depending upon the Company's results of operations and capital needs, the Company may use various financing sources to raise additional funds. 

17

 

 

Item 3. Quantitative and Qualitative Disclosures about Market Risk

 

Interest Rate Sensitivity. The long-term debt agreement entered into in March 2014 (as amended), is subject to the 30 day Libor rate, which changes the Company’s interest rate on a monthly basis. The Company does not expect any changes in this rate to materially affect the Company’s performance.

 

Foreign Exchange Risk. We are exposed to foreign currency risk in the ordinary course of business. See risk factors in our 2017 Annual Report on Form 10-K for further explanation of Foreign Exchange Risk.

 

Based on our ability to access our cash and cash equivalents, our expected operating cash flows and our other sources of cash, we do not anticipate that any lack of liquidity will materially affect our ability to operate our business.

 

Item 4. Controls and Procedures

 

Evaluation of Disclosure Controls and Procedures

 

Our management evaluated, with the participation of our Chief Executive Officer and Vice President of Finance, the effectiveness of our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, for the three month period ended June 30, 2018.

 

Based on this evaluation, our Chief Executive Officer and Vice President Finance have concluded that, because of the material weakness in internal control over financial reporting described in our 2017 Form 10-K, our disclosure controls and procedures were not effective as of June 30, 2018. However, we believe that we have designed and implemented the appropriate controls to fully remediate the material weakness. These controls include conducting a risk assessment and updating the testing and documentation of certain key reports.  In addition, the Company has hired a third party to review, implement and test the Company’s internal controls. The Company is required to demonstrate the effectiveness of the new processes for a sufficient period of time. Therefore, until the control review is completed, including the testing of these controls, the material weakness identified will continue to exist.

 

Changes in Internal Control Over Financial Reporting

 

Other than the actions taken to remediate the previously reported material weakness related to our control environment, there have been no significant changes in the Company's internal controls over financial reporting during the most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Company's internal controls over financial reporting.

 

18

 

PART II OTHER INFORMATION

 

Item 1A. Risk Factors

 

There have been no material changes in our risk factors from those disclosed in our 2017 Annual Report on Form 10-K.

 

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

 

There were no purchases of treasury stock in the first six months of 2018.

 

Item 6. Exhibits

 

31.1Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2Certification of Principal Accounting Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
 32.1Certification 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
32.2Certification of Principal Accounting Officer Pursuant to 18 U.S.C. Section 1350 as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
101.INS  XBRL Instance Document
101.SCH  XBRL Taxonomy Extension Schema
101.CAL  XBRL Taxonomy Extension Calculation Linkbase
101.LAB  XBRL Taxonomy Extension Label Linkbase
101.PRE  XBRL Taxonomy Extension Presentation Linkbase
101.DEF  XBRL Taxonomy Extension Definition Linkbase

 

SIGNATURES

 

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

 

 

    Psychemedics Corporation
         
Date: July 27, 2018 By: /s/ Raymond C. Kubacki
        Raymond C. Kubacki
        Chairman and Chief Executive Officer
        (principal executive officer)
         
Date: July 27, 2018   By: /s/ Neil L. Lerner
        Neil L. Lerner
        Vice President - Finance
        (principal accounting officer)

 

19

 

 

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Section 2: EX-31.1 (EXHIBIT 31.1)

Exhibit 31.1

CERTIFICATION PURSUANT TO

SECTION 302

OF THE SARBANES-OXLEY ACT OF 2002

 

I, Raymond C. Kubacki, certify that:

 

1.I have reviewed this quarterly report on Form 10-Q of Psychemedics Corporation (“the registrant”);

 

2.Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;

 

3.Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;

 

4.The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal controls over financial reporting (as defined by Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

 

a)designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
b)designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, 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;
c)evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
d)disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting;

 

5.The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors:

 

a)all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
b)any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

 

Date: July 27, 2018   /s/ Raymond C. Kubacki                                
        Raymond C. Kubacki
        Chairman and Chief Executive Officer
        (principal executive officer)

 

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Section 3: EX-31.2 (EXHIBIT 31.2)

Exhibit 31.2

CERTIFICATION PURSUANT TO

SECTION 302

OF THE SARBANES-OXLEY ACT OF 2002

 

I, Neil Lerner, certify that:

 

1.I have reviewed this quarterly report on Form 10-Q of Psychemedics Corporation (“the registrant”);

 

2.Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;

 

3.Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;

 

4.The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal controls over financial reporting (as defined by Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

 

a)designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
b)designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, 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;
c)evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
d)disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting;

 

5.The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors:

 

a)all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
b)any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

 

 

Date: July 27, 2018 /s/ Neil Lerner                                 
        Neil Lerner
        Vice President - Finance
        (principal accounting officer)

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Section 4: EX-32.1 (EXHIBIT 32.1)

Exhibit 32.1

 

CERTIFICATION PURSUANT TO

U.S.C. SECTION 1350

AS ADOPTED PURSUANT TO

SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

 

 

I, Raymond C. Kubacki, Chairman and Chief Executive Officer of Psychemedics Corporation (the “Company”), certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, as the principal executive officer of the Company, that:

 

 

(1)The Company’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2018, as filed with the Securities and Exchange Commission on July 27, 2018 (the “Report”), fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

 

(2)The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

 

Date: July 27, 2018 /s/ Raymond C. Kubacki                                
        Raymond C. Kubacki
        Chairman and Chief Executive Officer
        (principal executive officer)

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Section 5: EX-32.2 (EXHIBIT 32.2)

Exhibit 32.2

 

 

CERTIFICATION PURSUANT TO

U.S.C. SECTION 1350

AS ADOPTED PURSUANT TO

SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

 

 

I, Neil Lerner, Vice President - Finance of Psychemedics Corporation (the “Company”), certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, as the principal accounting officer of the Company, that:

 

 

(1)The Company’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2018, as filed with the Securities and Exchange Commission on July 27, 2018 (the “Report”), fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

 

(2)The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

 

 

Date: July 27, 2018   /s/ Neil Lerner                                 
        Neil Lerner
        Vice President - Finance
        (principal accounting officer)

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