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Section 1: 10-Q (10-Q)

2019 Q3 10-Q 09302019 2018 Taxonomy

Table of Contents

United States

Securities and Exchange Commission

Washington, D.C. 20549



FORM 10-Q

(Mark One)

   QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2019

OR

    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission File Number: 001-34382

Picture 1

ROCKY BRANDS, INC.

(Exact name of Registrant as specified in its charter)



 

 

Ohio

 

No. 31‑1364046

(State or other jurisdiction of incorporation or organization)

 

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



 

 

39 East Canal Street, Nelsonville, Ohio 45764

(Address of principal executive offices, including zip code)



 

 

Registrant's telephone number, including area code: (740) 753‑9100

 



 

 

 

 

 

 

 

 

 

 

 

 



 

 

 

 

Title of class

 

Trading symbol

 

Name of exchange on which registered

Common Stock – No Par Value

 

RCKY

 

Nasdaq



Indicate by checkmark 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 the filing requirements for at least the past 90 days. Yes   No 



Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted 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 such files). Yes   No 



Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a 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 12b-2 of the Exchange Act.

 Large accelerated filer   Accelerated filer 

 Non-accelerated filer Smaller reporting company 

 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 



There were 7,374,969 shares of the Registrant's Common Stock outstanding on October 31, 2019.



 

 


 

Table of Contents

 

TABLE OF CONTENTS





 

 



 

 



 

Page

PART I

Financial Information

 

Item 1.

Financial Statements

 



Condensed Consolidated Balance Sheets as of September 30, 2019 (Unaudited), December 31, 2018, and September 30, 2018 (Unaudited)



Condensed Consolidated Statements of Operations for the Three and Nine Months Ended September 30, 2019 and 2018 (Unaudited)



Condensed Consolidated Statements of Shareholders’ Equity for the Three and Nine Months Ended September 30, 2019 and 2018 (Unaudited)



Condensed Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2019 and 2018 (Unaudited)



Notes to Unaudited Condensed Consolidated Financial Statements

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

16 

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

21 

Item 4.

Controls and Procedures

21 

PART II

Other Information

 

Item 1A.

Risk Factors

21 

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

22 

Item 6.

Exhibits

23 

SIGNATURES 

24 



 



 

 

1


 

Table of Contents

 

PART 1 – FINANCIAL INFORMATION

ITEM 1 – FINANCIAL STATEMENTS

Rocky Brands, Inc. and Subsidiaries

Condensed Consolidated Balance Sheets

(In thousands, except share amounts)

(Unaudited)







 

 

 

 

 

 

 



 

 

 

 

 

 

 



 

 

September 30,

 

December 31,

 

September 30,



 

 

2019

 

2018

 

2018

ASSETS:

 

 

 

 

 

 

 

CURRENT ASSETS:

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

6,440 

$

10,173 

$

4,210 

Trade receivables, net

 

 

50,700 

 

43,337 

 

50,691 

Contract receivables

 

 

2,036 

 

2,602 

 

4,849 

Other receivables

 

 

310 

 

331 

 

282 

Inventories – net

 

 

82,881 

 

72,822 

 

78,409 

Income tax receivable

 

 

 -

 

30 

 

 -

Prepaid expenses

 

 

2,656 

 

1,890 

 

2,122 

Total current assets

 

 

145,023 

 

131,185 

 

140,563 

LEASED ASSETS

 

 

1,781 

 

 -

 

 -

PROPERTY, PLANT & EQUIPMENT – net

 

 

25,150 

 

23,057 

 

23,209 

IDENTIFIED INTANGIBLES – net

 

 

30,248 

 

30,273 

 

30,283 

OTHER ASSETS

 

 

293 

 

148 

 

163 

TOTAL ASSETS

 

$

202,495 

$

184,663 

$

194,218 



 

 

 

 

 

 

 

LIABILITIES AND SHAREHOLDERS' EQUITY:

 

 

 

 

 

 

 

CURRENT LIABILITIES:

 

 

 

 

 

 

 

Accounts payable

 

$

20,531 

$

13,543 

$

20,622 

Contract liabilities

 

 

1,936 

 

2,602 

 

4,849 

Accrued expenses:

 

 

 

 

 

 

 

Salaries and wages

 

 

2,791 

 

3,339 

 

3,661 

Taxes - other

 

 

624 

 

556 

 

158 

Accrued freight

 

 

495 

 

668 

 

465 

Commissions

 

 

488 

 

560 

 

432 

Accrued duty

 

 

2,597 

 

2,334 

 

2,727 

Income tax payable

 

 

19 

 

 -

 

1,888 

Other

 

 

1,766 

 

1,416 

 

1,308 

     Total current liabilities

 

 

31,247 

 

25,018 

 

36,110 

LONG-TERM TAXES PAYABLE

 

 

169 

 

169 

 

169 

LONG-TERM LEASE

 

 

1,188 

 

 -

 

 -

DEFERRED INCOME TAXES

 

 

7,780 

 

7,780 

 

7,726 

DEFERRED LIABILITIES

 

 

230 

 

121 

 

153 

TOTAL LIABILITIES

 

 

40,614 

 

33,088 

 

44,158 

SHAREHOLDERS' EQUITY:

 

 

 

 

 

 

 

Common stock, no par value;

 

 

 

 

 

 

 

25,000,000 shares authorized; issued and outstanding September 30, 2019 - 7,403,219;  December 31, 2018 - 7,368,494 and September 30, 2018 - 7,421,317

 

 

69,273 

 

68,387 

 

69,589 

Retained earnings

 

 

92,608 

 

83,188 

 

80,471 

Total shareholders' equity

 

 

161,881 

 

151,575 

 

150,060 

TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY

 

$

202,495 

$

184,663 

$

194,218 



See Notes to Unaudited Condensed Consolidated Financial Statements

 

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Table of Contents

 

Rocky Brands, Inc. and Subsidiaries

Condensed Consolidated Statements of Operations

(In thousands, except per share amounts)

(Unaudited)







 

 

 

 

 

 

 

 



 

 

 

 

 

 

 

 



 

Three Months Ended

 

Nine Months Ended



 

September 30,

 

September 30,



 

2019

 

2018

 

2019

 

2018

NET SALES

$

67,179 

$

65,916 

$

195,067 

$

185,508 

COST OF GOODS SOLD

 

42,165 

 

43,516 

 

125,633 

 

122,610 

GROSS MARGIN

 

25,014 

 

22,400 

 

69,434 

 

62,898 



 

 

 

 

 

 

 

 

OPERATING EXPENSES

 

18,027 

 

16,791 

 

54,004 

 

49,688 



 

 

 

 

 

 

 

 

INCOME FROM OPERATIONS

 

6,987 

 

5,609 

 

15,430 

 

13,210 



 

 

 

 

 

 

 

 

OTHER INCOME (EXPENSES)

 

43 

 

31 

 

160 

 

(148)



 

 

 

 

 

 

 

 

INCOME BEFORE INCOME TAXES

 

7,030 

 

5,640 

 

15,590 

 

13,062 



 

 

 

 

 

 

 

 

INCOME TAX EXPENSE

 

1,414 

 

595 

 

3,212 

 

2,117 



 

 

 

 

 

 

 

 

NET INCOME

$

5,616 

$

5,045 

$

12,378 

$

10,945 



 

 

 

 

 

 

 

 

INCOME PER SHARE

 

 

 

 

 

 

 

 

Basic

$

0.76 

$

0.68 

$

1.67 

$

1.48 

Diluted

$

0.75 

$

0.67 

$

1.66 

$

1.47 

WEIGHTED AVERAGE NUMBER OF

 

 

 

 

 

 

 

 

COMMON SHARES OUTSTANDING

 

 

 

 

 

 

 

 

Basic

 

7,400 

 

7,418 

 

7,392 

 

7,412 

Diluted

 

7,455 

 

7,480 

 

7,443 

 

7,454 



See Notes to Unaudited Condensed Consolidated Financial Statements

 

3


 

Table of Contents

 



Rocky Brands, Inc. and Subsidiaries

Condensed Consolidated Statements of Shareholders’ Equity

(In thousands, except per share amounts)

(Unaudited)







 

 

 

 

 

 

 

 

 



 

 

 

 

 

 

 

 

 



Common Stock and

 

Accumulated

 

 

 

 



Additional Paid-in Capital

 

Other

 

 

 

Total



Shares

 

 

 

Comprehensive

 

Retained

 

Shareholders'



Outstanding

 

Amount

 

Income

 

Earnings

 

Equity



 

 

 

 

 

 

 

 

 

BALANCE - December 31, 2018

7,368 

$

68,387 

$

 -

$

83,188 

$

151,575 



 

 

 

 

 

 

 

 

 

NINE MONTHS  ENDED SEPTEMBER 30, 2019

 

 

 

 

 

 

 

 

 

Net income

 

 

 

 

 

$

3,605 

$

3,605 

Dividends paid on common stock ($0.12 per share)

 

 

 

 

 

 

(887)

 

(887)

Repurchase of common stock

 -

 

 -

 

 

 

 

 

 -

Stock issued for options exercised, including tax benefits

17 

$

294 

 

 

 

 

 

294 

Stock compensation expense

 

168 

 

 

 

 

 

168 

BALANCE - March 31, 2019

7,391 

$

68,849 

 

 -

$

85,906 

$

154,755 



 

 

 

 

 

 

 

 

 

Net income

 

 

 

 

 

$

3,157 

$

3,157 

Dividends paid on common stock ($0.14 per share)

 

 

 

 

 

 

(1,036)

 

(1,036)

Repurchase of common stock

 -

 

 -

 

 

 

 

 

 -

Stock issued for options exercised, including tax benefits

 -

 

 -

 

 

 

 

 

 -

Stock compensation expense

$

164 

 

 

 

 

 

164 

BALANCE - June 30, 2019

7,394 

$

69,013 

$

 -

$

88,027 

$

157,040 



 

 

 

 

 

 

 

 

 

Net income

 

 

 

 

 

$

5,616 

$

5,616 

Dividends paid on common stock ($0.14 per share)

 

 

 

 

 

 

(1,036)

 

(1,036)

Repurchase of common stock

 -

 

 -

 

 

 

 

 

 -

Stock issued for options exercised, including tax benefits

$

96 

 

 

 

 

 

96 

Stock compensation expense

 

164 

 

 

 

 

 

164 

BALANCE - September 30, 2019

7,403 

$

69,273 

$

 -

$

92,607 

$

161,880 



 

 

 

 

 

 

 

 

 

BALANCE - December 31, 2017

7,399 

$

68,974 

$

 -

$

72,119 

$

141,093 



 

 

 

 

 

 

 

 

 

NINE MONTHS ENDED SEPTEMBER 30, 2018

 

 

 

 

 

 

 

 

 

Net income

 

 

 

 

 

$

3,251 

$

3,251 

Dividends paid on common stock ($0.11 per share)

 

 

 

 

 

 

(815)

 

(815)

Repurchase of common stock

 -

 

 -

 

 

 

 

 

 -

Stock issued for options exercised, including tax benefits

 -

 

 -

 

 

 

 

 

 -

Stock compensation expense

$

299 

 

 

 

 

 

299 

BALANCE - March 31, 2018

7,407 

$

69,273 

$

 -

$

74,555 

$

143,828 



 

 

 

 

 

 

 

 

 

Net income

 

 

 

 

 

$

2,649 

$

2,649 

Dividends paid on common stock ($0.12 per share)

 

 

 

 

 

 

(888)

 

(888)

Repurchase of common stock

 -

 

 -

 

 

 

 

 

 -

Stock issued for options exercised, including tax benefits

 -

 

 -

 

 

 

 

 

 -

Stock compensation expense

$

164 

 

 

 

 

 

164 

BALANCE - June 30, 2018

7,415 

$

69,437 

$

 -

$

76,316 

$

145,753 



 

 

 

 

 

 

 

 

 

Net income

 

 

 

 

 

$

5,045 

$

5,045 

Dividends paid on common stock ($0.12 per share)

 

 

 

 

 

 

(890)

 

(890)

Repurchase of common stock

 -

 

 -

 

 

 

 

 

 -

Stock issued for options exercised, including tax benefits

$

54 

 

 

 

 

 

54 

Stock compensation expense

 

98 

 

 

 

 

 

98 

BALANCE - September 30, 2018

7,421 

$

69,589 

$

 -

$

80,471 

$

150,060 



See Notes to Unaudited Condensed Consolidated Financial Statements

 

4


 

Table of Contents

 

Rocky Brands, Inc. and Subsidiaries

Condensed Consolidated Statements of Cash Flows

(In thousands)

(Unaudited)







 

 

 

 



 

Nine Months Ended



 

September 30,



 

2019

 

2018

CASH FLOWS FROM OPERATING ACTIVITIES:

 

 

 

 

Net income

$

12,378 

$

10,945 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

Depreciation and amortization

 

3,767 

 

4,074 

Deferred compensation

 

74 

 

 -

(Gain) loss on disposal of fixed assets

 

 

(8)

Stock compensation expense

 

496 

 

491 

Change in assets and liabilities:

 

 

 

 

Receivables

 

(6,747)

 

(3,290)

Inventories

 

(10,059)

 

(12,786)

Other current assets

 

(3,227)

 

78 

Other assets

 

(115)

 

34 

Accounts payable

 

7,201 

 

7,702 

Accrued and other liabilities

 

1,096 

 

1,712 

Income taxes payable

 

19 

 

1,888 

Long term taxes payable

 

 -

 

(2,117)

Net cash provided by operating activities

 

4,890 

 

8,723 



 

 

 

 

CASH FLOWS FROM INVESTING ACTIVITIES:

 

 

 

 

Purchase of fixed assets

 

(6,054)

 

(3,542)

Proceeds from sales of fixed assets

 

 -

 

17 

Net cash used in investing activities

 

(6,054)

 

(3,525)



 

 

 

 

CASH FLOWS FROM FINANCING ACTIVITIES:

 

 

 

 

Proceeds from revolving credit facility

 

 -

 

4,248 

Repayments on revolving credit facility

 

 -

 

(6,448)

Proceeds from stock options

 

390 

 

124 

Dividends paid on common stock

 

(2,959)

 

(2,593)

Net cash used in financing activities

 

(2,569)

 

(4,669)



 

 

 

 

INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS                   

 

(3,733)

 

529 



 

 

 

 

CASH AND CASH EQUIVALENTS:

 

 

 

 

 BEGINNING OF PERIOD

 

10,173 

 

3,681 

 END OF PERIOD

$

6,440 

$

4,210 



 

 

 

 



See Notes to Unaudited Condensed Consolidated Financial Statements

 

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Table of Contents

 



Rocky Brands, Inc. and Subsidiaries



Notes to Unaudited Condensed Consolidated Financial Statements

1.    NATURE OF OPERATIONS AND BASIS OF PRESENTATION



We are a leading designer, manufacturer and marketer of premium quality footwear and apparel marketed under a portfolio of well recognized brand names including Rocky, Georgia Boot, Durango and Lehigh. Our brands have a long history of representing high quality, comfortable, functional and durable footwear and our products are organized around six target markets: outdoor, work, duty, commercial military, western and lifestyle. In addition, as part of our strategy of outfitting consumers from head-to-toe, we market complementary branded apparel and accessories that we believe leverage the strength and positioning of each of our brands.

 

In the opinion of management, the accompanying unaudited condensed consolidated financial statements reflect all adjustments that are necessary for a fair presentation of the financial results. All such adjustments reflected in the unaudited condensed consolidated financial statements are considered to be of a normal and recurring nature. The results of operations for the three and nine months ended September 30, 2019 and 2018 are not necessarily indicative of the results to be expected for the whole year. The December 31, 2018 condensed consolidated balance sheet data was derived from the audited financial statements but does not include all disclosures required by accounting principles generally accepted in the United States of America ("GAAP"). This Quarterly Report on Form 10-Q should be read in connection with our Annual Report on Form 10-K for the year ended December 31, 2018, which includes all disclosures required by GAAP.

 



2.   ACCOUNTING STANDARDS UPDATES



Recently Issued Accounting Pronouncements



Rocky Brands, Inc. is currently evaluating the impact of certain Accounting Standards Updates (“ASU”) on its Unaudited Condensed Consolidated Financial Statements or Notes to the Unaudited Condensed Consolidated Financial Statements:





 

 

 

 

 

 

Standard 

 

Description

 

Anticipated Adoption Period

 

Effect on the financial statements or other significant matters

ASU 2018-13 Fair Value Measurement (Topic 820): Disclosure Framework—Changes to the Disclosure Requirements for Fair Value Measurement

 

This pronouncement changes the fair value measurement disclosure requirements of ASC 820. The amendments in this ASU are the result of a broader disclosure project called FASB Concepts Statement, Conceptual Framework for Financial Reporting — Chapter 8: Notes to Financial Statements.

 

Q1 2020

 

The Company is evaluating the impact of the new standard on its Unaudited Condensed Consolidated Financial Statements, but does not anticipate the standard will have a significant impact.

 ASU 2016-13, Measurement of Credit Losses on Financial Instruments

 

The pronouncement seeks to provide financial statement users with more decision-useful information about the expected credit losses on financial instruments and other commitments to extend credit held by a reporting entity at each reporting date by replacing the incurred loss impairment methodology in current U.S. GAAP with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates.

 

Q1 2020

 

The Company is evaluating the impacts of the new standard on its existing financial instruments, including trade receivables.



 

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Table of Contents

 

Accounting Standards Adopted in the Current Year





 

 

 

 

Standard 

 

Description

 

Effect on the financial statements or other significant matters

ASU 2018-07, Compensation—Stock Compensation (Topic 718): Improvements to Nonemployee Share-based Payment Accounting

 

The pronouncement simplifies the accounting for share-based payments granted to nonemployees for goods and services. Under the ASU, most of the guidance on such payments to nonemployees would be aligned with the requirements for share-based payments granted to employees.

 

The Company adopted this ASU in the first quarter of 2019, which did not have a material effect on the Unaudited Condensed Consolidated Financial Statements.

 ASU 2016-02, Leases (Topic 842)

 

The pronouncement introduces a lessee model that brings most leases on the balance sheet. The standard requires that lessees recognize the following for all leases (with the exception of short-term leases, as that term is defined in the standard) at the lease commencement date: (1) a lease liability, which is a lessee’s obligation to make lease payments arising from a lease, measured on a discounted basis; and (2) a right-of-use asset, which is an asset that represents the lessee’s right to use, or control the use of, a specified asset for the lease term.

 

This standard was adopted on its effective date, January 1, 2019 using the modified retrospective approach. For additional information see Note 9.

 



3.   FAIR VALUE



Generally accepted accounting standards establish a framework for measuring fair value. The fair value accounting standard defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. This standard clarifies how to measure fair value as permitted under other accounting pronouncements.

 

The fair value accounting standard defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date. This standard also establishes a three-level fair value hierarchy that prioritizes the inputs used to measure fair value. This hierarchy requires entities to maximize the use of observable inputs and minimize the use of unobservable inputs. The three levels of inputs used to measure fair value are as follows:



·

Level 1 – Quoted prices in active markets for identical assets or liabilities.



·

Level 2 – Observable inputs other than quoted market prices included in Level 1, such as quoted prices for similar assets and liabilities in active markets; quoted prices for identical or similar assets and liabilities in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.



·

Level 3 – Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. This includes certain pricing models, discounted cash flow methodologies and similar techniques that use significant unobservable inputs.

   

The fair values of cash and cash equivalents, receivables, and payables approximated their carrying values because of the short-term nature of these instruments. Receivables consist primarily of amounts due from our customers, net of allowances, amounts due from employees (sales persons’ advances in excess of commissions earned and employee travel advances); other customer receivables, net of allowances; and expected insurance recoveries. The carrying amounts of our long-term credit facility and other short-term financing obligations also approximate fair value, as they are comparable to the available financing in the marketplace during the year. The fair value of our revolving line of credit is categorized as Level 2.





4.   REVENUE



On January 1, 2018, we adopted the new accounting standard ASC 606, Revenue from Contracts with Customers and all the related amendments (“New Revenue Standard”) for all contracts not yet completed as of January 1, 2018 using the modified retrospective method. This method requires a cumulative effect adjustment to reflect the impact of initially applying the New Revenue Standard as an adjustment to the opening balance of retained earnings. The New Revenue Standard did not result in a material impact to the opening balance of retained earnings, and therefore no adjustment was made.



 

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Nature of Performance Obligations



Our products are distributed through three distinct channels, which represent our reportable business segments: Wholesale, Retail, and Military. In our Wholesale business, we distribute our products through a wide range of distribution channels representing over ten thousand retail store locations in the U.S., Canada, and internationally. Our Wholesale channels vary by product line and include sporting goods stores, outdoor specialty stores, online retailers, independent retailers, mass merchants, retail uniform stores, and specialty safety shoe stores. Our Retail business includes direct sales of our products to consumers through our e-commerce websites, our Rocky outlet store, and Lehigh business. We also sell footwear under the Rocky label to the U.S. Military.



Significant Accounting Policies and Judgements



Revenue is recognized when obligations under the terms of a contract with our customer are satisfied; this generally occurs upon shipment of our product to our customer, which is when the transfer of control of our products passes to the customer. The duration of our arrangements with our customers are typically one year or less. Revenue is measured as the amount of consideration we expect to receive in exchange for the transfer of our products at a point in time and consists of either fixed or variable consideration or a combination of both.



Revenues from sales are recorded at the net sales price, which includes estimates of variable consideration for which reserves are established. Components of variable consideration include prompt payment discounts, volume rebates, and product returns. These reserves, as detailed below, are based on the amounts earned, or to be claimed on the related sales, and are classified as reductions of accounts receivable (if the amount is payable to the customer) or a current liability (if the amount is payable to a party other than a customer).



The amount of variable consideration which is included in the transaction price may be constrained, and is included in the net sales price only to the extent that it is probable that a significant reversal in the amount of the cumulative revenue recognized under the contract will not occur in a future period. Our analyses also contemplated application of the constraint in accordance with the guidance, under which it determined a material reversal of revenue would not occur in a future period for the estimates detailed below as of September 30, 2019. Actual amounts of consideration ultimately received may differ from our estimates. If actual results in the future vary from our estimates, we will adjust these estimates, which would affect net revenue and earnings in the period such variances become known.



When a customer has a right to a prompt payment discount, we estimate the likelihood that the customer will earn the discount using historical data and adjust our estimate when the estimate of the likelihood that a customer will earn the discount changes or the consideration becomes fixed, whichever occurs earlier. The estimated amount of variable consideration is recognized as a credit to trade receivables and a reduction in revenue until the uncertainty of the variable consideration is alleviated. Because most of our customers have payment terms less than six months there is not a significant financing component in our contracts with customers.



When a customer is offered a rebate on purchases retroactively this is accounted for as variable consideration because the consideration for the current and past purchases is not fixed until it is known if the discount is earned. We estimate the expected discount the customer will earn at contract inception using historical data and projections and update our estimates when projections materially change or consideration becomes fixed.  The estimated rebate is recognized as a credit to trade receivables and offset against revenue until the rebate is earned or the earning period has lapsed.



When a right of return is part of the arrangement with the customer, we estimate the expected returns based on an analysis using historical data. We adjust our estimate either when the most likely amount of consideration we expect to receive changes or when the consideration becomes fixed, whichever occurs earlier. Please see Notes 5 and 6 for additional information. 



Trade receivables represent our right to unconditional payment that only relies on the passage of time.



Contract receivables primarily represent contractual minimum payments required under non-cancellable contracts with the U.S. Military with a duration of one year or less. 



Contract liabilities are performance obligations that we expect to satisfy or relieve within the next twelve months, advance consideration obtained prior to satisfying a performance obligation, or unconditional obligations to provide goods or services under non-cancellable contracts before the transfer of goods or services to the customer has occurred. Our contract liability represents unconditional obligations to provide goods under non-cancellable contracts with the U.S. Military.



Items considered immaterial within the context of the contract are recognized as an expense.



 

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Taxes assessed by a governmental authority that are both imposed on and concurrent with a specific revenue producing transaction, that are collected from customers, are excluded from revenue.



Costs associated with our manufacturer’s warranty continue to be recognized as expense when the products are sold in accordance with guidance surrounding product warranties.



Shipping and handling costs associated with outbound freight after control over a product has transferred to a customer are accounted for as a fulfillment cost and are in included in operating expenses.



Costs associated with obtaining a contract are expensed as incurred in accordance with the practical expedient in ASC 340-40 in instances where the amortization period is one year or less. We anticipate substantially all of our costs incurred to obtain a contract would be subject to this practical expedient.



Contract Balances



The following table provides information about contract liabilities from contracts with our customers.







 

 

 

 

 

 



 

September 30,

 

December 31,

 

September 30,

($ in thousands)

 

2019

 

2018

 

2018

Contract liabilities

$

1,936 

$

2,602 

$

4,849 



Significant changes in the contract liabilities balance during the period are as follows:







 

 

($ in thousands)

 

Contract liabilities

Balance, December 31, 2018

$

2,602 

Non-cancelable contracts with customers entered into during the period

 

2,458 

Revenue recognized related to non-cancelable contracts with customers during the period

 

(3,124)

Balance, September 30, 2019

$

1,936 



Disaggregation of Revenue



All revenues are recognized at a point in time when control of our products pass to the customer at point of shipment. Because all revenues are recognized at a point in time and are disaggregated by channel, our segment disclosures are consistent with ASC 606 disaggregation requirements. See Note 13 for segment disclosures.





 

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5.      TRADE RECEIVABLES

 

Trade receivables are presented net of the related allowance for uncollectible accounts of approximately $1,251,000, $1,268,000 and $1,357,000 at September 30, 2019, December 31, 2018 and September 30, 2018, respectively.  We record the allowance based on historical experience, the age of the receivables, and identification of customer accounts that are likely to prove difficult to collect due to various criteria including pending bankruptcy. However, estimates of the allowance in any future period are inherently uncertain and actual allowances may differ from these estimates. If actual or expected future allowances were significantly greater or less than established reserves, a reduction or increase to bad debt expense would be recorded in the period this determination was made. Our credit policy generally provides that trade receivables will be deemed uncollectible and written-off once we have pursued all reasonable efforts to collect on the account.



In accordance with ASC 606, the return reserve liability netted against trade receivables was approximately $1,073,000, $1,154,000 and $908,000 for the periods ending September 30, 2019, December 31, 2018 and September 30, 2018, respectively.



6.   INVENTORY



Inventories are comprised of the following:









 

 

 

 

 

 



 

September 30,

 

December 31,

 

September 30,

($ in thousands)

 

2019

 

2018

 

2018

Raw materials

$

11,909 

$

12,986 

$

14,311 

Work-in-process

 

946 

 

715 

 

876 

Finished goods

 

70,026 

 

59,121 

 

63,222 

Total

$

82,881 

$

72,822 

$

78,409 

 

In accordance with ASC 606, the return reserve asset netted against inventories was $649,000, $694,000 and $555,000 for the periods ending September 30, 2019, December 31, 2018 and September 30, 2018, respectively.



7. IDENTIFIED INTANGIBLE ASSETS



A schedule of identified intangible assets is as follows:







 

 

 

 

 

 

 



 

 

Gross

 

Accumulated

 

Carrying

($ in thousands)

 

 

Amount

 

Amortization

 

Amount

September 30, 2019

 

 

 

 

 

 

 

Trademarks

 

 

 

 

 

 

 

Wholesale

 

$

27,192 

 

 -

$

27,192 

Retail

 

 

2,900 

 

 -

 

2,900 

Patents

 

 

895 

$

739 

 

156 

Total Intangibles

 

$

30,987 

$

739 

$

30,248 



 

 

 

 

 

 

 



 

 

Gross

 

Accumulated

 

Carrying

December 31, 2018

 

 

Amount

 

Amortization

 

Amount

Trademarks

 

 

 

 

 

 

 

Wholesale

 

$

27,192 

 

 -

$

27,192 

Retail

 

 

2,900 

 

 -

 

2,900 

Patents

 

 

895 

$

714 

 

181 

Total Intangibles

 

$

30,987 

$

714 

$

30,273 



 

 

 

 

 

 

 



 

 

Gross

 

Accumulated

 

Carrying

September 30, 2018

 

 

Amount

 

Amortization

 

Amount

Trademarks

 

 

 

 

 

 

 

Wholesale

 

$

27,192 

 

 -

$

27,192 

Retail

 

 

2,900 

 

 -

 

2,900 

Patents

 

 

895 

$

704 

 

191 

Total Intangibles

 

$

30,987 

$

704 

$

30,283 



 

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The weighted average life for our patents is 3.9 years.



A schedule of approximate amortization expense related to finite-lived intangible assets for the three and nine months ended September 30, 2019 and 2018 is as follows:







 

 

 

 

 

 

 

 



 

Three Months Ended

 

Nine Months Ended



 

September 30,

 

September 30,

($ in thousands)

 

2019

 

2018

 

2019

 

2018

Amortization expense

$

$

10 

 

25 

$

32 



A schedule of approximate expected amortization expense related to finite-lived intangible assets for the years ending December 31, is as follows:







 

 



 

Amortization

($ in thousands)

 

Expense

10/01/2019 - 12/31/2019

 

2020 

 

31 
2021 

 

26 
2022 

 

22 
2023 

 

20 
2024 

 

17 

2025+

 

33 



 

8.   LONG-TERM DEBT



On February 13, 2019, we entered into a Revolving Credit, Guaranty, and Security Agreement (“Credit Agreement”) with the Huntington National Bank (“Huntington”) as administrative agent.  The Credit Agreement provides for a new senior secured asset-based revolving credit facility up to a principal amount of $75 million, which includes a sublimit for the issuance of letters of credit up to $7.5 million (the “Credit Facility”).  The Credit Facility may be increased up to an additional $25 million at our request and the lenders’ option, subject to customary conditions. The Credit Agreement matures on February 13, 2024. This new Credit Agreement replaced our previous financing agreement with PNC Bank (“PNC”).  







 

 

 

 

 

 

 

 

Revolver Pricing Level

 

Average Excess Revolver Availability for Previous Quarter

 

Applicable Spread Rates for Eurodollar Rate Revolving Advances

 

 

Applicable Spread Rates for Domestic Rate Revolving Advances

 

I

$

25,000,000+

 

1.00 

%

 

(0.50)

%

II

$

17,500,000 to < 25,000,000

 

1.25 

%

 

(0.50)

%

III

$

10,000,000 to < 17,500,000

 

1.50 

%

 

(0.25)

%

IV

$

< 10,000,000

 

1.75 

%

 

0.00 

%



The total amount available under our new Credit Facility is subject to a borrowing base calculation based on various percentages of accounts receivable and inventory. As of September 30, 2019, we had total capacity of $74.9 million.



In December 2014, we amended and restated our financing agreement with PNC to increase the credit facility to $75.0 million and extend the term of the facility an additional five years to November 2019. The credit facility’s base interest rate was the current prime rate less 0.25%, however the credit facility provided us the option to borrow on up to eight fixed loans at LIBOR plus 1.25% in accordance with the 2014 amended and restated credit agreement. The LIBOR rate was determined based on the fixed loan maturities, which vary from 30, 60, 90, or 180 days.



As of September 30, 2019 we had no outstanding borrowings against the new Credit Facility and as of December 31, 2018 and September 30, 2018, respectively, we had no outstanding borrowings against our previously amended and restated credit facility.



 

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Credit Facility Covenants



Both our new Credit Facility and our previously amended and restated credit facility contain restrictive covenants which require us to maintain a fixed charge coverage ratio.  These restrictive covenants are only in effect upon a triggering event taking place (as defined in both agreements).  Both our new Credit Facility and the previously amended and restated credit facility contain restrictions on the amount of dividends that may be paid. During the nine months ended September 30, 2019, there were no triggering events and the covenant was not in effect for the new Credit Facility



9.   LEASES



In February 2016, the FASB issued ASU No. 2016-02, Leases (“ASU 2016-02”), which requires lessees to recognize leases on-balance sheet and disclose key information about leasing arrangements. ASU 2016-02 was subsequently amended by ASU No. 2018-01, Land Easement Practical Expedient for Transition to Topic 842; ASU No. 2018-10, Codification Improvements to Topic 842, Leases; and ASU No. 2018-11, Targeted Improvements (please see additional detail regarding these updates to Topic 842 below). The new standard establishes a right-of-use model (ROU) that requires a lessee to recognize a ROU asset and lease liability on the balance sheet for all leases with a term longer than 12 months. Leases will be classified as finance or operating, with classification affecting the pattern and classification of expense recognition in the Unaudited Condensed Consolidated Statements of Operations.



The new standard was effective for us on January 1, 2019, with early adoption permitted. We adopted the new standard on its effective date. A modified retrospective transition approach is required, applying the new standard to all leases existing at the date of initial application. An entity may choose to use either (1) its effective date or (2) the beginning of the earliest comparative period presented in the financial statements as its date of initial application. We adopted the new standard on January 1, 2019 and used the effective date as our date of initial application. Consequently, financial information will not be updated and the disclosures required under the new standard will not be provided for dates and periods before January 1, 2019.



The new standard provides several optional practical expedients in transition. We elected the ‘package of practical expedients’, which permits us not to reassess, under the new standard, our prior conclusions about lease identification, lease classification and initial direct costs. We did not elect the use-of-hindsight with respect to determining the lease term (i.e., considering the actual outcome and updated expectations of lease renewals, termination option and purchase options).  We also did not elect the use of the practical expedient pertaining to land easements because we do not have any such easements.



The new standard also provides practical expedients for an entity’s ongoing accounting. We elected the short-term lease recognition exemption for all leases that qualify. This means, for those leases that qualify, we will not recognize ROU assets or lease liabilities, and this includes not recognizing ROU assets or lease liabilities for existing short-term leases of those assets in transition. We also elected the practical expedient to not separate lease and non-lease components for our leases.



This standard had a material effect on our Unaudited Condensed Consolidated Balance Sheets, specifically, the most significant effects relate to (1) the recognition of new ROU assets and lease liabilities on our balance sheet for our factories in the Dominican Republic and Puerto Rico and various equipment leases, all currently accounted for as operating leases; and (2) providing significant new disclosures about our leasing activities. Adoption of the standard did not have a material impact on our Unaudited Condensed Consolidated Statements of Cash Flows. We do not expect a significant change in our leasing activities as a result of this standard. Many of our leases contain renewal options, most of which are not included in the measurement of the right-of-use asset as they are not considered reasonably certain of exercise (i.e. we do not currently have a significant economic incentive to exercise these options).



 

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The operating ROU asset and operating lease liabilities as of September 30, 2019 and upon adoption of ASC 842 are as follows:







 

 

 

 

 

 



 

 

 

(Upon ASC 842 Adoption)

 

 



 

September 30,

 

January 1,

 

 

($ in thousands)

 

2019

 

2019

 

Financial Statement Line Item

Assets:

 

 

 

 

 

 

Operating ROU Assets

$

1,781 

$

1,136 

 

Leased assets



 

 

 

 

 

 

Liabilities:

 

 

 

 

 

 

Current

 

 

 

 

 

 

Operating

$

601 

$

626 

 

Other current liabilities

Noncurrent

 

 

 

 

 

 

Operating

 

1,188 

 

544 

 

Long-term lease

Total leased liabilities

$

1,789 

$

1,170 

 

 



Maturity of our operating lease liabilities are as follows:







 

 



 

Operating

($ in thousands)

 

Leases

10/01/2019 through 12/31/2019

$

223 
2020 

 

594 
2021 

 

474 
2022 

 

317 
2023 

 

255 

                                                                           2024

 

78 

Total lease payments

 

1,941 

Less: Interest

 

152 

Present value of lease liabilities

$

1,789 



For the nine months ended September 30, 2019 the weighted average remaining lease term and discount rate were as follows:







 

 

 



 

September 30,

 



 

2019

 

Weighted-average remaining lease term (years)

 

 

 

Operating leases

 

2.3

 



 

 

 

Weighted-average discount rate

 

 

 

Operating leases

 

4.7

%



For the nine months ended September 30, 2019 the supplemental cash flow information is as follows:







 

 



 

September 30,

($ in thousands)

 

2019

Cash paid for amounts included in the measurement of lease liabilities

 

 

Operating cash flows from operating leases

$

244 



 

 

Right-of-use assets obtained in exchange for lease obligations

 

 

Operating leases

$

680 



 

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The breakdown of rent expense for our operating leases for the three and nine months ended September 30, 2019 and 2018, respectively are as follows:







 

 

 

 

 

 

 

 



 

Three Months Ended

 

 

Nine Months Ended

 



 

September 30,

 

 

 

September 30,

 

 

($ in thousands)

 

2019

 

 

 

2019

 

Financial Statement                  Line Item

Operating lease expenses - Manufacturing & Sourcing (1)

$

150 

 

 

$

324 

 

Cost of goods sold

Operating lease expenses (1)

 

102 

 

 

 

149 

 

Operating expenses

Total lease expenses

$

252 

 

 

$

473 

 

 



(1) Includes short-term lease expenses of approximately $32,000 and $82,000 for the three and nine months ended September 30, 2019.  



10.   TAXES



We are subject to tax examinations in various taxing jurisdictions. The earliest exam years open for examination are as follows:







 

 



 

Earliest Exam Year

Taxing Authority Jurisdiction:

 

 

U.S. Federal

 

2015 

Various U.S. States

 

2014 

Puerto Rico (U.S. Territory)

 

2013 

Canada

 

2013 



Our policy is to accrue interest and penalties on any uncertain tax position as a component of income tax expense. No such expenses were recognized during the three and nine months ended September 30, 2019.  We do not believe there will be any material changes in our uncertain tax positions over the next 12 months.



Accounting for uncertainty in income taxes requires financial statement recognition, measurement and disclosure of uncertain tax positions recognized in an enterprise’s financial statements.  Under this guidance, income tax positions must meet a more-likely-than-not recognition threshold at the effective date to be recognized upon the adoption of the standard.  We did not have any unrecognized tax benefits and there was no effect on its financial condition or results of operations.



Our estimated effective tax rate was 20.1% and 10.5%, 20.6%, and 16.2% for the three and nine months ended September 30, 2019 and 2018, respectively.  



11.    EARNINGS PER SHARE



Basic earnings per share (“EPS”) is computed by dividing net income applicable to common shareholders by the weighted average number of common shares outstanding during each period. The diluted earnings per share computation includes common share equivalents, when dilutive.



A reconciliation of the shares used in the basic and diluted income per common share computation for the three and nine months ended September 30, 2019 and 2018 is as follows:







 

 

 

 

 

 

 

 



 

Three Months Ended

 

Nine Months Ended



 

September 30,

 

September 30,

(shares in thousands)

 

2019

 

2018

 

2019

 

2018



 

 

 

 

 

 

 

 

Basic - weighted average shares outstanding

 

7,400 

 

7,418 

 

7,392 

 

7,412 

Dilutive restricted share units

 

 

 

 

Dilutive stock options

 

53 

 

60 

 

47 

 

41 

Diluted - weighted average shares outstanding

 

7,455 

 

7,480 

 

7,443 

 

7,454 

Anti-dilutive securities

 

43 

 

 -

 

75 

 

40 

 

12.   SUPPLEMENTAL CASH FLOW INFORMATION

 

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Supplemental cash flow information for the nine months ended September 30, 2019 and 2018 is as follows:







 

 

 

 

($ in thousands)

 

2019

 

2018



 

 

 

 

Interest paid

$

101 

$

140 



 

 

 

 

Federal, state, and local income taxes paid, net

$

5,360 

$

497 



 

 

 

 

Change in contract receivables, net

$

(2,036)

$

(4,849)



 

 

 

 

Change in contract liabilities, net

$

1,936 

$

4,849 



 

 

 

 

Property, plant, and equipment purchases in accounts payable

$

470 

$

120 

























13. SEGMENT INFORMATION



We have identified three reportable segments: Wholesale, Retail and Military. Wholesale includes sales of footwear and accessories to several classifications of retailers, including sporting goods stores, outdoor specialty stores, online retailers, independent retailers, mass merchants, retail uniform stores, and specialty safety shoe stores. Our Retail business includes direct sales of our products to consumers through our e-commerce websites, our Rocky outlet store, and Lehigh business. Military includes sales to the U.S. Military. The following is a summary of segment results for the Wholesale, Retail, and Military segments for the three and nine months ended September 30, 2019 and 2018.

















 

 

 

 

 

 

 

 

 



 

Three Months Ended

 

 

Nine Months Ended



 

September 30,

 

 

September 30,

($ in thousands)

 

2019

 

2018

 

 

2019

 

2018

NET SALES:

 

 

 

 

 

 

 

 

 

Wholesale

$

47,242 

$

47,001 

 

$

130,260 

$

127,236 

Retail

 

14,490 

 

11,915 

 

 

44,035 

 

36,712 

Military

 

5,447 

 

7,000 

 

 

20,772 

 

21,560 

Total Net Sales

$

67,179 

$

65,916 

 

$

195,067 

$

185,508 



 

 

 

 

 

 

 

 

 

GROSS MARGIN:

 

 

 

 

 

 

 

 

 

Wholesale

$

16,379 

$

15,449 

 

$

44,157 

$

42,492 

Retail

 

6,593 

 

5,344 

 

 

19,371 

 

16,145 

Military

 

2,042 

 

1,607 

 

 

5,906 

 

4,261 

Total Gross Margin

$

25,014 

$

22,400 

 

$

69,434 

$

62,898 















 

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



RESULTS OF OPERATIONS



The following tables set forth, for the periods indicated, information derived from our Unaudited Condensed Consolidated Financial Statements, expressed as a percentage of net sales. The discussion that follows each table should be read in conjunction with our Unaudited Condensed Consolidated Financial Statements as well as our annual report on 10-K for the year ended December 31, 2018.







Three Months Ended September 30, 2019 Compared to Three Months Ended September 30, 2018





 

 

 

 

 

 

 

 

 



 

Three Months Ended

 



 

September 30,

 

($ in thousands)

 

2019

 

2018

 

Inc./ (Dec.)

 

Inc./ (Dec.)

 

NET SALES:

 

 

 

 

 

 

 

 

 

Wholesale

$

47,242 

$

47,001 

$

241 

 

0.5 

%

Retail

 

14,490 

 

11,915 

 

2,575 

 

21.6 

 

Military

 

5,447 

 

7,000 

 

(1,553)

 

(22.2)

 

Total Net Sales

$

67,179 

$

65,916 

$

1,263 

 

1.9 

%



Wholesale sales increased slightly as consumers continued to respond favorably to several recent product introductions across our brand portfolio, which we believe is being fueled by new innovations and enhanced marketing programs that are generating increased awareness and demand in our western, outdoor and commercial military categories.



Retail sales increased primarily due to both a strong growth in our Lehigh business, which was primarily attributed to an expansion in our CustomFit model which continued to add larger national accounts as well as increased the retention rate of our existing customers, and a low double digit increase in our direct to consumer e-commerce business which we believe is attributable to recent investments aimed at increasing traffic and conversion on our web sales.  



Military sales decreased as expected as we recently concluded a multi-year contract with the Department of Defense.







 

 

 

 

 

 

 



 

Three Months Ended

 



 

September 30,

 

($ in thousands)

 

2019

 

2018

 

Inc./ (Dec.)

 

GROSS MARGIN:

 

 

 

 

 

 

 

Wholesale Margin $'s

$

16,379 

$

15,449 

$

930 

 

Margin %

 

34.7 

%

32.9 

%

1.8 

%

Retail Margin $'s

$

6,593 

$

5,344 

$

1,249 

 

Margin %

 

45.5 

%

44.9 

%

0.6 

%

Military Margin $'s

$

2,042 

$

1,607 

$

435 

 

Margin %

 

37.5 

%

23.0 

%

14.5 

%

Total Margin $'s

$

25,014 

$

22,400 

$

2,614 

 

Margin %

 

37.2 

%

34.0 

%

3.2 

%



Wholesale gross margin increased year over year due to stronger initial margins on some newer products, selling less discontinued product and a one-time reimbursement of expenses in the amount of $169,000 associated with the temporary closure of the Puerto Rican manufacturing facility as a result of Hurricane Maria in 2017.



Retail gross margin increased as we saw a strong increase in our e-commerce business which carries higher margins than our Lehigh Branded business.



Military gross margin increased significantly as we continued to see better efficiency at our Puerto Rico facility and a one-time reimbursement of expenses in the amount of $581,000 associated with the temporary closure of the Puerto Rican manufacturing facility as a result of Hurricane Maria in 2017.







 

 

 

 

 

 

 

 

 

 

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Three Months Ended

 



 

September 30,

 

($ in thousands)

 

2019

 

2018

 

Inc./ (Dec.)

 

Inc./ (Dec.)

 

OPERATING EXPENSES:

 

 

 

 

 

 

 

 

 

Operating Expenses

$

18,027 

$

16,791 

$

1,236 

 

7.4 

%

% of Net Sales

 

26.8 

%

25.5 

%

1.3 

%

 

 



The increase in operating expenses was primarily related to the increased investments in our core brands to help initiate growth and expand within our respective markets and variable expenses tied to sales increases in our wholesale and retail channels.







 

 

 

 

 

 

 

 

 



 

Three Months Ended

 



 

September 30,

 

($ in thousands)

 

2019

 

2018

 

Inc./ (Dec.)

 

Inc./ (Dec.)

 

INCOME TAXES:

 

 

 

 

 

 

 

 

 

Income Tax Expense

$

1,414 

$

595 

$

819 

 

137.7 

%

Effective Tax Rate

 

20.1 

%

10.5 

%

9.6 

%

 

 



The effective tax rate increased to 20.1% for the three months ended September 30, 2019 compared to 10.5% in the prior year period. This was due to a reduction made in the third quarter of 2018 related to the one-time transition tax on the deemed repatriation of undistributed foreign earnings as a result of further analysis of the provisions of the Tax Cuts and Jobs Act.



Nine months ended September 30, 2019 Compared to Nine months ended September 30, 2018





 

 

 

 

 

 

 

 

 

 







 

 

 

 

 

 

 

 

 



 

Nine Months Ended

 



 

September 30,

 

($ in thousands)

 

2019

 

2018

 

Inc./ (Dec.)

 

Inc./ (Dec.)

 

NET SALES:

 

 

 

 

 

 

 

 

 

Wholesale

$

130,260 

$

127,236 

$

3,024 

 

2.4 

%

Retail

 

44,035 

 

36,712 

 

7,323 

 

19.9 

 

Military

 

20,772 

 

21,560 

 

(788)

 

(3.7)

 

Total Net Sales

$

195,067 

$

185,508 

$

9,559 

 

5.2 

%



Wholesale sales increased as consumers continued to respond favorably to several recent product introductions across our brand portfolio, which we believe is being fueled by new innovations and enhanced marketing programs that are generating increased awareness and demand in our work, western, outdoor and commercial military categories.



Retail sales increased primarily due to both a strong growth in our Lehigh business, which was primarily attributed to an expansion in our CustomFit model which continued to add larger national accounts as well as increased the retention rate of our existing customers, and a significant increase in our direct to consumer e-commerce business which we believe is attributable to recent investments aimed at increasing traffic and conversions on our web sales.



Military sales decreased as expected as we recently concluded a multi-year contract with the Department of Defense.