What changed in this filing

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Item 1. Financial Statements

2020-08-11 compared with 2020-05-14 · 188 added, 439 removed, 555 unchanged (53% of the section changed)

18 unchanged sentences

Cash surrender value of life insurance

LIABILITIES AND SHAREHOLDERS’

LIABILITIES AND SHAREHOLDERS’ EQUITY

Current liabilities:

11 unchanged sentences

Total liabilities

Shareholders’

Shareholders’ equity:

Common stock, $.01 par value per share;

4 unchanged sentences

Accumulated other comprehensive loss

Total shareholders’

Total liabilities and shareholders’

Total shareholders’ equity

Total liabilities and shareholders’ equity

See accompanying notes to unaudited consolidated financial statements.

3 unchanged sentences

For the three months ended

For the six months ended

For the nine months ended

Cost of sales:

4 unchanged sentences

Total operating expenses

Operating loss

Operating income (loss)

Other income (expense):

6 unchanged sentences

Income tax expense (benefit)

Net loss attributable to common stockholders

Net loss per share –

Weighted average shares outstanding –

Net loss per share –

Weighted average shares outstanding –

Net income (loss)

Net income (loss) attributable to common stockholders

Net income (loss) per share – basic

Weighted average shares outstanding – basic

Net income (loss) per share – diluted

Weighted average shares outstanding – diluted

See accompanying notes to unaudited consolidated financial statements.

AND SUBSIDIARIES

UNAUDITED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

UNAUDITED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

(Amounts in thousands)

For the three months ended

For the six months ended

For the nine months ended

Net income (loss)

Other comprehensive income (loss):

1 unchanged sentence

Other comprehensive gain (loss)

Total comprehensive loss

Total comprehensive income (loss)

See accompanying notes to unaudited consolidated financial statements.

AND SUBSIDIARIES

UNAUDITED CONSOLIDATED STATEMENT OF SHAREHOLDERS’

For the three and six months ended March 31, 2020 and 2019:

UNAUDITED CONSOLIDATED STATEMENT OF SHAREHOLDERS’ EQUITY

For the three and nine months ended June 30, 2020 and 2019:

(Amounts in thousands, except per share data)

comprehensive

Shareholders’

For the Three Months Ended March 31, 2020:

Balance as of December 31, 2019

Shareholders’

For the Three Months Ended June 30, 2020:

Balance as of March 31, 2020

Other comprehensive loss

Stock-based compensation

Restricted stock issuance

Issuance of shares under employee stock purchase plan

Purchase of common stock

Cash dividends paid on common stock ($0.15 per share)

Balance as of March 31, 2020

Balance as of June 30, 2020

comprehensive

Shareholders’

For the Three Months Ended March 31, 2019:

Balance as of December 31, 2018

Other comprehensive gain

Shareholders’

For the Three Months Ended June 30, 2019:

Balance as of March 31, 2019

Other comprehensive loss

Stock-based compensation

Restricted stock cancellation

Restricted stock issuance

Issuance of shares under employee stock purchase plan

Cash dividends paid on common stock ($0.15 per share)

Balance as of March 31, 2019

Balance as of June 30, 2019

See accompanying notes to unaudited consolidated financial statements.

AND SUBSIDIARIES

UNAUDITED CONSOLIDATED STATEMENT OF SHAREHOLDERS’

For the three and six months ended March 31, 2020 and 2019:

UNAUDITED CONSOLIDATED STATEMENT OF SHAREHOLDERS’ EQUITY

For the three and nine months ended June 30, 2020 and 2019:

(Amounts in thousands, except per share data)

comprehensive

Shareholders’

For the six months ended March 31, 2020:

Shareholders’

For the nine months ended June 30, 2020:

Balance as of September 30, 2019

6 unchanged sentences

Cash dividends paid on common stock ($0.30 per share)

Balance as of March 31, 2020

Balance as of June 30, 2020

comprehensive

Shareholders’

For the six months ended March 31, 2019:

Shareholders’

For the nine months ended June 30, 2019:

Balance as of September 30, 2018

Adoption of ASU 2014-09*

Other comprehensive gain

Other comprehensive loss

Exercise of stock options

Stock-based compensation

Restricted stock cancellation

Restricted stock issuance

1 unchanged sentence

Cash dividends paid on common stock ($0.45 per share)

Balance as of March 31, 2019

Balance as of June 30, 2019

* As of October 1, 2018, the Company adopted ASU 2014-09, Revenue from Contracts with Customers (Topic 606)

3 unchanged sentences

(Amounts in thousands)

For the six months ended

Cash flows used in operating activities:

Adjustments to reconcile net loss to net cash used in operating activities:

For the nine months ended

Operating activities

Adjustments to reconcile net loss to net cash provided by (used in) operating activities:

Amortization of intangibles

10 unchanged sentences

Decrease in life insurance receivable

Decrease in inventories

Decrease (increase) in inventories

Increase in refundable income taxes

Increase in operating right-of-use assets

Increase in other assets

Decrease (increase) in other assets

Decrease in investment in lease

Decrease (increase) in long-term receivable

Decrease in accounts payable and accrued expenses

(Decrease) increase in accounts payable and accrued expenses

Increase in operating lease liabilities

Increase in deferred revenue

Increase (decrease) in deferred revenue

Increase (decrease) in pension and retirement plans liabilities

1 unchanged sentence

(Decrease) increase in other long-term liabilities

Net cash used in operating activities

Cash flows used in investing activities:

Net cash provided by (used in) operating activities

Investing activities

Life insurance premiums paid

1 unchanged sentence

Net cash used in investing activities

Cash flows used in financing activities:

Financing activities

Dividends paid

5 unchanged sentences

Proceeds from issuance of shares under equity compensation plans

Net cash used in financing activities

Net cash provided by (used in) financing activities

Effects of exchange rate on cash

Net decrease in cash and cash equivalents

Net increase (decrease) in cash and cash equivalents

Cash and cash equivalents beginning of period

4 unchanged sentences

Supplementary non-cash financing and investing activities:

Obtaining a right-of-use asset in exchange for a lease liability

Non-cash purchases of property and equipment

2 unchanged sentences

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE AND SIX MONTHS ENDED MARCH 31, 2020 AND 2019

FOR THE THREE AND NINE MONTHS ENDED JUNE 30, 2020 AND 2019

Organization and Business

("CSPi" or "CSPI" or "the Company" or "we" or "our") was incorporated in 1968 and is based in Lowell, Massachusetts.

("CSPi"

or "CSPI"

or "the Company"

or "we"

or "our") was incorporated in 1968 and is based in Lowell, Massachusetts.

CSPi and its subsidiaries develop and market IT integration solutions, advanced security products, managed IT services, purpose built network adapters, and high-performance cluster computer systems to meet the diverse requirements of its commercial and defense customers worldwide.

The Company operates in two segments, its Technology Solutions (“TS”) segment and High Performance Products (“HPP”) segment.

Basis of Presentation

2 unchanged sentences

Certain information and footnote disclosures normally included in the annual consolidated financial statements, which are prepared in accordance with accounting principles generally accepted in the United States, have been omitted.

Accordingly, the Company believes that although the disclosures are adequate to make the information presented not misleading, the unaudited consolidated financial statements should be read in conjunction with the footnotes contained in the Company’s Annual Report on Form 10‑K for the fiscal year ended September 30, 2019.

Use of Estimates

11 unchanged sentences

The Company also elected the practical expedient as a lessee to not separate lease and non-lease components for operating leases.

The statement of operations for three and six months ended March 31, 2020 was not materially affected.

However, there was a material impact on the Company’s consolidated balance sheet as of March 31, 2020 due to the recognition of right-of-use assets and lease liabilities for operating leases, which is shown in the following table:

The statement of operations for three and nine months ended June 30, 2020 was not materially affected.

However, there was a material impact on the Company’s consolidated balance sheet as of June 30, 2020 due to the recognition of right-of-use assets and lease liabilities for operating leases, which is shown in the following table:

September 30, 2019

5 unchanged sentences

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 allow a reclassification from accumulated other comprehensive income (loss) (“AOCI”) to retained earnings for stranded tax effects resulting from the change in the U.S.

federal corporate income tax rate on the gross deferred tax amounts at the date of enactment of the Tax Cuts and Jobs Act of 2017 (the “2017 Tax Act”).

The guidance is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years.

9 unchanged sentences

Beginning October 1, 2019, the Company adopted the ASU and it did not have a material impact on our consolidated financial statements.

New accounting standards not adopted as of March 31, 2020

New accounting standards not adopted as of June 30, 2020

In June 2016, the FASB issued ASU 2016-13, Financial Instruments-Credit Losses (Topic 326) , an amendment of the FASB Accounting Standards Codification.

42 unchanged sentences

Financing revenue pertaining to the portion of an arrangement containing a lease is recognized in accordance with ASC 842.

Financing revenue related to the lease is recorded in revenue as equipment leasing is part of the Company’s operations.

Third-party service contracts are evaluated to determine whether such service revenue should be recorded as gross or net sales and whether over time or at point in time.

1 unchanged sentence

HPP segment revenue is derived from the sale of integrated hardware and software, maintenance, and other services through the Multicomputer and Myricom product lines.

Myricom revenue is derived from the sale of products, which are comprised of both hardware and embedded software which is essential to the products’

functionality, and post contract maintenance and support.

Myricom revenue is derived from the sale of products, which are comprised of both hardware and embedded software which is essential to the products’ functionality, and post contract maintenance and support.

Post contract maintenance and support is considered immaterial in the context of the contract and therefore is not a separate performance obligation.

1 unchanged sentence

Technology Solutions Segment

For the three months ended March 31,

For the three months ended June 30,

(Amounts in thousands)

Technology Solutions Segment

For the three months ended March 31,

For the three months ended June 30,

(Amounts in thousands)

Technology Solutions Segment

For the six months ended March 31,

For the nine months ended June 30,

(Amounts in thousands)

Technology Solutions Segment

For the six months ended March 31,

For the nine months ended June 30,

(Amounts in thousands)

2 unchanged sentences

The input method using labor hours expended relative to the total expected hours is used to recognize revenue for professional services.

Only the hours that depict the Company’s performance toward satisfying a performance obligation are used for progress.

An estimate for professional services is made at the beginning of each contract based on prior experience and monitored throughout the services.

7 unchanged sentences

When the Company has the right to bill a customer, accounts receivable is recorded as an unconditional right exists.

Current contract assets were $1.4 million and $0.6 million as of March 31, 2020 and September 30, 2019, respectively.

Current contract assets were $1.6 million and $0.6 million as of June 30, 2020 and September 30, 2019, respectively.

The current portion is recorded in other current assets on the consolidated balance sheets.

There were no non-current contract assets as of March 31, 2020 and September 30, 2019.

There were no non-current contract assets as of June 30, 2020 and September 30, 2019.

The difference in the balances is due to regular timing differences between when work is performed and having an unconditional right to payment.

Contract liabilities arise when payment is received before the Company transfers a good or service to the customer.

Current contract liabilities were $1.4 million and $0.7 million as of March 31, 2020 and September 30, 2019, respectively.

Current contract liabilities were $1.3 million and $0.7 million as of June 30, 2020 and September 30, 2019, respectively.

The current portion of contract liabilities is recorded in deferred revenue on the consolidated balance sheets.

The long-term portion of contract liabilities were $0.2 million and $0.3 million as of March 31, 2020 and September 30, 2019, respectively.

The long-term portion of contract liabilities were $0.2 million and $0.3 million as of June 30, 2020 and September 30, 2019, respectively.

These non-current liabilities are recorded in other noncurrent liabilities.

Revenue recognized for the three and six months ended March 31, 2020 that was included in contract liabilities as of the beginning of the period was insignificant and $0.3 million, respectively.

Revenue recognized for the three and nine months ended June 30, 2020 that was included in contract liabilities as of the beginning of the period was $0.1 million and $0.4 million, respectively.

Contract Costs

1 unchanged sentence

For a period greater than one year, incremental contract costs are capitalized if the Company expects to recover these costs.

These costs are only capitalized if the contract is obtained.

The costs are amortized over the contract term and expected renewal periods.

1 unchanged sentence

Incremental costs are related to commissions in the TS portion of the business.

Current capitalized contract costs are within the account other current assets on the consolidated balance sheets as of March 31, 2020 and September 30, 2019.

The portion of current capitalized costs was $122 thousand and $85 thousand as of March 31, 2020 and September 30, 2019, respectively.

Current capitalized contract costs are within the other current assets on the consolidated balance sheets as of June 30, 2020 and September 30, 2019.

The portion of current capitalized costs were $82 thousand and $85 thousand as of June 30, 2020 and September 30, 2019, respectively.

There are no non-current capitalized costs on the consolidated balance sheets as these commissions are paid annually even when the contract extends beyond a one-year period.

The amount of incremental costs amortized for the three and six months ended March 31, 2020 was $84 thousand and $162 thousand, respectively.

The amount of incremental costs amortized for the three and six months ended March 31, 2019 was $56 thousand and $108 thousand, respectively.

The amount of incremental costs amortized for the three and nine months ended June 30, 2020 were $81 thousand and $243 thousand, respectively.

The amount of incremental costs amortized for the three and nine months ended June 30, 2019 were $66 thousand and $174 thousand, respectively.

This is recorded in selling, general, and administrative expenses.

There was no impairment related to incremental costs capitalized during the three and six months ended March 31, 2020.

There was no impairment related to incremental costs capitalized during the three and nine months ended June 30, 2020.

Costs to fulfill a contract are capitalized when the costs are related to a contract or anticipated contract, generate or enhance resources that will be used in satisfying performance obligations in the future, and costs are recoverable.

Costs to fulfill a contract are related to the TS portion of the business and involve activities performed before managed services can be completed.

Current capitalized fulfillment costs are in the account other current assets and noncurrent costs are in other assets on the consolidated balance sheets.

The portion of current capitalized costs was $13 thousand and $47 thousand as of March 31, 2020 and September 30, 2019, respectively.

The portion of noncurrent capitalized costs was $28 thousand as of March 31, 2020 and there were not any as of September 30, 2019.

The amount of fulfillment costs amortized for three and six months ended March 31, 2020 was $6 thousand and $3 thousand, respectively.

The amount of fulfillment costs amortized for three and six months ended March 31, 2019 was $3 thousand and $6 thousand, respectively.

This is recorded in cost of sales.

Current capitalized fulfillment costs are in the other current assets and noncurrent costs are in other assets on the consolidated balance sheets.

The portion of current capitalized costs were $13 thousand and $47 thousand as of June 30, 2020 and September 30, 2019, respectively.

The portion of noncurrent capitalized costs were $25 thousand as of June 30, 2020 and there were not any as of September 30, 2019.

The amount of fulfillment costs amortized for three and nine months ended June 30, 2020 were $3 thousand and $9 thousand, respectively.

The amount of fulfillment costs amortized for three and nine months ended June 30, 2019 were $1 thousand and $9 thousand, respectively, and recorded in cost of sales.

There was no impairment related to fulfillment costs capitalized.

2 unchanged sentences

Payment terms are typically 30 days to pay in full except in Europe where it could be up to 90 days.

Most of the Company’s contracts are less than one year.

As a practical expedient, the Company has elected not to adjust the amount of consideration for effects of a significant financing component when it is anticipated the promised good or service will be transferred and the subsequent payment will be one year or less.

2 unchanged sentences

The Company elected to use the optional exemption to not disclose the aggregate amount of the transaction price allocated to performance obligations that have an original expected duration of one year or less.

This is due to a low amount of performance obligations less than one year being unsatisfied at each period end.

This is due to a low amount of performance obligations, which are less than one year from being unsatisfied at each period end.

Most of these contracts are related to product sales.

The Company has certain contracts that have an original term of more than one year.

The royalty agreement is longer than one year and managed service contracts are generally longer than one year.

For these contracts the aggregate amount of the transaction price allocated to the performance obligations that are unsatisfied or partially unsatisfied as of March 31, 2020 is mainly related to managed service contracts and is set forth in the table below:

The royalty agreement is longer than one year, but not included in the table below as the royalties are sales-based.

Managed service contracts are generally longer than one year.

For these contracts the aggregate amount of the transaction price allocated to the performance obligations that are unsatisfied or partially unsatisfied as of June 30, 2020 is set forth in the table below:

(Amounts in thousands)

4 unchanged sentences

We are required to present earnings per share, or EPS, utilizing the two class method because we had outstanding, non-vested share-based payment awards that contain non-forfeitable rights to dividends or dividend equivalents, which are considered participating securities.

Basic and diluted earnings per share computations for the Company’s reported net loss attributable to common stockholders are as follows:

For the three months ended

For the six months ended

For the nine months ended

(Amounts in thousands except per share data)

Net income (loss)

net income attributable to nonvested common stock

Net loss attributable to common stockholders

Weighted average total shares outstanding –

weighted average non–vested shares outstanding

Weighted average number of common shares outstanding –

Potential common shares from non–vested stock awards and the assumed exercise of stock options

Weighted average common shares outstanding –

Net loss per share –

Non-vested restricted stock awards of 204,000 and 197,000 shares were excluded from the diluted loss per share calculation for the three and six months ended March 31, 2020, respectively.

Non-vested restricted stock awards of 184,000 and 167,000 shares were excluded from the diluted loss per share calculation for the three and six months ended March 31, 2019, respectively.

This is because there was a net loss for these periods and their inclusion would have been anti-dilutive.

Net income (loss) attributable to common stockholders

Weighted average total shares outstanding – basic

weighted average non–vested shares outstanding

Weighted average number of common shares outstanding – basic

Potential common shares from non–vested stock awards and the assumed exercise of stock options

Weighted average common shares outstanding – diluted

Net income (loss) per share – basic

Net income (loss) per share – diluted

Non-vested restricted stock awards of 205,000 and 200,000 shares were excluded from the diluted loss per share calculation for the three and nine months ended June 30, 2020, respectively.

Non-vested restricted stock awards of 176,000 shares were excluded from the diluted loss per share calculation for the nine months ended June 30, 2019.

These awards were excluded because there was a net loss for these periods and their inclusion would have been anti-dilutive.

Accounts and Long-Term Receivable

1 unchanged sentence

This financing is separate from agreements with a leasing component, see Note 8 for financing through leases.

These receivables are included in Accounts Receivable and Long-Term Receivable in the amount of $1.9 million and $4.9 million as of March 31, 2020.

These receivables are included in Accounts Receivable and Long-Term Receivable in the amount of $2.3 million and $5.0 million as of June 30, 2020.

These receivables are included in Accounts Receivable and Long-Term Receivable in the amount of $2.1 million and $5.0 million as of September 30, 2019, respectively.

The receivables with a payment term exceeding one year carry a weighted interest rate of 6.9%, which reflects the approximate interest rate consistent with a separate financing transaction with the customer at the inception of the agreement.

The receivables with a payment term exceeding one year carry an average weighted interest rate of 6.5%, which reflects the approximate interest rate consistent with a separate financing transaction with the customer at the inception of the agreement.

There is not an allowance for credit losses nor impairments for accounts and long-term receivables with a contractual maturity of over one year.

All accounts have no past amounts due as of March 31, 2020 or September 30, 2019.

There was no activity in the allowance for credit losses of these receivables for the three and six months ended March 31, 2020 and March 31, 2019, respectively.

All accounts have no past amounts due as of June 30, 2020 or September 30, 2019.

There was no activity in the allowance for credit losses of these receivables for the nine months ended June 30, 2020 and June 30, 2019, respectively.

All these agreements are looked at as one portfolio in determining credit losses.

2 unchanged sentences

The unearned income represents a rate similar to market at the inception of the agreement.

The amount of interest income earned from this type of agreement for the three and six months ended March 31, 2020 was $114 thousand and $230 thousand, respectively.

The amount of interest income earned from this type of agreement for the three and six months ended March 31, 2019 was $1 thousand and $1 thousand, respectively.

The amount of interest income earned from sales whose payment terms exceed one year for the three and nine months ended June 30, 2020 was $120 thousand and $349 thousand, respectively.

The amount of interest income earned from this type of agreement for the three and nine months ended June 30, 2019 was $11 thousand and $12 thousand, respectively.

Interest income from these agreements is recorded in Other income, net on the Consolidated Statements of Operations.

29 unchanged sentences

None of our lease arrangements contain residual value guarantees, restrictions, or covenants.

None of the Company’s current leases are with related parties.

There are no lease arrangements that we have entered into as of March 31, 2020 that have not yet commenced.

None of the Company’s current leases are with related parties.

The office lease in Lowell, Massachusetts was renewed through February 2022.

Additionally, the office lease in Deerfield Beach, FL was renewed through June 2025.

The right-of-use asset and lease liability was adjusted for the Lowell lease.

The Deerfield Beach lease renewal period was included in the right-of-use asset and lease liability upon adoption of ASC 842 on October 1, 2019 because it was reasonably certain this renewal period would be exercised by the Company.

There are no lease arrangements that we have entered into as of June 30, 2020 that have not yet commenced.

Operating leases

20 unchanged sentences

The Company as a lessor does not have operating leases.

All the Company’s sublease agreements are bundled agreements containing managed services, software, and other services.

Company’s sublease agreements are bundled agreements containing managed services, software, and other services.

The fixed payments under bundled agreements are allocated based on the relative standalone selling prices of the lease and non-lease deliverables are consistent with ASC 606.

The allocation of the fixed payments may be calculated using a budgeted cost-plus margin approach if there are other services in addition to managed services.

Due to the complex nature

of these contracts, there is significant judgment in allocating the fixed payments.

Due to the complex nature of these contracts, there is significant judgment in allocating the fixed payments.

There is no variable consideration in these agreements.

2 unchanged sentences

The leases typically do not have any residual value to the Company.

In the Company’s sublessor agreements, the payments allocated to the lease component cannot be terminated.

There were no new agreements where the Company was a lessor for the six months ended March 31, 2020.

In the Company’s sublessor agreements, the payments allocated to the lease component cannot be terminated.

There were no new agreements where the Company was a lessor for the nine months ended June 30, 2020.

Information related to both lessee and lessor

The following table specifies where the right-of-use assets and lease liabilities are within the Consolidated Balance Sheets as of March 31, 2020 and October 1, 2019 (adoption date):

The following table specifies where the right-of-use assets and lease liabilities are within the Consolidated Balance Sheets as of June 30, 2020 and October 1, 2019 (adoption date):

Consolidated Balance Sheets Location

March 31, 2020

June 30, 2020

October 1, 2019

18 unchanged sentences

Total finance lease liabilities

The components of lease costs for three and six months ended March 31, 2020 are as follows:

The components of lease costs for three and nine months ended June 30, 2020 are as follows:

Three months ended

Six months ended

Nine months ended

Consolidated Statements of Operations Location

March 31, 2020

June 30, 2020

(Amounts in thousands)

11 unchanged sentences

Total lease costs, net of sublease interest income

Future lease payments under our non-cancellable leases and payments to be received as a sublessor as of March 31, 2020 are in the following table:

Future lease payments under our non-cancellable leases and payments to be received as a sublessor as of June 30, 2020 are in the following table:

Operating lease

5 unchanged sentences

Less Imputed interest

Supplemental cash flow information related to leases for the six months ended March 31, 2020 is below:

Supplemental cash flow information related to leases for the nine months ended June 30, 2020 is below:

Three months ended

Six months ended

March 31, 2020

Nine months ended

June 30, 2020

(Amounts in thousands)

8 unchanged sentences

Cash received from subleases

Information related to weighted averages of lease term and discount rate as of March 31, 2020 is below:

Information as a lessee related to weighted averages of lease term and discount rate as of June 30, 2020 is below:

Weighted-average remaining lease term (years)

March 31, 2020

June 30, 2020

Operating leases

1 unchanged sentence

Weighted-average discount rate

March 31, 2020

June 30, 2020

Operating leases

14 unchanged sentences

Minimum lease payments excluding interest

A summary of components for the Company’s investment in lease, net is as follows:

September 30, 2019

14 unchanged sentences

In September 2019, the Company borrowed $1.0 million with a 5.0% rate of interest related to a multi-year agreement with a customer.

In October 2019, the Company borrowed $2.0 million with a 5.1% rate of interest related to a multi-year agreement with a customer.

See Note 6 for the disclosure related to the receivables.

Interest expense related to the notes for the three and six months ended March 31, 2020 was $31 thousand and $63 thousand, respectively.

There was no interest expense related to a note for three and six months ended March 31, 2019 as there were no outstanding notes payable as of this date.

In October 2019, the Company borrowed $2.0 million with a 5.1% rate of interest related to a multi-year agreement with a customer.

On April 17, 2020, CSP, Inc.

and Modcomp, Inc., its wholly owned subsidiary (collectively, the “Borrowers”) each received a loan in the form of a promissory note from Paragon Bank (“Lender”) in the amounts of $827,000 and $1,353,600, respectively (the “SBA Loans”) under the Paycheck Protection Program, which was established under the recently enacted Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) administered by the U.S.

Small Business Administration (“SBA”).

The SBA Loans have a two-year term and carry an annual fixed interest rate of 1%.

The SBA Loans provide for customary events of default, including, among others, those relating to failure to make payment, bankruptcy, materially false or misleading representations to Lender or SBA, and adverse changes in the financial condition or business operations that Lender believes may materially affect Borrowers’ ability to pay the SBA Loans.

The Borrowers did not provide any collateral or guarantees for the SBA Loans and the Borrowers may prepay the principal of the SBA Loans at any time without penalty.

The Borrowers may apply to the Lender for forgiveness of an amount due on the SBA Loans in an amount equal to the sum of certain costs during the 8 or 24 week period beginning on the date of the first disbursement of the SBA Loans.

The Company elected to use the 24 week period.

However, based on guidance from the SBA the borrowers may submit a loan forgiveness application any time on or before the maturity date of the loan – including before the end of the covered period – if the borrower has used all of the loan proceeds for which the borrower is requesting forgiveness, which is our intention.

The amount of SBA Loans forgiveness shall be calculated in accordance with the requirements of the Paycheck Protection Program, including provisions of Section 1106 of the CARES Act.

We intend to use the SBA Loans proceeds in accordance with the applicable SBA guidelines.

However, we can provide no assurances that we will be eligible for forgiveness of the SBA Loans, in whole or in part.

Interest expense related to the notes for the three and nine months ended June 30, 2020 was $36 thousand and $99 thousand, respectively.

There was no interest expense related to a note for three and nine months ended June 30, 2019 as there were no outstanding notes payable as of this date.

Below are details of the notes payable.

March 31, 2020

June 30, 2020

September 30, 2019

4 unchanged sentences

Notes payable - noncurrent portion

As of March 31, 2020 and September 30, 2019, the Company maintained an inventory line of credit with a borrowing capacity of $20.0 million that may be used by the TS and HPP segment in the U.S.

As of June 30, 2020 and September 30, 2019, the Company maintained an inventory line of credit with a borrowing capacity of $15.0 and $20.0 million, respectively.

It may be used by the TS and HPP segment in the U.S.

to purchase inventory from approved vendors with payment terms which exceed those offered by the vendors.

2 unchanged sentences

(1) a minimum current ratio of 1.2, (2) tangible net worth of no less than $4.0 million, and (3) a maximum ratio of total liabilities to total net worth of less than 5.0:1.

As of March 31, 2020 and September 30, 2019, Company borrowings, all from the TS segment, under the inventory line of credit were $1.6 million and $2.5 million, respectively, and the Company was in compliance with all covenants.

This line of credit also includes availability of a limited cash withdrawal of up to $1.5 million.

As of March 31, 2020 and September 30, 2019 there were no cash withdrawals outstanding.

As of June 30, 2020 and September 30, 2019, Company borrowings, all from the TS segment, under the inventory line of credit were $1.1 million and $2.5 million, respectively, and the Company was in compliance with all covenants.

As of June 30, 2020 and September 30, 2019 this line of credit also includes availability of a limited cash

withdrawal of up to $1.0 million and $1.5 million, respectively.

As of June 30, 2020 and September 30, 2019 there were no cash withdrawals outstanding.

The amount of the inventory line of credit and cash withdrawal was lowered in June of 2020 primarily due to lack of need for full use of the line.

Pension and Retirement Plans

The Company’s operations have defined benefit and defined contribution plans in the U.K.

and in the U.S.

3 unchanged sentences

The Company also provides for officer death benefits through post-retirement plans to certain officers of the Company in the U.S.

All the Company’s defined benefit plans are closed to newly hired employees and have been since September 2009.

The Company funds its pension plans in amounts sufficient to meet the requirements set forth in applicable employee benefits laws and local tax laws.

Liabilities for amounts in excess of these funding levels are accrued and reported in the consolidated balance sheets.

The Company’s pension plan in the U.K.

is the only plan with plan assets.

2 unchanged sentences

plans are as follows:

Three Months Ended March 31,

Three Months Ended June 30,

(Amounts in thousands)

8 unchanged sentences

Net periodic cost

Six Months Ended March 31,

Nine Months Ended June 30,

(Amounts in thousands)

11 unchanged sentences

Fair Values as of

March 31, 2020

June 30, 2020

September 30, 2019

5 unchanged sentences

Total plan assets

Income tax expense was $1.2 million for the three months ended March 31, 2020 compared to an income tax benefit of $142 thousand in the same period of 2019.

The income tax expense for the six months ended March 31, 2020 was $1.1 million and the income tax benefit for the same period of the prior year was $140 thousand.

The current quarter and year to date income tax expense reflects the recording of a valuation allowance against deferred tax assets during the quarter, as the Company has concluded that it is more likely than not that a portion of its deferred tax assets will not be realized in light of recent results, the novel coronavirus (“COVID-19”) pandemic, and the resulting economic fallout.

The current quarter and year to date income tax expense is net of federal tax benefits anticipated from the carryback of current and prior period federal net operating losses, as allowed under the recently enacted Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”), to recover federal taxes paid in prior periods.

An income tax expense of $10 thousand was recorded for the three months ended June 30, 2020 compared to an income tax benefit of $326 thousand in the same period of 2019.

The income tax expense for the nine months ended June 30, 2020 was $1.1 million and the income tax benefit for the same period of the prior year was $466 thousand.

The year to date income tax expense reflects the recording of a valuation allowance against deferred tax assets during the second quarter, as the Company has concluded that it is more likely than not that a portion of its deferred tax assets will not be realized in light of recent results, the COVID-19 pandemic, and the resulting economic fallout.

The year to date income tax expense is net of federal tax benefits anticipated from the carryback of current and prior period federal net operating losses, as allowed under the recently enacted CARES Act, to recover federal taxes paid in prior periods.

The 2019 year to date income tax benefit reflected the benefit of prior year losses.

12 unchanged sentences

The plan does not expire.

Pursuant to the aforementioned authorization, the Company repurchased 6 thousand shares of its outstanding common stock on the open market during the six months ended March 31, 2020.

As of March 31, 2020, approximately 195 thousand shares remain authorized to repurchase under the stock repurchase program.

On February 12, 2020, the Company’s board of directors declared a cash dividend of $0.15 per share which was paid on March 13, 2020 to shareholders of record as of February 28, 2020, the record date.

On December 10, 2019, the Company’s board of directors declared a cash dividend of $0.15 per share which was paid on January 15, 2020 to shareholders of record as of December 31, 2019, the record date.

Pursuant to the aforementioned authorization, the Company repurchased 400 and 6 thousand shares of its outstanding common stock on the open market during the three and nine months ended June 30, 2020.

As of June 30, 2020, approximately 194 thousand shares remain authorized to repurchase under the stock repurchase program.

As of May 14, 2020, we have suspended our stock repurchase program until further economic clarity.

As of May 14, 2020, the Company has suspended dividends until further economic clarity.

Fair Value of Financial Assets and Liabilities

4 unchanged sentences

inputs other than quoted prices included in Level 1 that are observable for the asset or liability either directly or indirectly

unobservable inputs (e.g., a reporting entity’s or other entity’s own data)

The Company had no assets or liabilities measured at fair value on a recurring (except our pension plan assets and whole life insurance policies, see Note 10) or non-recurring basis as of March 31, 2020 or September 30, 2019.

unobservable inputs (e.g., a reporting entity’s or other entity’s own data)

To estimate fair value of the financial instruments below, quoted market prices are used when available and classified within Level 1.

1 unchanged sentence

If the preceding information is unavailable, we use internally generated data to estimate fair value which is classified within Level 3.

As of March 31, 2020

As of June 30, 2020

As of September 30, 2019

14 unchanged sentences

Fair value was estimated based on quoted market prices.

Fair value of accounts receivable with an original maturity of one year or less and accounts payable was not materially different from their carrying values at March 31, 2020 and September 30, 2019.

Fair value of accounts receivable with an original maturity of one year or less and accounts payable was not materially different from their carrying values at June 30, 2020 and September 30, 2019.

Segment Information

The following tables present certain operating segment information for the three and six months ended March 31, 2020 and 2019.

The following tables present certain operating segment information for the three and nine months ended June 30, 2020 and 2019.

Technology Solutions Segment

For the three months ended March 31,

For the three months ended June 30,

(Amounts in thousands)

6 unchanged sentences

Technology Solutions Segment

For the six months ended March 31,

For the nine months ended June 30,

(Amounts in thousands)

8 unchanged sentences

All intercompany transactions have been eliminated.

The following table lists customers from which the Company derived revenues in excess of 10% of total revenues for the three and six months ended March 31, 2020 and 2019.

For the three months ended March 31,

For the six months ended March 31,

The following table lists customers from which the Company derived revenues in excess of 10% of total revenues for the three and nine months ended June 30, 2020 and 2019.

For the three months ended June 30,

For the nine months ended June 30,

(Dollar amounts in millions)

Customer B totaled approximately $5.6 million, or 31% and approximately $7.4 million, or 36% of total consolidated accounts receivable and long-term receivable as of March 31, 2020 and September 30, 2019, respectively.

There were no other customers that were 10% or more of total consolidated accounts receivable and long-term receivable as of March 31, 2020.

We believe that the Company is not exposed to any significant credit risk with respect to the accounts receivable with any customers as of March 31, 2020.

Subsequent Events

The Company recognizes in the consolidated financial statements the effects of all subsequent events that provide additional evidence about conditions that existed at the date of the statement of financial position, including the estimates inherent in the process of preparing financial statements.

The Company has evaluated subsequent events through the date of this filing.

On April 17, 2020, CSP, Inc.

Small Business Administration (“SBA”).

The SBA Loans have a two-year term and carry an annual fixed interest rate of 1%.

The Borrowers did not provide any collateral or guarantees for the SBA Loans and the Borrowers may prepay the principal of the SBA Loans at any time without penalty.

The Borrowers may apply to the Lender for forgiveness of an amount due on the SBA Loans in an amount equal to the sum of certain costs during the 8-week period beginning on the date of the first disbursement of the SBA Loans.

The amount of SBA Loans forgiveness shall be calculated in accordance with the requirements of the Paycheck Protection Program, including provisions of Section 1106 of the CARES Act.

We intend to use the PPP Loan proceeds in accordance with the applicable SBA guidelines ;

however, we can provide no assurances that we will be eligible for forgiveness of the PPP Loan, in whole or in part.

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

Forward-Looking Statements

The discussion below contains certain forward-looking statements including, but not limited to, among others, statements concerning future revenues and future business plans.

Forward-looking statements include statements in which we use words such as “expect”, “believe”, “anticipate”, “intend”, “project”, “estimate”, “should”, “could”, “may”, “plan”, “potential”, “predict”, “project”, “will”, “would”

and similar expressions.

Although we believe the expectations reflected in such forward-looking statements are based on reasonable assumptions, the forward-looking statements are subject to significant risks and uncertainties, and thus we cannot assure you that these expectations will prove to have been correct, and actual results may vary from those contained in such forward-looking statements.

We discuss many of these risks and uncertainties in Item 1A under the heading “Risk Factors”

in our Annual Report on Form 10‑K for the fiscal year ended September 30, 2019, and in this Form 10-Q.

Factors that may cause such variances include, but are not limited to, our dependence on a small number of customers for a significant portion of our revenue, our high dependence on contracts with the U.S.

federal government, our reliance in certain circumstances on single sources for supply of key product components, intense competition in the market segments in which we operate, the recent changes in the U.S.

Tax laws, and the impact of the novel coronavirus (COVID-19) on our business, results of operations and financial condition.

Given these uncertainties, you should not place undue reliance on these forward-looking statements.

Also, forward-looking statements represent our estimates and assumptions only as of the date of this document.

Except as required by law, we do not undertake any obligation to publicly update or revise any forward-looking statements contained in this report, whether as a result of new information, future events or otherwise.

This management’s discussion and analysis of financial condition and results of operations should be read in conjunction with our financial statements and the related notes included elsewhere in this filing and in our Annual Report on Form 10‑K for the fiscal year ended September 30, 2019.

Critical Accounting Policies

Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States.

The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses.

On an on-going basis, we evaluate our estimates, including those related to uncollectible receivables, inventory valuation, impairment assessment of intangibles, income taxes, deferred compensation and retirement plans, as well as estimated selling prices used for revenue recognition and contingencies.

We base our estimates on historical performance and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources.

Actual results may differ from these estimates under different assumptions or conditions.

A description of our critical accounting policies is contained in our Annual Report on Form 10‑K for the fiscal year ended September 30, 2019 in the “Critical Accounting Policies”

section contained in Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations.

Due to adoption of ASU No.

2016-02, Leases Customers (ASC 842) , our lease accounting policy has changed effective October 1, 2019 and is included in Note 8 of our unaudited consolidated financial statements included in Item 1 to the Quarterly Report on Form 10‑Q with effects of initial adoption in Note 3.

Observations on effects of novel coronavirus (COVID-19)

On March 11, 2020, the World Health Organization characterized the novel coronavirus (COVID-19) outbreak as a pandemic.

The outbreak has adversely affected the economies of the U.S., U.K., and other international markets and economies in which we operate.

As a result of the World Health Organization characterizing the COVID-19 outbreak as a pandemic, national, state, and local governments have taken actions such as declaring a state of emergency, implementing social distancing guidelines, and shutting down certain businesses which are not considered essential in part or entirely.

The Company has complied with such actions causing most employees to work remotely in all locations.

Through the three and six months ended March 31, 2020 we did not experience a significant impact of coronavirus, as the actions of the national, state and local governments did not take place until the end of March 2020.

Since the quarter ended March 31, 2020, the Company has seen significantly lower sales volume including both product and services.

Due to the uncertainty of the pandemic, including but not limited to, regulatory measures or voluntary actions that may be put in place

to limit the spread of COVID-19 and the duration of such measures, the impact of any further spread of COVID-19, or the resurgence of COVID-19 in a given geographic region after it has hit its “peak,”

at this time, we cannot make a reasonable estimate on how this will affect our business.

Please refer to Item 1A Risk Factors located in Part II Other Information in this Quarterly Report on Form 10-Q for discussion of the risks related to COVID-19 on our business, financial condition, and results of operations.

Results of Operations

Overview of the three months ended March 31, 2020

Our revenues decreased by approximately $0.3 million, or 2%, to $16.1 million for the three months ended March 31, 2020 as compared to $16.4 million for the three months ended March 31, 2019.

The decrease in revenue is the result of a decrease of $0.1 million in our TS segment combined with a $0.2 million decrease in our HPP segment.

Our gross margin percentage increased to 28% of revenues for the three months ended March 31, 2020 from 23% for the three months ended March 31, 2019.

The increase is attributed to an increase in service revenue in both TS and HPP segments.

Operating loss decreased by approximately $0.7 million from a $0.8 million operating loss for the three months ended March 31, 2019 to an operating loss of $0.1 million for the three months ended March 31, 2020, primarily as a result of increased gross margin percentage as a percentage of revenue.

Our provision for income tax was a tax expense of $1.2 million for the three months ended March 31, 2020 as compared to a tax benefit of $142 thousand for the three months ended March 31, 2019.

The effective tax expense rate for the current quarter is 268%.

The rate is high due to the recording of a valuation allowance against deferred tax assets during the quarter, as the Company has concluded that it is more likely than not that a portion of its deferred tax assets will not be realized in light of recent results, the COVID-19 pandemic, and the resulting economic fallout.

The current quarter tax expense is net of federal tax benefits (“federal tax benefits”) anticipated from the carryback of current and prior period federal net operating losses, as allowed under the recently enacted Coronavirus Aid, Relief, and Economic Security Act (CARES Act), to recover federal taxes paid in prior periods.

The recording of a valuation allowance against deferred tax assets is a non-cash expense and the federal tax benefits will result in a cash refund.

The following table details our results of operations in dollars and as a percentage of sales for the three months ended:

March 31, 2020

March 31, 2019

(Dollar amounts in thousands)

Costs and expenses:

Cost of sales

Engineering and development

Selling, general and administrative

Total costs and expenses

Operating loss

Income (loss) before income taxes

Income tax expense (benefit)

Our revenues decreased by approximately $0.3 million to $16.1 million for the three months ended March 31, 2020 as compared to $16.4 million of revenues for the three months ended March 31, 2019.

TS segment revenues decreased by $0.1 million, and HPP segment revenues decreased by approximately $0.2 million.

TS segment revenue change was as follows for the three months ended March 31, 2020 and March 31, 2019:

Increase (decrease)

(Dollar amounts in thousands)

The decrease in TS segment product revenues of $0.9 million during the period is primarily the result of a decrease in product revenues of $1.7 million in our U.K.

division, partially offset by an increase in the U.S.

division of $0.8 million.

The $1.7 million decrease in the U.K.

division product revenues is primarily the result of lower sales volume to one major customer during the period as compared to the prior year period.

The $0.8 million increase in the U.S.

division is primarily the result of a few major customers increased sales during the period partially offset with decreased sales to one major customer.

There is an increase in TS segment service revenues of $0.7 million during the period, which is primarily due to an increase in the U.S.

division service revenues.

division service revenues increase is substantially the result of a $0.7 million increase in managed service contracts, an increase in internal service and an increase in third party services revenues of $0.2 million, partially offset by a $0.2 million decrease in third party maintenance.

HPP segment revenue change was as follows for the three months ended March 31, 2020 and 2019:

Increase (decrease)

(Dollar amounts in thousands)

The HPP product revenues decreased by $0.5 million for the three months ended March 31, 2020 as compared to the three months ended March 31, 2019, primarily as a result of a decrease in Myricom product sales of $0.5 million.

The HPP services revenues increased $0.3 million for the three months ended March 31, 2020 as compared to the three months ended March 31, 2019 due to increased royalties on high-speed processing boards related to the E2D program.

Our revenues by geographic area, which is based on the customer location to which the products were shipped or services rendered, were as follows for the three months ended March 31, 2020 and March 31, 2019:

Increase (Decrease)

(Dollar amounts in thousands)

The $0.9 million increase in revenue to the Americas is primarily the result of increased sales by our TS U.S.

division of $1.4 million combined with increased sales by our HPP segment of $0.4 million, partially offset with a decrease in the TS U.K.

division of $0.9 million.

The $0.5 million decrease in revenue to Europe is primarily the result of decreased sales by our TS U.K.

division of $0.7 million partially offset by increased sales of $0.2 million in our TS U.S.

The $0.7 million decrease in revenue to Asia is primarily the result of decreased sales of $0.6 million by our HPP segment combined with decreased sales of $0.1 million in our TS U.K.

Gross Margins

Our gross margin ("GM") increased by approximately $0.7 million to $4.5 million for the three months ended March 31, 2020 as compared to a gross margin of approximately $3.8 million for the three months ended March 31, 2019.

The GM as a percentage of revenue increased to 28% for the three months ended March 31, 2020, from 23% for the three months ended March 31, 2019.

The increase is attributed to an increase in service revenue in both TS and HPP segments.

(Dollar amounts in thousands)

The impact of product mix within our TS segment on gross margin for the three months ended March 31, 2020 and 2019 was as follows:

(Dollar amounts in thousands)

The overall TS segment gross margin as a percentage of sales increased to 25% for the three month period ended March 31, 2020 from 20% for the three month period ended March 31, 2019.

The overall TS segment gross margin as a percentage of sales increase is primarily due to increased margins on managed service contracts.

The increased volume in managed services for the three months ended March 31, 2020 as compared to prior year period led to increased margins.

The impact of product mix within our HPP segment on gross margin for the three months ended March 31, 2020 and 2019 was as follows:

Increase (Decrease)

(Dollar amounts in thousands)

The overall HPP segment gross margin as a percentage of sales increased to 56% for the three months ended March 31, 2020 from 48% for the three months ended March 31, 2019.

The 8% increase in gross margin as a percentage of sales in the HPP segment for the three months ended March 31, 2020 as compared to the prior year period is primarily attributed to the gross margin from services increasing relative to products and increased margins from services due to increased royalties.

The overall margin from products decreased primarily due to decreased sales and the gross margin as a percentage of revenue due to product mix.

Operating Expenses

Engineering and Development Expenses

The engineering and development expenses incurred by our HPP segment decreased $0.1 million for the three months ended March 31, 2020 when compared to the three months ended March 31, 2019.

This is due to decreased

employee and consulting expenses.

The current period expenses were primarily for product engineering expenses incurred in connection with the continued development of the ARIA SDS cyber security products.

Selling, General and Administrative Expenses

The following table details our selling, general and administrative (“SG&A”) expense by operating segment for the three months ended March 31, 2020 and 2019:

For the three months ended March 31,

(Dollar amounts in thousands)

By Operating Segment:

SG&A expenses increased $0.2 million for the three months ended March 31, 2020 as compared to the three months ended March 31, 2019.

The $0.1 million increase in TS segment SG&A expenses compared to the prior year period is primarily the result of an increase to bad debt reserve.

The HPP segment SG&A expenses increased $0.1 million for the three months ended March 31, 2020 as compared to the three months ended March 31, 2019 primarily due to increases in payroll expenses related to sales employees.

Other Income/Expenses

The following table details other income (expense) for the three and six months ended March 31, 2020 and 2019:

For the three months ended

March 31, 2020

March 31, 2019

(Amounts in thousands)

Interest expense

Interest income

Foreign exchange gain (loss)

Other income, net

Total other income (expense), net

The $570 thousand increase in total other income (expense), net for the three months ended March 31, 2020 as compared to the three months ended March 31, 2019 is primarily driven by a foreign exchange gain of $479 thousand for the three months ended March 31, 2020, as compared to a loss of $37 thousand for the period ended March 31, 2019.

From December 31, 2019 to March 31, 2020 the British Pound significantly decreased in strength relative to both the U.S.

Dollar and the Euro resulting in a large foreign exchange gain recognized.

In consolidation, U.S.

dollars and Euros are remeasured into the functional currency, British Pounds, of our U.K.

This non-cash remeasurement is included in foreign exchange gain or loss on the income statement and nearly all the foreign exchange gain is from a Euro and U.S.

Dollar bank account.

Dollars or British Pounds were converted during the three months ended March 31, 2020.

The interest income increase of $97 thousand for the three months ended March 31, 2020 as compared to the three months ended March 31, 2019 is primarily related to agreements that have payment terms in excess of one year (see Note 6) from the TS-US segment.

The income tax provision was $1.2 million for the three months ended March 31, 2020 compared to an income tax benefit of $0.1 million in the same period of 2019.

division did not have any tax expense in the second quarter of fiscal year 2020 due to its pension contribution and the utilization of a portion of its net tax operating loss.

The income tax provision for the three months period is not comparable to the same period of the prior year due to the recording of a valuation allowance in the current period net of the impact of the federal tax benefits anticipated from the carryback of current and prior period federal net operating losses, as allowed under the recently enacted CARES Act, to recover federal taxes paid in prior periods.

The recording of a valuation allowance against deferred tax assets is a non-cash expense and the federal tax benefits will result in a cash refund.

Generally, fluctuations in the effective tax rate are primarily due to changes in our geographic pretax income resulting from our business mix and changes in the tax impact of permanent differences, other special items, and other discrete tax items, which may have unique tax implications depending on the nature of the item.

Overview of the six months ended March 31, 2020

Our revenues decreased by approximately $2.7 million, or 8%, to $32.7 million for the six months ended March 31, 2020 as compared to $35.3 million for the six months ended March 31, 2019.

The decrease in overall revenue for the six months ended March 31, 2020 as compared to the prior fiscal year six month period is substantially the result of an approximately $1.6 million decrease in our TS segment revenue combined with a $1.1 million decrease in our HPP segment revenue.

The TS segment revenue for the six months ended March 31, 2020 is primarily impacted by a decrease of sales to a major customer in the U.K.

Division, partially offset in the U.S.

division by increased volume of product sales to two major customers and increased volume in managed services revenue.

The HPP segment revenue for the six month period ended March 31, 2020 is primarily impacted by decreased combined Myricom and Multicomputer product sales of $1.4 million, partially offset by higher royalties recognized of approximately $0.2 million on high-speed processing boards and increased revenues from Multicomputer service of $0.1 million during the six months ended March 31, 2020 as compared to the six month period ended March 31, 2019.

Our overall gross margin percentage increased to 26% of revenue for the six months ended March 31, 2020 from 23% of revenues for the six months ended March 31, 2019.

Our operating loss decreased by approximately $0.3 million resulting in an operating loss of $0.5 million for the six months ended March 31, 2020 as compared to operating loss of $0.8 million for the six months ended March 31, 2019, primarily as a result of increased service revenues in combination with improved service margins.

Our provision for income tax was a tax expense of $1.1 million for the six months ended March 31, 2020 as compared to a tax benefit of $140 thousand for the six months ended March 31, 2019.

The effective tax expense rate for the current period is (635)%.

The negative rate is high due to the recording of a valuation allowance against deferred tax assets during the quarter, as the Company has concluded that it is more likely than not that a portion of its deferred tax assets will not be realized in light of recent results, the COVID-19 pandemic, and the resulting economic fallout.

The current tax expense is net of federal tax benefits anticipated from the carryback of current and prior period federal net operating losses, as allowed under the recently enacted Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”), to recover federal taxes paid in prior periods.

The recording of a valuation allowance against deferred tax assets is a non-cash expense and the federal tax benefits will result in a cash refund.

The following table details our results of operations in dollars and as a percentage of sales for the six months ended March 31, 2020 and 2019:

March 31, 2020

March 31, 2019

(Dollar amounts in thousands)

Costs and expenses:

Cost of sales

Engineering and development

Selling, general and administrative

Total costs and expenses

Operating loss

Loss before income taxes

Income tax expense (benefit)

Our total revenues decreased by approximately $2.7 million to $32.7 million for the six months ended March 31, 2020 as compared to $35.3 million of revenues for the six months ended March 31, 2019.

TS segment revenue change was as follows for the six months ended March 31, 2020 and 2019:

Increase (decrease)

(Dollar amounts in thousands)

The decrease in TS segment product revenues of $2.4 million for the six months ended March 31, 2020 as compared to the prior year period is the result of a $2.9 million decrease in our U.K.

division partially offset by an increase in product revenues of $0.5 million in our U.S.

The $0.5 million increase in the U.S.

division product revenues is the result of several large product orders and the $2.9 million decrease in the U.K.

division product revenue is due to sales to one customer that did not reoccur in the current six month period ended March 31, 2020.

The increase in TS segment service revenues of $0.8 million for the six month period ended March 31, 2020 as compared to the prior year period is primarily the result of an increase of $0.8 million in our U.S.

division, comprised of a $1.0 million increase in managed service contract revenues, partially offset by a $0.2 million decrease in third party service revenues.

HPP segment revenue change was as follows for the six months ended March 31, 2020 and 2019:

Increase (decrease)

(Dollar amounts in thousands)

The HPP product revenue decrease of $1.4 million during the six month period ended March 31, 2020 as compared to the prior year period is due to decreased Multicomputer product sales of $0.4 million and decreased Myricom sales of $1.0 million, which $0.5 million was related to a one time order that did not reoccur in the current period.

The increase in HPP services revenues of approximately $0.3 million for the period is the result of an increase in royalty revenues on high-speed processing boards related to the E2D program during the six months ended March 31, 2020 as compared to the six months ended March 31, 2019.

Our revenues by geographic area, which is based on the customer location to which the products were shipped or services rendered, were as follows for the six months ended March 31, 2020 and 2019:

(Dollar amounts in thousands)

The $0.6 million decrease in the Americas revenues for the six months ended March 31, 2020 as compared to the six months ended March 31, 2019 is primarily due to decreased revenue by our TS U.K.

division of $1.8 million and decreased revenue by HPP segment of $0.3 million, which is partially offset by an increase in the TS U.S.

division of $1.5 million.

The $1.0 million decrease in Europe revenue for the six month period ended March 31, 2020 as compared to the prior year period is primarily due to decreased sales by our TS U.K.

division of $0.8 million and decreased sales in our

HPP segment of $0.2 million for the six month period ended March 31, 2020 as compared to the prior fiscal year period.

The $1.1 million decrease in Asia revenue for the six month period ended March 31, 2020 as compared to the prior year period is primarily due to decreased sales by our TS U.K.

division of $0.5 million and decreased sales in our HPP segment of $0.6 million for the six month period ended March 31, 2020 as compared to the prior fiscal year period.

Gross Margins

Our gross margin ("GM") increased by $0.4 million to $8.5 million for the six months ended March 31, 2020 as compared to a gross margin of approximately $8.1 million for the six months ended March 31, 2019.

The GM as a percentage of revenue increased to 26% for the six months ended March 31, 2020 from 23% for the six months ended March 31, 2019.

Increase (Decrease)

(Dollar amounts in thousands)

The impact of product mix within our TS segment on gross margin for the six months ended March 31, 2020 and 2019 was as follows:

Increase (Decrease)

(Dollar amounts in thousands)

The overall TS segment gross margin as a percentage of sales increased to 24% for the six months ended March 31, 2020 from 20% for the six months ended March 31, 2019.

The overall TS segment gross margin as a percentage of sales increase is primarily due to an increased service revenue margin.

The impact of product mix within our HPP segment on gross margin for the six months ended March 31, 2020 and 2019 was as follows:

Increase (Decrease)

(Dollar amounts in thousands)

The overall HPP segment gross margin as a percentage of sales increased to 53% for the period from 48% in the same prior year period.

The 5% increase in gross margin as a percentage of sales in the HPP segment is primarily attributed to an increase in services margin and offset by a decrease of product margin.

Operating Expenses

Engineering and Development Expenses

Engineering and development expenses decreased by approximately $0.1 million to $1.4 million for the six months ended March 31, 2020 as compared to $1.5 million for the six months ended March 31, 2019.

This is primarily

due to decreased employee and consulting expenses.

The current period expenses were primarily for product engineering expenses incurred in connection with continued the development of the ARIA SDS cyber security products.

Selling, General and Administrative Expenses

The following table details our selling, general and administrative (“SG&A”) expense by operating segment for the six months ended March 31, 2020 and 2019:

For the six months ended March 31,

(Dollar amounts in thousands)

By Operating Segment:

SG&A expenses increased by approximately $0.3 million, or 5%, for the six months ended March 31, 2020 as compared to the six months ended March 31, 2019.

The $0.2 million increase, or 5%, for the six months ended March 31, 2020 as compared to the six months ended March 31, 2019 in TS segment expenses is primarily attributed to increased payroll related expenses and an increased bad debt reserve.

The $0.1 million increase, or 5%, for the six months ended March 31, 2020 as compared to the six months ended March 31, 2019 in HPP segment expenses is primarily due to increases in payroll expenses related to sales employees .

Other Income/Expenses

The following table details other income (expense) for the six months ended March 31, 2020 and 2019:

For the six months ended

March 31, 2020

March 31, 2019

(Amounts in thousands)

Interest expense

Interest income

Foreign exchange gain (loss)

Other income, net

Total other income (expense), net

The $325 thousand increase to other income (expense) for the six months ended March 31, 2020 as compared to the six months ended March 31, 2019 is primarily driven by an increase in interest income of $215 thousand and an increase in foreign exchange gain of $174 thousand, partially offset by an increase of $64 thousand of interest expense.

The increase in interest income of $215 thousand is primarily related to agreements that have payment terms in excess of one year (see Note 6) from the TS-US segment.

The income tax provision was $1.1 million for the six months ended March 31, 2020 compared to an income tax benefit of $0.1 million in the same period of 2019.

division did not have any tax expense in the second quarter of fiscal year 2020 due to its pension contribution and the utilization of a portion of its net tax operating loss.

The income tax provision for the six month period is not comparable to the same period of the prior year due to the recording of a valuation allowance in the current period net of the impact of the federal tax benefits anticipated from the carryback of current and prior period federal net operating losses, as allowed under the recently enacted CARES Act,

to recover federal taxes paid in prior periods.

The recording of a valuation allowance against deferred tax assets is a non-cash expense and the federal tax benefits will result in a cash refund.

Liquidity and Capital Resources

Our primary source of liquidity is our cash and cash equivalents, which decreased by $2.9 million to $15.2 million as of March 31, 2020 from $18.1 million as of September 30, 2019.

As of the date of this report, we have suspended our quarterly dividend until further economic clarity.

Our significant sources of cash for the six months ended March 31, 2020 included a decrease in accounts receivable of $2.4 million and a decrease in inventories of $1.1 million, and proceeds from debt of $2.0 million.

Our significant uses of cash for the six months ended March 31, 2020 included a decrease of accounts payable and accrued expenses of $6.4 million, dividends paid of $1.3 million, net payment on line of credit $0.9 million, and repayment of debt of $0.6 million.

Cash held by our foreign subsidiary in the United Kingdom totaled approximately $9.9 million as of March 31, 2020 consists of 2.9 million Euros, 0.6 million British Pounds, and 6.0 million U.S.

This cash is included in our total cash and cash equivalents reported within the financial statements.

As of March 31, 2020 and September 30, 2019 the Company maintained a line of credit with a capacity of up to $20.0 million for inventory accessible to both the HPP and TS segments.

This line of credit also includes availability of a limited cash withdrawal of up to $1.5 million.

An amount of $18.4 million and $17.5 million were available as of March 31, 2020 and September 30, 2019, respectively.

As of March 31, 2020 and September 30, 2019 there were no cash withdrawals outstanding.

If cash generated from operations is insufficient to satisfy working capital requirements, we may need to access funds through bank loans or other means.

If we are unable to secure additional financing, we may not be able to complete development or enhancement of products, take advantage of future opportunities, respond to competition, retain key employees, or continue to effectively operate our business.

Following the end of the three month period ended March 31, 2020, on April 17, 2020, the Company and Modcomp, Inc., its wholly owned subsidiary (collectively, the “Borrowers”) each received a loan in the form of a promissory note from Paragon Bank (“Lender”) in the amounts of $827,000 and $1,353,600, respectively (the “SBA Loans”) under the Paycheck Protection Program, which was established under the recently enacted Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) administered by the U.S.

Small Business Administration (“SBA”).

The SBA Loans have a two-year term and carry an annual fixed interest rate of 1%.

For additional information on the SBA Loans, see Note 17 in our Financial Statements contained in Part I, Item 1 of this Form 10-Q.

Based on our current plans and business conditions, management believes that the Company’s available cash and cash equivalents, the cash received from the SBA loans, the cash generated from operations, and availability on our line of credit will be sufficient to provide for the Company’s working capital and capital expenditure requirements for at least 12 months from the date of this report.

Customer B totaled approximately $6.3 million, or 39%, and approximately $7.4 million, or 36%, of total consolidated accounts receivable and long-term receivable as of June 30, 2020 and September 30, 2019, respectively.

There were no other customers that were more than 10% of total consolidated accounts receivable and long-term receivable as of June 30, 2020.

We believe that the Company is not exposed to any significant credit risk with respect to the accounts receivable with any customers as of June 30, 2020.

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-Q

Item 1. Financial Statements