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Item 8. Financial Statements and Supplementary Data

2024-03-20 compared with 2023-03-17 · 243 added, 370 removed, 386 unchanged (61% of the section changed)

5 unchanged sentences

Consolidated Statements of Cash Flows for the years ended December 31, 2023 and 2022

Consolidated Statements of Shareholders' Equity for the years  ended December 31, 2022 and 2021

Consolidated Statements of Shareholders' Equity for the years ended December 31, 2023 and 2022

Notes to Consolidated Financial Statements

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the shareholders and the board of directors of Nortech Systems, Inc.

and Subsidiaries:

To the shareholders and the board of directors of Nortech Systems Incorporated and Subsidiaries:

Opinion on the Financial Statements

We have audited the accompanying consolidated balance sheets of Nortech Systems, Inc.

and Subsidiaries (the "Company") as of December 31, 2022 and 2021, the related consolidated statements of income and comprehensive income, shareholders’

equity, and cash flows, for the years then ended, and the related notes (collectively referred to as the "consolidated financial statements").

We have audited the accompanying consolidated balance sheets of Nortech Systems Incorporated and Subsidiaries (the "Company") as of December 31, 2023 and 2022, the related consolidated statements of income and comprehensive income, shareholders’ equity, and cash flows, for the years then ended, and the related notes (collectively referred to as the "consolidated financial statements").

In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2023 and 2022, and the results of its operations and its cash flows for each of the years then ended, in conformity with accounting principles generally accepted in the United States of America.

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General and Administrative Expenses

Restructuring Expenses

Loss on Abandonment of Intangible Asset

Research and Development Expenses

Gain on Sale of Property and Equipment

1 unchanged sentence

Income from Operations

Other (Expense) Income

Other Expense

Interest Expense

PPP Loan Forgiviness Gain

Total Other (Expense) Income

Total Other Expense

Income Before Income Taxes

Income Tax Expense

Income Tax (Benefit) Expense

Income Per Common Share:

2 unchanged sentences

Other Comprehensive Income

Foreign currency translation

Foreign Currency Translation Loss

Comprehensive Income, Net of Tax

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Contract Assets

Prepaid Assets

Prepaid Assets and Other Assets

Total Current Assets

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Operating Lease Assets

Deferred Tax Assets

Other Intangible Assets, Net

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Accrued Payroll and Commissions

Customer Deposits

Other Accrued Liabilities

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Long-Term Finance Lease Obligations, Net of Current Portion

Long-Tem Operating Lease Obligations, Net of current Portion

Long-Term Operating Lease Obligations, Net of Current Portion

Other Long-Term Liabilities

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Additional Paid-In Capital

Accumulated Other Comprehensive (Loss) Income

Accumulated Other Comprehensive Loss

Retained Earnings

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CASH FLOWS FROM OPERATING ACTIVITIES

Adjustments to Reconcile Net Income to Net Cash

Provided by (Used In) Operating Activities:

Adjustments to Reconcile Net Income to Net Cash Provided By (Used In) Operating Activities:

Compensation on Stock-Based Awards

Compensation on Equity Appreciation Rights

Loss on Abandonment of Intangible Asset

Deferred Taxes

Change in Accounts Receivable Allowance

1 unchanged sentence

Gain on Disposal of Property and Equipment

PPP Loan Forgiveness Gain

Foreign Currency Transaction Gain

3 unchanged sentences

Contract Assets

Prepaid Expenses and other Curent Assets

Prepaid Expenses

Accounts Payable

Accrued Payroll and Commissions

Customer Deposits

Other Accrued Liabilities

Net Cash Provided by (Used In) Operating Activities

Net Cash Provided By Operating Activities

CASH FLOWS FROM INVESTING ACTIVITIES

6 unchanged sentences

Payments to Line of Credit

Principal Payments on Long-Term Debt

Principal Payments on Financing Leases

Stock Option Excercises

Net Cash (Used In) Provided By Financing Activities

Stock Option Exercises

Net Cash Used In Financing Activities

Effect of Exchange Rate Changes on Cash

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Cash Paid for Interest

Cash Paid (Refunded) for Income Taxes

Cash Paid for Income Taxes

Supplemental Noncash Investing and Financing Activities:

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Equipment Acquired under Finance Lease

PPP Loan Forgiveness

See accompanying notes to consolidated financial statements.

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF SHAREHOLDERS ’

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

FOR THE YEARS ENDED DECEMBER 31, 2023 AND 2022

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Compensation on Stock-Based Awards

Cumulative Adjustment Related to the Adoption of ASC 326 (CECL)

BALANCE DECEMBER 31, 2023

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Basis of Presentation

The accompanying consolidated financial statements of Nortech Systems, Incorporated and Subsidiaries (“the Company”, “we”, “our”) have been prepared in accordance with Generally Accepted Accounting Principles in the United States of America (“GAAP”) for financial information and pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”).

The accompanying consolidated financial statements of Nortech Systems Incorporated and Subsidiaries (“the Company”, “we”, “our”) have been prepared in accordance with Generally Accepted Accounting Principles in the United States of America (“GAAP”) for financial information and pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”).

Nature of Business

Our manufacturing services include complete medical devices, printed circuit board assemblies, wire and cable assemblies, and complex higher-level electromechanical assemblies for a wide range of medical, industrial and defense and aerospace industries.

We provide a full "turn-key" contract manufacturing service to our customers.

All products are built to the customer's design specifications.

We also provide engineering services and repair services.

Our manufacturing facilities are located in Bemidji, Blue Earth, Milaca, and Mankato, Minnesota as well as, Monterrey, Mexico and Suzhou, China.

Products are sold to customers both domestically and internationally.

The Company, organized in December 1990, is a provider of engineering design and manufacturing solutions for complex electromedical devices, electromechanical systems, assemblies and components headquartered in Maple Grove, Minnesota, a suburb of Minneapolis, Minnesota.

We maintain facilities and operations in Minnesota in the United States;

Monterrey, Mexico;

and Suzhou, China.

Principles of Consolidation

The consolidated financial statements include the accounts of Nortech Systems Incorporated and its wholly-owned subsidiaries, Manufacturing Assembly Solutions of Monterrey, Inc.

and Nortech Systems Hong Kong Company, Limited and its subsidiary, Nortech Systems Suzhou Company, Limited.

and Nortech Systems Hong Kong Company, Limited as well as its wholly-owned subsidiary, Nortech Systems Suzhou Company, Limited.

All significant intercompany accounts and transactions have been eliminated in consolidation.

1 unchanged sentence

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of our consolidated financial statements.

Estimates also affect the reported amounts of revenue and expense during the reporting period.

Significant items subject to estimates and assumptions include the valuation allowance for inventories, allowance for doubtful accounts, realizability of deferred tax assets and long-lived asset impairment testing.

Estimates also affect the reported amounts of net sales and expense during the reporting period.

Actual results could differ from those estimates.

5 unchanged sentences

The lockbox deposits are applied against our line of credit the next business day.

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

AS OF AND FOR THE YEARS ENDED DECEMBER 31, 2022 AND 2021

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

Accounts Receivable and Allowance for Doubtful Accounts

Accounts Receivable and Allowance for Expected Losses

We grant credit to customers in the normal course of business.

Accounts receivable are unsecured and are presented net of an allowance for doubtful accounts.

The allowance for doubtful accounts was $ 334 and $ 328 at December 31, 2022 and 2021, respectively.

We determine our allowance by considering a number of factors, including the length of time accounts receivable are past due, our previous loss history, the customers’

current ability to pay their obligations to us, and the condition of the general economy and the industry as a whole.

We write-off accounts receivable when they become uncollectible, and payments subsequently received on such receivables are credited to the allowance for doubtful accounts.

Employee Retention Credit (ERC) and Payroll Tax Deferral

On March 27, 2020, the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) was signed into law providing numerous tax provisions and other stimulus measures, including an employee retention credit (“ERC”), which is a refundable tax credit against certain employment taxes.

The Taxpayer Certainty and Disaster Tax Relief Act of 2020 and the American Rescue Plan Act of 2021 extended and expanded the availability of the ERC.

The Company qualified and applied for the ERC in 2021 for the first and second quarters of that year.

The Company has elected to account for the credit as a government grant.

GAAP does not include grant accounting guidance for for-profit entities, therefore, the Company has elected to follow the grant accounting model in International Accounting Standard (IAS) 20, Accounting for Government Grants and Disclosure of Government Assistance.

In accordance with IAS 20, the Company cannot recognize any income from the grant until there is reasonable assurance (similar to the “probable”

threshold in U.S.

GAAP) that any conditions attached to the grant will be met and that the grant will be received.

Once it is reasonably assured that the grant conditions will be met and that the grant will be received, grant income is recorded on a systematic basis over the periods in which the Company recognizes the payroll expenses for which the grant is intended to compensate.

Income from the grant can be presented as either other income or as a reduction in the expenses for which the grant was intended to compensate.

The CARES Act allowed for the deferral of the employer portion of social security taxes incurred through the end of calendar 2020.

As of December 31, 2022, there was $ 1,158 of social security tax payments deferred, of which 50% was required to be remitted by December 2021 and the remaining 50% by December 2022.

IRS Notice 2020-22 and Notice 2021-24 provides that employers are not subject to the penalty for failing to timely deposit employment taxes under Code Section 6656 if (i) the amount of employment taxes that are not deposited (i.e., the deemed credit amount) is less than or equal to the employer’s anticipated credits (ERC) and (ii) the employer did not previously file for advance payment of these credits.

We did not remit the amount due on December 31, 2021 or during 2022 due to our awaiting receipt of the anticipated credits under the ERC that exceeds the deferral amount as allowed under the above IRS Notices.

The deferred amounts are recorded within accrued payroll and commissions on the condensed consolidated balance sheets.

Accounts receivable is unsecured and presented net of an allowance for doubtful accounts.

The allowance for expected losses was $ 358 and $ 334 as of December 31, 2023 and 2022, respectively.

When we record customer receivables and contract assets arising from net sales transactions, we record an allowance for credit losses for the current expected credit losses (“CECL”) inherent in the asset over its expected life.

The allowance for credit losses is a valuation account deducted from the cost basis of the assets to present their net carrying value at the amount expected to be collected.

Each period, the allowance for credit losses is adjusted through earnings to reflect expected credit losses over the remaining lives of the assets.

We estimate expected credit losses based on relevant information about past events, including historical write-offs of bad debts, customer concentrations, customer creditworthiness, current economic trends and changes in customer payment terms that affect the collectability of the reported amount.

When measuring expected credit losses, we pool assets with similar country risk and credit risk characteristics.

Changes in the relevant information may significantly affect the estimates of expected credit losses.

Assets are written off when we determine them to be uncollectible.

Write-offs are recognized as a deduction from the allowance for credit losses.

Inventories consist of finished goods, raw materials and work-in-process and are stated at the lower of average cost (which approximates first-in, first-out) or net realizable value.

3 unchanged sentences

The determination of a reserve for excess and obsolete inventory involves management exercising judgment to determine the required reserve, considering future demand, product life cycles, introduction of new products and current market conditions.

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

AS OF AND FOR THE YEARS ENDED DECEMBER 31, 2022 AND 2021

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

Inventories are as follows:

Inventories are as follows as of December 31:

Raw Materials

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Office and Other Equipment

Property and equipment at December 31, 2022 and 2021:

Property and equipment as of December 31, 2023 and 2022:

Building and Leasehold Improvements

4 unchanged sentences

Long-Lived Asset Impairment

We evaluate long-lived assets, primarily property and equipment, as well as the related depreciation periods, whenever current events or changes in circumstances indicate that the carrying amount of an asset or asset group may not be recoverable.

Recoverability for assets to be held and used is based on our projection of the undiscounted future operating cash flows of the underlying assets or asset group.

We evaluate long-lived assets, primarily property and equipment, whenever current events or changes in circumstances indicate that the carrying amount of an asset or asset group may not be recoverable.

Recoverability for assets to be held and used is based on our projection of the undiscounted future operating cash flows of the underlying assets.

To the extent such projections indicate that future undiscounted cash flows are not sufficient to recover the carrying amounts of related assets, a charge might be required to reduce the carrying amount to equal estimated fair value.

Assets held for sale are reported at the lower of the carrying amount or fair value less costs to dispose.

No impairments of long-lived assets were recorded during the years ended December 31, 2022 and 2021.

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

AS OF AND FOR THE YEARS ENDED DECEMBER 31, 2022 AND 2021

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

As of December 31, 2023, the Company’s common stock was trading at a value less than the Company’s net equity value.

As such, the Company evaluated future undiscounted cash flows and determined that no long-lived asset impairment was required as of December 31, 2023.

No impairment of long-lived assets was recorded during the year ended December 31, 2022.

Preferred Stock

4 unchanged sentences

Revenue Recognition

Our revenue is comprised of product, engineering services and repair services.

All revenue is recognized when the Company satisfies its performance obligation(s) under the contract by transferring the promised product or service to our customer either when (or as) our customer obtains control of the product or service, with the majority of our revenue being recognized over time including goods produced under contract manufacturing agreements and services revenue.

Our net sales are comprised of product, engineering services and repair services.

All net sales is recognized when the Company satisfies its performance obligation(s) under the contract by transferring the promised product or service to our customer either when (or as) our customer obtains control of the product or service, with the majority of our net sales being recognized over time including goods produced under contract manufacturing agreements and services net sales.

A performance obligation is a promise in a contract to transfer a distinct product or service to a customer.

A contract’s transaction price is allocated to each distinct performance obligation.

The majority of our contracts have a single performance obligation.

Goods created for customers with no alternative use and enforceable right to a payment of cost plus a reasonable margin, revenue is recognized over time instead of at a point in time.

Revenue is recorded net of returns, allowances and customer discounts.

Our net sales for services were less than 10% of our total sales for all periods presented, and accordingly, are included in net sales in the Consolidated Statements of Operations and Comprehensive Loss.

Sales, value add, and other taxes collected from customers and remitted to governmental authorities are accounted for on a net (excluded from revenues) basis.

Shipping and handling costs charged to our customers are included in net sales, while the corresponding shipping expenses are included in cost of goods sold.

A contract’s transaction price is allocated to each distinct performance obligation.

The majority of our contracts have a single performance obligation, as the promise to transfer products or services is not separately identifiable from other promises in the contract and, therefore, not distinct.

Net sales are measured as the amount of consideration we expect to receive in exchange for transferring products or providing services.

As such, net sales are recorded net of returns, allowances and customer discounts.

Sales, value add, and other taxes collected from customers and remitted to governmental authorities are accounted for on a net (excluded from net sales) basis.

Shipping and handling costs are included in cost of goods sold.

The majority of our net sales are derived from the transfer of goods produced under contract manufacturing agreements which have no alternative use, and we have an enforceable right to payment for our performance completed to date.

Our performance obligations within our contract manufacturing agreements are generally satisfied over time as the goods are produced based on customer specifications and we have an enforceable right to payment for the goods produced.

If these requirements are not met, the net sales are recognized at a point in time, generally upon shipment.

Net sales under contract manufacturing agreements that was recognized over time accounted for approximately 79 % and 72 % of our net sales for the years ended December 31, 2023 and 2022, respectively.

Net sales under these agreements are generally recognized over time using an input measure based upon the proportion of actual costs incurred.

Accounting for contract manufacturing agreements involves the use of various techniques to estimate total net sales and costs.

We estimate profit on these agreements as the difference between total estimated net sales and expected costs to complete the performance obligation within the terms of the agreement and recognize the respective profit as the goods are produced.

The estimates to determine the profit earned on the performance obligation are based on contractual selling prices and historical cost of goods sold and represent our best judgement at the time.

Changes in judgements on these above estimates could impact the timing and amount of net sales recognized with a resulting impact on the timing and amount of associated profit.

On occasion our customers provide materials to be used in the manufacturing process and the fair value of the materials is included in net sales as noncash consideration at the point in time when the manufacturing process commences along with the same corresponding amount recorded as cost of goods sold.

The inclusion of noncash consideration has no impact on overall profitability.

Contract Assets

Contract assets, recorded as such in the Consolidated Balance Sheet, consist of unbilled amounts related to net sales recognized over time.

Changes in the contract assets balance during the years ended December 31, 2023 and 2022 was as follows:

Balance Outstanding as of December 31, 2021

Increase (Decrease) Attributed to:

Amounts Transferred Over Time to Contract Assets

Amounts Invoiced During the Period

Balance Outstanding as of December 31, 2022

Increase (Decrease) Attributed to:

Amounts Transferred Over Time to Contract Assets

Amounts Invoiced During the Period

Balance Outstanding as of December 31, 2023

We expect substantially all the remaining performance obligations for the contract assets recorded as of December 31, 2023, to be transferred to receivables within 90 days, with any remaining amounts to be transferred within 180 days.

We bill our customers upon shipment with payment terms of up to 120 days.

The following tables summarize our net sales by market for the years ended December 31, 2023 and 2022:

Year Ending December 31, 2023

Product/ Service Transferred

Product Transferred at Point in Time

Noncash Consideration

Total Net Sales by Market

Aerospace and Defense

Total Net Sales

Year Ending December 31, 2022

Product/ Service Transferred

Product Transferred at Point in Time

Noncash Consideration

Total Net Sales by Market

Aerospace and Defense

Total Net Sales

Noncash consideration represents material provided by the customer used in the build of the product.

Product Warranties

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We recognize interest and penalties accrued on any unrecognized tax benefits as a component on income tax expense.

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

AS OF AND FOR THE YEARS ENDED DECEMBER 31, 2022 AND 2021

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

We recognize the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position.

4 unchanged sentences

These returns could be subject to material adjustments or differing interpretations of the tax laws.

Incentive Compensation

Stock-Based Compensation

We use a Black-Scholes option-pricing model to determine the grant date fair value of our service-based incentive awards and recognize the expense on a straight-line basis over the vesting period.

4 unchanged sentences

Basic net income per common share is computed by dividing net income (loss) by the weighted-average number of common shares outstanding.

Dilutive net income (loss) per common share assumes the exercise and issuance of all potential common stock equivalents in computing the weighted-average number of common shares outstanding, unless their effect is antidilutive.

For the year ended December 31, 2022, stock options of 205,907 were included in the computation of diluted income per common share as their impact were dilutive.

For the year ended December 31, 2021, stock options of 156,937 were included in the computation of diluted income per common share as their impact were dilutive.

Dilutive net income per common share assumes the exercise and issuance of all potential common stock equivalents in computing the weighted-average number of common shares outstanding using the treasury stock method, unless their effect is antidilutive.

For the year ended December 31, 2023, treasury stock equivalent stock options of 163,744 were included in the computation of diluted net income per common share as their impact were dilutive.

For the year ended December 31, 2022, treasury stock equivalent stock options of 205,907 were included in the computation of diluted net income per common share as their impact were dilutive.

Fair Value of Financial Instruments

9 unchanged sentences

Inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly.

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

AS OF AND FOR THE YEARS ENDED DECEMBER 31, 2022 AND 2021

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

Unobservable inputs for the asset or liability, reflecting the reporting entity’s own assumptions about the assumptions that market participants would use in pricing

Unobservable inputs for the asset or liability, reflecting the reporting entity’s own assumptions about the assumptions that market participants would use in pricing.

Our assessment of the significance of a particular input to the fair value measurements requires judgment and may affect the valuation of the assets and liabilities being measured and their placement within the fair value hierarchy.

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Consolidated financial information is available that is evaluated regularly by the chief operating decision maker in assessing performance and allocating resources.

Export sales from our domestic operations represent approximately 4.0 % and 3.1 % of consolidated net sales for the years ended December 31, 2022 and 2021, respectively.

Export net from our U.S.

domestic operations represent approximately 4.1 % and 4.0 % of consolidated net sales for the years ended December 31, 2023 and 2022, respectively.

Net sales by our major EMS industry markets for the years ended December 31, 2023 and 2022 are as follows:

1 unchanged sentence

Total Net Sales

Noncurrent assets, excluding deferred taxes, by country are as follows:

Noncurrent assets by country are as follows:

United States

2 unchanged sentences

Operating Lease Assets

Deferred Tax Assets

December 31, 2022

1 unchanged sentence

Operating Lease Assets

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

AS OF AND FOR THE YEARS ENDED DECEMBER 31, 2022 AND 2021

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

Foreign Currency Transactions

1 unchanged sentence

Foreign exchange transaction gains and losses attributable to exchange rate movements related to transactions made in the local currency and on intercompany receivables and payables not deemed to be of a long-term investment nature are recorded in other income (expense).

The functional currency for our China subsidiary is the Renminbi (“RMB”).

Assets and liabilities of the China operation are translated from RMB into U.S.

dollars at period-end rates, while income and expense are translated at the weighted-average exchange rates for the period.

The related translation adjustments are reflected as a foreign currency translation adjustment in accumulated other comprehensive loss within shareholders’

The total foreign currency translation adjustment decreased shareholders’

equity by $ 426 and increased shareholder’s equity by $ 93 for the years ended December 31, 2022 and 2021, respectively.

The related translation adjustments are reflected as a foreign currency translation adjustment in accumulated other comprehensive loss within shareholders’ equity.

Foreign currency translation losses decreased consolidated shareholders’ equity by $ 162 and $ 426 for the years ended December 31, 2023 and 2022, respectively.

Transaction gains and losses that arise from exchange rate fluctuations on transactions denominated in a currency other than the functional currency are included in the Consolidated Statements of Operations.

Net foreign currency transaction losses included in the determination of net earnings was $ 42 and $ 131 for the years ended December 31, 2022 and 2021, respectively.

Recently Issued Accounting Standards

In June 2016, the FASB issued ASU 2016-13, Measurement of Credit Losses on Financial Instruments.

This guidance introduces a new model for recognizing credit losses on financial instruments based on an estimate of current expected credit losses.

The ASU also provides updated guidance regarding the impairment of available-for-sale debt securities and includes additional disclosure requirements.

The new guidance is effective for public business entities that meet the definition of a Smaller Reporting Company as defined by the SEC for interim and annual periods beginning after December 15, 2022.

We have evaluated the impact of this standard on our consolidated financial statements and related disclosures and conclude it will not be material.

Revision and Immaterial Correction of an Error in Previously Issued Financial Statements

The Company identified an error related to the classification of the activity on our line of credit facility with Bank of America at December 31, 2021 as reported on Form 10-K. 

In our December 31, 2021 consolidated financial statements, we incorrectly classified borrowings and payments on our line of credit facility on a net basis within the financing section of the consolidated cash flow statement;

this activity should be shown on a gross basis. 

This change in presentation to the consolidated cash flow statement does not impact total operating, investing, or financing cash flows. 

There was no change to the consolidated statement of income or consolidated balance sheet. 

In accordance with ASC 250, Accounting Changes and Error Corrections, we evaluated the materiality of the errors from quantitative and qualitative perspectives and concluded that the errors were immaterial to the Company’s 2022 audited financial statements.

Since these revisions were not material to any prior period financial statements, no amendments to previously filed financial statements are required.

Consequently, the Company has corrected 

these immaterial errors by revising the December 31, 2021 consolidated financial statements presented herein.

The tables below present the effect of the financial statement adjustments related to the revision discussed above of the Company’s previously reported financial statements as of and for the periods ended December 31, 2021.

The effect of the immaterial correction of an error on our previously filed audited consolidated financial statements as of December 31, 2021 and for the year then ended is as follows:

Consolidated Statements of Cash Flows

December 31, 2021

CASH FLOWS FROM FINANCING ACTIVITIES

Net Proceeds from Line of Credit

Proceeds from Line of Credit

Payments to Line of Credit

Principal Payments on Long-Term Debt

Principal Payments on Financing Leases

Stock Option Excercises

Net Cash Provided By Financing Activities

Net foreign currency transaction losses included in the determination of net income was $ 54 and $ 42 for the years ended December 31, 2023 and 2022, respectively.

Adoption of New Accounting Standards

In June 2016, the Financial Accounting Standards Board (the "FASB") issued Accounting Standards Update ("ASU") 2016-13, Financial Instruments – Credit Losses (Topic 326).

The ASU introduces a new credit loss methodology, Current Expected Credit Losses (“CECL”), which requires earlier recognition of credit losses, while also providing additional transparency about credit risk.

The CECL methodology utilizes a lifetime “expected credit loss” measurement objective for the recognition of credit losses for loans, held-to-maturity securities and other receivables at the time the financial assets are originated or acquired.

The expected credit losses are adjusted each period for changes in expected lifetime credit losses.

The methodology replaces the multiple existing impairment methods in current GAAP, which generally require that a loss be incurred before it is recognized.

On January 1, 2023, we adopted the guidance prospectively with a cumulative adjustment to retained earnings.

We have not restated comparative information for 2022 and, therefore, the comparative information for 2022 is reported under the old model and is not comparable to the information presented for 2023.

At adoption, we recognized an allowance for credit losses related to accounts receivable and contract assets of $ 30 , net of tax, and a decrease in retained earnings of $ 30 associated with the increased estimated credit losses.

Recently Issued New Accounting Standards

In November 2023, the FASB issued ASU 2023-07, Segment Reporting Topic (280):

Improvements to Reportable Segment Disclosure .

The ASU supplements reportable segment disclosure requirements, primarily through enhanced disclosures about significant segment expenses.

The amendments in this ASU are effective for fiscal years beginning after December 15, 2023, and interim periods within fiscal years beginning after December 15, 2024 on a retrospective basis.

Early adoption is permitted.

The Company is currently evaluating the impact of this ASU on its Consolidated Financial Statements and related disclosures.

In December 2023, the FASB issued ASU 2023-09, Income Taxes (Topic 740):

Improvements to Income Tax Disclosures .

The ASU enhances the transparency and decision usefulness of income tax disclosures and is effective for annual periods beginning after December 15, 2024 on a prospective basis.

Early adoption is permitted.

The Company is currently evaluating the impact of this ASU on its Consolidated Financial Statements and related disclosures.

CONCENTRATION OF CREDIT RISK AND MAJOR CUSTOMERS

Financial instruments that potentially subject us to concentrations of credit risk consist principally of cash and accounts receivable.

With regard to cash, we maintain our excess cash balances in checking accounts at two high-credit quality financial institutions.

We maintain our excess cash balances in checking accounts at two high-credit quality financial institutions.

These accounts may at times exceed federally insured limits.

We grant credit to customers in the normal course of business and do not require collateral on our accounts receivable.

We have certain customers whose revenue individually represented 10% or more of net sales, or whose accounts receivable balances individually represented 10% or more of total accounts receivable.

One customer accounted for 26.9 % of net sales for both of the years ended December 31, 2022 and 2021.

Accounts receivable for one customer was 21.1 % and 19.3 % at December 31, 2022 and 2021, respectfully.

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

AS OF AND FOR THE YEARS ENDED DECEMBER 31, 2022 AND 2021

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

Revenue recognition

Our revenue is comprised of product, engineering services and repair services.

A performance obligation is a promise in a contract to transfer a distinct product or service to a customer.

A contract’s transaction price is allocated to each distinct performance obligation.

Revenue is measured as the amount of consideration we expect to receive in exchange for transferring products or providing services.

As such, revenue is recorded net of returns, allowances and customer discounts.

Sales, value add, and other taxes collected from customers and remitted to governmental authorities are accounted for on a net (excluded from revenues) basis.

Shipping and handling costs are included in cost of goods sold.

The majority of our revenue is derived from the transfer of goods produced under contract manufacturing agreements which have no alternative use and we have an enforceable right to payment for our performance completed to date.

If these requirements are not met, the revenue is recognized at a point in time, generally upon shipment.

Revenue under contract manufacturing agreements that was recognized over time accounted for approximately 72 % and 78 % of our revenue for the years ended December 31, 2022 and 2021, respectively.

Revenues under these agreements are generally recognized over time using an input measure based upon the proportion of actual costs incurred.

Accounting for contract manufacturing agreements involves the use of various techniques to estimate total revenue and costs.

We estimate profit on these agreements as the difference between total estimated revenue and expected costs to complete the performance obligation within the terms of the agreement and recognize the respective profit as the goods are produced.

The estimates to determine the profit earned on the performance obligation are based on anticipated selling prices and historical cost of goods sold and represent our best judgement at the time.

Changes in judgements on these above estimates could impact the timing and amount of revenue recognized with a resulting impact on the timing and amount of associated profit.

On occasion our customers provide materials to be used in the manufacturing process and the fair value of the materials is included in revenue as noncash consideration at the point in time when the manufacturing process commences along with the same corresponding amount recorded as cost of goods sold.

The inclusion of noncash consideration has no impact on overall profitability.

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

AS OF AND FOR THE YEARS ENDED DECEMBER 31, 2022 AND 2021

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

Contract Assets

Contract assets, recorded as such in the Consolidated Balance Sheet, consist of unbilled amounts related to revenue recognized over time.

Significant changes in the contract assets balance during the years ended December 31, 2022 and 2021 was as follows:

Balance outstanding at December 31, 2021

Increase (decrease) attributed to:

Amounts transferred over time to contract assets

Amounts invoiced during the period

Balance outstanding at December 31, 2022

We expect substantially all of the remaining performance obligations for the contract assets recorded as of December 31, 2022, to be transferred to receivables within 90 days, with any remaining amounts to be transferred within 180 days.

We bill our customers upon shipment with payment terms of up to 120 days.

The following tables summarize our net sales by market for the years ended December 31, 2022 and 2021:

Year Ending December 31, 2022

Product/ Service

Transferred at

Point in Time

Consideration

Total Net Sales

Aerospace and Defense

Total net sales

Year Ending December 31, 2021

Product/ Service

Transferred at

Point in Time

Consideration

Total Net Sales

Aerospace and Defense

Total net sales

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

AS OF AND FOR THE YEARS ENDED DECEMBER 31, 2022 AND 2021

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

We have certain customers whose net sales individually represented 10% or more of net sales, or whose accounts receivable balances individually represented 10% or more of total accounts receivable.

Two customers, individually, accounted for at 25.7 % and 10.3 %, respectively, of net sales for the year ended December 31, 2023, and one customer accounted for 26.9 % of net sales for the year ended December 31, 2022.

Two customers, individually, accounted 22.1 % and 12.7 %, respectively, of accounts receivable as of December 31, 2023 and 21.3 % and 13.8 % of accounts receivable as of December 31, 2022.

OTHER INTANGIBLE ASSETS

Finite life intangible assets at December 31, 2022 and 2021 are as follows:

Finite life intangible assets as of December 31, 2023 and 2022 are as follows:

Relationships

Balance at January 1, 2021

Abandonment Loss

Balance at December 31, 2021

Balance at December 31, 2022

In 2021, we determined the fair value of the Devicix tradename was more likely than not at $ 0 based on management’s best estimate and recognized a $ 560 loss on abandonment of intangible assets.

Balance as of January 1, 2022

Balance as of December 31, 2022

Balance as of December 31, 2023

Intangible assets are amortized on a straight-line basis over their estimated useful lives.

The weighted average remaining amortization period of our intangible assets is 3.2 years.

Of the patents value at December 31, 2022, $ 95 are being amortized and $ 111 are in process and a patent has not yet been received.

Of the patents value as of December 31, 2023, $ 80 are being amortized and $ 111 are in process and a patent has not yet been issued.

Amortization expense of finite life intangible assets was $ 159 and $ 150 for the years ended December 31, 2023 and 2022, respectively.

Estimated future annual amortization expense (except projects in process) related to these assets is approximately as follows:

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

AS OF AND FOR THE YEARS ENDED DECEMBER 31, 2022 AND 2021

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

FINANCING ARRANGEMENTS

We have a credit agreement with Bank of America which was entered into on June 15, 2017, and subsequently extended, which provides for a line of credit arrangement of $ 16,000 that expires on June 15, 2026.

Under the amended Bank of America credit agreement signed December 31, 2021, the line of credit is subject to variations in the Bloomberg Short-Term Bank Yield (BSBY) index rate.

Prior to the amendment, the line of credit was subject to variations in LIBOR.

Our line of credit bears interest at a weighted-average interest rate of 5.2 % and 3.5 % as of December 31, 2022 and 2021, respectively.

We had borrowings on our line of credit of $ 6,897 and $ 9,016 outstanding as of December 31, 2022 and December 31, 2021, respectively.

There are no subjective acceleration clauses under the credit agreement that would accelerate the maturity of our outstanding borrowings.

In addition, the credit agreement does not expire within one year, the Company is not in violation of the covenants and the Company expects Bank of America to be capable of honoring the financing arrangement.

The line of credit is shown net of debt issuance costs of $ 44 thousand on the consolidated balance sheet for the year ended December 31, 2022.

The line of credit with Bank of America contains certain covenants which, among other things, require us to adhere to regular reporting requirements, abide by annual shareholder dividend limitations, maintain certain financial performance, and limit the amount of annual capital expenditures.

The Bank of America Credit Agreement provides for, among other things, a Fixed Charge Coverage Ratio of not less than 1.0 to 1.0, for the twelve months ending December 31, 2022 and each Fiscal Quarter end thereafter subject only during a trigger period commencing when our availability under our line is less than $2,000 until availability is above that amount for 30 days.

The Company met the covenants for the period ended December 31, 2022.

At December 31, 2022 and 2021, we had unused availability under our line of credit of $ 8,380 and $ 3,539 , respectively, supported by our borrowing base.

The line is secured by substantially all of our assets.

During 2022, we amended our credit agreement to include the Employee Retention Credit Receivable as security in our line of credit which improves our unused availability which expired on January 15, 2023.

On April 15, 2020, we entered into a Promissory Note with Bank of America, N.A., which provides for an unsecured loan of $ 6,077 pursuant to the Paycheck Protection Program (“PPP”) under the Coronavirus, Aid, Relief, and Economic Security Act and applicable regulations (the “CARES Act”) of which funds were received on April 22, 2020.

The loan was accounted for as debt until November 3, 2021 when the $ 6,077 loan and $ 93 accrued interest was fully forgiven by the SBA.

As a result, we recorded a PPP loan forgiveness gain of $ 6,170 which is included in other income (expense) on the consolidated statements of operations and other comprehensive income for the year ended December 31, 2021.

Our China operation has a financing agreement with China Construction Bank which provides for a line of credit arrangement of 10,000,000 Renminbi (RMB) (approximately 1.5 million USD) that will expire on August 18, 2023.

We had no amounts outstanding as of December 31, 2022 and 2021.

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

AS OF AND FOR THE YEARS ENDED DECEMBER 31, 2022 AND 2021

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

We had a $ 16,000 asset backed line of credit agreement with Bank of America which, as amended, was to expire on June 15, 2026.

Under this credit agreement, line of credit borrowing availability was restricted by a defined asset borrowing base, and interest was based on variations in the Bloomberg Short-Term Bank Yield (BSBY) index rate.

This line of credit weighted-average interest rate was 8.3 % and 5.2 % as of December 31, 2023 and 2022, respectively.

We had borrowings on our line of credit of $ 5,815 and $ 6,853 as of December 31, 2023 and December 31, 2022, respectively.

As of December 31, 2023 and 2022, we had unused availability under our line of credit of $ 9,400 and $ 8,400 , respectively, supported by our borrowing base.

We were in compliance with all the financial covenants related to this agreement as of and for the year ended December 31, 2023.

The line of credit is shown net of debt issuance costs of $ 31 on the consolidated balance sheet for the year ended December 31, 2023.

Subsequent to December 31, 2023, we replaced our asset back line of credit agreement with a $ 15,000 Senior Secured Revolving Line of Credit with Bank of America.

Our China operation has a financing agreement with China Construction Bank which provides for a line of credit arrangement of 10,000,000 Renminbi (RMB) (approximately 1,400 USD) that expires on August 18, 2024.

No amounts were outstanding under this financing arrangement as of December 31, 2023 or 2022.

The interest rate as of 12/31/23 was approximately 4 %.

We have operating leases for certain manufacturing sites, office space, and equipment.

2 unchanged sentences

Our leases do not contain any material residual value guarantees or material restrictive covenants.

At December 31, 2022, we do not have material lease commitments that have not commenced.

We did extend and add operating leases for our manufacturing facilities in 2021.

As of December 31, 2023, we do not have material lease commitments that have not commenced.

We have financing leases for certain property and equipment used in the normal course of business.

22 unchanged sentences

Total Lease Liabilities

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

AS OF AND FOR THE YEARS ENDED DECEMBER 31, 2022 AND 2021

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

Supplemental cash flow information related to leases was as follows:

Supplemental cash flow information related to leases was as follows as of December 31, 2023:

Operating Leases

Cash Paid for Amounts Included in the Measurement of Lease Liabilities

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

The right-of use-assets obtained in exchange in for lease obligations in the year ended December 31, 2021 was largely due to leasing of additional space in our Suzhou, China facility.

Operating Lease Assets Obtained in Exchange for Lease Obligations

The operating lease assets obtained in exchange in for lease obligations in the years ended December 31, 2023 and 2022 was largely due to leasing of additional space in our Suzhou, China facility.

Maturities of lease liabilities were as follows:

2 unchanged sentences

Present Value of Lease Liabilities

The lease term and discount rate at December 31, 2022 were as follows:

The lease term and discount rate as of December 31, 2023 were as follows:

Weighted-average remaining lease term (years)

4 unchanged sentences

Finance leases

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

AS OF AND FOR THE YEARS ENDED DECEMBER 31, 2022 AND 2021

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

RESTRUCTURING CHARGES

In 2021, we recorded restructuring charges of $ 327 related to the consolidation of our production facilities and closure of our Merrifield, Minnesota facility.

With the Merrifield closure, we shifted wire and cable assembly, system-level assembly and printed circuit board (PCB) manufacturing to Nortech’s other Minnesota locations.

No amounts were accrued as of December 31, 2021.

We reduced our workforce by approximately 42 employees as a result of this facility closure.

In December 2020, the Consolidated Appropriations Act, 2021 (“CAA”) was signed into law.

The CAA included additional funding through tax credits as part of its economic package for 2021.

We evaluated these items in its tax computation as of December 31, 2020 and determined that the items do not have a material impact on our financial statements as of December 31, 2020.

Additionally, as part of the Paycheck Protection Program (“PPP”) established by the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”), we received a PPP loan on April 15, 2020.

The full amount of the loan and accrued interest were forgiven on November 3, 2021.

This extinguishment of debt income is recorded in other income (expense) on the consolidated statements of operations and other comprehensive income for the year ended December 31, 2021.

The PPP loan forgiveness will be treated as tax-exempt income due to the provisions in the CAA.

The income tax expense for the years ended December 31, 2023 and 2022 consists of the following:

Current taxes - Federal

Current taxes - State

Current taxes - Foreign

Income Tax Expense

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

AS OF AND FOR THE YEARS ENDED DECEMBER 31, 2022 AND 2021

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

The statutory rate reconciliation for the years ended December 31, 2023 and 2022 is as follows:

2 unchanged sentences

Effect of Foreign Operations

Research and Development

Change in State Deferred Rate

Valuation Allowance

PPP Loan Forgiveness

Maquiladora Tax

US Permanent Differences

1 unchanged sentence

Global Intangible Low-Taxed Income Effect

Return to provision - credits, perm diffs

Withholding Tax

Income and loss from operations before income taxes was derived from the following sources:

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

AS OF AND FOR THE YEARS ENDED DECEMBER 31, 2022 AND 2021

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

Deferred tax (liabilities) assets at December 31, 2022 and 2021, consist of the following:

Allowance for uncollectable accounts

Inventories reserve

Accrued vacation

Deferred tax (liabilities) assets as of December 31, 2023 and 2022, consist of the following:

Accrued Bonus

1 unchanged sentence

Other Accruals

Lease Accounting ASC 842 Lease Liability

Lease Accounting Lease Liability

Capitalized Research Expenses

Net operating loss carryforwards

Tax Credit Carryforwards

Unrealized Foreign Currency Gain

COGS Rev Rec Adjustment

COGS Offset Adjustment

Valuation Allowance

Deferred Tax Assets

Accumulated Other Comprehensive Income

Lease Accounting ASC 842 Lease Asset

Lease Accounting Lease Asset

Withholding Tax

Prepaid Expenses

2 unchanged sentences

Net Deferred Tax Assets

We currently have significant deferred tax assets as a result of temporary differences between taxable income on our tax returns and U.S.

A deferred tax asset generally represents future tax benefits to be received when temporary differences previously reported in our financial statements become deductible for tax purposes.

We assess the realizability of our deferred tax assets and the need for a valuation allowance based on guidance provided in current financial accounting standards.

Significant judgment is required in determining the realizability of our deferred tax assets.

The assessment of whether valuation allowances are required considers, among other matters, the nature, frequency and severity of any current and cumulative losses, forecasts of future profitability, the duration of statutory carry forward periods, our experience with loss carry forwards not expiring unused and tax planning alternatives.

After considering all available evidence, both positive and negative, we have concluded that a valuation allowance is needed for all our United States based deferred tax assets due to the history of operating losses sustained in the past three years.

At December 31, 2022, for U.S.

state purposes, we have Minnesota R&D credit carry forwards of $ 172 , which begin to expire in 2027.

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

AS OF AND FOR THE YEARS ENDED DECEMBER 31, 2022 AND 2021

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

We recorded a valuation allowance of $ 2,563 against our net deferred tax assets as of December 31, 2022.

We regularly assess the need for a valuation allowance related to our deferred income tax assets to determine, based on the weight of the available positive and negative evidence, whether it is more likely than not that some or all of such deferred assets will not be realized.

In our assessments, the Company considers recent financial operating results, potential sources of taxable income, the reversal of existing taxable differences, taxable income in prior carryback years, if permitted under tax law, and tax planning strategies.

Based on our most recent assessment, for the year ended December 31, 2023, we released $ 2,563 of the valuation allowance on our domestic deferred income tax assets as it more likely than not we will realize them, based on our ability to demonstrate an estimate of objectively verifiable future income.

This estimate of future income, along with our assessments of the other positive and negative evidence considered, supports the release of the valuation allowance.

Our consolidated balance sheet as of December 31, 2023 has a deferred tax asset of $ 2,641 related to our US taxable operations and a $ 240 deferred tax liability included other long-term liabilities related to our Chinese taxes, for a net deferred tax asset of $ 2,401 .

As of December 31, 2023, for U.S.

state purposes, we have a Minnesota R&D credit carry forward of $ 120 , which will begin to expire in 2027.

The Tax Cuts and Jobs Act ("TCJA") was enacted on December 22, 2017 and includes the requirement to capitalize and amortize over years research and experimental expenditures beginning in 2022.

Prior to 2022, we expensed these costs as incurred for tax purposes.

The capitalization of the research and experimental expenditures resulted in a deferred tax asset of $ 318 , which was fully offset by a valuation allowance, resulting in no significant impact to income tax expense as of December 31, 2022.

As of December 31, 2023 the deferred tax asset associated with capitalized research and experimental expenditures was $ 1,007 .

The tax effects from uncertain tax positions can be recognized in our consolidated financial statements, only if the position is more likely than not to be sustained on audit, based on the technical merits of the position.

1 unchanged sentence

For positions meeting the more likely than not threshold, the amount recognized in the financial statements is the largest benefit that has a greater than 50 percent likelihood of being realized upon ultimate settlement with the relevant tax authority.

The following tables set forth changes in our total gross unrecognized tax benefit liabilities, excluding accrued interest, for the years ended December 31, 2022 and 2021 (in thousands):

Balance at December 31, 2021

The following tables set forth changes in our total gross unrecognized tax benefit liabilities, excluding accrued interest, for the years ended December 31, 2023 and 2022:

Balance as of December 31, 2022

Tax Positions - Additions

Tax Positions - Reductions

Balance at December 31, 2022

Balance as of December 31, 2023

Our policy is to accrue interest related to potential underpayment of income taxes within the provision for income taxes.

3 unchanged sentences

federal jurisdiction and various state jurisdictions.

The Company files income tax returns in the U.S.

federal jurisdiction and various state and foreign jurisdictions.

As of December 31, 2022, our 2018 IRS audit was finalized.

With few exceptions, we are no longer subject to federal and state and local income tax examinations for years before 2019.

401(K) RETIREMENT PLAN

We have a 401(k) profit sharing plan (the 401(k) Plan) for our employees.

The 401(k) Plan is a defined contribution plan covering substantially all of our U.S.

We have a 401(k) profit sharing plan (the “401(k) Plan”), a defined contribution plan, covering substantially all of our U.S.

Employees are eligible to participate in the Plan after completing three months of service and attaining the age of 18 .

Employees are allowed to contribute up to 60 % of their wages to the 401(k) Plan.

Historically we have matched 25 % of the employees’

contributions up to 6 % of covered compensation.

We match 37.5 % of the employees’ contributions up to 6 % of covered compensation.

We made contributions, net of forfeitures, of approximately $ 465 and $ 301 during the years ended December 31, 2023 and 2022, respectively.

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

AS OF AND FOR THE YEARS ENDED DECEMBER 31, 2022 AND 2021

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

INCENTIVE PLANS

In May 2017, the shareholders approved the 2017 Stock Incentive Plan which authorized the issuance of 350,000 shares.

An additional 50,000 and 175,000 shares were authorized by the shareholders in March 2020 and May 2022, respectively.

There were 115,000 options and restricted stock units and 49,000 options granted during the years ended December 31, 2022 and 2021, respectively.

An additional 50,000 , 175,000 and 100,000 shares were authorized by the shareholders in March 2020,May 2022 and May 2023, respectively.

There were 116,500 options and restricted stock units and 115,000 options and restricted stock units granted during the years ended December 31, 2023 and 2022, respectively.

Stock Options

4 unchanged sentences

We used the Black-Scholes option-pricing model to calculate the fair value of option-based awards.

Our determination of fair value of option-based awards on the date of grant using the Black-Scholes model is affected by our stock price as well as assumptions regarding a number of subjective variables.

Our determination of fair value of option-based awards on the date of grant using the Black-Scholes model is affected by our stock price as well as assumptions regarding several subjective variables.

These variables include, but are not limited to, our expected stock price, volatility over the term of the awards, risk-free interest rate, and the expected life of the options.

2 unchanged sentences

For all grants, the amount of compensation expense recognized has been adjusted for an estimated forfeiture rate, which is based on historical data.

We granted 21,000 market condition options to our Chief Executive Officer during the twelve months ended December 31, 2022.

The market condition options vest if certain stock prices are exceeded between February 27, 2024 and February 27, 2028.

Weighted average stock option fair value assumptions and the weighted average grant date fair value of stock options granted were as follows:

Stock option fair value assumptions:

Risk-free interest rate

Expected life (years)

Dividend yield

Expected volatility

Weighted average grant date fair value of stock options granted

We granted 94,000 service-based options during the twelve months ended December 31, 2023.

There were 49,000 stock options granted during the twelve months ended December 31, 2021.

Total compensation expense related to stock options was $ 237 for the twelve months ended December 31, 2022.

Total compensation expense related to stock options was $ 116 for the twelve months ended December 31, 2021.

There were 73,000 service-based options granted during the year ended December 31, 2022.

We granted 21,000 market condition options to our Chief Executive Officer during the year ended December 31, 2022.

The market condition options vest if certain stock prices are exceeded between February 27, 2024 and February 27, 2028.

The vesting schedule for the market condition options is as follows:

5,000 Shares to vest if the closing price of the Company’s common stock exceeds $20 per share on average over 20 consecutive trading days after February 27, 2024;

5,000 Shares to vest if the closing price of the Company’s common stock exceeds $24 per share on average over 20 consecutive trading days after February 27, 2025;

5,000 Shares to vest if the closing price of the Company’s common stock exceeds $28.80 per share on average over 20 consecutive trading days after February 27, 2026;

3,000 Shares to vest if the closing price of the Company’s common stock exceeds $34.56 per share on average over 20 consecutive trading days after February 27, 2027;

3,000 Shares to vest if the closing price of the Company’s common stock exceeds $41.47 per share on average over 20 consecutive trading days after February 27, 2028.

Total compensation expense related to stock options was $ 256 for the year ended December 31, 2023.

Total compensation expense related to stock options was $ 237 for the year ended December 31, 2022.

As of December 31, 2023, there was $ 873 of unrecognized compensation which will vest and expense over the next 3.96 years.

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

AS OF AND FOR THE YEARS ENDED DECEMBER 31, 2022 AND 2021

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

A summary of option activity as of and for the years ended December 31, 2023 and 2022 as follows:

1 unchanged sentence

Intrinsic Value

Outstanding –

January 1, 2021

Outstanding –

December 31, 2021

Outstanding –

December 31, 2022

Outstanding – January 1, 2022

Outstanding – December 31, 2022

Outstanding – December 31, 2023

Exercisable on December 31, 2023

Restricted Stock Units

During the twelve months ended December 31, 2022, we granted 21,000 restricted stock units (“RSUs”) under our 2017 Stock Incentive Plan to non-employee directors which vest over two years.

Total compensation expense related to the RSUs were $ 97 for the twelve months ended December 31, 2022.

There was no compensation expense related to RSUs for the twelve months ended December 30, 2021.

During the years ended December 31, 2023 and 2022, we granted 22,500 and 21,000 restricted stock units (“RSUs”), respectively, under our 2017 Stock Incentive Plan to non-employee directors which vest over two years.

Total compensation expense related to the RSUs were $ 167 and $ 97 for the years ended December 31, 2023 and 2022, respectively.

Total unrecognized compensation expense related to the RSUs was $ 206 , which will vest over the next 1.11 years.

The RSUs granted in the twelve months ended December 31, 2022 had an average grant price of $ 12.00 per share with a weighted average remaining contractual term of 9.24 years.

No RSUs vested during the twelve months ended December 31, 2022.

Equity Appreciation Rights Plan

In November 2010, the Board of Directors approved the adoption of the Nortech Systems Incorporated Equity Appreciation Rights Plan (the 2010 Plan).

The total number of Equity Appreciation Right Units (Units) the Plan can issue shall not exceed an aggregate of 1,000,000 Units as amended and restated on March 11, 2015 and approved by the shareholders on May 6, 2015.

The 2010 Plan provides that Units issued shall fully vest three years from the base date as defined in the agreement unless terminated earlier.

Units give the holder a right to receive a cash payment equal to the appreciation in book value per share of common stock from the base date, as defined, to the redemption date.

Unit redemption payments under this plan shall be paid in cash within 90 days after we determine the book value of the Units as of the calendar year immediately preceding the redemption date.

The Units are adjusted to each reporting period based on the expected appreciation of the Units as defined in the Plan.

During the years ended December 31, 2022 and 2021, no Units were granted.

Total compensation expense related to the vested outstanding Units based on the estimated appreciation over their remaining terms was approximately $ 0 and $ 143 for the year ended December 31, 2022 and 2021, respectively.

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

AS OF AND FOR THE YEARS ENDED DECEMBER 31, 2022 AND 2021

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

The RSUs granted in the years ended December 31, 2023 and 2022 had an average grant price of $ 9.11 and $ 12.00 per share, respectively.

As of December 31, 2023, we had 27,000 RSUs outstanding with a weighted average remaining contractual term of 9.12 years.

During the twelve months ended December 31, 2023 and 2022, 10,500 and 0 RSUs vested, respectively.

COMMITMENTS AND CONTINGENCIES

5 unchanged sentences

In the event of an involuntarily termination in connection with a change of control as defined in the agreements, each Executive would receive their base salary, annual bonus at time of termination, and continued participation in health, disability and life insurance plans for a period of three years for officers and two years for all other participants.

EMPLOYEE RETENTION CREDIT

We qualified for Employee Retention Credits on qualified wages paid in the first and second quarters of 2021 and filed for both credits in the third quarter of 2021.

We recognize government grants for which there is a reasonable assurance of compliance with grant conditions and receipt of credits.

In 2021, there was $ 5,209 related to Employee Retention Credits recognized as a reduction of the associated costs within cost of goods sold of $ 4,670 , selling of $ 125 , and general and administrative expenses of $ 414 on the consolidated statements of operations.

We received payment on the Employee Retention Credit for the first quarter of 2021 of $ 2,559 in the fourth quarter of 2022.

The remaining Employee Retention Credits Receivable of $ 2,650 is recorded on the Consolidated Balance Sheets.

EMPLOYEE RETENTION CREDIT AND PAYROLL TAX DEFERRAL

The Taxpayer Certainty and Disaster Tax Relief Act of 2020 and the American Rescue Plan Act of 2021 extended and expanded the availability of the ERC.

We qualified for ERC on qualified wages paid in the first and second quarters of 2021.

During the year ended December 31, 2022, the Company received the ERC related to the first quarter of 2021 of $ 2,559 .

The remaining Employee Retention Credits Receivable of $ 2,650 is recorded on the consolidated balance sheets as of December 31, 2022.

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

AS OF AND FOR THE YEARS ENDED DECEMBER 31, 2022 AND 2021

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

During the year ended December 31, 2023, the Company received the ERC related to the second quarter of 2021 of $ 2,650 .

The CARES Act allowed for the deferral of the employer portion of social security taxes incurred through the end of calendar 2020.

As of December 31, 2022, there was $ 1,158 of social security tax payments deferred.

We remitted this amount due during the year ended December 31, 2023 upon receipt of the remining credits under the ERC that exceeded the deferral amount as allowed under IRS Notices 2020-22 and 2021-2024.

As of December 31, 2023, we recorded a receivable due from the IRS for $ 785 of the above $1,158 payment as it is being refunded to us;

we have recorded an offsetting liability due to the IRS under the tax ID of our former professional employer organization (“PEO”).

RELATED PARTY TRANSACTIONS

David Kunin, our Chairman, is a minority owner of Abilitech Medical, Inc.

Kunin also was a consultant to Abilitech, which relationship ended on March 1, 2021.

Abilitech paid the Company $ 0 and $ 247 in the years ended December 31, 2023 and 2022, respectively, for delivery of medical products.

We have exposure to Abilitech which includes $ 141 of accounts receivable and $ 113 of inventory.

We do not believe that Abilitech will pay the Company on accounts receivable or for inventory and we have fully reserved for such exposure.

As of December 31, 2023, we have fully reserved our accounts receivable and inventory, aggregating $ 226 , related to Abilitech.

Abilitech has ceased operations and therefore we do not believe that Abilitech will fully pay the Company for outstanding accounts receivable or for inventory and we have recorded a full reserve against the gross amounts.

In January 2024, we received a payment of $ 28 from Abilitech for partial payment of previously fully reserved accounts receivable balances.

The Company believes that transactions with Abilitech are on terms comparable to those that the Company could reasonably expect in an arm's length transaction with an unrelated third party.

1 unchanged sentence

Kunin is also a member of the Board of Directors of Marpe Technologies.

The Company worked with Marpe Technologies to apply for a grant from the Israel-United States Binational Industrial Research and Development Foundation, a legal entity created by Agreement between the Government of the State of Israel and the Government of the United States of America (“BIRD Foundation”).

The parties were successful in receiving approval for a $ 1,000 conditional grant.

1 unchanged sentence

The Company will meet its obligation by providing certain services at cost or with respect to administrative services at no cost to Marpe Technologies.

The total value of the contribution will not exceed $ 500 .

The total value of the Company’s contribution will not exceed $500.

Marpe is engaged in raising funds for its operations, which funds are necessary to pay for the Company’s services beyond its contribution.

The Company will receive a 10 -year exclusive right to manufacture the products of Marpe Technologies.

There can be no assurances that Marpe Technologies’

medical device will be commercially successful, that Marpe Technologies will be successful in raising additional funds to finance its operations or, if commercially successful, the Company will recoup the value of services provided to Marpe for which is not fully paid.

There can be no assurances that Marpe Technologies’ medical device operations will be commercially successful, that Marpe Technologies will be successful in raising additional funds to finance its operations or, if commercially successful, the Company will recover the value of services provided to Marpe if not paid when the services are provided.

The transactions between the Company and Marpe Technologies have been approved by the Audit Committee pursuant to the Company Related-Party Transactions Policy.

During the twelve months ended December 31, 2022 and 2021, we recognized revenue of $ 440 and $ 148 , respectively.

The Company believes that transactions with Marpe are on terms comparable to those that the Company could reasonably expect in an arm’s length transaction with an unrelated third party.

During the twelve months ended December 31, 2023 and 2022, we recognized net sales to Marpe Technologies of $ 163 and $ 440 , respectively.

As of December 31, 2023, we have recorded an unbilled receivable of $ 39 related to expected reimbursement from the BIRD Foundation and have outstanding accounts receivable of $ 20 .

In March 2024, we received a payment of $ 50 from the BIRD Foundation.

The Company believes that transactions with Marpe are on terms comparable to those that the Company could reasonably expect in an arm’s length transaction with an unrelated third party.

SUBSEQUENT EVENTS

Credit Facility

On February 29, 2024, the replaced its asset back line of credit agreement with $ 15,000 Senior Secured Revolving Line of Credit with Bank of America (the “Revolver”).

The Revolver allows for borrowings at a defined base rate, or at the one, three or six month Secured Overnight Finance Rate, also known as “SOFR”, plus a defined margin.

If the Company prepays SOFR borrowings before their contractual maturity, the Company has agreed to compensate the bank for lost margin, as defined in the Revolver agreement.

The Company is required to quarterly pay a 20 -basis point fee on the unused portion of the Revolver.

The Revolver requires the Company to maintain no more than 2.5 times leverage ratio and at least a 1.25 times minimum fixed charges coverage ratio, both of which are defined in the Revolver agreement.

There are no subjective acceleration clauses under the Revolver that would accelerate the maturity of outstanding borrowings.

The Revolver contains certain covenants which, among other things, require the Company to adhere to regular reporting requirements, abide by shareholder dividend limitations, maintain certain financial performance, and limit the amount of annual capital expenditures.

The Revolver is secured by substantially all the Company’s assets and expires on February 28, 2027.

Lease Renewal

In January 2024, we extended the lease in our China facility that expired on January 20, 2024.

The new lease now expires on January 20, 2027.

Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

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-K

Item 8. Financial Statements and Supplementary Data