NORTECH SYSTEMS INC 10-K

Item 5. Market for Registrant ’ s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities As of March 12, 2025, there were 590 shareholders of record. Our stock is listed on the NASDAQ Capital Market under the symbol “NSYS”. We intend to invest our profits into the growth of our operations and, therefore, do not plan to pay out dividends to shareholders in the foreseeable future. We did not declare or pay a cash dividend in 2024 or 2023. Future dividend policy and payments, if any, will depend upon earnings, our financial condition, our need for funds, limitations on payments of dividends present in our current or future debt agreements and other factors. Stock price comparisons (NASDAQ): During the Three Months Ended Low High March 31, 2024 $ 9.13 $ 14.35 June 30, 2024 $ 10.19 $ 19.15 September 30, 2024 $ 11.00 $ 15.55 December 31, 2024 $ 9.53 $ 13.90 March 31, 2023 $ 10.37 $ 16.52 June 30, 2023 $ 9.00 $ 11.26 September 30, 2023 $ 8.76 $ 10.89 December 31, 2023 $ 7.45 $ 10.27 Purchases of Equity Securities by the Issuer and Affiliated Purchasers In May 2024, our Board of Directors approved a share repurchase program authorizing up to $100,000 in share repurchases. This share repurchase program commenced in August 2024 and expired in October 2024 upon completion of the program. We purchased 8,185 shares of the Company’s common stock at an average price of $12.09 per share. Equity Compensation Plan Information Certain information with respect to our equity compensation plans are contained in Part III, Item 12 of this Annual Report on Form 10-K. Item 6. Selected Financial Data [Reserved] 18 Item 7. Management ’ s Discussion and Analysis of Financial Condition and Results of Operations Overview We are a Minnesota, United States based full-service global EMS contract manufacturer in the Medical Device, Medical Imaging, Aerospace and Defense and Industrial markets offering a full range of value-added engineering, technical and manufacturing services and support including project management, design, testing, prototyping, manufacturing, supply chain management and post-market services. Our products are complex electromedical and electromechanical products including medical devices, wire and cable assemblies, printed circuit board assemblies, complex higher-level assemblies and other box builds for a wide range of industries. As of December 31, 2024, we have facilities in Minnesota: Bemidji, Mankato, Milaca and Maple Grove. We closed our facility in Blue Earth, Minnesota in December 2024 and are currently seeking to sell this facility. We also have facilities in Monterrey, Mexico and Suzhou, China. Our net sales are derived from complex designed products built to the customers’ specifications. The products we manufacture are engineered and designed products that require sophisticated manufacturing support. Quality, on-time delivery, and reliability are of upmost importance. Our goal is to expand and diversify our customer base by focusing on sales and marketing efforts that fit our value-added service, early engagement design, and development strategy. We continue to focus on lean manufacturing initiatives, quality and on-time delivery improvements to increase asset utilization, reduce lead times and provide competitive pricing. Our strategic investments have positioned us to capitalize on growth opportunities in the medical markets and improve our competitiveness by expanding our global footprint. Our industrial and defense markets are focused on improving our asset utilization and profitability while transforming to a value added, solution-sell business model that supports early engagement, design for manufacturability and rapid prototyping. All dollar amounts are stated in thousands of U.S. dollars. 19 Operating Results Net Sales. Net sales for the year ended December 31, 2024 and 2023 were $128,133 and $139,332, respectively, a year over year decrease of $11,199 or 8.0%. The following is a summary of net sales by our major industry markets: Year Ended December 31, 2024 2023 Increase (Decrease) Medical Device $ 34,636 $ 38,758 $ (4,122 ) (10.6 )% Medical Imaging 37,492 39,908 (2,416 ) (6.1 )% Industrial 35,517 40,113 (4,596 ) (11.5 )% Aerospace and Defense 20,488 20,553 (65 ) (0.3 )% Total net sales $ 128,133 $ 139,332 $ (11,199 ) (8.0 )% ● Medical Device: Net sales to our Medical Device customers decreased $4,122, or 10.6%, in the year ended December 31, 2024 as compared with the same period in 2023. The decrease was primarily due to inventory re-balancing with existing customers and timing of customer product launches. ● Medical Imaging: Net sales to our Medical Imaging customers decreased $2,416, or 6.1%, in the year ended December 31, 2024 as compared with the same period in 2023. The decrease was primarily due to inventory re-balancing with existing customers, timing of customer product launches and lower average sales prices as we moved several programs to our Monterrey, Mexico facility. ● Industrial: Net sales to our Industrial customers decreased $4,596, or 11.5%, in the year ended December 31, 2024 as compared with the same period in 2023. The decrease in net sales was primarily due to Industrial customers’ efforts to reduce their inventory investments, delayed program launches with several customers as well as sales headwinds in several markets for which we provide products for these customers. ● Aerospace and Defense: Net sales to our Aerospace and Defense customers decreased $65, or 0.3%, in the year ended December 31, 2024, as compared with the same period in 2023. Growth in this market was negatively impacted by the closure of Blue Earth facility in December 2024 and the movement of these customers programs to our Bemidji facility as well as the timing of customer approvals to approve this move. As a result, fourth quarter net sales in this market decreased from $6,055 in 2023 to $2,609 in 2024. Backlog. Our 90-day shipment backlog as of December 31, 2024 was $26,451, down 24.8% from December 31, 2023. Our 90-day backlog consists of firm purchase orders we expect to ship in the next 90 days, with any remaining amounts to be shipped within 180 days. Our total order backlog as of December 31, 2024 was $65,852, a 28.2% decrease from December 31, 2023. As the supply chain lead times have normalized, customers are returning to their pre-pandemic ordering practices, which has resulted in a decrease in our backlog. We continue to experience reduced visibility to net sales in the next several quarters as customers are rebalancing their inventories and, therefore, deferring the placement of some orders, as well as shortening their order to fulfilment lead teams. 90-day and total shipment backlog by our major industry markets are as follows: December 31, 2024 December 31, 2023 % Change 90 Day Total 90 Day Total 90 Day Total Medical Device $ 6,953 $ 21,706 $ 10,350 $ 34,471 (32.8 )% (37.0 )% Medical Imaging 7,168 10,353 7,757 13,122 (7.6 )% (21.1 )% Industrial 5,173 7,306 8,644 13,857 (40.2 )% (47.3 )% Aerospace and Defense 7,157 26,487 8,416 30,234 (15.0 )% (12.4 )% Total backlog $ 26,451 $ 65,852 $ 35,167 $ 91,684 (24.8 )% (28.2 )% The 90-day and total backlog as of December 31, 2024 includes orders already recognized in net sales and included in the contract asset value of $13,792. 20 Operating Costs and Expenses. Net sales, cost of goods sold, gross profit, and operating costs were as follows: Year Ended December 31, 2024 2023 Increase/(Decrease) Net sales $ 128,133 $ 139,332 $ (11,199 ) (8.0 )% Cost of goods sold 111,411 116,228 (4,817 ) (4.1 )% Gross profit 16,722 23,104 (6,382 ) (27.6 )% Gross margin percentage (1) 13.1 % 16.6 % (353 ) bpc (2) Selling 3,446 3,598 (152 ) (4.2 )% % of Net sales 2.7 % 2.6 % General and administrative 11,709 12,354 (645 ) (5.2 )% % of Net sales 9.1 % 8.9 % Research and development 1,191 1,199 (8 ) (0.7 )% % of Net sales 0.9 % 0.9 % Restructuring charges 571 - 571 - % % of Net sales 0.4 % - % Operating (loss) income (195 ) 5,953 (6,148 ) (103.3 )% % of Net sales (0.2 )% 4.3 % (1) Gross margin percentage is defined as gross profit as a percentage of net sales. (2) Basis points change in gross margin percentage. Gross profit and gross margins. Gross profit as a percent of net sales was 13.1% and 16.6% for the years ended December 31, 2024 and 2023, respectively. The decrease in gross profit as a percentage of net sales in 2024 as compared with the same prior-year periods was the result of lower net sales, as discussed above, and corresponding lower operating leverage from reduced production at a number of our manufacturing facilities, as well as incremental costs associated included in costs of goods sold related to the closure of our Blue Earth facility and moving production to our Bemidji facility. Selling expenses. Selling expenses decreased slightly in the year ended December 31, 2024 as compared with 2023 as the result of lower incentive compensation expense in 2024. General and administrative expenses. General and administrative expenses decreased $645, or 5.2% in the year ended December 31, 2024 as compared with the 2023 as the result of lower incentive compensation expense in 2024. Restructuring charges . Restructuring charges were $571 in the year ended December 31, 2024 for employee retention bonuses, disposal and moving costs associated with the closure of our Blue Earth facility. Operating (loss) income. Operating (loss) income for the years ended December 31, 2024 and 2023 were $(195), or (0.2)% of net sales, and as compared with $5,953, or 4.3% of net sales, respectively. The decreases were driven by lower in net sales and resulting gross margin, incremental costs associated with the closure of the Blue Earth facility included in costs of sales as well as restructuring expense, offset by lower incentive compensation of $1,643 in 2024 as we did not meet our bonus objectives. Other expense Interest expense. Interest expense was $744 and $487 for the years ended December 31, 2024 and 2023, respectively. This increase was driven by higher borrowings under our line of credit arrangement. Refer to “Liquidity and Capital Resources” for further discussion of financing arrangements. Income taxes. Our effective tax rates for the years ended December 31, 2024 and 2023 were (37.9)% and 25.8%, respectively. The primary drivers of the change in the effective tax rates relate to changes in pretax book income between the years and the 2023 recording of a $2.6 million tax benefit from the reduction of our valuation allowance for deferred tax assets. Net (Loss) Income. Our net loss in 2024 was $1,295 or $0.47 per diluted and basic common share. Our net income in 2023 was $6,874 or $2.38 per diluted and $2.53 per basic common share. 21 Liquidity and Capital Resources We believe that our existing financing arrangements, anticipated cash flows from operations, and cash on hand will be sufficient to satisfy our working capital needs, capital expenditures and debt repayments for the next year from the date of this filing with the Securities and Exchange Commission. Credit Facilities On February 29, 2024, we replaced the asset backed line of credit agreement with a $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. These ratios are calculated based on trailing twelve-month results. 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. We were not in compliance with financial covenants related to the maximum operating expense contributions to our Mexican operations in the first and second quarters of 2024. We have received a waiver of this event of default from the bank. On March 27, 2025, we amended (the “Amendment”) the Revolver to waive our non-compliance with the leverage ratio and minimum fixed charge ratio as of December 31, 2024, and March 31, 2025. Further, the Amendment defers the Company’s compliance with these ratios until the third quarter of 2025 at which time the Company must maintain (a) a leverage ratio of 3.5 times or less in the third quarter of 2025, and 2.5 times or less for each subsequent quarter; and (b) a minimum fixed charge coverage ratio to 1.25 times for the third quarter of 2025 and each quarter thereafter. The Company must also maintain EBITDA (earnings before interest, taxes depreciation and amortization) as of the end of the second quarter and third quarter of at least $1,600. In addition, the Amendment requires the Company to maintain unrestricted cash and Revolver availability of at least $2.5 million at each month end in the second quarter of 2025, $2.75 million at month end July 2025 and $3.0 million at the end of August and September 2025. The Amendment also requires the Company to provide incremental monthly reporting and increased the Company’s borrowing rate by one percent until the Company is in compliance with the original terms of the Revolver. We have included the Amendment No. 1 to Credit Agreement, Waiver, and Consent as an exhibit to this filing and any description of that document contained in this risk factor is only a summary and is qualified by its entirety by the Amendment No. 1 to Credit Agreement, Waiver, and Consent. Under the amended Bank of America credit agreement signed February 29, 2024, the line of credit is subject to variations in the SOFR index rate. Under the prior credit agreement with Bank of America, the 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. Our line of credit bears interest at a weighted-average interest rate of 7.7% and 8.3% as of December 31, 2024 and 2023, respectively. We had borrowings on our line of credit of $8,695 and $5,846 outstanding as of December 31, 2024 and 2023, respectively. As of December 31, 2024 we had unused availability on the line of credit of $6,305. The Company has an interim funding agreement as of December 31, 2024 with a bank related to $345 of deposits made on equipment purchases that will be funded through a finance lease when the equipment is received and operational. As of December 31, we have $345 outstanding on the interim funding agreement for equipment. The line of credit is shown net of debt issuance costs of $61 and $31 on the consolidated balance sheets as of December 31, 2024 and December 31, 2023, respectively. 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 1.4 million USD) that expires on September 9, 2025. No amounts were outstanding under this financing arrangement as of December 31, 2024 or 2023. The interest rate as of December 31, 2024 was approximately 4%. 22 Cash flows for the years ended December 31, 2024 and 2023 are summarized as follows: 2024 2023 Cash flows provided by (used in): Operating activities $ (2,250 ) $ 1,769 Investing activities (1,263 ) (1,284 ) Financing activities 2,765 (1,281 ) Effect of exchange rate changes on cash (11 ) (10 ) Net change in cash and cash equivalents $ (759 ) $ (806 ) Cash used in operating activities for the year ended December 31, 2024 was $2,250 compared with cash provided by operations of $1,769 for the year ended December 31, 2023. In 2024, the cash used in operating activities was driven by the timing of accounts payable payments and the payment of accrued bonus expenses. In 2023, the cash provided by operating activities was driven by net income. Net cash used in investing activities was $1,263 for the year ended December 31, 2024 and net cash used in investing activities was $1,284 for the year ended December 31, 2023. Cash used in investing activities in both years primarily relates to the purchase of property and equipment. Net cash provided by financing activities in 2024 of $2,765 consisted primarily of net proceeds from the line of credit of $2,849 and proceeds from notes payable of $345. The cash used by financing activities in 2023 of $1,281 consisted primarily of net payments on the line of credit of $1,050 and capital lease payments of $390. Critical Accounting Policies and Estimates The discussion and analysis of our financial condition and results of operations are based upon our audited consolidated financial statements, which have been prepared in accordance with U.S. GAAP. The preparation of these consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of our consolidated financial statements, the reported amounts of net sales and expenses during the reporting periods presented, as well as our disclosures of contingent assets and liabilities. On an on-going basis, we evaluate our estimates and assumptions, including, but not limited to, valuation allowance for inventories, allowance for credit losses, realizability of deferred tax assets and long-lived asset impairment testing. We base our estimates and assumptions on our historical experience and on various other information available to us at the time that these estimates and assumptions are made. We believe that these estimates and assumptions are reasonable under the circumstances and form the basis for our making judgments about the carrying values of our assets and liabilities that are not readily apparent from other sources. Actual results and outcomes could differ from our estimates primarily due to incorrect sales forecasting. We utilize a pipeline generated by our sales team and speak directly with all departments regarding estimates and assumptions. If, for any reason, those estimates, and assumptions vary substantially it would also impact our financial results. 23 Our accounting policies are described in “Note 1 – Summary of Significant Accounting Policies,” in Notes to Consolidated Financial Statements of this Annual Report on Form 10-K. We believe that the following discussion addresses our critical accounting policies and reflects those areas that require more significant judgments and use of estimates and assumptions in the preparation of our consolidated financial statements. Revenue Recognition Our net sales are comprised of product, engineering services and repair services. All net sales are 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. Most of our contracts have a single performance obligation and require that we provide services and products that are unique to each customer’s designed products and have no alternative usage. As of December 31, 2024, the Company has recorded a contract asset of $13,792 for unbilled customer net sales included in net sales. Net sales are 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) income. Sales, value added, 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 charged to our customers are included in net sales, while the corresponding shipping expenses are included in cost of goods sold. Long-Lived Assets Impairment 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. As of December 31, 2024, 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, 2024. 24 Inventory Valuation Inventory are recorded at the lower of cost or net realizable value for inventory that may have a lower net realizable value than cost or quantities in excess of future production needs. Certain raw material inventories are purchased solely to meet a customer’s unique manufacturing requirements. We seek to require our customers to prepay for end of life or certain inventory in excess of current customer order quantities. We have an evaluation process to assess the value of the inventory that is slow moving, excess or obsolete on a quarterly basis. This process includes an evaluation of our inventory based on current usage and the latest forecasts of product demand and production requirements from our customers. We periodically review the underlying inventory reserve assumptions based on recent trends. As of December 31, 2024, we had an inventory reserve of $1,446. Income Taxes Significant judgment is required in evaluating our tax positions and in determining income tax expense, deferred tax assets and liabilities, and any valuation allowance recorded against our deferred tax assets. We evaluate the recoverability of deferred tax assets based on available evidence. This process involves significant management judgment about assumptions that are subject to change from period to period based on changes in tax laws or variances between future projected operating performance and actual results. We establish a valuation allowance for deferred tax assets if we determine, based on available evidence at the time the determination is made, that it is more likely than not (defined as a likelihood of more than 50%) that all or a portion of the deferred tax assets will not be realized. In making this determination, we evaluate all positive and negative evidence as of the end of each reporting period. Future adjustments (either increases or decreases) to the deferred tax asset valuation allowance are determined based upon changes in the expected realization of the net deferred tax assets. In 2023, we recorded a $2,600 tax benefit as we reversed a previously established valuation allowance against our net U.S. deferred tax assets. During 2024, we concluded that it was more likely than not we would realize our recorded net deferred tax assets. The realization of the deferred tax assets ultimately depends on the existence of sufficient taxable income or tax liability in either the carryback or carry-forward periods under the tax law. Due to significant estimates used to establish the valuation allowance and the potential for changes in facts and circumstances, it is reasonably possible that we will be required to record additional adjustments to the valuation allowance in future reporting periods that could have a material effect on our results of operations. We establish reserves for uncertain tax positions when, despite our belief that our tax return positions are fully supportable, we believe that certain positions are likely to be challenged and that we may or may not prevail. If we determine that a tax position is more likely than not of being sustained upon audit, based solely on the technical merits of the position, we recognize the benefit. We measure the benefit by determining the amount that is greater than 50% likely of being realized upon settlement. We presume that all tax positions will be examined by a taxing authority with full knowledge of all relevant information. The calculation of our tax liabilities involves dealing with uncertainties in the application of complex tax regulations. We regularly monitor our tax positions and tax liabilities. We reevaluate the technical merits of our tax positions and recognize an uncertain tax benefit, or derecognize a previously recorded tax benefit, when there is (i) a completion of a tax audit, (ii) effective settlement of an issue, (iii) a change in applicable tax law including a tax case or legislative guidance, or (iv) the expiration of the applicable statute of limitations. Significant judgment is required in accounting for tax reserves. Although we believe that we have adequately provided for liabilities resulting from tax assessments by taxing authorities, positions taken by these tax authorities could have a material impact on our results of operations. Our reserve for uncertain tax positions aggregated $97 as of December 31, 2024. 25 New Accounting Pronouncements Information regarding new accounting pronouncements is included in Note 1 to the consolidated financial statements in “Financial Statements and Supplementary Data” in Part II, Item 8 of this Annual Report on Form 10-K. Forward-Looking Statements This Annual Report on Form 10-K, including “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Item 7, contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. We may also make forward-looking statements in other reports filed with the SEC, in materials delivered to stockholders and in press releases. Such statements generally will be accompanied by words such as “anticipate,” “believe,” “estimate,” “expect,” “forecast,” “intend,” “possible,” “potential,” “predict,” “project,” or other similar words that convey the uncertainty of future events or outcomes. Although we believe these forward-looking statements are reasonable, they are based upon a number of assumptions concerning future conditions, any or all of which may ultimately prove to be inaccurate. Forward-looking statements involve a number of risks and uncertainties. Discussion of these factors is incorporated in Part I, Item 1A, “Risk Factors,” and should be considered an integral part of Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” Unpredictable or unknown factors not discussed herein could also have material adverse effects on forward-looking statements. All forward-looking statements included in this Form 10-K are expressly qualified in their entirety by the forgoing cautionary statements. We undertake no obligations to update publicly any forward-looking statement (or its associated cautionary language) whether as a result of new information or future events. Item 7A. Quantitative and Qualitative Disclosures About Market Risk Not applicable. 26 NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES TABLE OF CONTENTS FOR THE YEARS ENDED DECEMBER 31, 2024 AND 2023