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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

x      Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the Quarter Ended September 30, 2011

or

o         Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the transition period from                  to                 

Commission File Number 000-09273

MOCON, INC.

(Exact name of registrant as specified in its charter)

7500 Mendelssohn Avenue North, Minneapolis, Minnesota 55428

(Address of principal executive offices)  (Zip code)

(763) 493-6370

(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES x  NO o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). YES x  NO o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See the definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES o NO x

5,415,458 Common Shares were outstanding as of October 31, 2011.

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MOCON, INC. AND SUBSIDIARIES

INDEX TO FORM 10-Q

For the Quarter Ended September 30, 2011

In this report, references to “MOCON,” “the Company,” “we,” “our,” or “us,” unless the context otherwise requires, refer to MOCON, Inc. and its subsidiaries.

All trademarks or trade names referred to in this report are the property of their respective owners.

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PART I.  FINANCIAL INFORMATION

Item 1.  Financial Statements

MOCON, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(Unaudited)

See accompanying notes to consolidated financial statements.

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MOCON, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)

See accompanying notes to consolidated financial statements.

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MOCON, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

See accompanying notes to consolidated financial statements.

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MOCON, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE PERIOD ENDED SEPTEMBER 30, 2011

(Unaudited)

Note 1 — Condensed Consolidated Financial Statements

The condensed consolidated balance sheet as of September 30, 2011, the condensed consolidated statements of income for the three- and nine-month periods ended September 30, 2011 and 2010, and the condensed consolidated statements of cash flows for the nine-month periods ended September 30, 2011 and 2010 have been prepared in accordance with accounting principles generally accepted in the United States of America.  These interim unaudited condensed consolidated financial statements reflect all adjustments which are, in the opinion of management, necessary to fairly present the financial position, results of operations and cash flows at September 30, 2011, and for all periods presented.  Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted.

The results of operations for the three- and nine-month periods ended September 30, 2011 are not necessarily indicative of operating results for the full year.  It is suggested that these condensed consolidated financial statements be read in conjunction with the consolidated financial statements and notes included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2010, previously filed with the Securities and Exchange Commission.

We are involved with the developing, manufacturing and marketing of measurement, analytical, monitoring and consulting products for customers in the barrier packaging, food, pharmaceutical, consumer products, industrial hygiene, air quality monitoring, oil and gas exploration and other industries throughout the world.  We report our operating segments in accordance with accounting standards codified in ASC 280, Segment Reporting, with two operating segments (Lab Instruments and Field Instruments) that have been aggregated into one reporting segment for financial reporting purposes.

Principles of Consolidation

The consolidated financial statements include the accounts of MOCON, Inc. and its wholly-owned subsidiaries. All material inter-company balances and transactions have been eliminated in consolidation.

Foreign Currency Translation

The financial statements for operations outside the United States are maintained in their local currency.  All assets and liabilities of our foreign subsidiaries are translated to United States dollars at period-end exchange rates, while revenue and expense accounts are translated at the average exchange rates during the period transactions occurred.  Translation adjustments arising from the use of differing exchange rates are included in accumulated other comprehensive income or loss in stockholders’ equity.  Gains and losses on foreign currency transactions are included in other income or loss.

Use of Estimates

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

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the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period.  Management adjusts such estimates and assumptions when facts and circumstances change.  Actual results could differ from those estimates.

Fair Value of Financial Instruments

The carrying amount for cash and cash equivalents, accounts receivable, accounts payable and accrued liabilities approximates fair value due to the immediate or short-term maturity of these financial instruments.  The fair value of investments in marketable securities is based on quoted market prices and summarized in Note 5.  See Note 7 for fair value disclosure of the investment in Luxcel.

Recently Adopted Accounting Pronouncements

In January 2010, the FASB updated the disclosure requirements for fair value measurements.  The updated guidance requires companies to disclose separately the investments that transfer in and out of Levels 1 and 2 and the reasons for those transfers.  Additionally, in the reconciliation for fair value measurement using significant unobservable inputs (Level 3), companies should present separately information about purchases, sales, issuances and settlements.  We adopted the updated guidance on January 1, 2010, except for the disclosures about purchases, sales, issuances and settlements in the Level 3 reconciliation, which were effective for fiscal years beginning after December 15, 2010, and adopted on January 1, 2011.  The adoption of the required guidance did not have an impact on our consolidated financial statements.

In December 2010, the FASB issued amended guidance to modify Step 1 of the goodwill impairment test for reporting units with zero or negative carrying amounts.  For those reporting units, an entity is required to perform Step 2 of the goodwill impairment test if it is more likely than not that a goodwill impairment exists.  In determining whether it is more likely than not that a goodwill impairment exists, an entity should consider whether there are any adverse qualitative factors indicating that an impairment may exist.  We adopted the modified guidance on January 1, 2011.  We do not expect that the adoption of the modified guidance will have an impact on our consolidated financial statements.

Note 2 — Inventories

Inventories consist of the following:

Note 3 — Net Income Per Common Share

Basic net income per common share is computed by dividing net income by the weighted average number of shares of common stock outstanding during the period.  Diluted net income per common share is computed using the treasury stock method to compute the weighted average common stock outstanding assuming the conversion of potential dilutive common shares.

The following table presents a reconciliation of the denominators used in the computation of net income per common share — basic, and net income per common share — diluted, for the three- and nine-month periods ended September 30, 2011 and 2010:

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Outstanding stock options totaling 130,863 and 220,513 for the three- and nine-month periods ended September 30, 2010, respectively, have been excluded from the net income per common share calculations because the effect on net income per common share would be anti-dilutive.

Note 4  – Goodwill and Intangible Assets

As of September 30, 2011 and December 31, 2010, goodwill amounted to $3,207,944 and $3,160,858, respectively.  The increase was primarily due to foreign currency translation.  Other intangible assets (all of which are being amortized except projects in process) are as follows:

Total amortization expense for the three-month periods ended September 30, 2011 and 2010 was $21, 388 and $23,198, respectively, and $63,086 and $71,352 for the nine-month periods ended September 30, 2011 and 2010, respectively.  Projects in process are not amortized until the patent or trademark is granted by the regulatory agency.  Estimated amortization expense for the remainder of 2011 and each of the four succeeding fiscal years and thereafter based on the intangible assets as of September 30, 2011 is as follows:

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Note 5  – Marketable Securities

Marketable securities at September 30, 2011 consist of municipal bonds and certificates of deposits, and are classified as held-to-maturity due to our ability and intent to hold these securities until maturity or the call date as the case may be.  Held-to-maturity securities are recorded at amortized cost, adjusted for the amortization or accretion of premiums or discounts.  A decline in the market value of any held-to-maturity security below the amortized cost basis that is deemed other than temporary is charged to income, resulting in the establishment of a new cost basis for the security.  There was no other than temporary impairment during the first nine months of 2011; therefore, no adjustment to the amortized cost basis was made.  Currently, all of our marketable securities mature within two and one-half years.

The amortized cost and fair value for held-to-maturity securities by major security type at September 30, 2011 and December 31, 2010 were as follows:

Note 6  – Comprehensive Income

Other comprehensive income adjustments pertain to foreign currency translation adjustments that are not included in net income but rather are recorded directly in stockholders’ equity.

Note 7  – Investment in Affiliated Company

In January 2010, we acquired a minority equity ownership interest in Luxcel Biosciences Limited (Luxcel) based in Cork, Ireland.  The investment of approximately $3,625,000 amounted to a 16.9% equity interest in Luxcel.  We have evaluated the cost versus equity method of accounting for our investment in Luxcel and determined that we do not have the ability to exercise significant influence over the operating and financial policies of Luxcel and, therefore, account for our investment on a cost basis.  In addition,

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we acquired warrants to purchase an additional 375,000 shares at €2.24 per share at any time within three years from the date of the initial investment.

Luxcel has developed phosphorescence-based sensors that enable rapid, high-throughput screening and detection of bacterial contamination of food and beverages, non-invasive analysis of gases in food, beverage and pharmaceutical packaging, and a rapid evaluation of drug toxicity and metabolism for drug research and development.

The investment in Luxcel is carried on our balance sheet at the original purchase price, adjusted for currency fluctuations.  We believe that it is not feasible to readily determine the fair value of this investment.  Information related to future cash flows of Luxcel is not readily available as the entity is a start-up research and development company and future cash flows are highly dependent on their ability to obtain additional funding, gain acceptance of their products in the marketplace, and obtain regulatory approvals.  Luxcel has provided reimbursement for certain research and development costs incurred by us during the first nine months of 2011 in the amount of approximately $175,000, which has been reflected in the Condensed Consolidated Statements of Income as a reduction of research and development expenses.

As part of our relationship with Luxcel, we purchase sensors which accompany our instruments for sale to an end user and are required to pay a royalty to Luxcel on the sale of such instruments.

Note 8  – Warranty

We provide a warranty for most of our products.  Warranties are for periods ranging from ninety days to one year, and cover parts and labor for non-maintenance repairs, at our location. Operator abuse, improper use, alteration, damage resulting from accident, or failure to follow manufacturer’s directions are excluded from warranty coverage.

Warranty expense is accrued at the time of sale based on historical claims experience.  Warranty reserves are also accrued for special rework campaigns for known major product modifications.  We also offer extended warranty service contracts for select products when the factory warranty period expires.

Warranty provisions and claims for the three- and nine-month periods ended September 30, 2011 and 2010 were as follows:

Note 9  – Income Taxes

As of September 30, 2011 and December 31, 2010, the liability for gross unrecognized tax benefits was $222,000 and $217,000, respectively.  Changes in gross unrecognized tax benefits during the nine months ended September 30, 2011 consisted of an increase of $26,000 for tax positions taken in the current year, and decreases totaling $21,000 for discrete items relating to the recent IRS examination and the expiration of certain applicable statutes of limitations.  It is expected that the amount of unrecognized tax benefits for positions which we have identified will not materially change in the next twelve months.

In July 2011, the Internal Revenue Service completed its examination of our 2009 Federal income tax return.  The audit was completed without having a material impact on our provision for income taxes.

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Note 10  – Stock-Based Compensation

As of September 30, 2011, we have reserved 524,200 shares of common stock for options and other stock-based incentive awards that are still available for grant under our 2006 stock incentive plan, and 731,938 shares for options that have been granted under either the 2006 stock incentive plan or the 1998 stock option plan but have not yet been exercised.  We issue new shares of common stock upon exercise of stock options.  There were no options granted in the first nine months of 2011.

Amounts recognized in the consolidated financial statements related to stock-based compensation are as follows:

The fair value of each option grant is estimated on the date of grant using the Black-Scholes option-pricing model (Black-Scholes).  We use historical data to estimate the expected price volatility, expected option life and expected forfeiture rate.  We base our estimate of expected volatility for awards granted on daily historical trading data of our common stock for a period equivalent to the expected term of the award.  The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of grant for the estimated life of the option.  We estimate the expected term consistent with historical exercise and cancellation activity of our previous share-based grants with a seven year contractual term.  Forfeitures are based on historical experience.  The dividend yield is calculated based upon the dividend payments made during the prior four quarters as a percent of the average stock price for that period.

A summary of the option activity for the first nine months of 2011 is as follows:

The total intrinsic value of options exercised was $683,982 and $377,770 during the three-month periods ended September 30, 2011 and 2010, respectively, and $1,142,624 and $512,730 during the first nine months of 2011 and 2010, respectively.

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A summary of the status of our unvested option shares as of September 30, 2011 is as follows:

As of September 30, 2011, there was $302,634 of total unrecognized compensation cost related to unvested stock-based compensation granted under our plans.  That cost is expected to be recognized over a weighted-average period of 1.2 years.  The total fair value of option shares vested during the three-month periods ended September 30, 2011 and 2010 was $53,819 and $27,880, respectively, and $161,457 and $83,640 during the nine-month periods ended September 30, 2011 and 2010, respectively.

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Item 2.    Management’s Discussion and Analysis of Financial Condition and Results of Operations

This Management’s Discussion and Analysis provides material historical and prospective disclosures intended to enable investors and other users to assess our financial condition and results of operations.  Statements that are not historical are forward-looking and involve risks and uncertainties discussed below under the caption “Forward-Looking Statements.”  The following discussion of the results of operations and financial condition of MOCON should be read in conjunction with our consolidated financial statements and the related notes thereto included elsewhere in this report.

Overview

Description of Business

MOCON, Inc. designs, manufactures, markets and services products and provides consulting and testing services primarily in the measurement and analytical instrument and services markets.  Our products include instruments that detect, measure and monitor gases and chemical compounds.  We continually seek growth opportunities through technological and product improvement, by developing new products, and by acquiring new companies, new product lines, or rights to technologies.

We have three primary operating locations in the United States – Minnesota, Colorado and Texas – and we have foreign offices and laboratories in Germany and China.  We use a mix of a direct sales force and independent sales representatives to market our products and services in the United States, Canada, Germany and China, and we use a network of independent sales representatives to market and service our products and services in other foreign countries.

Historically, a significant portion of our sales has come from international customers.  In recognition of the importance of our international customers, we maintain a physical presence in Europe through our wholly-owned subsidiary located in Neuwied, Germany, and in Asia through a sales and service office and laboratory in Shanghai, China.

Our ongoing plans for growth include continued substantial funding for research and development to drive new product development, together with strategic acquisitions where appropriate.

Products

Our permeation products consist of instruments and services that measure the rate at which various gases and vapors permeate through a variety of materials.  This is our original business, and still contributes the largest portion of our consolidated revenues.  These products perform measurements under precise temperature, pressure and relative humidity conditions.  The principal market for these products consists of manufacturers of packaging materials and the users of such materials such as companies in the food, beverage, pharmaceutical and consumer product industries.  We invest a significant portion of our R&D dollars each year on new product development in this area, which has resulted in continuous growth and market leadership.  For example, our AQUATRAN® ultra-high sensitivity, trace moisture permeation analyzer has been increasingly accepted as the standard test instrument of choice in the flat panel, solar cell and electronics industries, and is used by customers to extend the life time and quality of these devices.

For permeation customers who do not desire to purchase our instrumentation, we offer a range of consulting and testing services.  This part of our business is also growing and we are expanding the model beyond the borders of North America.  Today, we have MOCON-owned laboratories in the United States, Germany and China, and collaborative laboratories in India, Canada and Ireland.  We plan to have additional collaborative laboratories in other countries in the near future.

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The instruments in our package testing products group are used to measure leaks and to analyze the gaseous headspace of sealed packages, as applied in the food, beverage, pharmaceutical, medical device and other industries.  We have recently developed and introduced our OpTech®-O2 Platinum oxygen analyzer which incorporates proprietary sensor technology developed by Luxcel Biosciences Limited (Luxcel).  This instrument is able to measure the oxygen concentration in food, beverage, pharmaceutical or medical device packages without piercing the package.  This new technology enables manufacturers in these industries to track and trace their products during the manufacturing and distribution phase, and to follow changes in oxygen levels as they occur.  This is an important test for determining shelf-life, safety and quality.

We also manufacture advanced gas analysis and monitoring instrumentation used in applications such as oil and gas exploration, process gas analysis, industrial hygiene and safety, environmental air monitoring and homeland security.  The two principal instruments in this group are gas chromatographs and total hydrocarbon analyzers.  These instruments are typically installed in fixed locations at the monitoring sites and generally perform their functions of detecting and measuring various hydrocarbons continually or at regular intervals.  Our new BevAlert® system tests the purity of carbon dioxide used to carbonate soft drinks, beer and mineral waters around the world.  As manufacturers of these consumer beverages expand their businesses and operations, especially into developing countries, they are increasingly investing in better instrumentation to ensure that the final product is free of contaminants.  Our BevAlert system is well suited to addressing the concerns of manufacturers of beverages, and we believe this is a growth opportunity for us, as our sales of the BevAlert system have been increasing over the past two years.  We also manufacture and sell gas sensors and detectors which are sold to original equipment manufacturers (OEMs) of mobile monitoring equipment.

Our newest product offering is focused on the food safety market.  With the sensor technologies and expertise we acquired with our recent investment in Luxcel, coupled with our core instrumentation capabilities, we developed our GreenLight™ food safety product line.  This breakthrough technology permits, for the first time, determination of the presence or absence of aerobic bacteria in food products or ingredients in as little as one to six hours.  This is a dramatic improvement over the 48 to 72 hour tests currently being used by the food industry.  There are three models of the GreenLight product line currently available, two of which were introduced in 2011.

Results of Operations

The following table sets forth the relationship between various components of our results of operations, stated as a percent of sales, for the three and nine-month periods ended September 30, 2011 and 2010:

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Comparison of Financial Results for the Three- and Nine-Month Periods Ended September 30, 2011 and 2010

Sales

Sales for the three-month period ended September 30, 2011 were $9,463,000, up 22% compared to $7,749,000 for the same period in 2010.  We experienced double-digit sales growth in the three major product groups due in part to the introduction of a new product in our package testing group as well as the positive trends we have seen in the capital equipment sector.  Sales to domestic and foreign customers increased 33% and 14%, respectively, over the prior year.  Domestic and foreign sales accounted for 45% and 55%, respectively, of our consolidated third quarter sales in 2011, and 41% and 59% of our consolidated sales, respectively, for the same period in 2010.  Sales increases in Europe and South America were more than enough to offset a decline in Asia, which allowed us to post an overall increase in international sales for the third quarter in 2011.  The lower sales in Asia in the third quarter 2011 as compared to the same quarter in 2010 were due primarily to a large order received from the Chinese government in the prior year.

Sales for the nine-month period ended September 30, 2011 were $27,619,000, up 24% compared to $22,194,000 for the same period in 2010.  Sales increased in the three major product groups with permeation instruments accounting for the largest improvement.  On a geographical basis, sales increased 29% and 21% in our domestic and foreign markets, respectively.  Domestic and foreign sales accounted for 44% and 56%, respectively, of our consolidated sales for the first nine months of 2011, and 42% and 58% for the same period in 2010.

The following table summarizes total sales by product line group for the three- and nine-month periods ended September 30, 2011 and 2010:

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The following table sets forth the relationship between various components of domestic and foreign sales for the three- and nine-month periods ended September 30, 2011 and 2010:

Permeation Testing Products and Services – Sales of our permeation testing products and services increased 24% for the third quarter ended September 30, 2011 compared to the same period in the prior year, and accounted for 56% of our consolidated third quarter sales in 2011 and 2010.  We believe this increase is partially related to the emphasis being placed on sustainable packaging materials as the marketplace becomes increasingly sensitive to environmental impact issues.  In addition, we have experienced an increase in sales to the electronics industry which uses our products to address water vapor permeation in flexible displays, solar panels and OLEDs (optical light emitting displays).  The increase in sales was evenly split between our domestic and foreign markets.

Sales of our permeation testing products and services, which accounted for 58% and 56% of our consolidated sales during the first nine months in 2011 and 2010, respectively, increased 30% during the first nine months of 2011 compared to the same period in 2010.  International sales of permeation products and services accounted for 67% of sales in this product group and increased 17% over the prior year.  Domestic sales accounted for 33% of this product group and increased 66% in the first nine months of 2011 compared to the same period in the prior year.

Gas Analyzers, Sensors and Detectors – Sales of our gas analyzers, sensors and detector products and services, which accounted for 18% of our consolidated third quarter sales in 2011 and 2010, increased 22% during the third quarter 2011 compared to the same period in 2010.  Within this group, sales of gas chromatographs and hydrocarbon analyzers to the oil and gas exploration and environmental monitoring markets accounted for the majority of the increase.

Sales of our gas analyzers, sensors and detector products and services, which accounted for 18% and 19% of our consolidated sales during the first nine months in 2011 and 2010, respectively, increased 19% during the first nine months of 2011 compared to the same period in 2010.  This increase is primarily due to sales of gas chromatographs and total hydrocarbon analyzers to the oil and gas exploration, environmental monitoring, and carbonated beverage markets.

Package Testing Products and Services – Sales of our package testing products and services, which accounted for 19% and 16% of our consolidated third quarter sales in 2011 and 2010, respectively, increased 44% during the third quarter 2011 compared to the same period in 2010.  This group consists of headspace analyzers and leak detection instruments, both of which contributed to the growth in the third quarter 2011, primarily in the domestic market. A major contributor to the growth in the current quarter compared to the same quarter in the prior year was the shipment to one customer of 25 newly-designed test systems for package integrity which equated to approximately $527,000.

Sales of our package testing products and services, which accounted for 17% and 16% of our consolidated sales during the first nine months in 2011 and 2010, respectively, increased 28% during the first nine months of 2011 compared to the same period in 2010.  Domestic sales of these products

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increased 34% in the first nine months of 2011 compared to the prior year, due primarily to shipment of the 25 test systems mentioned above, while foreign shipments increased 21%.  We believe the growth in this product line is a result of adding additional sales people and targeting other markets besides food – i.e. medical, pharmaceutical and OEM applications.

Other Products and Services – Sales in our other products and services category, which accounted for 7% and 10% our consolidated third quarter sales in 2011 and 2010, respectively, decreased 23% in the third quarter 2011, compared to the same period in 2010.  This decrease was primarily the result of decreased demand for our weighing and pharmaceutical products, offset somewhat by an increase in sales of our new products for the food safety market.

Sales in our other products and services category, which accounted for 7% and 9% of our consolidated sales during the first nine months in 2011 and 2010, respectively, decreased 6% during the first nine months of 2011, compared to the same period in 2010.  This decrease was due primarily to decreased demand for our weighing and pharmaceutical products and gas chromatography services, partially offset by increased consulting and testing services and increased shipments of products for the food safety market.

Gross Profit

The gross profit margin for our product sales was 65% for the three-month period ended September 30, 2011, compared to 62% for the three-month period ended September 30, 2010.  The improved margin was the result of higher sales of permeation instruments, higher production volumes and improved margins on certain gas analyzer instruments.  The gross profit margins for our consulting services were 45% and 41%, respectively, for the three-month periods ended September 30, 2011 and 2010.  This increase was due to the varying margins between consulting service projects.

For the nine months ended September 30, 2011 and 2010, the gross profit margins for our products were 64% and 62%, respectively.  This increase was the result of a favorable sales mix and manufacturing efficiencies realized through higher production volumes.  For the nine months ended September 30, 2011 and 2010, the gross profit margins for our consulting services were 47% and 45%, respectively.  This improvement was due primarily to the higher sales volume in the current year which more adequately covered our fixed costs.

The overall gross profit margin varies from quarter to quarter depending on product mix and other factors.  However, our margins are within our historical and expected range.

Selling, General and Administrative Expenses

Selling, general and administrative (SG&A) expenses were $3,131,000, or 33% of consolidated sales, in the three-month period ended September 30, 2011, compared to $2,567,000, or 33% of consolidated sales, in the same period of 2010.  The dollar increase in the current quarter was primarily related to increased salary and related benefits stemming from a 10% increase in headcount as we hired additional personnel to allow us to meet our customer demands as our sales have grown.  We have also incurred higher sales commissions, marketing and travel expenses as a result of increased sales.  Additionally, professional fees have increased which was primarily due to consulting fees related to a new ERP implementation.

SG&A expenses were $9,485,000 in the nine-month period ended September 30, 2011, compared to $8,001,000 in the same period of 2010.  As a percentage, SG&A expenses were 34% and 36% of consolidated sales in the first nine months of 2011 and 2010, respectively.  The dollar increase in the current year is primarily related to higher salary and related benefits stemming from a 9% year-to-date employment increase, as well as higher incentive compensation, sales commissions and travel and marketing expenses.

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Research and Development Expenses

Research and development expenses were $597,000, or 6% of sales in the third quarter 2011, compared to $521,000, or 7% of sales, in the same period of 2010.  R&D expenses were $1,841,000 or 7% of sales in the first nine months of 2011, compared to $1,592,000, or 7% of sales, in the same period of 2010.  The expenses for the nine months ended September 30, 2011 are net of approximately $175,000, which was received from Luxcel as reimbursement for certain collaborative research efforts during the first nine months of 2011.  We intend to continue to spend 6% to 8% of our annual consolidated sales on research and development efforts, and a significant portion of R&D expenditures thus far in 2011 have been devoted to the food safety market.

Other Income

Other income for the three- and nine-month periods ended September 30, 2011 and 2010 was as follows:

The foreign currency gains in the nine months ended September 30, 2010 were primarily the result of adjusting a euro-based intercompany loan obligation to market value.

Income Tax Expense

Our provision for income taxes was 32% and 35% of income before income taxes for the third quarters ended September 30, 2011 and 2010, respectively.  The higher rate in the third quarter 2010 was due primarily to available foreign tax credits as well as a larger percentage of income attributable to a higher tax jurisdiction. In addition, the current quarter effective rate was positively impacted by certain discrete adjustments relating to the settlement of the IRS examination and the expiration of certain statutes of limitations.

For the nine-month periods ended September 30, 2011 and 2010, our provision for income taxes was 33% and 32%, respectively.  The lower rate in the nine-month period in 2010 was due primarily to foreign tax credits generated by the repatriation of funds from Germany.  In addition, the 2011 rate was higher due to certain discrete adjustments that were recognized in the first quarter.

Based on current projected annual operating results and current income tax rates, we expect the effective tax rate for the remainder of 2011 to be in the range of 31% to 34%.  This rate fluctuates over time based on the income tax rates in the various jurisdictions in which we operate, and also the level of profits in those jurisdictions.

Net Income

Net income was $1,517,000 in the third quarter 2011, compared to $1,029,000 in the third quarter 2010.  Diluted net income per share was $0.27 and $0.19 in the third quarters of 2011 and 2010, respectively.  For the nine months ended September 30, 2011, net income was $4,058,000, or $0.73 per diluted share, compared to net income of $3,043,000, or $0.57 per diluted share in the prior year.

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