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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549


FORM 10-Q


 

[x] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the quarterly period ended June 30, 2014

 

or

[ ] Transition Report Pursuant Section 13 or 15(d) of the Securities Exchange Act of 1934
For the transition period from              to               .

 

Commission file number 0-51536


IRONCLAD PERFORMANCE WEAR CORPORATION

(Exact name of registrant as specified in its charter)


 

Nevada 98-0434104

(State or other jurisdiction of

incorporation or organization)

(I.R.S. Employer

Identification No.)

 

2201 Park Place, Suite 101

El Segundo, CA 90245

(Address of principal executive offices, zip code)

 

(310) 643 -7800

(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  [ ]

 

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 (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes [x]  No  [ ]

 

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 definition of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer  [ ]  Accelerated filer     [ ]
Non-accelerated filer  [ ] (Do not check if smaller reporting company) Smaller reporting company    [x]

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  [ ]    No  [x]

 

As of August 6, 2014, the registrant had 77,732,819 shares of common stock issued and outstanding.

 
 

 

 

 

TABLE OF CONTENTS

 

Page
PART I   Financial Information  
     
Item 1.   Financial Statements  
     
a. Condensed Consolidated Balance Sheets (Unaudited) as of June 30, 2014 and December 31, 2013  1
       
b. Condensed Consolidated Statements of Operations (Unaudited) for the three and six  months ended June 30, 2014 and June 30, 2013 2
       
c. Condensed Consolidated Statements of Cash Flows (Unaudited) for the six months ended June 30, 2014 and June 30, 2013   3
       
d. Notes to Condensed Consolidated Financial Statements   4 – 17
       
Item 2.   Management’s Discussion and Analysis of Financial Condition and Results of Operations   18
     
Item 3.   Quantitative and Qualitative Disclosures About Market Risk   35
     
Item 4.   Controls and Procedures   35
     
PART II   Other Information   36
     
Item 6.   Exhibits   36

 

 

 

 
 

PART I

ITEM 1. FINANCIAL STATEMENTS

 

IRONCLAD PERFORMANCE WEAR CORPORATION

CONDENSED CONSOLIDATED BALANCE SHEETS (unaudited)

AS OF JUNE 30, 2014 AND DECEMBER 31, 2013

   June 30,
2014
  December 31,
2013
ASSETS          
CURRENT ASSETS          
Cash and cash equivalents  $762,287   $313,750 
Accounts receivable net of allowance for doubtful accounts of $30,000 and $48,000   3,369,592    6,782,191 
Inventory, net of reserve of $547,800 and $621,000   5,501,227    4,570,402 
Deposits on inventory   1,024,612    868,662 
Prepaid and other   697,590    407,619 
Deferred tax assets - current   274,000    274,000 
Total current assets   11,629,308    13,216,624 
           
PROPERTY AND EQUIPMENT          
Computer equipment and software    476,206    442,262 
Vehicles    39,630    39,630 
Office equipment and furniture    201,016    196,744 
Leasehold improvements    90,441    90,441 
Less: accumulated depreciation   (630,632)   (577,759)
Total property and equipment, net   176,661    191,318 
           
Trademarks and patents, net of accumulated amortization of $53,782 and $49,064   139,842    138,260 
Deposits   21,306    10,204 
Deferred tax assets – long term   798,000    798,000 
Total other assets   959,148    946,464 
           
Total Assets  $12,765,117   $14,354,406 
           
LIABILITIES AND STOCKHOLDERS’ EQUITY          
CURRENT LIABILITIES          
Accounts payable and accrued expenses  $3,309,897   $2,129,905 
Line of credit    —      2,169,411 
Total current liabilities   3,309,897    4,299,316 
           
Total Liabilities   3,309,897    4,299,316 
           
STOCKHOLDERS’ EQUITY          
Common stock, $.001 par value; 172,744,750 shares authorized; 77,607,346 shares issued and outstanding at June 30, 2014 and 76,704,275 shares issued and outstanding at December 31, 2013, respectively   77,607    76,704 
Additional paid-in capital    19,380,489    19,208,255 
Accumulated deficit    (10,002,876)   (9,229,869)
Total Stockholders’ Equity   9,455,220    10,055,090 
Total Liabilities and Stockholders’ Equity  $12,765,117   $14,354,406 

See Notes to Condensed Consolidated Financial Statements.

 

IRONCLAD PERFORMANCE WEAR CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(unaudited)

 

   Three Months 
Ended
June 30,
  Three Months 
Ended
June 30,
  Six Months
Ended
June 30,
  Six Months 
Ended
June 30,
   2014  2013  2014  2013
REVENUES                    
Net sales  $4,819,252   $4,519,211   $9,895,587   $9,834,867 
                     
COST OF SALES                    
Cost of sales    3,161,595    2,960,998    6,768,784    6,296,768 
                     
GROSS PROFIT   1,657,657    1,558,213    3,126,803    3,538,099 
                     
OPERATING EXPENSES                    
General and administrative    763,033    611,897    1,535,090    1,418,469 
Sales and marketing    659,265    799,235    1,362,484    1,571,873 
Research and development    132,335    181,610    252,983    365,354 
Purchasing, warehousing and distribution   356,297    289,832    684,094    578,481 
Depreciation and amortization    28,675    44,760    58,495    85,316 
                     
 Total operating expenses   1,939,605    1,927,334    3,893,146    4,019,493 
                     
LOSS FROM OPERATIONS    (281,948)   (369,121)   (766,343)   (481,394)
                     
OTHER INCOME (EXPENSE)                    
                     
Interest expense   —      (21,905)   (6,913)   (31,359)
Interest income    7    41    14    74 
Other income, net    131    1    131    1 
Gain on disposition of equipment   105    —      105    50 
 Total other income (expense)   243    (21,863)   (6,663)   (31,234)
                     
NET LOSS BEFORE PROVISION FOR INCOME TAXES    (281,705)   (390,984)   (773,006)   (512,628)
                     
BENEFIT FROM INCOME TAXES   —      (176,196)   —      (176,196)
                     
NET LOSS  $(281,705)  $(214,788)  $(773,006)  $(336,432)
                     
NET LOSS PER COMMON SHARE                     
Basic  $(0.00)  $(0.00)  $(0.01)  $(0.00)
Diluted  $(0.00)  $(0.00)  $(0.01)  $(0.00)
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING                     
Basic   77,117,171    76,704,277    76,911,863    76,658,341 
Diluted   88,258,596    85,735,188    88,053,288    85,689,252 

 

See Notes to Condensed Consolidated Financial Statements.

 

IRONCLAD PERFORMANCE WEAR CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(unaudited)

 

   Six Months 
Ended 
June 30, 2014
  Six Months 
Ended 
June 30, 2013
CASH FLOWS FROM OPERATING ACTIVITIES          
Net loss  $(773,006)  $(336,432)
Adjustments to reconcile net loss provided (used) by operating activities:          
Allowance for bad debts   (18,000)   —   
Depreciation    53,777    80,942 
Amortization    4,718    4,374 
Inventory reserve   (73,200)   —   
Non-cash compensation:          
Stock option expense   157,116    149,178 
Gain on disposition of equipment   (105)   (50)
Changes in operating assets and liabilities:          
Accounts receivable   3,430,599    2,712,247 
Due from factor without recourse   —      915,492 
Inventory   (857,625)   (2,837,730)
Deposits on inventory    (155,950)   (70,750)
Prepaid and other   (301,073)   (131,415)
Accounts payable and accrued expenses   1,179,992    (2,816,102)
Net cash flows provided (used) by operating activities   2,647,243    (2,330,246)
           
CASH FLOWS FROM INVESTING ACTIVITIES          
Property, plant and equipment purchased   (39,249)   (96,335)
Proceeds from sale of assets   233    50 
Investment in trademarks    (6,300)   (4,900)
Net cash flows used in investing activities    (45,316)   (101,185)
           
CASH FLOWS FROM FINANCING ACTIVITIES          
Proceeds from issuance of common stock   16,021    23,102 
Proceeds from bank line of credit    905,497    9,087,325 
Payments to bank line of credit    (3,074,908)   (7,171,932)
Net cash flows provided (used) by financing activities    (2,153,390)   1,938,495 
           
NET  INCREASE (DECREASE) IN CASH   448,537    (492,936)
CASH AND CASH EQUIVALENTS BEGINNING OF PERIOD   313,750    721,589 
CASH AND CASH EQUIVALENTS END OF PERIOD  $762,287   $228,653 
           
SUPPLEMENTAL DISCLOSURES          
Interest paid in cash   $6,913   $31,359 
Income taxes paid in cash  $—     $146,000 

 

See Notes to Condensed Consolidated Financial Statements.

 

 

 

 

IRONCLAD PERFORMANCE WEAR CORPORATION

Notes to Condensed Consolidated Financial Statements

 

 

1. Description of Business

 

Ironclad Performance Wear Corporation (“Ironclad,” the “Company,” “we,” “us” or “our”) was incorporated in Nevada on May 26, 2004 and engages in the business of design and manufacture of branded performance work wear including task-specific gloves and performance apparel designed to significantly improve the wearer’s ability to safely, efficiently and comfortably perform general to highly specific job functions. Its customers are primarily industrial distributors, hardware, lumber and automotive retailers, “Big Box” home centers and sporting goods retailers. The Company has received six U.S. patents, one international patent and four U.S. patents pending for design and technological innovations incorporated in its performance work gloves. The Company has 57 registered U.S. trademarks, 9 in-use U.S. trademarks, 4 U.S. trademarks pending registration, 21 registered international trademarks, 3 international trademarks pending and 7 copyright marks.

 

2. Accounting Policies

 

Basis of Presentation

 

The accompanying interim condensed consolidated financial statements are unaudited and have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) including those for interim financial information and with the instructions for Form 10-Q and Article 8 of Regulation S-X issued by the Securities and Exchange Commission (“SEC”). Accordingly, they do not include all of the information and note disclosures required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation have been reflected in these interim financial statements. These financial statements should be read in conjunction with the audited financial statements and notes for the year ended December 31, 2013 included in the Company’s Annual Report on Form 10-K filed with the SEC on March 18, 2014.

 

Basis of Consolidation

 

The condensed consolidated financial statements include the accounts of Ironclad Performance Wear Corporation, a Nevada corporation and inactive parent company, and its wholly owned subsidiary Ironclad Performance Wear Corporation, a California corporation (“Ironclad California”). All significant inter-company transactions have been eliminated in consolidation.

 

Cash and Cash Equivalents

 

The Company considers all highly liquid investments with original maturities of three months or less when purchased to be cash equivalents. The Company places its cash with high quality credit institutions. The Federal Deposit Insurance Company (FDIC) insures cash amounts at each institution for up to $250,000 and the Securities Investor Protection Corporation (SIPC) also insures cash amounts at each institution up to $250,000.  In addition, supplemental insurance is in place to cover balances in excess of these limits. The Company maintains cash in excess of the FDIC and SIPC limits.

 

Accounts Receivable

 

The Company advances credit to most of its customers based on an initial analysis of their credit worthiness and an ongoing review of their payment history. Most accounts receivable are collected in 30 to 60 days from invoice, according to terms allowed, with a few exceptions. Customer payments are received directly into the Company’s lockbox at its bank by ACH transfer and wire transfer deposits, and customer checks.

The allowance for doubtful accounts is based on management’s regular evaluation of individual customer’s receivables and consideration of a customer’s financial condition and credit history. Trade receivables are written off when deemed uncollectible. Recoveries of trade receivables previously written off are recorded when received. Interest is not charged on past due accounts.

 

Accounts Receivable  June 30,
2014
  December 31, 2013
           
Accounts receivable  $3,399,592   $6,830,191 
Less - allowance for doubtful accounts   (30,000)   (48,000)
           
     Net accounts receivable  $3,369,592   $6,782,191 

 

Inventory

 

Inventory is stated at the lower of average cost (which approximates first in, first out) or market and consists primarily of finished goods. The Company regularly reviews its inventory quantities on hand and records a provision for excess and obsolete inventory based primarily on management’s estimated forecast of product demand and production requirements.

   

Property and Equipment

 

Property and equipment are recorded at cost less accumulated depreciation. Depreciation is recorded using the straight-line method over the estimated useful lives of the related assets, which range from three to seven years. Leasehold improvements are depreciated over fifteen years or the lease term, whichever is shorter. Maintenance and repairs are charged to expense as incurred.

 

Trademarks

 

The costs incurred to acquire trademarks, which are active and relate to products with a definite life cycle, are amortized over the estimated useful life of fifteen years. Trademarks, which are active and relate to corporate identification, such as logos, are not amortized. Pending trademarks are capitalized and reviewed monthly for active status.

 

Long-Lived Asset Impairment

 

The Company periodically evaluates whether events and circumstances have occurred that indicate the remaining estimated useful life of long-lived assets may warrant revision or that the remaining balance may not be recoverable. When factors indicate that the asset should be evaluated for possible impairment, the Company uses an estimate of the undiscounted net cash flows over the remaining life of the asset in measuring whether the asset is recoverable. Based upon the anticipated future income and cash flow from operations and other factors, relevant in the opinion of the Company’s management, there has been no impairment.

 

Operating Segment Reporting

 

As previously discussed, the Company has two product lines, “gloves” and “apparel,” both of which have similar characteristics.  They each provide functional protection and comfort to workers in the form of work wear for various parts of the body; their production processes are similar; they are both sold to the same type of class of customers, typically on the same purchase order; and they are warehoused and distributed from the same warehouse facility.  In addition, the “apparel” segment currently comprises less than 1% of the Company’s revenues.  The Company believes that the aggregation criteria of Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 280, paragraph 17 applies and will accordingly aggregate these two segments.

 

 

Revenue Recognition

 

A customer is obligated to pay for products sold to it within a specified number of days from the date that title to the products is transferred to the customer. The Company’s standard terms are typically net 30 days from the transfer of title to the products to the customer, however we have negotiated special terms with certain customers and industries. The Company typically collects payment from a customer within 30 to 45 days from the transfer of title to the products to a customer. Transfer of title occurs and risk of ownership generally passes to a customer at the time of shipment or delivery, depending on the terms of the agreement with a particular customer. The sale price of the Company’s products is substantially fixed or determinable at the date of sale based on purchase orders generated by a customer and accepted by the Company. A customer’s obligation to pay the Company for products sold to it is not contingent upon the resale of those products. The Company recognizes revenues when products are delivered, or shipped to customers, based on terms of agreement with the customers. All transactions are conducted in United States Dollars and therefore there are no transaction gains or losses incurred on transactions with foreign customers.

 

Revenue Disclosures

 

The Company’s revenues are derived from the sale of our core line of task specific work gloves plus our line of work wear apparel products, available to all of our customers, both domestically and internationally.  Below is a table outlining this breakdown for the comparative periods:

 

Six Months Ended June 30, 2014 Six Months Ended June 30, 2013
Net Sales Gloves Apparel Total Gloves Apparel Total
Domestic $ 7,461,389 $ 81,252 $ 7,542,641 $ 8,237,799 $ 41,709 $ 8,279,508
International 2,352,207 739 2,352,946 1,554,642 717 1,555,359
Total $ 9,813,596 $ 81,991 $ 9,895,587 $ 9,792,441 $ 42,426 $ 9,834,867

 

 

Cost of Goods Sold

 

Cost of goods sold includes all of the costs associated with producing the product by independent, third party factories (FOB costs), plus the costs of transporting, inspecting and delivering the product to our distribution warehouse in California (landed costs). Landed costs consist primarily of ocean/air freight, transport insurance, import duties, administrative charges and local trucking charges from the port to our warehouse. Cost of goods sold for the three and six months ended June 30, 2014 and 2013 were $3,161,595 and $6,768,784 and $2,960,998 and $6,296,768, respectively.

 

Purchasing, warehousing and distribution costs are reported in operating expenses on the line item entitled “Purchasing, warehousing and distribution” and, for the three and six months ending June 30, 2014 and 2013 were $356,297 and $289,832 and $684,094 and $578,481, respectively. These costs were comprised of salaries and benefits of approximately $159,200 and $124,400 and $294,800 and $235,800; office expenses of approximately $44,000 and $18,600 and $63,400 and $36,300; travel and lodging of approximately $15,000 and $700 and $15,700 and $3,900; and warehouse operations of approximately $138,100 and $146,100 and $310,200 and $302,500, respectively.

 

Product Returns, Allowances and Adjustments

 

Product returns, allowances and adjustments is a broad term that encompasses a number of offsets to gross sales. Included herein are warranty returns of defective products, returns of saleable products and accounting adjustments.

 

Warranty Returns - the Company has a warranty policy that covers defects in workmanship. It allows customers to return damaged or defective products to us following a customary return merchandise authorization process. Warranty returns for the three and six months ending June 30, 2014 and 2013 were approximately $16,300 or 0.4% and $36,000 or 0.3% and $25,900 or 0.5% and $43,000 or 0.4%, respectively.

 

 

Saleable Product Returns - the Company may allow from time to time, depending on the customer and existing circumstances, stock adjustment returns, whereby the customer is given the opportunity to ‘trade out’ of a style of product that does not sell well in their territory, usually in exchange for another product, again following the customary return merchandise authorization process. In addition the Company may allow from time to time other saleable product returns from customers for other business reasons, for example, in settlement of an outstanding accounts receivable, from a discontinued distributor customer or other customer service purpose. Saleable product returns for the three and six months ending June 30, 2014 and 2013 were approximately $22,700 or 0.5% and $66,000 or 0.6% and $133,600 or 2.8% and $213,100 or 2.1%, respectively.

 

Accounting Adjustments - these adjustments include pricing and shipping corrections and periodic adjustments to the product returns reserve. Pricing and shipping corrections for the three and six months ending June 30, 2014 and 2013 were approximately $6,200 or 0.1% and $34,200 or 0.3% and $8,200 or 0.2% and $29,400 or 0.2%, respectively. Adjustments to the product returns reserve for the three and six months ending June 30, 2014 were $-0- or 0.0%, and for the three and six months ended June 30, 2013 were $-0- or .0.% and $10,000 or 0.1%.

 

For warranty returns the Company utilizes actual historical return rates to determine the allowance for returns in each period. For saleable product returns the Company also utilizes actual historical return rates, adjusted for large, non-recurring occurrences. The Company does not accrue for pricing and shipping corrections as they are unpredictable and generally de minimis. Gross sales are reduced by estimated returns. We record a corresponding accrual for the estimated liability associated with the estimated returns which is based on the historical gross sales of the products corresponding to the estimated returns. This accrual is offset each period by actual product returns.

 

Reserve for Product Returns, Allowances and Adjustments   
    
Reserve Balance 12/31/13  $75,000 
Payments Recorded During the Period   (90,968)
    (15,968)
Accrual for New Liabilities During the Reporting Period   90,968 
Reserve Balance 3/31/14   75,000 
Payments Recorded During the Period   (45,214)
    29,786 
Accrual for New Liabilities During the Reporting Period   45,214 
Reserve Balance 6/30/14  $75,000 

 

Advertising and Marketing

 

Advertising and marketing costs are expensed as incurred. Advertising expenses for the three and six months ended June 30, 2014 and 2013 were $50,451 and $209,929 and $126,219 and $251,664, respectively.

 

Shipping and Handling Costs

 

Freight billed to customers is recorded as sales revenue and the related freight costs as cost of sales.

 

Customer Concentrations

 

Two customers accounted for approximately $2,916,000 or 60.5% of net sales for the quarter ended June 30, 2014 and three customers accounted for approximately $2,155,000 or 47.7% of net sales for the quarter ended June 30, 2013.  Three customers accounted for approximately $5,530,000 or 55.9% of net sales for the six months ended June 30, 2014 and three customers accounted for approximately $5,430,000 or 55.2% of net sales for the six months ended June 30, 2013.  No other customers accounted for more than 10% of net sales during the periods.

  

 

 

Supplier Concentrations

 

Two suppliers, who are located overseas, accounted for approximately 78% of total purchases for the three months ended June 30, 2014 and three suppliers, who are also located overseas, accounted for approximately 85% of total purchases for the three months ended June 30, 2013.  Three suppliers, who are located overseas, accounted for approximately 85% of total purchases for the six months ended June 30, 2014 and two suppliers, who are also located overseas, accounted for approximately 72% of total purchases for the six months ended June 30, 2013.  All transactions are conducted in United States Dollars and therefore there are no transaction gains or losses incurred on transactions with foreign suppliers.

 

Stock Based Compensation

 

The Company follows the provisions of FASB ASC 718, “Share-Based Payment.”  This statement establishes standards for the accounting for transactions in which an entity exchanges its equity instruments for goods or services, as well as transactions in which an entity incurs liabilities in exchange for goods or services that are based on the fair value of the entity’s equity instruments or that may be settled by the issuance of those equity instruments.  ASC 718 requires that the cost resulting from all share-based payment transactions be recognized in the financial statements based on the fair value of the share-based payment.  ASC 718 establishes fair value as the measurement objective in accounting for share-based payment transactions with employees, such as the options issued under our stock incentive plans.

 

Earnings (Loss) Per Share

 

The Company utilizes FASB ASC 260, “Earnings per Share.” Basic earnings (loss) per share is computed by dividing earnings (loss) available to common shareholders by the weighted-average number of common shares outstanding. Diluted earnings (loss) per share is computed similar to basic earnings (loss) per share except that the denominator is increased to include the number of additional common shares that would have been outstanding if the potential common shares had been issued and if the additional common shares were dilutive. Common equivalent shares are excluded from the computation if their effect is anti-dilutive.

 

As a result of the net loss for the six months ended June 30, 2014 and 2013, the Company calculated diluted earnings per share using weighted average basic shares outstanding only, as using diluted shares would be anti-dilutive to loss per share.

 

The following table sets forth the calculation of the numerators and denominators of the basic and pro forma diluted per share computations for the six months ended June 30, 2014 and 2013, if diluted shares were to be included:

 

    2014    2013 
Numerator: Net Loss  $(773,006)  $(336,432)
Denominator: Basic EPS          
Common shares outstanding, beginning of period   76,681,498    76,028,200 
Weighted average common shares issued during the period   230,365    630,141 
Denominator for basic earnings per common share   76,911,863    76,658,341 
Denominator: Diluted EPS (Pro Forma)          
Common shares outstanding, beginning of period   76,681,498    76,028,200 
Weighted average common shares issued during the period   230,365    630,141 
Dilutive warrants outstanding at end of the period   43,146    43,146 
Dilutive stock options outstanding at the end of the period   11,098,279    8,987,765 
Denominator for diluted earnings per common share   88,053,288    85,682,252 

 

 

The following potential common shares have been excluded from the computation of diluted net income (loss) per share for the periods presented as the effect would have been anti-dilutive:

 

   Six Months
   Ended June 30,
   2014  2013
Options outstanding under the Company’s stock option plans   14,025,904    10,875,765 
Common Stock Warrants   43,146    43,146 

 

Income Taxes

 

The Company adopted the provisions of FASB ASC 740-10 effective January 1, 2007. The implementation of FASB ASC 740-10 has not caused the Company to recognize any changes in its identified tax positions. Interest and penalties associated with unrecognized tax benefits would be classified as additional income taxes in the statement of operations.

 

Income taxes are provided for the tax effects of the transactions reported in the financial statements and consist of taxes currently due plus deferred taxes related primarily to the difference between the basis of the allowance for doubtful accounts, accumulated depreciation and amortization, accrued payroll and net operating loss carryforwards for financial and income tax reporting. The deferred tax assets and liabilities represent the future tax return consequences of those differences, which will either be taxable or deductible when the assets and liabilities are recovered or settled.

 

Deferred tax assets and liabilities are reflected at income tax rates applicable to the period in which the deferred tax assets or liabilities are expected to be realized or settled. As changes in tax laws or rates are enacted, deferred tax assets and liabilities are adjusted through the provision for income taxes. If it is more likely than not that some portion or all of a deferred tax asset will not be realized, a valuation allowance is recognized.

 

The components of the provision for income taxes for the six months ended June 30, 2014 and 2013 were $-0- and a $176,196 benefit, respectively.   Based on its history of losses, the Company provided a 100% valuation allowance against its deferred tax assets, as it was not more likely than not that any future benefit from deductible temporary differences and net operating loss carryforwards would be realized. For the year ended December 31, 2012 the Company reassessed the need for a valuation allowance against its deferred tax assets and, based on the positive evidence of the last three year’s pre-tax income and forecasted future results, concluded that it is more likely than not that it would be able to realize some of its deferred tax assets. Accordingly, the Company reversed approximately 30% of its valuation allowance for its current deferred tax assets and recorded a deferred tax benefit of $857,500. For the year ended December 31, 2013, the Company once again evaluated its need for a valuation allowance against its deferred tax assets and determined that an additional 7% reduction in the valuation allowance was appropriate and recorded an additional deferred tax benefit of $214,500. These deferred tax benefits are recorded on the balance sheet as current deferred tax assets of $274,000 and long term deferred tax assets of $798,000.

We will continue to evaluate if it is more likely than not that we will realize the benefits from future deferred taxes.

Use of Estimates

 

The preparation of financial statements requires management to make a number of estimates and assumptions relating to the reporting of assets and liabilities and the disclosure of contingent assets and liabilities. Actual results could differ from those estimates. Significant estimates and assumptions made by management are used for, but not limited to, the allowance for doubtful accounts, inventory obsolescence, allowance for returns and the estimated useful lives of long-lived assets.

 

 

 

Fair Value of Financial Instruments

 

The fair value of the Company’s financial instruments is determined by using available market information and appropriate valuation methodologies. The Company’s principal financial instruments are cash, accounts receivable, accounts payable and short term line of credit debt. At June 30, 2014 and December 31, 2013, cash, accounts receivable, accounts payable and short term line of credit debt, due to their short maturities, and liquidity, are carried at amounts which reasonably approximate fair value.

 

The Company measures the fair value of its financial instruments using the procedures set forth below for all assets and liabilities measured at fair value that were previously carried at fair value pursuant to other accounting guidelines.

 

Under FASB ASC 820, “Fair Value Measurements” fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date.

 

FASB ASC 820 establishes a three-level hierarchy for disclosure to show the extent and level of judgment used to estimate fair value measurements.

 

Level 1 — Uses unadjusted quoted prices that are available in active markets for identical assets or liabilities as of the reporting date. Active markets are those in which transactions for the asset or liability occur in sufficient frequency and volume to provide pricing information on an ongoing basis.

 

Level 2 — Uses inputs, other than Level 1, that are either directly or indirectly observable as of the reporting date through correlation with market data, including quoted prices for similar assets and liabilities in active markets and quoted prices in markets that are not active. Level 2 also includes assets and liabilities that are valued using models or other pricing methodologies that do not require significant judgment since the input assumptions used in the models, such as interest rates and volatility factors, are corroborated by readily observable data. Instruments in this category include non-exchange-traded derivatives, including interest rate swaps.

 

Level 3 — Uses inputs that are unobservable and are supported by little or no market activity and reflect the use of significant management judgment. These values are generally determined using pricing models for which the assumptions utilize management’s estimates of market participant assumptions.

 

There were no financial assets or liabilities accounted for at fair value at June 30, 2014 or December 31, 2013. 

 

Recently Issued Accounting Pronouncements

 

In May 2014, the FASB issued Accounting Standards Update No. 2014-09, Revenue from Contracts with Customers (ASU 2014-09), which supersedes nearly all existing revenue recognition guidance under U.S. GAAP. The core principle of ASU 2014-09 is to recognize revenues when promised goods or services are transferred to customers in an amount that reflects the consideration to which an entity expects to be entitled for those goods or services. ASU 2014-09 defines a five step process to achieve this core principle and, in doing so, more judgment and estimates may be required within the revenue recognition process than are required under existing U.S. GAAP.

The standard is effective for annual periods beginning after December 15, 2016, and interim periods therein, using either of the following transition methods: (i) a full retrospective approach reflecting the application of the standard in each prior reporting period with the option to elect certain practical expedients, or (ii) a retrospective approach with the cumulative effect of initially adopting ASU 2014-09 recognized at the date of adoption (which includes additional footnote disclosures). We are currently evaluating the impact of our pending adoption of ASU 2014-09 on our consolidated financial statements and have not yet determined the method by which we will adopt the standard in 2017.

 

 

 

3. Inventory

 

At June 30, 2014 and December 31, 2013 the Company had one class of inventory - finished goods.  Inventory is shown net of a provision of $547,800 at June 30, 2014 and $621,000 at December 31, 2013.

   June 30,
2014
  December 31,
 2013
           
Finished goods  $5,501,227   $4,570,402 
           

 

4. Property and Equipment

 

Property and equipment consisted of the following:

 

   June 30,
2014
  December 31,
2013
           
Computer equipment and software  $476,206   $442,262 
Vehicles   39,630    39,630 
Office furniture and equipment   201,016    196,744 
Leasehold improvements   90,441    90,441 
           
    807,293    769,077 
Less: Accumulated depreciation   (630,632)   (577,759)
Property and equipment, net  $176,661   $191,318 

 

Depreciation expense for the six months ended June 30, 2014 and 2013 was $53,777 and $80,942, respectively, and for the twelve months ended December 31, 2013 was $158,122.

 

5. Trademarks and Patents

 

Trademarks and patents consisted of the following:

 

   June 30,  December 31,
   2014  2013
           
Trademarks  $168,789   $162,489 
Patents   24,835    24,835 
Less: Accumulated amortization   (53,782)   (49,064)
Trademarks and Patents, net  $139,842   $138,260 

 

Trademarks and patents consist of definite-lived trademarks and patents of $126,525 and $120,225 and indefinite-lived trademarks and patents of $67,099 and $67,099 at June 30, 2014 and December 31, 2013, respectively. All trademark and patent costs have been generated by the Company, and consist of legal and filing fees.

 

Amortization expense for the six months ended June 30, 2014 and 2013 was $4,718 and $4,374, respectively, and for the twelve months ended December 31, 2013 was $8,746.

 

 

 

6. Accounts Payable and Accrued Expenses

 

Accounts payable and accrued expenses consisted of the following at June 30, 2014 and December 31, 2013:

 

   June 30,
 2014
  December 31,
2013
Accounts payable  $1,901,519   $1,161,985 
Accrued rebates and co-op   58,912    224,213 
Accrued bonus   —      40,533 
Customer deposits   770,480    260,717 
Accrued returns reserve   75,000    75,000 
Accrued expenses - other   503,986    367,457 
           
Total accounts payable and accrued expenses  $3,309,897   $2,129,905 

 

7. Bank Lines of Credit

   

Bank Revolving Loan

On November 30, 2012 the Company entered into a Business Loan Agreement with Union Bank, N.A. which provides a revolving loan of up to $6,000,000. The first $3,500,000 of advances under this facility are under an open line-of-credit. Advances in excess of $3,500,000, up to the line limit of $6,000,000, are subject to a Borrowing Base report. The term Borrowing Base means an amount equal to (a) 80% of the net amount of all eligible accounts receivable plus, (b) the lesser of (i) 50% of the value of eligible landed inventory and (ii) $2,750,000, plus (c) 35% of eligible in-transit inventory. In addition, during the months of April to October each calendar year, the outstanding principal amount of all advances against eligible inventory shall not exceed 150% of the aggregate outstanding principal amount of advances against eligible accounts receivable. All of the Company’s assets secure amounts borrowed under the terms of this agreement. Interest on borrowed funds will accrue at Prime minus 0.25% unless the Company chooses to “fix” a portion of the indebtedness (minimum $150,000) at LIBOR plus 2% for fixed periods of time ranging from 30 days to 360 days.

As of June 30, 2014 and December 31, 2013, the total amounts due to Union Bank were $-0- and $2,169,411, respectively.

8. Equity Transactions

 

Common Stock

  

On January 14, 2013 the Company issued 172,582 shares of common stock upon the exercise of a stock option at an exercise price of $0.09.

 

On February 5, 2013 the Company issued 35,513 shares of common stock upon the exercise of a stock option at an exercise price of $0.09.

 

On February 25, 2013 the Company issued 48,595 shares of common stock upon the exercise of a stock option at an exercise price of $0.09.

 

On May 14, 2014 the Company issued 144,959 shares of common stock upon the exercise of a stock option at an exercise price of $0.095.

 

On June 2, 2014 the Company issued 24,779 shares of common stock upon the exercise of a stock option at exercise prices between $0.09 and $0.095.

 

 

 On June 19, 2014 the Company issued 733,333 shares of restricted common with a fair value of $0.23, vesting over a period of one year.

 

There were 77,607,346 shares of common stock of the Company outstanding at June 30, 2014.

 

Warrant Activity

 

A summary of warrant activity is as follows:

 

   Number
of Shares
  Weighted Average
Exercise Price
Warrants outstanding at December 31, 2013   43,146    0.19 
Warrants exercised   —        
Warrants outstanding at June 30, 2014   43,146    0.19 

 

Stock Based Compensation

 

Ironclad California reserved 3,020,187 shares of its common stock for issuance to employees, directors and consultants under the 2000 Stock Incentive Plan, which the Company assumed in the merger pursuant to which Ironclad California became a wholly-owned subsidiary of the Company (the “2000 Plan”). Under the 2000 Plan, options may be granted at prices not less than the fair market value of the Company’s common stock at the grant date. Options generally have a ten-year term and are exercisable as determined by the Company’s board of directors.

 

Effective May 18, 2006, the Company reserved 4,250,000 shares of its common stock for issuance to employees, directors and consultants under its 2006 Stock Incentive Plan (the “2006 Plan”). In June, 2009, the shareholders of the Company approved an increase in the number of shares of common stock reserved under the 2006 Plan to 11,000,000 shares.  In April, 2011, the shareholders of the Company approved a further increase in the number of shares of common stock reserved under the 2006 Plan to 13,000,000 shares. In May, 2013, the shareholders of the Company approved a further increase in the number of shares of common stock reserved under the 2006 Plan to 16,000,000 shares. In May, 2014, the shareholders of the Company approved a further increase in the number of shares of common stock reserved under the 2006 Plan to 21,000,000 shares. Under the 2006 Plan, options may be granted at prices not less than the fair market value of the Company’s common stock at the grant date. Options generally have a ten-year term and are exercisable as determined by the Company’s board of directors.

 

The fair value of each stock option granted under either the 2000 Plan or 2006 Plan is estimated on the date of the grant using the Black-Scholes Model.  The Black-Scholes Model has assumptions for risk free interest rates, dividends, stock volatility and expected life of an option grant. The risk free interest rate is based on the U.S. Treasury Bill rate with a maturity based on the expected life of the options and on the closest day to an individual stock option grant. Dividend rates are based on the Company’s dividend history. The stock volatility factor is based on historical market prices of the Company’s common stock. The expected life of an option grant is based on management’s estimate. The fair value of each option grant is recognized as compensation expense over the vesting period of the option on a straight line basis.

 

For stock options issued during the six months ended June 30, 2014 and 2013, the fair value of these options was estimated at the date of the grant using a Black-Scholes option pricing model with the following range of assumptions:

 

June 30, 2014 June 30, 2013
Risk free interest rate 0.05% to 2.66% 0.12% to 1.33%
Dividends - -
Volatility factor 80.9% to 84.5% 74.7% to 88.3%
Expected life 5.5 to 6.25 years 5.5 to 6.25 years

 

 

A summary of stock option activity is as follows:

 

   Number
of Shares
  Weighted
Average
Exercise Price
Outstanding at December 31, 2013   10,143,765   $0.140 
Granted   3,238,250   $0.172 
Exercised   —        
Cancelled/Expired   (225,041)  $0.198 
Outstanding at March 31, 2014   13,156,974   $0.147 
Granted - Options   1,200,000   $0.188 
Exercised   (169,738)  $0.094 
Cancelled/Expired   (161,332)  $0.097 
Outstanding at June 30, 2014   14,025,904   $0.153 
Exercisable at June 30, 2014   8,612,716   $0.135 

 

The following table summarizes information about stock options outstanding at June 30, 2014:

 

Range of Exercise 
Price
  Number
Outstanding
  Weighted Average
Remaining Contractual
Life (Years)
  Weighted Average
Exercise Price
  Intrinsic Value
Outstanding Shares
 $    0.09 - $0.27    14,025,904    6.52   $0.152   $1,046,214 
                            

 

The following table summarizes information about stock options exercisable at June 30, 2014:

 

Range of Exercise
Price
  Number
Exercisable
  Weighted Average
Remaining Contractual
Life (Years)
  Weighted Average
Exercise Price
  Intrinsic Value
Exercisable Shares
 $    0.09 - $0.27    8,612,716    4.71   $0.135   $802,017 
                            

 

The following table summarizes information about non-vested stock options at June 30, 2014:

 

   Number of Shares  Weighted Average Grant Date Fair Value
  Non-Vested at December 31, 2013     2,333,932   $0.20 
   Granted     3,238,250   $0.17 
   Vested     (543,151)  $0.11 
   Forfeited     (225,041)  $0.13 
  Non-Vested at March 31, 2014     4,803,990   $0.12 
   Granted     1,200,000   $0.19 
   Vested     (451,042)  $0.12 
   Forfeited     (139,761)  $0.10 
  Non-Vested at June 30, 2014     5,413,187   $0.13 
             

 

 

In accordance with ASC 718, the Company recorded $157,116 and $149,178 of compensation expense for employee stock options during the six months ended June 30, 2014 and 2013. These compensation expense charges were recorded in the following operating expense categories for 2014 and 2013, respectively; general and administrative - $107,226 and $101,262; sales and marketing - $21,730 and $21,734; research and development - $14,124 and $12,039; and purchasing, warehousing and distribution - $14,036 and $14,143. There was a total of $816,827 of unrecognized compensation costs related to non-vested share-based compensation arrangements under the Plan outstanding at June 30, 2014. This cost is expected to be recognized over a weighted average period of 2.7 years. The total fair value of shares vested during the six months ended June 30, 2014 was $118,093.

 

9. Income Taxes

 

The Company adopted FASB ASC 740-10, “Accounting for Uncertainty in Income Taxes - An Interpretation of FASB Statement No. 109” as of January 1, 2007. FASB ASC 740-10 clarifies the accounting for uncertainty in income taxes recognized in an entity’s financial statements in accordance with FASB Statement No. 109, Accounting for Income Taxes, and prescribes a recognition threshold and measurement attributes for financial statement disclosure of tax position taken or expected to be taken on a tax return. Additionally, FASB ASC 740-10 provides guidance on de-recognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. No adjustments were required upon adoption of FASB ASC 740-10.

 

  The Company is currently open to audit under the statute of limitations by the Internal Revenue Service for the fiscal years 2010 through 2012. The Company’s state tax returns are open to audit under the statute of limitations for the fiscal years 2010 through 2012.  The federal and state income tax provision in 2012 was primarily due to higher 2012 profits, and the projected continuing California NOL utilization suspension. Subsequent to year-end we discovered that the California NOL utilization suspension was not renewed. Upon filing the 2012 California income tax return we applied for a refund of 2012 estimated payments of $184,196, which was received in July 2013.

 

The Company’s 2013 tax returns are currently on extension.

 

The provision for income taxes differs from the amount that would result from applying the federal statutory rate for the periods ended June 30, 2014 and 2013 as follows:  

 

   June 30, 
2014
  June 30, 
2013
Statutory regular federal income benefit rate   34.0%   34.0%
State income taxes, net of federal benefit   5.3%   (26.4%)
Change in valuation allowance   (39.3%)   (7.6%)
Total   —  %   —  %

 

In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of sufficient future taxable income during the periods in which those temporary differences become deductible. Management considers the scheduled reversals of deferred tax liabilities, projected future taxable income, and tax planning strategies in making this assessment. Based upon the level of historical taxable income and projections for future taxable income over the periods which the deferred tax assets are deductible, management believes it is more likely than not that the Company will realize some portion or all of the benefits of these deductible differences. 

 

 

  

Significant components of the Company’s deferred tax assets and liabilities for federal incomes taxes at June 30, 2014 and December 31, 2013 consisted of the following:

 

   2014  2013
Deferred tax assets          
Net operating loss carryforward  $2,560,688   $2,228,062 
Stock option expense   1,449,907    1,382,598 
Allowance for doubtful accounts   12,852    20,563 
Allowance for product returns   32,130    32,130 
Accrued compensation   24,610    58,940 
Inventory reserve   234,678    266,036 
Other   73,589    73,419 
Valuation allowance   (2,995,410)   (2,691,622)
Total deferred tax assets   1,393,044    1,370,126 
Deferred tax liabilities  - state taxes   (321,044)   (298,126)
Net deferred tax assets/liabilities  $1,072,000   $1,072,000 

 

As of June 30, 2014, the Company had unused federal and state contribution carryovers of $5,719 that expire in 2014 through 2019.

 

As of June 30, 2014, the Company had unused federal and states net operating loss carryforwards available to offset future taxable income of approximately $5,629,000 and $6,708,000, respectively, that expire between 2015 and 2025.

 

10. Commitments and Contingencies

  

On June 11, 2014 the Company entered into a 42 month lease for a new corporate office facility in Farmers Branch, Texas, commencing in the third quarter of 2014. The Company will be relocating its corporate headquarters to Texas in the third quarter. This new facility is approximately 13,026 square feet and the Company has negotiated six months of rent abatement. The monthly base rent will be $7,653 plus $3,449 for common area operating expenses. A security deposit of one month’s rent has been made in the amount of $11,102.

 

The Company entered into a five-year lease with one option to renew for an additional five years for a corporate office and warehouse lease commencing in July 2006.  The Company exercised its five year option to renew this lease commencing in July 2011.  The facility is located in El Segundo, California.   As part of this renewal process we reduced our square footage by approximately 1,700 square feet of unneeded warehouse space in exchange for six months of rent concessions and approximately $40,000 of tenant improvements.  Rent expense for this facility for the six months ended June 30, 2014 was $87,062. The Company is currently negotiating to sublet this facility for the remainder of its lease.

 

The Company has various non-cancelable operating leases for office equipment expiring through July 2016.  Equipment lease expense charged to operations under these leases for the six months ended June 30, 2014 was $5,602.

 

 

 Future minimum rental commitments under these non-cancelable operating leases for years ending December 31 are as follows:

Year Facility Equipment Total
2014 81,834 1,407 83,241
2015 278,974 1,541 280,515
2016 218,804 899 219,703
2017 133,226 - 133,226
2018 22,204 - 22,204
Thereafter - - -
$ 735,042 $ 3,847 $ 738,889

 

Ironclad California executed a Separation Agreement with Eduard Jaeger effective in April 2004, which was subsequently amended on November 26, 2008. Pursuant to the terms of the Separation Agreement, if Ironclad terminated Mr. Jaeger’s employment with Ironclad California at any time other than for Cause, then: (a) Ironclad California was required to pay Mr. Jaeger all accrued and unpaid salary and other compensation payable by the Company for services rendered through the termination date, payable in a lump sum payment on the termination date;  (b) Ironclad California was required to pay a cash amount equal to Two Hundred Thousand Dollars ($200,000), payable in installments throughout the one (1) year period following the termination date in the same manner as Ironclad California pays salaries to its other executive officers; and (c) all outstanding options issued to Mr. Jaeger under the Company’s 2006 Stock Incentive Plan, or any other plan or agreement approved by the Company’s board of directors would become immediately vested and exercisable. Further, the Separation Agreement, as amended, also provided that the Company’s board of directors could not remove Mr. Jaeger during his then current board term, except for Cause (as defined in the Separation Agreement).  Finally, the Separation Agreement required Mr. Jaeger to sign a general release and non-competition agreement in order to receive the lump sum payment. For the purposes of the Separation Agreement, termination for “Cause” meant termination by reason of: (i) any act or omission knowingly undertaken or omitted by Mr. Jaeger with the intent of causing damage to Ironclad California, its properties, assets or business or its stockholders, officers, directors or employees; (ii) any improper act of Mr. Jaeger involving a material personal profit to him, including, without limitation, any fraud, misappropriation or embezzlement, involving properties, assets or funds of Ironclad California or any of its subsidiaries; (iii) any consistent failure by Mr. Jaeger to perform his normal duties as directed by the Chairman of the Board, in the sole discretion of the board of directors; (iv) any conviction of, or pleading nolo contendere to, (A) any crime or offense involving monies or other property of Ironclad; (B) any felony offense; or (C) any crime of moral turpitude; or (v) the chronic or habitual use or consumption of drugs or alcoholic beverages. This Separation Agreement was cancelled, effective February 18, 2014, in conjunction with a Consulting Agreement of same date, as described in Note 11.

11. Management Changes

 

On February 18, 2014 the board of directors of the Company appointed Mr. Jeffrey Cordes as Chief Executive Officer with a compensation of $300,000 per year, along with an incentive bonus of $125,000 for over-achievement of corporate objectives. Mr. Cordes was also appointed to the Company’s board of directors. In addition, Mr. Cordes was awarded 2,700,000 options to purchase the Company’s common stock at $0.17, the stock closing price on the date of the award.

Concurrent with the above appointment, Mr. Eduard Jaeger tendered his resignation as Head of Business Development and as a member of the board of directors. Mr. Jaeger will remain affiliated with the Company for two years as a Brand Ambassador and Evangelist for the Company’s products pursuant to a consulting contract.

Also concurrent with the above appointment, Mr. Scott Jarus resigned from the board of directors.

On May 5, 2014, the Company’s board of directors appointed Mr. William Aisenberg as the Company’s Executive Vice President, Chief Financial Officer and Secretary, with a compensation of $225,000 per year; he is also eligible to receive an annual incentive bonus of up to 30% of his salary based on the Company achieving certain revenue and operating income targets, and based upon Mr. Aisenberg and/or the Company achieving certain corporate objectives. In addition, Mr. Aisenberg was awarded 1,000,000 options to purchase the Company’s common stock at $0.19, the stock closing price on the date of the award. Mr. Thomas Kreig, who has served as the Principal Accounting Officer of the Company, will remain with the Company for several months to assist in an orderly transition.

 

 

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

 

This discussion summarizes the significant factors affecting our operating results, financial condition and liquidity and cash flows for the six months ended June 30, 2014 and 2013. The following discussion of our results of operations and financial condition should be read together with the condensed consolidated financial statements and the notes to those statements included elsewhere in this report. Except for historical information, the matters discussed in this Management’s Discussion and Analysis of Financial Condition and Results of Operations are forward looking statements that involve risks and uncertainties and are based upon judgments concerning various factors that are beyond our control. Our actual results could differ materially from the results anticipated in any forward-looking statements as a result of a variety of factors, including those discussed in “Risk Factors.”

 

Overview

 

We are a leading designer and manufacturer of branded performance work wear. Founded in 1998, we have grown and leveraged our proprietary technologies to produce task-specific gloves and performance apparel that are designed to significantly improve the wearer’s ability to safely, efficiently and comfortably perform general to highly specific job functions. We have built and continue to augment our reputation among professionals in the construction and industrial service markets, and do-it-yourself and sporting goods consumers with products specifically designed for individual tasks or task types. We believe that our dedication to quality and durability and focus on our client needs has created a high level of brand loyalty and has solidified substantial brand equity.

 

We plan to increase our domestic revenues by leveraging our relationships with existing retailers and industrial distributors, including “Big Box,” automotive and sporting goods retailers, increasing our product offerings in new and existing locations, and introducing new products, developed and targeted for specific customers and/or industries.

 

We believe that our products have international appeal. In 2005, we began selling products in Australia and Japan through independent distributors, which accounted for approximately 4% of total sales.  From 2006 through 2013 we entered the Canadian and European markets through distributors and international sales have represented approximately 7% - 19% of total sales. We plan to continue to pursue sales internationally by expanding our distribution into Europe and other international markets in ensuing years. 

 

General

 

Net sales are comprised of gross sales less returns and discounts. Our operating results are seasonal, with a greater percentage of net sales being earned in the third and fourth quarters of our fiscal year due to the fall and winter selling seasons.

 

Our cost of goods sold includes the free on board (“FOB”) cost of the product plus landed costs and a reserve for slow-moving inventory. Landed costs include freight-in, insurance, duties and administrative costs to deliver the finished goods to our distribution warehouse. Cost of goods sold does not include purchasing, warehousing or distribution costs. These costs are captured as incurred on a separate line in operating expenses. Our gross margins may not be comparable to other entities that may include some or all of these costs in the calculation of gross margin.

 

Our operating expenses consist primarily of payroll and related costs, marketing costs, corporate infrastructure costs and our purchasing, warehousing and distribution costs. We expect that our operating expenses will decrease as a percentage of net sales if we are able to increase our net sales through expansion and growth. We expect this reduction in operating expenses to be offset by investment in sales and marketing to achieve brand growth, the development of new product lines, and the increased costs of operating as a public company.

 

 

Historically, we have funded our working capital needs through a combination of our existing asset-based credit facility along with subordinated debt and equity financing transactions. On November 30, 2012 we entered into a Business Loan Agreement with Union Bank, N.A. which provides a revolving loan of up to $6,000,000. The first $3,500,000 of advances under this facility are under an open line-of-credit. Advances in excess of $3,500,000, up to the line limit of $6,000,000, are subject to a Borrowing Base report. The term Borrowing Base means an amount equal to (a) 80% of the net amount of all eligible accounts receivable plus, (b) the lesser of (i) 50% of the value of eligible landed inventory and (ii) $2,750,000, plus (c) 35% of eligible in-transit inventory. In addition, during the months of April to October each calendar year, the outstanding principal amount of all advances against eligible inventory shall not exceed 150% of the aggregate outstanding principal amount of advances against eligible accounts receivable. All of our assets secure amounts borrowed under the terms of this agreement. Interest on borrowed funds accrue at Prime minus 0.25% unless we choose to “fix” a portion of the indebtedness (minimum $150,000) at LIBOR plus 2% for fixed periods of time ranging from 30 days to 360 days.

 

Critical Accounting Policies, Judgments and Estimates

 

Our Management’s Discussion and Analysis of Financial Condition and Results of Operations section discusses our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. To prepare these financial statements, we must make estimates and assumptions that affect the reported amounts of assets and liabilities. These estimates also affect our reported revenues and expenses. On an ongoing basis, management evaluates its estimates and judgment, including those related to revenue recognition, accrued expenses, financing operations and contingencies and litigation. Management bases its estimates and judgment on historical experience and on various other factors that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. The following represents a summary of our critical accounting policies, defined as those policies that we believe are the most important to the portrayal of our financial condition and results of operations and that require management’s most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effects of matters that are inherently uncertain.

 

Revenue Recognition

 

Under our sales model, a customer is obligated to pay us for products sold to it within a specified number of days from the date that title to the products is transferred to the customer. Our standard terms are typically net 30 days from the transfer of title to the products to a customer, however we have negotiated special terms with certain customers and industries. We typically collect payment from a customer within 30 to 60 days from the transfer of title to the products to a customer. Transfer of title occurs and risk of ownership passes to a customer at the time of shipment or delivery, depending on the terms of our agreement with a particular customer. The sale price of our products is substantially fixed or determinable at the date of sale based on purchase orders generated by a customer and accepted by us. A customer’s obligation to pay us for products sold to it is not contingent upon the resale of those products. We recognize revenue at the time title is transferred to a customer.

 

Revenue Disclosures

 

Our revenues are derived from the sale of our core line of task specific work gloves plus our line of work wear apparel products, available to all of our customers, both domestically and internationally.  Below is a table outlining this breakdown for the comparative periods:

 

   Six Months Ended June 30, 2014  Six Months Ended June 30, 2013
Net Sales  Gloves  Apparel  Total  Gloves  Apparel  Total
Domestic  $7,461,389   $81,252   $7,542,641   $8,237,799   $41,709   $8,279,508 
International   2,352,207    739    2,352,946    1,554,642    717    1,555,359 
Total  $9,813,596   $81,991   $9,895,587   $9,792,441   $42,426   $9,834,867 

 

 

Inventory Obsolescence Allowance

 

We review the inventory level of all products quarterly. For most products that have been in the market for one year or greater, we consider inventory levels of greater than one year’s sales to be excess.  Products that are no longer part of the current product offering are considered obsolete. The potential for re-sale of slow-moving and obsolete inventories is based upon our assumptions about future demand and market conditions. The recorded cost of obsolete inventories is then reduced to zero and a reserve is established for slow moving products. Both the write down and reserve adjustments are recorded as charges to cost of goods sold. As of June 30, 2014 and December 31, 2013, our inventory reserve was $547,800 and $621,000, respectively. All adjustments for obsolete inventory establish a new cost basis for that inventory as we believe such reductions are permanent declines in the market price of our products. Generally, obsolete inventory is sold to companies that specialize in the liquidation of these items or contributed to charities, while we continue to market slow-moving inventories until they are sold or become obsolete. As obsolete or slow-moving inventory is sold or disposed of, we reduce the reserve. In the first six months of 2014, the Company sold some of its slow-moving inventory and reduced its inventory reserve by $73,200.

 

Allowance for Doubtful Accounts

 

We maintain allowances for doubtful accounts for estimated losses resulting from the inability of our customers to make required payments. Our current customers consist primarily of large national, regional and smaller independent customers with good payment histories with us. We perform periodic credit evaluations of our customers and maintain allowances for potential credit losses based on management’s evaluation of historical experience and current industry trends. If the financial condition of our customers were to deteriorate, resulting in the impairment of their ability to make payments, additional allowances may be required. New customers are evaluated for credit worthiness before terms are established. Although we expect to collect all amounts due, actual collections may differ.  The allowance for doubtful accounts was $30,000 at June 30, 2014 and $48,000 at December 31, 2013.

 

Product Returns, Allowances and Adjustments

 

Product returns, allowances and adjustments is a broad term that encompasses a number of offsets to gross sales. Included herein are warranty returns of defective products, returns of saleable products and accounting adjustments.

 

Warranty Returns - We have a warranty policy that covers defects in workmanship. It allows customers to return damaged or defective products to us following a customary return merchandise authorization process.

 

Saleable Product Returns - We may allow from time to time, depending on the customer and existing circumstances, stock adjustment returns, whereby the customer is given the opportunity to ‘trade out’ of a style of product that does not sell well in their territory, usually in exchange for another product, again following the customary return merchandise authorization process. In addition we may allow from time to time other saleable product returns from customers for other business reasons, for example, in settlement of an outstanding accounts receivable, from a discontinued distributor customer or other customer service purpose.

 

Accounting Adjustments - These adjustments include pricing and shipping corrections and periodic adjustments to the product returns reserve.

 

For both warranty and saleable product returns we utilize actual historical return rates to determine our allowance for returns in each period, adjusted for unique, one-time events. Gross sales is reduced by estimated returns. We record a corresponding accrual for the estimated liability associated with the estimated returns which is based on the historical gross sales of the products corresponding to the estimated returns. This accrual is offset each period by actual product returns.

 

 

Our current estimated future warranty product return rate is approximately 1.5% and our current estimated future stock adjustment return rate is approximately 0.5%. As noted above, our return rate is based upon our past history of actual returns and we estimate amounts for product returns for a given period by applying this historical return rate and reducing actual gross sales for that period by a corresponding amount. We believe that using a trailing 12-month return rate provides us with a sufficient period of time to establish recent historical trends in product returns for two primary reasons:  (i) our products’ useful life is approximately 3-4 months and (ii) we are able to quickly correct any significant quality issues as we learn about them. If an unusual circumstance exists, such as a product that has begun to show materially different actual return rates as compared to our average 12-month return rates, we will make appropriate adjustments to our estimated return rates. Factors that could cause materially different actual return rates as compared to the 12-month return rates include a new product line, a change in materials or product being supplied by a new factory. Although we have no specific statistical data on this matter, we believe that our practices are reasonable and consistent with those of our industry. Our warranty terms under our arrangements with our suppliers do not provide for individual products returned by retailers or retail customers to be returned to the vendor.

 

Reserve for Product Returns, Allowances and Adjustments   
    
Reserve Balance 12/31/13  $75,000 
Payments Recorded During the Period   (90,968)
    (15,968)
Accrual for New Liabilities During the Reporting Period   90,968 
Reserve Balance 3/31/14   75,000 
Payments Recorded During the Period   (45,214)
    29,786 
Accrual for New Liabilities During the Reporting Period   45,214 
Reserve Balance 6/30/14  $75,000 

 

Stock Based Compensation

 

We follow the provisions of FASB ASC 718, “Share-Based Payment.”  This statement establishes standards for the accounting for transactions in which an entity exchanges its equity instruments for goods or services, as well as transactions in which an entity incurs liabilities in exchange for goods or services that are based on the fair value of the entity’s equity instruments or that may be settled by the issuance of those equity instruments.  ASC 718 requires that the cost resulting from all share-based payment transactions be recognized in the financial statements based on the fair value of the share-based payment.  ASC 718 establishes fair value as the measurement objective in accounting for share-based payment transactions with employees, such as the options issued under our stock incentive plans.

 

Income Taxes

 

Deferred income taxes are provided using the liability method whereby deferred tax assets are recognized for deductible temporary differences and operating loss and tax credit carryforwards and deferred tax liabilities are recognized for taxable temporary differences. Temporary differences are the differences between the reported amounts of assets and liabilities and their tax bases. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion or all of the deferred tax assets will not be realized. Deferred tax assets and liabilities are adjusted for the effects of the changes in tax laws and rates as of the date of enactment.

 

 

 

 

 

When tax returns are filed, it is highly certain that some positions taken would be sustained upon examination by the taxing authorities, while others are subject to uncertainty about the merits of the position taken or the amount of the position that would be effectively sustained. The benefit of a tax position is recognized in the financial statements in the period during which, based on all available evidence, management believes it is more-likely-than-not that the position will be sustained upon examination, including the resolution of appeals or litigation, if any. Tax positions taken are not offset or aggregated with other positions. Tax positions that meet the more-likely-than-not recognition threshold are measured as the largest amount of tax benefit that is more than 50% likely of being realized upon settlement with the applicable taxing authority. The portion of the benefits associated with tax positions taken that exceeds the amount measured as described above would be reflected as a liability for unrecognized tax benefits in the accompanying balance sheet along with any associated interest and penalties that would be payable to the taxing authorities upon examination.  We have reported losses for 2003, 2004, 2005, 2006, 2007, 2008 and 2009, and uncertainty exists as to whether benefits from deferred tax assets will be utilized. In the past we have fully reserved our deferred tax assets, however, we have now had several years in a row of sustained profits and believe it would now be appropriate to reduce this valuation allowance. Accordingly the Company reversed approximately 30% of its valuation allowance for its current deferred tax assets and recorded a deferred tax benefit of $857,500 in 2012. At December 31, 2013 we once again reviewed our current profitability and forecasted future results and concluded that it is more likely than not that we would be able to realize some more of our deferred tax assets. At December 31, 2013 we reversed approximately 7% of our valuation allowance for our current deferred tax assets and recorded an additional deferred tax benefit of $214,500. These deferred tax benefits are recorded on the balance sheet as current deferred tax assets of $274,000 and long term deferred tax assets of $798,000.

Interest and penalties associated with unrecognized tax benefits would be classified as additional income taxes in the statement of operations.

 

Results of Operations

 

Comparison of Three and Six Months Ended June 30, 2014 and 2013

 

Net Sales increased $300,041 or 6.6%, to $4,819,252 in the quarter ended June 30, 2014 from $4,519,211 for the corresponding period in 2013. Two customers accounted for 60.5% of Net Sales during the quarter ended June 30, 2014 and three customers accounted for 47.7% of Net Sales during the quarter ended June 30, 2013. Net Sales increased $60,720 or 0.6%, to $9,895,587 in the six months ended June 30, 2014 from $9,834,867 for the corresponding period in 2013. Three customers accounted for 55.9% of Net Sales during the six months ended June 30, 2014 and three customers accounted for 55.2% of Net Sales for the six months ended June 30, 2013. The Net Sales increase for the quarter is due to increased sales in our industrial/safety segments, offset in part by decreases in the automotive and private label segments.  The Net Sales increase for the six month period is due to increased sales in our industrial/safety and private label segments, offset in part by decreases in the retail automotive, co-op and independent hardware segments. We continue to focus our sales efforts on those areas where we see growth opportunities, the industrial and safety markets and job specific and specialty glove styles.

 

Gross Profit increased $99,444 to $1,657,657 for the quarter ended June 30, 2014 from $1,558,213 for the corresponding period in 2013. Gross Profit, as a percentage of net sales, or gross margin, decreased to 34.4% in the second quarter of 2014 from 34.5% in the same quarter of 2013.  The decrease in Gross Profit of 0.1% for the second quarter was primarily due to customer and product mix. Gross Profit decreased $411,296 to $3,126,803 for the six months ended June 30, 2014 from $3,538,099 in the prior year period. Gross Profit, as a percentage of net sales, or gross margin, decreased to 31.6% on a year-to-date basis from 36.0% for the same period of 2013. The decrease in Gross Profit of 4.4% for the first half of the year was primarily due to a decrease in higher margin sales plus several large promotional incentives incurred earlier in the year.

 

 

 

Operating Expenses was consistent at $1.9 million in the three month periods ending June 30, 2014 and June 30, 2013. As a percentage of net sales, Operating Expenses represented 40.2% for the three months ended June 30, 2014, compared to 42.6% of net sales for the same period in 2013. Operating Expenses were $3.9 million for the six months ended June 30, 2014, compared to $4.0 million for the corresponding period in 2013. As a percentage of net sales, Operating Expenses represented 39.3% for the six months ended June 30, 2014, compared to 40.9% of net sales for the same period in 2013. The decrease in actual dollars and percentage of net sales for the six month period is primarily driven by decreased personnel costs. Our number of employees was 29 at June 30, 2014 and 29 at June 30, 2013.

 

Loss from Operations decreased by $87,173, to a loss of $281,948 in the second quarter of 2014, from a loss of $369,121 in the second quarter of 2013. Loss from operations as a percentage of net sales decreased to 5.9% in the second quarter of 2014 from 8.2% in the second quarter of 2013.  The decrease in loss from operations in the second quarter was primarily due to increased sales partially offset by increased operating expenses. Loss from Operations increased by $284,949 to a loss of $766,343 for the six months ended June 30, 2014, from a loss of $481,394 in the corresponding period of 2013. The increase in loss from operations in the six month period was primarily due to higher cost of goods sold, partially offset by reduced operating expenses.

 

Interest Expense decreased $21,905 to $-0- in the second quarter of 2014 from $21,905 in the same period of 2013. This decrease is due to no borrowings under our bank line of credit agreement, the outstanding balance under which was reduced to $-0- during the first quarter of 2014. Interest expense decreased $24,446 in the first six months of 2014 from $31,359 in the same period of 2013. 

 

Net Loss increased $66,917 to a loss of $281,705 in the second quarter of 2014 from a loss of $214,718 in the second quarter of 2013.  Net Loss increased $436,574 to a loss of $773,006 for the six months ended June 30, 2014 from a loss of $336,432 in the prior year period. This increased loss was primarily the result of lower margin sales due to customer and product mix.

 

Seasonality and Quarterly Results

 

Our glove business generally shows an increase in sales during the third and fourth quarters due primarily to an increase in the sale of our winter glove line during this period and fall promotions.  We typically generate 55% - 65% of our glove net sales during these months.  The first and second quarters of the year are generally considered our slower season.  Even though the overall economy continues to exhibit moderate and uneven growth, which affects some of our channels, we have been experiencing some mixed growth in certain channels - international and private label - which helps offset declines in other areas.

 

Our working capital, at any particular time, reflects the seasonality of our glove business and plans to expand product lines and enter new markets.  We expect inventory and current liabilities to be higher in the third and fourth quarters for these reasons. 

 

 

Liquidity and Capital Resources

 

Our cash requirements are principally for working capital. Our need for working capital is seasonal, with the greatest requirements from June through the end of October each year as a result of our inventory build-up during this period for the fall and winter selling seasons. Historically, our main sources of liquidity have been borrowings under our existing revolving credit facility, the issuance of subordinated debt and the sale of equity.  In the short term we monitor our credit issuances and cash collections to maximize cash flows and investigate opportunities to reduce our current inventories to convert these assets into cash.  Over the past several years, and continuing in the near and longer term we are focused on controlling our operating costs, managing margins and improving operating procedures to generate sustained profitability.

 

 

On November 30, 2012 we entered into a Business Loan Agreement with Union Bank, N.A. which provides a revolving loan of up to $6,000,000. The first $3,500,000 of advances under this facility are under an open line-of-credit. Advances in excess of $3,500,000, up to the line limit of $6,000,000, are subject to a Borrowing Base report. The term Borrowing Base means an amount equal to (a) 80% of the net amount of all eligible accounts receivable plus, (b) the lesser of (i) 50% of the value of eligible landed inventory and (ii) $2,750,000, plus (c) 35% of eligible in-transit inventory. In addition, during the months of April to October each calendar year, the outstanding principal amount of all advances against eligible inventory shall not exceed 150% of the aggregate outstanding principal amount of advances against eligible accounts receivable. All of our assets secure amounts borrowed under the terms of this agreement. Interest on borrowed funds will accrue at Prime minus 0.25% unless we choose to “fix” a portion of the indebtedness (minimum $150,000) at LIBOR plus 2% for fixed periods of time ranging from 30 days to 360 days. 

The Company generated positive cash flow from operations of $2,647,000 in the first half of 2014. The increase in operating cash flow is primarily the result of decreases in accounts receivable and increases in accounts payable and accrued expenses, offset by increases in inventory, deposits on inventory and prepaid expenses. Combined with a pay down on our line of credit to $-0-, we generated positive cash flow for the first half of $449,000.

At June 30, 2014 and December 31, 2013 we had available, but unused credit under this facility of approximately $5,462,000 and $3,831,000, respectively.  

 

Off Balance Sheet Arrangements

 

At June 30, 2014, we did not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance, variable interest or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes.  As such, we are not exposed to any financing, liquidity, market or credit risk that could arise if we had engaged in such relationships.

 

 

 

Risk Factors

 

Investing in our common stock involves a high degree of risk. You should carefully consider the following risk factors and all other information contained in this report before purchasing our common stock. The risks and uncertainties described below are not the only ones facing us. Additional risks and uncertainties that we are unaware of, or that we currently deem immaterial, also may become important factors that affect us. If any of the following risks occur, our business, financial condition or results of operations could be materially and adversely affected. In that case, the trading price of our common stock could decline, and you may lose some or all of the money you paid to purchase our common stock.

 

RISKS RELATING TO OUR BUSINESS

 

We may need additional funding to support our operations and capital expenditures.  Our inability to obtain such funding could adversely affect our business.

 

We have funded our operations and capital expenditures with cash flow from operations, our cash on hand, and credit agreements.  As part of our planned growth, we will be required to make expenditures necessary to expand and improve our operating and management infrastructure.

 

While capital resources have historically been insufficient to support the continued growth of our operations, we believe that the proceeds from our financing transactions, our cash flows from operations and borrowings available to us under our senior secured credit facility, the availability of purchase order financing and our continuing cost containment measures will be adequate to meet our liquidity needs and capital expenditure requirements for at least the next 12 months.  In the event that our working capital needs exceed our cash sources we will need to raise additional funds.  There can be no assurance that any financing arrangements will be available in amounts or on terms acceptable to us, if at all.  Furthermore, if we are able to raise additional capital through the sale of equity or convertible debt securities it may result in additional dilution to our existing shareholders.  If adequate additional funds are not available, we may be required to delay, reduce the scope of, or eliminate material parts of the implementation of our business strategy.  This limitation could substantially harm our business, results of operations and financial condition.

 

Our operating results may fluctuate significantly and our stock price could decline or fluctuate if our results do not meet the expectation of analysts or investors.

 

Management expects that we will experience substantial variations in our net sales and operating results from quarter to quarter.  We believe that the factors which influence this variability of quarterly results include:

 

the timing of our introduction of new product lines;

 

the level of consumer acceptance of each new product line;

 

general economic and industry conditions that affect consumer spending and retailer purchasing;

 

the availability of manufacturing capacity;

 

the seasonality of the markets in which we participate;

 

the timing of trade shows;

 

the product mix of customer orders;

 

the timing of the placement or cancellation of customer orders;

 

 

the weather;

 

transportation delays;

 

quotas and other regulatory matters; and

 

the timing of expenditures in anticipation of increased sales and actions of competitors.

 

As a result of fluctuations in our revenue and operating expenses that may occur, management believes that period-to-period comparisons of our results of operations are not a good indication of our future performance.  It is possible that in some future quarter or quarters, our operating results will be below the expectations of securities analysts or investors.  In that case, our common stock price could fluctuate significantly or decline.

 

We have a history of operating losses and there can be no assurance that we can maintain profitability.

 

We have a history of operating losses and may not sustain profitability.  We cannot guarantee that we will remain profitable.  Even if we remain profitable, given the competitive and evolving nature of the industry in which we operate, we may be unable to sustain or increase profitability and our failure to do so would adversely affect our business, potentially requiring us to raise additional funds to continue operations.

 

We may be unable to effectively manage our growth.

 

Our strategy envisions growing our business.  Any growth in or expansion of our business is likely to continue to place a strain on our financial, managerial and other administrative resources, infrastructure and systems.  We have historically been undercapitalized to effectively manage and sustain our growth.  As with other growing businesses, we expect that we will need to continually restructure and expand our business development capabilities, our systems and processes and our access to financing sources.  We also will need to hire, train, supervise and manage new employees.  These processes are time consuming and expensive, will increase management responsibilities and will divert management attention.  We cannot assure you that we will be able to:

 

expand our systems effectively or efficiently or in a timely manner;

 

allocate our human resources optimally;

 

meet our capital needs;

 

identify and hire qualified employees or retain valued employees; or

 

incorporate effectively the components of any business or product line that we may acquire in our effort to achieve growth.

 

Our inability or failure to manage our growth and expansion effectively could harm our business and materially and adversely affect our operating results and financial condition.

 

 

 

Substantially all of our revenues have been derived from a relatively limited product line consisting of task-specific gloves and performance apparel, and our future success depends on our ability to expand our product line and achieve broader market acceptance of our company and our products.

 

To date, our products have consisted mainly of task-specific gloves and performance apparel, targeted primarily to the construction, do-it-yourself, industrial and sporting goods markets.  Our success and the planned growth and expansion of our business depend on us achieving greater and broader acceptance in our existing market segments as well as in new segments.  We may be required to enter into new arrangements and relationships with vendors, suppliers and others to achieve broader acceptance of our products, but cannot guarantee that we will be able to enter into such relationships.  We also may be required to undertake new types of risks or obligations that we may be unable to manage.  There can be no assurance that consumers will purchase our products or that retail outlets will stock our products.  Though we plan to continue to expend resources on promoting, marketing and advertising to increase product awareness, we cannot guarantee that any expenses we incur in such efforts will generate the desired product awareness or commensurate increase in sales of our products.  If we are unable to expand into new market segments, we may be unable to grow and expand our business or implement our business strategy as described in this report.  This could materially impair our ability to increase sales and revenue and materially and adversely affect our margins, which could harm our business and cause our stock price to decline.

 

We may be unable to compete successfully against existing and future competitors, which could decrease our revenue and margins, and harm our business.

 

The performance task specific glove and apparel industries are highly competitive.  There are several other companies that provide similar products, many of which are larger and have greater financial resources than us.  Our future growth and financial success depend on our ability to further penetrate and expand our existing distribution channels and to increase the size of our average annual net sales per account in these channels, as well as our ability to penetrate and expand other distribution channels.  For example, we encounter competition in our existing glove and work wear distribution channels from a number of competitors.  Unknown or unforeseen new entrants into our distribution channels, particularly low-cost overseas producers, will further increase the level of competition in these channels.  There can be no assurance that we will be able to maintain our growth rate or increase our market share in our distribution channels at the expense of existing competitors and other apparel manufacturers choosing to enter the market segments in which we compete.  In addition, there can be no assurance that we will be able to enter and achieve significant growth in other distribution channels.

 

Failure to expand into new distribution channels and new international markets could materially and adversely impact our growth plan and profitability.

 

Our sales growth depends in part on our ability to expand from our existing hardware and lumber retail channels and industrial distributors into new distribution channels, particularly “Big Box” home centers and work wear and sporting goods retailers.  Failure to expand into these mass-market channels could severely limit our growth.

 

Our business plan also depends in part on our ability to expand into international markets.  We have begun the distribution of our products in Australia, Canada, Japan and Europe and we are in the process of establishing additional distribution in Europe and other international markets.  Failure to expand international sales through these and other markets could limit our growth capability and leave us vulnerable solely to United States market conditions.

 

Our dependence on independent manufacturers reduces our ability to control the manufacturing process, which could harm our sales, reputation and overall profitability.

 

We depend on independent contract manufacturers to maintain sufficient manufacturing and shipping capacity in an environment characterized by declining prices, labor shortages, continuing cost pressure and increased demands for product innovation and speed-to-market.  This dependence could subject us to difficulty in obtaining timely delivery of products of acceptable quality.  In addition, a contractor’s failure to ship products to us in a timely manner or to meet the required quality standards could cause us to miss the delivery date requirements of our customers.  The failure to make timely deliveries may cause our customers to cancel orders, refuse to accept deliveries, impose non-compliance charges through invoice deductions or other charge-backs, demand reduced prices or reduce future orders, any of which could harm our sales, reputation and overall profitability.

 

 

We do not have long-term contracts with any of our independent contractors and any of these contractors may unilaterally terminate their relationship with us at any time.  While management believes that there exists an adequate supply of contractors to provide products and services to us, to the extent we are not able to secure or maintain relationships with independent contractors that are able to fulfill our requirements, our business would be harmed.

 

We have initiated standards for our suppliers, and monitor our independent contractors’ compliance with applicable labor laws, but we do not control our contractors or their labor practices.  The violation of federal, state or foreign labor laws by one of our contractors could result in us being subject to fines and our goods that are manufactured in violation of such laws being seized or their sale in interstate commerce being prohibited.  To date, we have not been subject to any sanctions that, individually or in the aggregate, have had a material adverse effect on our business, and we are not aware of any facts on which any such sanctions could be based.  There can be no assurance, however, that in the future we will not be subject to sanctions as a result of violations of applicable labor laws by our contractors, or that such sanctions will not have a material adverse effect on our business and results of operations.

 

Our dependence on a single provider for all warehouse and fulfillment functions reduces our ability to control the warehousing and fulfillment processes, which could harm our sales, reputation, and overall business.

 

We have entered into an agreement to outsource most of our warehouse and fulfillment functions to a single provider where we will consolidate most of our inventory at one site, which is managed by an independent contractor who will then perform most of our warehousing, assembly, packaging and fulfillment services.  We depend on our independent contractor fulfiller to properly fulfill customer orders in a timely manner and to properly protect our inventories.  The contractor’s failure to ship products to customers in a timely manner, to meet the required quality standards, to correctly fulfill orders, to maintain appropriate levels of inventory, or to provide adequate security measures and protections against excess shrinkage could cause us to miss delivery date requirements of our customers or incur increased expense to replace or replenish lost or damaged inventory or inventory shortfall.  The failure to make timely and proper deliveries may cause our customers to cancel orders, refuse to accept deliveries, impose non-compliance charges through invoice deductions or other charge-backs, demand reduced prices or reduce future orders, any of which could harm our sales, reputation and overall profitability.

 

Trade matters may disrupt our supply chain, which could result in increased expenses and decreased sales.

 

We cannot predict whether any of the countries in which our merchandise currently is manufactured or may be manufactured in the future will be subject to additional trade restrictions imposed by the U.S. and other foreign governments, including the likelihood, type or effect of any such restrictions.  Trade restrictions, including increased tariffs or quotas, embargoes, safeguards and customs restrictions, against apparel items, as well as U.S. or foreign labor strikes, work stoppages or boycotts, could increase the cost or reduce the supply of apparel available to us and adversely affect our business, financial condition and results of operations.  Although the quota system established by the Agreement on Textiles and Clothing was completely phased out for World Trade Organization countries effective January 1, 2005, there can be no assurances that restrictions will not be reestablished for certain categories in specific countries.  We are unable to determine the impact of the changes to the quota system on our sourcing operations, particularly in China.  Our sourcing operations may be adversely affected by trade limits or political and financial instability resulting in the disruption of trade from exporting countries, significant fluctuation in the value of the U.S. dollar against foreign currencies, restrictions on the transfer of funds and/or other trade disruptions.

 

Our international operations, and the operations of our foreign manufacturers and suppliers, are subject to additional risks that are beyond our control and that could harm our business.

 

Our glove products are manufactured by 7 manufacturers operating in China, Hong Kong, Indonesia and Cambodia. Our performance apparel products were manufactured in Taiwan, Vietnam, Mexico and the Dominican Republic.  We may in the future use offshore manufacturers for all or some of these products.  In addition, approximately 18% of our fiscal 2013 net revenues and 24% of year-to-date 2014 net revenues were generated through international sales and we plan to increase our sales to international markets in the future.  As a result of our international manufacturing and sales, we are subject to additional risks associated with doing business abroad, including:

 

 

political unrest, terrorism and economic instability resulting in the disruption of trade from foreign countries in which our products are manufactured;

 

difficulties in managing foreign operations, including difficulties associated with inventory management and collection on foreign accounts receivable;

 

dependence on foreign distributors and distribution networks;

 

currency exchange fluctuations and the ability of our foreign manufacturers to change the prices they charge us based on fluctuations in the value of the U.S. dollar relative to that of the foreign currency;

 

the imposition of new laws and regulations, including those relating to labor conditions, quality and safety standards as well as restrictions on the transfer of funds;

 

disruptions or delays in shipments;

 

changes in local economic and non-economic conditions and standards in which our manufacturers, suppliers or customers are located; and

 

reduced protection for intellectual property rights in jurisdictions outside the United States.

 

These and other factors beyond our control could interrupt our manufacturers’ production in offshore facilities, influence the ability of our manufacturers to export our products cost-effectively or at all, inhibit our and our unaffiliated manufacturer’s ability to produce certain materials and influence our ability to sell our products in international markets, any of which could have an adverse effect on our business, financial conditions and operations.

 

We may be unable to adequately protect our intellectual property rights.

 

We rely in part on patent, trade secret, trade dress and trademark law to protect our rights to certain aspects of our products, including product designs, proprietary manufacturing processes and technologies, product research and concepts and recognized trademarks, all of which we believe are important to the success of our products and our competitive position.  There can be no assurance that any of our pending patent or trademark applications will result in the issuance of a registered patent or trademark, or that any patent or trademark granted will be effective in thwarting competition or be held valid if subsequently challenged.  In addition, there can be no assurance that the actions taken by us to protect our proprietary rights will be adequate to prevent imitation of our products, that our proprietary information will not become known to competitors, that we can meaningfully protect our rights to unpatented proprietary information or that others will not independently develop substantially equivalent or better products that do not infringe on our intellectual property rights.  We could be required to devote substantial resources to enforce our patents and protect our intellectual property, which could divert our resources and result in increased expenses.  In addition, an adverse determination in litigation could subject us to the loss of our rights to a particular patent or other intellectual property, could require us to grant licenses to third parties, could prevent us from manufacturing, selling or using certain aspects of our products or could subject us to substantial liability, any of which could harm our business.

 

We may become subject to litigation for infringing the intellectual property rights of others.

 

Others may initiate claims against us for infringing on their intellectual property rights.  We may be subject to costly litigation relating to such infringement claims and we may be required to pay compensatory and punitive damages or license fees if we settle or are found culpable in such litigation, we may be required to pay damages, including punitive damages.  In addition, we may be precluded from offering products that rely on intellectual property that is found to have been infringed by us.  We also may be required to cease offering the affected products while a determination as to infringement is considered.  These developments could cause a decrease in our operating income and reduce our available cash flow, which could harm our business and cause our stock price to decline.

 

 

We may be unable to attract and retain qualified, experienced, highly skilled personnel, which could adversely affect the implementation of our business plan.

 

Our success depends to a significant degree upon our ability to attract, retain and motivate skilled and qualified personnel. If we fail to attract, train and retain sufficient numbers of these qualified people, our prospects, business, financial condition and results of operations will be materially and adversely affected. In particular, we are heavily dependent on the continued services of our senior management team. We do not have long-term employment agreements with any of the members of our senior management team, each of whom may voluntarily terminate their employment with us at any time. Following any termination of employment, these employees would not be subject to any non-competition covenants. The loss of any key employee, including members of our senior management team, and our inability to attract highly skilled personnel with sufficient experience in our industries could harm our business.

Adverse conditions in the economy and disruption of financial markets could negatively impact us and our customers and therefore our results of operations.

 

A further economic downturn in the businesses or geographic areas in which we sell our products could reduce demand for these products and result in a decrease in sales volume that could have a negative impact on our results of operations.  Volatility and disruption of financial markets could limit our ability, as well as our customers’ ability, to obtain adequate financing or credit to purchase and pay for our products in a timely manner, or to maintain operations, and result in a decrease in sales volume that could have a negative impact on our results of operations.

 

If we are unable to adequately fund our operations, we may be forced to voluntarily file for deregistration of our common stock with the U.S. Securities and Exchange Commission.

 

Compliance with the periodic reporting requirements required by the U.S. Securities and Exchange Commission (or SEC) consumes a considerable amount of both internal, as well external, resources and represents a significant cost for us.  If we are unable to continue to devote adequate funding and the resources needed to maintain such compliance, while continuing our operations, we may be forced to deregister with the SEC.  If we file for deregistration, our common stock will no longer be listed on the OTC Bulletin Board (or OTCBB), and it may suffer a decrease in or absence of liquidity as after the deregistration process is complete, our common stock will only be quoted on the “Pink Sheets.”  As a result of such deregistration, non-affiliates will no longer have access to information regarding our results of operations.  Without the availability of such information, our lenders may be forced to increase their monitoring of our operations which may result in higher costs to us when borrowing money which could have a negative impact and harm our business.

 

RISKS RELATING TO OUR INDUSTRY

 

If we are unable to respond to the adoption of technological innovation in our industry and changes in consumer demand, our products will cease to be competitive, which could result in a decrease in revenue and harm our business.

 

Our future success will depend, in part, on our ability to keep up with changes in consumer tastes and our continued ability to differentiate our products through implementation of new technologies, such as new materials and fabrics.  We may not, however, be able to successfully do so, and our competitors may be able to produce designs that are more appealing, implement new technologies or innovations in their designs, or manufacture their products at a much lower cost.  These types of developments could render our products less competitive and possibly eliminate any differentiating advantage in designs and materials that we might hold at the present time.

 

 

  

We are susceptible to general economic conditions, and a downturn in our industries or a reduction in spending by consumers could adversely affect our operating results.

 

The apparel industry in general has historically been characterized by a high degree of volatility and subject to substantial cyclical variations.  Our operating results will be subject to fluctuations based on general economic conditions, in particular conditions that impact consumer spending and construction and industrial activity.  A downturn in the construction, industrial or housing sectors could be expected to directly and negatively impact sales of protective gear to workers in these sectors, which could cause a decrease in revenue and harm our sales.

 

Difficult economic conditions could also increase the risk of extending credit to our retailers.  Since we have entered into a business loan agreement, a customer’s financial problems would limit the amount of advances available thereunder by reducing our borrowing base, and could cause us to assume more credit risk relating to that customer or to curtail business with that customer.

 

Changes in international treaties or governmental regulatory schemes could adversely impact our business.

 

Any negative changes to international treaties and regulations such as the North American Free Trade Agreement (or NAFTA), and to the effects of international trade agreements and embargoes imposed by entities such as the World Trade Organization, could result in a rise in trade quotas, duties, taxes and similar impositions, limit the countries from whom we can purchase our fabric or other component materials, or limit the countries where we might market and sell our products, any of which could correspondingly have an adverse effect on our business.

 

Any changes in regulation by the Federal Trade Commission (or FTC) with respect to labeling and advertising of our products could have an adverse effect on our business.  The FTC requires apparel companies to provide a label clearly stating the country of origin of manufacture and the company’s apparel registration number and a second label stating washing instructions for the product.  A change in these requirements could add additional cost to the production of our products, though we do not believe that this additional cost would be material, especially in relation to the cost of producing our products.

 

RISKS RELATING TO OUR COMMON STOCK

 

There is a limited trading market for our common stock and a market for our stock may not be sustained, which will adversely affect the liquidity of our common stock and could cause our market price to decline.

 

Although prices for our shares of common stock are quoted on the OTCBB (under the symbol ICPW), there is a limited public trading market for our common stock, and no assurance can be given that a public trading market will be sustained.

 

Active trading markets generally result in lower price volatility and more efficient execution of buy and sell orders.  The absence of an active trading market reduces the liquidity of our common stock.  As a result of the lack of trading activity, the quoted price for our common stock on the OTC Bulletin Board is not necessarily a reliable indicator of its fair market value.  Further, if we cease to be quoted, holders of our common stock would find it more difficult to dispose of, or to obtain accurate quotations as to the market value of, our common stock, and the market value of our common stock would likely decline.

 

The market price of our common stock is likely to be highly volatile and subject to wide fluctuations, and you may be unable to resell your shares at or above the offering price.

 

The market price of our common stock is likely to be highly volatile and could be subject to wide fluctuations in response to a number of factors that are beyond our control, including announcements of new products or services by our competitors.  In addition, the market price of our common stock could be subject to wide fluctuations in response to a variety of factors, including:

 

 

 

quarterly variations in our revenues and operating expenses;

 

developments in the financial markets, apparel industry and the worldwide or regional economies;

 

announcements of innovations or new products or services by us or our competitors;

 

announcements by the government that affect international trade treaties;

 

fluctuations in interest rates and/or the asset backed securities market;

 

significant sales of our common stock or other securities in the open market; and

 

changes in accounting principles.

 

In the past, stockholders have often instituted securities class action litigation after periods of volatility in the market price of a company’s securities.  If a stockholder were to file any such class action suit against us, we would incur substantial legal fees and our management’s attention and resources would be diverted from operating our business to respond to the litigation, which could harm our business.

 

Substantial future sales of our common stock in the public market could cause our stock price to fall.

 

Sales of a significant number of shares of our common stock in the open market could depress the market price of our common stock.  Further reduction in the market price for our shares could make it more difficult to raise funds through future equity offerings.

 

Moreover, as additional shares of our common stock become available for resale in the open market (including shares issued upon the exercise of our outstanding options and warrants), the supply of our publicly traded shares will increase, which could decrease its price.

 

Some of our shares may also be offered from time-to-time in the open market pursuant to Rule 144, and these sales may have a depressive effect on the market for our shares.  In general, a non-affiliate who has held restricted shares for a period of six months may sell an unrestricted number of shares of our common stock into the market.  The resale of these shares under Rule 144 may cause our stock price to decline.

 

The sale of securities by us in any equity or debt financing could result in dilution to our existing stockholders and have a material adverse effect on our earnings.

 

Any sale of common stock by us in a future private placement offering could result in dilution to the existing stockholders as a direct result of our issuance of additional shares of our capital stock. In addition, our business strategy may include expansion through internal growth, by acquiring complementary businesses, by acquiring or licensing additional brands, or by establishing strategic relationships with targeted customers and suppliers. In order to do so, or to finance the cost of our other activities, we may issue additional equity securities that could dilute our stockholders’ stock ownership. We may also assume additional debt and incur impairment losses related to goodwill and other tangible assets if we acquire another company and this could negatively impact our earnings and results of operations. 

 

The trading of our common stock on the OTCBB and the designation of our common stock as a “penny stock” could impact the trading market for our common stock.

 

Our securities, as traded on the OTCBB, are subject to SEC rules that impose special sales practice requirements on broker-dealers who sell these securities to persons other than established customers or accredited investors. For the purposes of the rule, the phrase “accredited investors” means, in general terms, institutions with assets in excess of $5,000,000, or individuals having a net worth in excess of $1,000,000 or having an annual income that exceeds $200,000 (or that, when combined with a spouse’s income, exceeds $300,000). For transactions covered by the rule, the broker-dealer must make a special suitability determination for the purchaser and receive the purchaser’s written agreement to the transaction before the sale. Consequently, the rule affects the ability of broker-dealers to sell our securities and also affects the ability of purchasers to sell their securities in any market that might develop therefor.

In addition, the SEC has adopted a number of rules to regulate “penny stock” that restrict transactions involving these securities. Such rules include Rules 3a51-1, 15g-1, 15g-2, 15g-3, 15g-4, 15g-5, 15g-6, 15g-7, and 15g-9 under the Securities Exchange Act of 1934, as amended. These rules may have the effect of reducing the liquidity of penny stocks. “Penny stocks” generally are equity securities with a price of less than $5.00 per share (other than securities registered on certain national securities exchanges if current price and volume information with respect to transactions in such securities is provided by the exchange). Because our securities constitute “penny stocks” within the meaning of the rules, the rules would apply to us and to our securities.

 

Shareholders should be aware that, according to the SEC, the market for penny stocks has suffered in recent years from patterns of fraud and abuse.  Such patterns include (i) control of the market for the security by one or a few broker-dealers that are often related to the promoter or issuer; (ii) manipulation of prices through prearranged matching of purchases and sales and false and misleading press releases; (iii) “boiler room” practices involving high-pressure sales tactics and unrealistic price projections by inexperienced sales persons; (iv) excessive and undisclosed bid-ask differentials and markups by selling broker-dealers; and (v) the wholesale dumping of the same securities by promoters and broker-dealers after prices have been manipulated to a desired level, resulting in investor losses.  Our management is aware of the abuses that have occurred historically in the penny stock market.  Although we do not expect to be in a position to dictate the behavior of the market or of broker-dealers who participate in the market, management will strive within the confines of practical limitations to prevent the described patterns from being established with respect to our securities.

 

We have not paid dividends in the past and do not expect to pay dividends for the foreseeable future, and any return on investment may be limited to potential future appreciation on the value of our common stock.

 

We currently intend to retain any future earnings to support the development and expansion of our business and do not anticipate paying cash dividends in the foreseeable future.  Our payment of any future dividends will be at the discretion of our board of directors after taking into account various factors, including without limitation, our financial condition, operating results, cash needs, growth plans and the terms of any credit agreements that we may be a party to at the time.  To the extent we do not pay dividends, our stock may be less valuable because a return on investment will only occur if and to the extent our stock price appreciates, which may never occur.  In addition, investors must rely on sales of their common stock after price appreciation as the only way to realize their investment, and if the price of our stock does not appreciate, then there will be no return on investment.  Investors seeking cash dividends should not purchase our common stock.

 

 

 

Our officers, directors and principal stockholders can exert significant influence over us and may make decisions that are not in the best interests of all stockholders.

 

Our officers, directors and principal stockholders (greater than 5% stockholders) collectively control approximately 28% of our outstanding common stock. As a result, these stockholders will be able to affect the outcome of, or exert significant influence over, all matters requiring stockholder approval, including the election and removal of directors and any change in control. In particular, this concentration of ownership of our common stock could have the effect of delaying or preventing a change of control of us or otherwise discouraging or preventing a potential acquirer from attempting to obtain control of us. This, in turn, could have a negative effect on the market price of our common stock. It could also prevent our stockholders from realizing a premium over the market prices for their shares of common stock. Moreover, the interests of this concentration of ownership may not always coincide with our interests or the interests of other stockholders, and accordingly, they could cause us to enter into transactions or agreements that we would not otherwise consider. 

Anti-takeover provisions may limit the ability of another party to acquire us, which could cause our stock price to decline.

 

Our Articles of Incorporation, as amended, our bylaws and Nevada law contain provisions that could discourage, delay or prevent a third party from acquiring us, even if doing so may be beneficial to our stockholders.  In addition, these provisions could limit the price investors would be willing to pay in the future for shares of our common stock.

 

 

 

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

 Not applicable.

 

ITEM 4. CONTROLS AND PROCEDURES

 

Controls and Procedures

 

As of June 30, 2014, the end of the period covered by this report, we conducted an evaluation, under the supervision and with the participation of our Principal Executive Officer and Principal Financial Officer, of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e)) under the Securities Exchange Act of 1934 Act, as amended. Based on this evaluation, our Principal Executive Officer and Principal Financial Officer concluded that our disclosure controls and procedures are effective.  In making this assessment, our management used the criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission under the 1992 Framework (COSO). The COSO Commission has recently adopted a revision of the Internal Control-Integrated Framework which will become effective for us in December 2014. We expect to be in full compliance later this year.

 

Our disclosure controls and procedures, and internal controls over financial reporting, provide reasonable, but not absolute, assurance that all deficiencies in design and or operation of those control systems, or all instances of errors or fraud, will be prevented or detected.  Those control systems are designed to provide reasonable assurance of achieving the goals of those systems in light of our resources and nature of our business operations.  Our disclosure controls and procedures, and internal control over financial reporting, remain subject to risks of human error and the risk that controls can be circumvented for wrongful purposes by one or more individuals in management or non-management positions.

 

Internal Control Over Financial Reporting

 

During the last fiscal quarter, there have been no changes in our internal control over financial reporting that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

 

 

 

 

PART II:  OTHER INFORMATION

 

ITEM 6. EXHIBITS

 

Exhibit Index

 

Exhibit

Number

Exhibit Title
10.1† Letter Agreement dated April 22, 2014, between William Aisenberg and Ironclad Performance Wear Corporation.
10.2 Industrial Multi-Tenant Lease dated June 11, 2014, between Ironclad Performance Wear Corporation and 6400 Broadway L.L.L.P.  Incorporate by reference to Exhibit 10.1 to our Current Report on Form 8-K (file No. 000-51365) filed June 17, 2014.
31.1 Certification by Principal Executive Officer pursuant to Rule 13a-14(a) or 15d-14(a) under the Securities Exchange Act of 1934, as amended.
31.2 Certification by Principal Financial Officer pursuant to Rule 13a-14(a) or 15d-14(a) under the Securities Exchange Act of 1934, as amended.
32.1 Certification of Principal Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2 Certification of Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101.INS** XBRL Instance.
101.SCH** XBRL Taxonomy Extension Schema.
101.CAL** XBRL Taxonomy Extension Calculation.
101.DEF** XBRL Taxonomy Extension Definition.
101.LAB** XBRL Taxonomy Extension Labels.
101.PRE** XBRL Taxonomy Extension Presentation.

 

† A management contract or compensatory plan or arrangement required to be filed as an exhibit to this report on Form 10-Q.

 

** XBRL information is furnished and not filed or a part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as amended, is deemed not filed for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, and otherwise is not subject to liability under these sections. 

 

 

 

 

 

SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

IRONCLAD PERFORMANCE WEAR CORPORATION
   
Date: August 13, 2014 By:   /s/ William Aisenberg

William Aisenberg,

EVP, Chief Financial Officer