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EXCEL - IDEA: XBRL DOCUMENT - CTI INDUSTRIES CORPFinancial_Report.xls
EX-31.2 - EXHIBIT 31.2 - CTI INDUSTRIES CORPv385886_ex31-2.htm
EX-32 - EXHIBIT 32 - CTI INDUSTRIES CORPv385886_ex32.htm
EX-10.1 - EXHIBIT 10.1 - CTI INDUSTRIES CORPv385886_ex10-1.htm
EX-31.1 - EXHIBIT 31.1 - CTI INDUSTRIES CORPv385886_ex31-1.htm

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

 

 

FORM 10-Q

 

(Mark One)

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended June 30, 2014

 

OR

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from _________to_________

 

Commission File Number

000-23115

CTI INDUSTRIES CORPORATION

(Exact name of Registrant as specified in its charter)

 

Illinois 36-2848943
(State or other jurisdiction of (I.R.S. Employer Identification Number)
incorporation or organization)  
   
22160 N. Pepper Road  
              Lake Barrington, Illinois               60010
(Address of principal executive offices) (Zip Code)

 

(847) 382-1000

(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 þ     No o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§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 þ     No o

 

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, or 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 o     Accelerated filer o    Non-accelerated filer o Smaller Reporting Company þ

 

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o     No þ

 

The number of shares outstanding of the Registrant’s common stock as of August 1, 2014 was 3,301,116.

 

 
 

 

INDEX

 

Part I – Financial Information  
     
Item No. 1. Financial Statements  
 

Condensed Consolidated Interim Balance Sheet at June 30, 2014 (unaudited) and December 31, 2013

1
 

Condensed Consolidated Interim Statements of Comprehensive Income (unaudited) for the three and six months ended June 30, 2014 and June 30, 2013

2
  Condensed Consolidated Interim Statements of Cash Flows (unaudited) for the six months ended June 30, 2014 and June 30, 2013 3
  Condensed Consolidated Interim Earnings per Share (unaudited) for the three and six months ended June 30, 2014 and June 30, 2013 4
  Notes to Condensed Consolidated Financial Statements (unaudited) 5
Item No. 2 Management’s Discussion and Analysis of Financial Condition and Results of Operations 15
Item No. 3 Quantitative and Qualitative Disclosures Regarding Market Risk 23
Item No. 4 Controls and Procedures 23
     
Part II – Other Information  
     
Item No. 1 Legal Proceedings 23
Item No. 1A Risk Factors 23
Item No. 2 Unregistered Sales of Equity Securities and Use of Proceeds 23
Item No. 3 Defaults Upon Senior Securities 23
Item No. 4 Submission of Matters to a Vote of Security Holders 23
Item No. 5 Other Information 23
Item No. 6 Exhibits 24
  Signatures  
  Exhibit 10.1  
  Exhibit 31.1  
  Exhibit 31.2  
  Exhibit 32  

 

 
 

  

PART 1 - FINANCIAL INFORMATION

 

Item 1. Financial Statements

 

CTI Industries Corporation and Subsidiaries

Condensed Consolidated Balance Sheets

  

   June 30, 2014   December 31, 2013 
   (unaudited)     
ASSETS          
Current assets:          
Cash and cash equivalents (VIE $28,000 and $54,000, respectively)  $277,562   $666,616 
Accounts receivable, (less allowance for doubtful accounts of $226,000 and $217,000, respectively) (VIE $4,000 and $0, respectively)   10,069,378    8,883,106 
Inventories, net (VIE $542,000 and $390,000, respectively)   16,651,235    15,428,413 
Net deferred income tax asset   820,558    931,245 
Prepaid expenses (VIE $3,000 and $3,000, respectively)   1,571,114    1,315,384 
Other current assets (VIE $77,000 and $76,000, respectively)   815,322    945,914 
           
Total current assets   30,205,169    28,170,678 
           
Property, plant and equipment:          
Machinery and equipment (VIE $729,000 and $723,000, respectively)   27,184,242    26,639,722 
Building   3,360,017    3,360,017 
Office furniture and equipment (VIE $43,000 and $39,000, respectively)   3,466,571    3,287,951 
Intellectual property   482,088    482,088 
Land   250,000    250,000 
Leasehold improvements   664,762    586,515 
Fixtures and equipment at customer locations   3,012,013    2,784,419 
Projects under construction   668,218    1,009,623 
    39,087,911    38,400,335 
Less : accumulated depreciation and amortization (VIE $120,000 and $92,000, respectively)   (30,779,546)   (29,718,564)
           
Total property, plant and equipment, net   8,308,365    8,681,771 
           
Other assets:          
Deferred financing costs, net   161,050    197,585 
Goodwill (VIE $440,000 and $440,000, respectively)   1,473,176    1,473,176 
Net deferred income tax asset   749,835    317,639 
Other assets (due from related party $24,000 and $24,000, respectively)   359,710    230,651 
           
Total other assets   2,743,771    2,219,051 
           
TOTAL ASSETS  $41,257,305   $39,071,500 
           
LIABILITIES AND EQUITY          
Current liabilities:          
Checks written in excess of bank balance (VIE $5,000 and $0, respectively)  $821,172   $704,757 
Trade payables (VIE $92,000 and $94,000, respectively)   6,282,510    3,573,007 
Line of credit (VIE $497,000 and $219,000, respectively)   8,795,338    8,769,024 
Notes payable - current portion (net discount of $136,000 and $125,000, repectively) (VIE $111,000 and $107,000, respectively)   336,277    342,931 
Notes payable affiliates - current portion   9,706    9,079 
Capital Lease - current portion   31,542    30,487 
Accrued liabilities (VIE $84,000 and $73,000, respectively)   2,504,753    3,003,704 
           
Total current liabilities   18,781,298    16,432,989 
           
Long-term liabilities:          
Notes payable – affiliates   287,997    281,148 
Notes payable, net of current portion (net discount of $360,000 and $430,000, repectively) (VIE $380,000 and $441,000, respectively)   7,339,940    7,511,383 
Notes payable - officers, subordinated   1,195,381    1,155,705 
Capital Lease   93,631    109,670 
           
Total long-term debt, net of current portion   8,916,949    9,057,906 
           
Warrants Payable   638,619    816,480 
           
Total long-term liabilities   9,555,568    9,874,386 
           
Equity:          
CTI Industries Corporation stockholders' equity:          
Preferred Stock — no par value 2,000,000 shares authorized 0 shares issued and outstanding   -    - 
Common stock - no par value, 5,000,000 shares authorized, 3,376,743 and 3,320,773 shares issued and 3,301,116 and 3,248,646 outstanding, respectively   13,775,994    13,775,994 
Paid-in-capital   1,508,758    1,165,549 
Accumulated earnings   32,071    109,137 
Accumulated other comprehensive loss   (2,252,105)   (2,253,501)
Less: Treasury stock, 75,627 and 72,127 shares, respectively   (160,784)   (141,289)
           
Total CTI Industries Corporation stockholders' equity   12,903,934    12,655,890 
           
Noncontrolling interest   16,505    108,235 
           
Total Equity   12,920,439    12,764,125 
           
TOTAL LIABILITIES AND EQUITY  $41,257,305   $39,071,500 

 

See accompanying notes to condensed consolidated unaudited financial statements

 

1
 

 

CTI Industries Corporation and Subsidiaries

Condensed Consolidated Statements of Comprehensive Income (Unaudited)

 

   For the Three Months Ended June 30,   For the Six Months Ended June 30, 
   2014   2013   2014   2013 
                 
Net Sales  $13,158,876   $13,034,306   $28,079,207   $26,379,072 
                     
Cost of Sales   10,132,840    10,552,216    21,555,762    20,922,965 
                     
Gross profit   3,026,036    2,482,090    6,523,445    5,456,107 
                     
Operating expenses:                    
General and administrative   1,967,268    1,393,013    3,874,977    2,946,059 
Selling   565,568    435,213    1,327,444    895,416 
Advertising and marketing   548,899    362,731    1,050,773    793,348 
                     
Total operating expenses   3,081,735    2,190,957    6,253,194    4,634,823 
                     
(Loss) income from operations   (55,699)   291,133    270,251    821,284 
                     
Other (expense) income:                    
Interest expense   (212,361)   (205,775)   (519,385)   (679,285)
Interest income   7,381    5,536    12,916    11,072 
Foreign currency gain (loss)   2,696    (170,821)   (2,481)   (26,297)
                     
Total other expense, net   (202,284)   (371,060)   (508,950)   (694,510)
                     
Net (loss) income before taxes   (257,983)   (79,927)   (238,699)   126,774 
                     
Income tax (benefit) expense   (83,726)   (24,369)   (85,903)   61,400 
                     
Net (loss) income   (174,257)   (55,558)   (152,796)   65,374 
                     
Less: Net (loss) income attributable to noncontrolling interest   (51,768)   420    (75,730)   (8,980)
                     
Net (loss) income attributable to CTI Industries Corporation  $(122,489)  $(55,978)  $(77,066)  $74,354 
                     
Other Comprehensive Income                    
Foreign currency adjustment   189,488    200,632    1,396    170,232 
Comprehensive income (loss)  $66,999   $144,654   $(75,670)  $244,586 
                     
Basic (loss) income per common share  $(0.04)  $(0.02)  $(0.02)  $0.02 
                     
Diluted (loss) income per common share  $(0.04)  $(0.02)  $(0.02)  $0.02 
                     
Weighted average number of shares and equivalent shares of common stock outstanding:                    
Basic   3,301,116    3,248,646    3,275,335    3,248,646 
                     
Diluted   3,453,217    3,400,641    3,431,723    3,405,946 

 

See accompanying notes to condensed consolidated unaudited financial statements

 

2
 

 

CTI Industries Corporation and Subsidiaries

Condensed Consolidated Statements of Cash Flows (Unaudited)

 

   For the Six Months Ended June 30, 
   2014   2013 
         
Cash flows from operating activities:          
Net (loss) income  $(152,796)  $65,374 
Adjustment to reconcile net income to cash provided by operating activities:          
Depreciation and amortization   1,073,427    946,947 
Amortization of debt discount   60,306    54,989 
Change in value of swap agreement   (39,017)   (30,942)
Stock based compensation   43,209    69,183 
Provision for losses on accounts receivable   39,905    45,733 
Provision for losses on inventories   10,629    51,401 
Deferred income taxes   (324,509)   (113,131)
Change in assets and liabilities:          
Accounts receivable   (1,182,774)   51,114 
Inventories   (1,187,929)   684,273 
Prepaid expenses and other assets   (49,417)   124,655 
Trade payables   2,655,129    (280,102)
Accrued liabilities   (935,661)   (19,141)
           
Net cash provided by operating activities   10,502    1,650,353 
           
Cash used in investing activities - purchases of property, plant and equipment   (618,834)   (956,303)
           
Cash flows from financing activities:          
Change in checks written in excess of bank balance   114,870    (67,690)
Net change in revolving line of credit   26,868    (374,533)
Proceeds from issuance of long-term debt   55,960    174,959 
Repayment of long-term debt (related parties $4,000 and $32,000)   (262,841)   (263,368)
Cash paid for deferred financing fees   -    (51,658)
Purchase of treasury stock   (19,495)   - 
Dividends paid   (16,000)   -
Proceeds from issuance of stock, net   300,000    - 
           
Net cash provided by (used in) financing activities   199,362    (582,290)
           
Effect of exchange rate changes on cash   19,916    (4,079)
           
Net (decrease) increase in cash and cash equivalents   (389,054)   107,681 
           
Cash and cash equivalents at beginning of period   666,616    351,064 
           
Cash and cash equivalents at end of period  $277,562   $458,745 
           
Supplemental disclosure of cash flow information:          
Cash payments for interest  $571,491   $567,063 
           
Cash payments for taxes  $55,466   $25,000 
           
Supplemental Disclosure of non-cash investing and financing activity          
Property, Plant & Equipment acquisitions funded by liabilities  $58,967   $81,295 

 

See accompanying notes to condensed consolidated unaudited financial statements

 

3
 

 

CTI Industries Corporation and Subsidiaries

Condensed Consolidated Earnings per Share (unaudited)

 

   For the Three Months Ended June 30,   For the Six Months Ended June 30, 
   2014   2013   2014   2013 
Basic                    
Average shares outstanding:                    
Weighted average number of common shares outstanding   3,301,116    3,248,646    3,275,335    3,248,646 
                     
Net income:                    
Net (loss) income attributable to CTI Industries Corporation  $(122,489)  $(55,978)  $(77,066)  $74,354 
                     
                     
Per share amount  $(0.04)  $(0.02)  $(0.02)  $0.02 
                     
                     
Diluted                    
Average shares outstanding:                    
Weighted average number of common shares outstanding   3,249,268    3,248,646    3,249,268    3,248,646 
                     
Effect of dilutive shares   152,101    151,995    156,388    157,300 
                     
Weighted average number of shares and equivalent shares of common stock outstanding   3,453,217    3,400,641    3,431,723    3,405,946 
                     
Net income:                    
Net (loss) income attributable to CTI Industries Corporation  $(122,489)  $(55,978)  $(77,066)  $74,354 
                     
Per share amount  $(0.04)  $(0.02)  $(0.02)  $0.02 

 

See accompanying notes to condensed consolidated unaudited financial statements

 

4
 

  

CTI Industries Corporation and Subsidiaries

Notes to Unaudited Condensed Consolidated Financial Statements

 

Note 1 - Basis of Presentation

 

The accompanying condensed (a) consolidated balance sheet as of December 31, 2013, which has been derived from audited consolidated financial statements, and (b) the unaudited interim condensed consolidated financial statements have been prepared and, in the opinion of management, contain all the adjustments (consisting of those of a normal recurring nature) considered necessary to present fairly the consolidated financial position and the consolidated statements of comprehensive income and consolidated cash flows for the periods presented in conformity with generally accepted accounting principles for interim consolidated financial information and the instructions to Form 10-Q and Article 8 of Regulation S-X. Accordingly, they do not include all the information and footnotes required by accounting principles generally accepted in the United States of America. Operating results for the three and six months ended June 30, 2014 are not necessarily indicative of the results that may be expected for the fiscal year ending December 31, 2014. It is suggested that these condensed consolidated financial statements be read in conjunction with the consolidated financial statements and notes thereto included in the Company's annual report on Form 10-K for the fiscal year ended December 31, 2013.

 

Principles of consolidation and nature of operations:

 

The condensed consolidated financial statements include the accounts of CTI Industries Corporation and its wholly-owned subsidiaries, CTI Balloons Limited, CTI Helium, Inc. and CTF International S.A. de C.V., its majority-owned subsidiaries CTI Mexico S.A. de C.V., Flexo Universal, S.A. de C.V. and CTI Europe gmbH, as well as the accounts of Venture Leasing S. A. de R. L., Venture Leasing L.L.C and Clever Container Company, L.L.C. (the “Company”). The last three entities have been consolidated as variable interest entities. All significant intercompany transactions and accounts have been eliminated in consolidation. The Company (i) designs, manufactures and distributes balloon products throughout the world and (ii) operates systems for the production, lamination, coating and printing of films used for food packaging and other commercial uses and for conversion of films to flexible packaging containers and other products.

 

Variable Interest Entities (“VIE’s”):

 

The determination of whether or not to consolidate a variable interest entity under U.S. GAAP requires a significant amount of judgment concerning the degree of control over an entity by its holders of variable interest. To make these judgments, management has conducted an analysis of the relationship of the holders of variable interest to each other, the design of the entity, the expected operations of the entity, which holder of variable interests is most “closely associated” to the entity and which holder of variable interests is the primary beneficiary required to consolidate the entity. Upon the occurrence of certain events, management reviews and reconsiders its previous conclusion regarding the status of an entity as a variable interest entity. There are three entities that have been consolidated as variable interest entities.

 

5
 

 

Use of estimates:

 

In preparing condensed consolidated financial statements in conformity with accounting principles generally accepted in the United States of America, management makes estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements and the reported amount of revenue and expenses during the reporting period in the condensed consolidated financial statements and accompanying notes. Actual results may differ from those estimates. The Company’s significant estimates include reserves for doubtful accounts, reserves for the lower of cost or market of inventory, reserves for deferred tax assets and recovery value of goodwill.

 

Earnings per share:

 

Basic earnings per share is computed by dividing net income by the weighted average number of shares of common stock outstanding during each period.

 

Diluted earnings per share is computed by dividing the net income by the weighted average number of shares of common stock and equivalents (stock options and warrants), unless anti-dilutive, during each period.

 

As of June 30, 2014 and 2013, shares to be issued upon the exercise of options and warrants aggregated 368,548 and 358,548, respectively. The number of anti-dilutive shares (not included in the determination of earnings on a diluted basis) for the three months ended June 30, 2014 and 2013, were 199,000 and 189,000, respectively, all of which were represented by options. The number of anti-dilutive shares for the six months ended June 30, 2014 and 2013, were 90,000 and 80,000, respectively, all of which were represented by options.

 

Significant Accounting Policies:

 

The Company’s significant accounting policies are summarized in Note 2 of the Company’s consolidated financial statements for the year ended December 31, 2013. There were no significant changes to these accounting policies during the three and six months ended June 30, 2014.

 

Recent Accounting Pronouncements:

 

In May 2014, the Financial Accounting Standards Board (FASB) issued guidance on the recognition of revenue from contracts with customers. Revenue recognition will depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The guidance also requires disclosures regarding the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers. The guidance permits two methods of adoption: retrospectively to each prior reporting period presented or retrospectively with the cumulative effect of initially applying the guidance recognized at the date of initial application. The guidance is effective January 1, 2017 and early adoption is not permitted. The company is currently evaluating the impact of the new guidance and the method of adoption in the consolidated financial results.

 

6
 

 

Note 2 - Stock-Based Compensation; Changes in Equity

 

The Company has adopted Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) Topic 718 which requires all share-based payments to employees, including grants of employee stock options, to be recognized in the condensed consolidated financial statements based on their grant-date fair values.

 

The Company has applied the Black-Scholes model to value stock-based awards and issued warrants related to notes payable. That model incorporates various assumptions in the valuation of stock-based awards relating to the risk-free rate of interest to be applied, the estimated dividend yield and expected volatility of our common stock. The risk-free rate of interest is the related U.S. Treasury yield curve for periods within the expected term of the option at the time of grant. The dividend yield on our common stock is estimated to be 0%, as the Company did not issue dividends during 2014 and 2013. The expected volatility is based on historical volatility of the Company’s common stock.

 

The Company’s net income for the three months ended June 30, 2014 and 2013 includes approximately $21,000 and $33,000, respectively of compensation costs related to share based payments. The Company’s net income for the six months ended June 30, 2014 and 2013 includes approximately $43,000 and $69,000, respectively of compensation costs related to share based payments. As of June 30, 2014 there is $77,000 of unrecognized compensation expense related to non-vested stock option grants and stock grants. We expect approximately $34,000 of additional stock-based compensation expense to be recognized over the remainder of 2014, $29,000 to be recognized during 2015, $11,000 to be recognized during 2016, and $3,000 to be recognized during 2017.

 

As of June 30, 2014, the Company had three stock-based compensation plans pursuant to which stock options were, or may be, granted. The Plans provide for the award of options, which may either be incentive stock options (“ISOs”) within the meaning of Section 422A of the Internal Revenue Code of 1986, as amended (the “Code”) or non-qualified options (“NQOs”) which are not subject to special tax treatment under the Code, as well as for stock grants.

 

On April 12, 2001, the Board of Directors approved for adoption, effective December 27, 2001, the 2001 Stock Option Plan (“2001 Plan”). The 2001 Plan authorizes the grant of options to purchase up to an aggregate of 119,050, shares of the Company’s Common Stock. As of June 30, 2014, options for 139,958 shares (including cancelled shares re-issued under the Plan) have been granted and were fully vested at the time of grant and options for 2,000 shares remain outstanding.

 

On April 24, 2002, the Board of Directors approved for adoption, effective October 12, 2002, the 2002 Stock Option Plan (“2002 Plan”). The 2002 Plan authorizes the grant of options to purchase up to an aggregate of 142,860 shares of the Company’s Common Stock. As of June 30, 2014, options for 123,430 shares have been granted and were fully vested at the time of grant and options for 27,500 shares remain outstanding.

 

7
 

 

On April 10, 2009, the Board of Directors approved for adoption, and on June 5, 2009, the shareholders of the Corporation approved, a 2009 Stock Incentive Plan (“2009 Plan”). The 2009 Plan authorizes the issuance of up to 250,000 shares of stock or options to purchase stock of the Company. As of June 30, 2014, options for 201,000 shares had been granted and options for 199,000 shares remain outstanding.

 

A summary of the Company’s stock option activity and related information is as follows:

 

   Shares
under
Option
   Weighted
Average
Exercise
Price
   Weighted
Average
Remaining
Contractual
Life
   Aggregate
Intrinsic
Value
 
Balance at December 31, 2013   228,500   $5.23    3.0   $161,250 
Granted   -    -           
Cancelled   -    -           
Exercised   -    -           
Outstanding at June 30, 2014   228,500   $5.23    2.5   $49,855 
                     
Exercisable at June 30, 2014   120,182   $4.92    2.2   $49,855 

 

On July 17, 2012, the Company entered into a Note and Warrant Purchase Agreement with BMO Equity pursuant to which (i) BMO Equity advanced to the Company the sum of $5 million and (ii) the Company issued to BMO Equity a warrant to purchase up to Four Percent (4%) of the outstanding shares of common stock of the Company on a fully-diluted basis (140,048 shares of common stock of the Company) at the price of One Cent ($0.01) per share. The term of the loan provided for in this Agreement is five and a half years. Interest is payable on the outstanding balance of the loan at the rate of 11.5% per annum.

 

On April 12, 2013, the Company entered into Amendment No. 1 to the Note and Warrant Purchase Agreement among the Company and BMO Equity. In the Amendment, non-compliance with financial covenants prior to the date of the Amendment were waived and the Note and Warrant Purchase Agreement was amended (i) to modify the Senior Leverage Ratio and Total Leverage Ratio requirements for the fiscal quarter ending June 30, 2013 and each quarter thereafter during the term of the Note and Warrant Purchase Agreement and (ii) to modify the definitions of EBITDA and Total Funded Debt.

 

On June 30, 2014, the Company received waivers from each of BMO Harris and BMO Equity of certain anticipated non-compliance with certain of the financial covenants under the Credit Agreement and the Note and Warrant Purchase Agreement, as amended. Accordingly, as of June 30, 2014, the Company was in compliance with all of the revised financial covenants of those agreements or the failure to comply with any of such covenants had been waived.

 

Management of the Company is currently engaged in negotiations with BMO Harris and BMO Equity, and in financing efforts, for a restructuring of the agreements with those entities under which financial covenants would be modified, additional financing provided and reduction of certain loan balances achieved. Management believes that a restructuring of these agreements will be completed during the third quarter 2014.

 

8
 

 

A summary of the Company’s stock warrant activity and related information is as follows:

 

   Shares
under
Warrant
   Weighted
Average
Exercise
Price
   Weighted
Average
Remaining
Contractual
Life
   Aggregate
Intrinsic
Value
 
Balance at December 31, 2013   140,048   $0.01    8.5   $816,480 
Granted                    
Cancelled   -    -           
Exercised   -    -           
Outstanding at June 30, 2014   140,048   $0.01    8.0   $638,619 
                     
Exercisable at June 30, 2014   -    -    -    - 

 

A summary of the Company’s stock option activity by grant date as of June 30, 2014 is as follows:

 

   Options Outstanding   Options Vested 
Options by
Grant Date
  Shares   Weighted
Avg.
   Remain.
Life
   Intrinsic
Val
   Shares   Weighted
Avg.
   Remain.
Life
   Intrinsic
Val
 
Dec 2005   29,500   $2.88    1.5   $49,855    29,500   $2.88    1.5   $49,855 
Dec 2010   72,000    6.14    1.5    -    39,750    5.97    1.5    - 
Jan 2011   8,000    5.96    1.5    -    5,332    5.96    1.5    - 
Nov 2012   109,000    5.17    3.4    -    43,600    5.17    3.4    - 
Nov 2013   10,000    5.75    4.4    -    2,000    5.75    4.4    - 
TOTAL   228,500   $5.23    2.5   $49,855    120,182   $4.92    2.2   $49,855 

 

The aggregate intrinsic value in the tables above represents the total pre-tax intrinsic value (the difference between the closing price of the Company’s common stock on the last trading day of the quarter ended June 30, 2014 and the exercise price, multiplied by the number of in-the-money options) that would have been received by the option holders had all the holders exercised their options on June 30, 2014.

 

Note 3 - Legal Proceedings

 

The Company is party to certain claims or actions arising in the normal course of business. The ultimate outcome of these matters is unknown but, in the opinion of management, the resolution of these matters is not expected to have a significant effect on the future financial position or results of operations of the Company.

 

9
 

 

Note 4 - Other Comprehensive Income

 

In the three and six months ended June 30, 2014 the company had a comprehensive gain of $189,000 and a comprehensive gain of $1,000, respectively, all from foreign currency translation adjustments.

 

The following table sets forth the accumulated balance of other comprehensive loss and each component.

 

   Foreign Currency Items   Total
Accumulated Other
Comprehensive Loss
 
         
Beginning balance as of January 1, 2014  $(2,253,501)  $(2,253,501)
           
Current period change, net of tax   1,396    1,396 
           
Ending Balance as of June 30, 2014  $(2,252,105)  $(2,252,105)

 

Note 5 - Inventories, Net

 

   June 30,
2014
   December 31,
2013
 
Raw materials  $3,711,652   $3,342,528 
Work in process   1,369,159    1,149,704 
Finished goods   12,319,254    11,673,872 
Allowance for excess quantities   (748,830)   (737,691)
Total inventories  $16,651,235   $15,428,413 

 

Note 6 - Geographic Segment Data

 

The Company has determined that it operates primarily in one business segment which designs, manufactures and distributes film and film related products for use in packaging, storage and novelty balloon products. The Company operates in foreign and domestic regions. Information about the Company's operations by geographic areas is as follows:

 

   Net Sales to Outside Customers   Net Sales to Outside Customers 
   For the Three Months Ended   For the Six Months Ended 
   June 30,   June 30, 
   2014   2013   2014   2013 
                 
United States  $9,408,000   $9,789,000   $20,178,000   $19,660,000 
Europe   408,000    185,000    802,000    427,000 
Mexico   2,804,000    2,622,000    5,634,000    5,208,000 
United Kingdom   539,000    438,000    1,465,000    1,084,000 
                     
   $13,159,000   $13,034,000   $28,079,000   $26,379,000 

 

10
 

 

   Total Assets at 
   June 30,   December 31, 
   2014   2013 
         
United States  $29,543,000   $28,758,000 
Europe   1,424,000    1,145,000 
Mexico   8,680,000    8,144,000 
United Kingdom   1,610,000    1,025,000 
           
   $41,257,000   $39,072,000 

 

Note 7 - Concentration of Credit Risk

 

Concentration of credit risk with respect to trade accounts receivable is generally limited due to the large number of entities comprising the Company's customer base. The Company performs ongoing credit evaluations and provides an allowance for potential credit losses against the portion of accounts receivable which is estimated to be uncollectible. Such losses have historically been within management's expectations. During the three and six months ended June 30, 2014 and 2013, there were two customers whose purchases represented more than 10% of the Company’s consolidated net sales, respectively. Sales to these customers for the three and six months ended June 30, 2014 and 2013 are as follows:

 

   Three Months Ended   Three Months Ended 
   June 30, 2014   June 30, 2013 
Customer  Net Sales   % of Net
Sales
   Net Sales   % of Net
Sales
 
Customer A  $3,703,000    28.1%  $3,537,000    27.1%
Customer B  $1,379,000    10.5%  $1,921,000    14.7%

 

   Six Months Ended   Six Months Ended 
   June 30, 2014   June 30, 2013 
Customer  Net Sales   % of Net
Sales
   Net Sales   % of Net
Sales
 
Customer A  $7,930,000    28.2%  $8,411,000    31.9%
Customer B  $3,163,000    11.3%  $2,681,000    10.2%

 

As of June 30, 2014, the total amounts owed to the Company by these customers were approximately $2,092,000 or 20.8%, and $1,541,000 or 15.3% of the Company’s consolidated net accounts receivable, respectively. The amounts owed at June 30, 2013 by these customers were approximately $1,411,000 or 18.5% and $1,209,000 or 15.8% of the Company’s consolidated net accounts receivable.

 

11
 

 

Note 8 - Related Party Transactions

 

Stephen M. Merrick, President of the Company, is of counsel to the law firm of Vanasco Genelly and Miller PC which provides legal services to the Company. Legal fees paid by the Company to this firm for the three months ended June 30, 2014 and 2013, respectively, were $26,000 and $29,000. Legal fees paid by the Company to this firm for the six months ended June 30, 2014 and 2013, respectively, were $51,000 and $62,000.

 

John H. Schwan, Chief Executive Officer of the Company, during a portion of 2013, was a principal of Shamrock Specialty Packaging and affiliated companies. The Company made payments for packaging materials, rent and temporary employees supplied by Shamrock of approximately $564,000 during the three months ended June 30, 2014 and $602,000 during the three months ended June 30, 2013. The Company made payments for packaging materials, rent and temporary employees supplied by Shamrock of approximately $1,018,000 during the six months ended June 30, 2014 and $1,560,000 during the six months ended June 30, 2013. At June 30, 2014 and 2013, outstanding accounts payable balances were $240,000 and $155,000, respectively.

 

Interest payments have been made or accrued to John H. Schwan for loans made to the Company. During the three months ended June 30, 2014 and 2013 these interest payments totaled $20,000 and $19,000, respectively. During the six months ended June 30, 2014 and 2013 these interest payments totaled $40,000 and $38,000, respectively.

 

On July 1, 2011, Flexo Universal, S.A. de C.V. (“Flexo”) entered into a lease agreement with Venture Leasing S.A. de R.L. (“Venture Leasing Mexico”) for the lease of balloon production equipment financed and owned by Venture Leasing Mexico and used by Flexo for the production of latex balloons. Venture Leasing Mexico is wholly owned by entities owned by John H. Schwan, Chief Executive Officer of the Company and Stephen M. Merrick, President of the Company. Venture Leasing Mexico and Venture Leasing L.L.C., also owned by entities owned by Mr. Schwan and Mr. Merrick, are deemed variable interest entities and are consolidated with the accounts of the Company. During the three and six months ended June 30, 2014, Flexo made lease payments to Venture Leasing Mexico totaling $36,000 and $72,000. During the three and six months ended June 30, 2013, Flexo made lease payments to Venture Leasing Mexico totaling $36,000 and $72,000.

 

Note 9 - Derivative Instruments; Fair Value

 

The following tables represents information about the Company’s assets and liabilities measured at fair value on a recurring basis as of June 30, 2014 and December 30, 2013, and indicate the fair value hierarchy of the valuation techniques utilized by the Company to determine such fair value:

 

   Amount as of             
Description  6/30/2014   Level 1   Level 2   Level 3 
                 
Interest Rate Swap  $21,000   $-   $21,000   $- 
Warrant Liability   639,000    -    639,000      
                     
   $660,000   $-   $660,000   $- 

 

12
 

 

   Amount as of             
Description  12/31/2013   Level 1   Level 2   Level 3 
                 
Interest Rate Swap  $60,000   $-   $60,000   $- 
Warrant Liability   816,000    -    816,000    - 
                     
   $876,000        $876,000      

 

The Company is exposed to certain market risks including the effect of changes in interest rates. The Company uses derivative instruments to manage financial exposures that occur in the normal course of business. It does not hold or issue derivatives for speculative trading purposes. The Company is exposed to non-performance risk from the counterparties in its derivative instruments. This risk would be limited to any unrealized gains on current positions. To help mitigate this risk, the Company transacts only with counterparties that are rated as investment grade or higher and all counterparties are monitored on a continuous basis. The fair value of the Company’s derivatives reflects this credit risk.

 

On July 1, 2011, the Company entered into a swap agreement with BMO Capital Markets with respect to $6,780,000 of our loan balances with BMO Harris Bank N.A. This swap agreement limits the Company’s exposure to interest rate fluctuations on the Company’s floating rate loans. The swap agreement has the effect of fixing the interest rate on the loan balances covered by the swap at 4.65% per annum. The swap agreement is a derivative financial instrument and we determine and record the fair market value of the swap agreement each quarter. The value is recorded on the balance sheet of the Company and the amount of the unrealized gain or loss for each period is recorded as interest income or expense.

 

Fair Values of Derivative Instruments in the Statement of Financial Position

 

   Liability Derivatives as of
   June 30, 2014  December 31, 2013
Derivatives not designated as hedging
instruments under Statement 133
  Balance
Sheet
Location
  Fair Value   Balance Sheet
Location
  Fair Value 
 Interest Rate Contracts  Accrued Liabilities  $21,000   Accrued Liabilities  $60,000 

 

The Effect of Derivative Instruments on the Statement of Financial Performance

 

   For the three months ended
   June 30, 2014  June 30, 2013
Derivatives not Designated as Hedging
Instruments under Statement 133
  Location of
Gain (Loss)
Recognized
in Income on
Derivative
  Amount of
Gain (Loss)
Recognized
in Income on
Derivative
   Location of
Gain (Loss)
Recognized in
Income on
Derivative
  Amount of
Gain (Loss)
Recognized in
Income on
Derivative
 
 Interest Rate Contracts  Interest Expense  $1,000   Interest Expense  $(4,000)
Interest on fixed/variable rate variances     $21,000      $21,000 

 

13
 

 

The Effect of Derivative Instruments on the Statement of Financial Performance

 

   For the six months ended
   June 30, 2014  June 30, 2013
Derivatives not Designated as Hedging
Instruments under Statement 133
  Location of
Gain (Loss)
Recognized
in Income on
Derivative
  Amount of
Gain (Loss)
Recognized
in Income on
Derivative
   Location of
Gain (Loss)
Recognized in
Income on
Derivative
  Amount of
Gain (Loss)
Recognized in
Income on
Derivative
 
 Interest Rate Contracts  Interest Expense  $3,000   Interest Expense  $(9,000)
Interest on fixed/variable rate variances     $42,000      $40,000 

 

Note 10 Subsequent Event

 

On July 3, 2014, the Company entered into an operating Lease Agreement with Jules and Associates, Inc. (“Lessor”) under which the Lessor leased to the Company for a term of 60 months a six color central impression flexo printing press, and associated equipment, components and parts. Monthly rent payable under the Lease Agreement is $5,370.51.

 

14
 

 

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

 

Forward Looking Statements

 

This quarterly report includes both historical and “forward-looking statements” within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended. We have based these forward-looking statements on our current expectations and projections about future results. Words such as “may,” “should,” “could,” “would,” “expect,” “plan,” “anticipate,” “believe,” “estimate,” “predict,” “potential,” “continue,” or similar words are intended to identify forward-looking statements, although not all forward-looking statements contain these words. Although we believe that our opinions and expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements, and our actual results may differ substantially from the views and expectations set forth in this quarterly report on Form 10-Q. We disclaim any intent or obligation to update any forward-looking statements after the date of this quarterly report to conform such statements to actual results or to changes in our opinions or expectations.

 

Overview

 

We produce film products for novelty, packaging and container applications. These products include foil balloons, latex balloons and related latex toy products, films for packaging and custom product applications, and flexible containers for packaging and consumer storage applications. We produce all of our film products for packaging, container applications and foil balloons at our plant in Lake Barrington, Illinois. We produce all of our latex balloons and latex products at our facility in Guadalajara, Mexico. Substantially all of our film products for packaging and custom product applications are sold to customers in the United States. We market and sell our novelty items and flexible containers for consumer use in the United States, Mexico, Latin America, and Europe. We also market and sell vacuum sealing machines which we purchase from a supplier.

 

Results of Operations

 

Net Sales. For the three months ended June 30, 2014, net sales were $13,159,000 compared to net sales of $13,034,000 for the same period of 2013, an increase of 1.0%. For the quarters ended June 30, 2014 and 2013, net sales by product category were as follows:

 

   Three Months Ended 
   June 30, 2014   June 30, 2013 
   $   % of   $   % of 
Product Category  (000) Omitted   Net Sales   (000) Omitted   Net Sales 
                 
Foil Balloons   6,115    46%    5,560    43% 
                     
Latex Balloons   3,109    24%    3,005    23% 
                     
Vacuum Sealing Products   2,040    16%    3,093    24% 
                     
Film Products   1,077    8%    994    7% 
                     
Other Sales   818    6%    382    3% 
                     
Total   13,159    100%    13,034    100% 

 

15
 

 

For the six months ended June 30, 2014, net sales were $28,079,000 compared to net sales of $26,379,000 for the same period of 2013, an increase of 6.4%. For the six months ended June 30, 2014 and 2013, net sales by product category were as follows:

 

   Six Months Ended 
   June 30, 2014   June 30, 2013 
   $   % of   $   % of 
Product Category  (000) Omitted   Net Sales   (000) Omitted   Net Sales 
                 
Foil Balloons   13,388    48%    12,342    47% 
                     
Latex Balloons   5,985    21%    5,997    23% 
                     
Vacuum Sealing Products   4,822    17%    5,021    19% 
                     
Film Products   1,929    7%    2,183    8% 
                     
Other Sales   1,955    7%    836    3% 
                     
Total  28,079    100%    26,379    100% 

 

Foil Balloons. During the three months ended June 30, 2014 revenues from the sale of foil balloons increased by 10.0% compared to the prior year period from $5,560,000 to $6,115,000. During the six months ended June 30, 2014 revenues from the sale of foil balloons increased by 8.5% compared to the prior year period from $12,342,000 to $13,388,000. During the first half of 2014, foil balloon sales to our largest customer decreased slightly to $7,733,000 from $7,774,000 in the first half of last year. However, sales of foil balloons to other customers were $5,655,000 compared to $4,568,000 for the same period last year. These included sales to various customers in the United States, Mexico, the United Kingdom and Europe, including increases in sales to existing customers and new customers in each of those markets.

 

Latex Balloons. During the three months ended June 30, 2014 revenues from the sale of latex balloons increased by 3.5% compared to the prior year period from $3,005,000 to $3,109,000. During the six months ended June 30, 2014 revenues from the sale of latex balloons decreased slightly by 0.2% compared to the prior year period from $5,997,000 to $5,985,000. The increase during the three months ended June 30, 2014 was attributable to increased sales of latex by our subsidiary in Mexico, Flexo Universal.

 

Vacuum Sealing Products. During the three months ended June 30, 2014 revenues from the sale of pouches and vacuum sealing machines decreased by 34.0% compared to the prior year from $3,093,000 to $2,040,000. During the six months ended June 30, 2014 revenues from the sale of pouches and vacuum sealing machines decreased by 4.0% compared to the prior year from $5,021,000 to $4,822,000. Our sales in this product line in 2014 and 2013 have been in two product categories: (i) zippered pouches and (ii) vacuum sealing systems incorporating vacuum sealing machines and associated pouches and rolls of film. For the three and six months ended 2014 and 2013, sales of pouch products (and vacuum sealing machines) in these categories have been as follows:

 

16
 

 

   Three Months Ended June 30,   Six Months Ended June 30, 
   2014   2013   2014   2013 
                 
Zippered Pouches  $376,000   $824,000   $1,179,000   $1,526,000 
                     
Vacuum Sealing Systems   1,664,000    2,269,000    3,643,000    3,495,000 
                     
Total  $2,040,000   $3,093,000   $4,822,000   $5,021,000 

 

Zippered Pouches. Most of our sales of zippered pouches have been of branded products to a principal customer, although we have had limited sales of our ZipVac® pouch line as well.

 

Vacuum Sealing Systems. Since 2012, we have offered a line of vacuum sealing systems which include vacuum sealing machines and associated pouches and rolls of film.

 

In December, 2011, we entered into a Trademark License Agreement with S.C. Johnson & Son, Inc. pursuant to which we received a license to market and sell vacuum sealing machines as well as pouches and rolls of film for use with those machines, under the Ziploc brand name. In the first quarter 2012, we introduced and began to market and sell that branded line of vacuum sealing machines and associated open-top bags and rolls. Since that time, we have offered our branded vacuum sealing system lines of product principally to chain stores in the United States, including several major chains.

 

Our sales of our branded vacuum sealing systems increased from $3.5 million during the first half of 2013 to $3.6 million during the same period this year, principally as the result of sales to a number of retail chain stores. Sales of the zippered pouch products declined during the first half of 2014 from $1.5 million to $1.2 million during the same period in 2013.

 

Films. During the three months ended June 30, 2014 revenues from the sale of laminated film products increased by 8.4% compared to the prior year period from $994,000 to $1,077,000. During the six months ended June 30, 2014 revenues from the sale of laminated film products decreased by 11.6% compared to the prior year period from $2,183,000 to $1,929,000. The decrease is attributable to a decrease in sales to a principal customer. Approximately 98.9% of the sales of laminated film products during the three months ended June 30, 2014 were to a principal customer.

 

Other Revenues. During the three months ended June 30, 2014, we had revenues from the sale of various other products totaling $818,000 compared to revenues from other products in the same period during 2013 of $382,000. During the six months ended June 30, 2014, we had revenues from the sale of various other products totaling $1,955,000 compared to revenues from other products in the same period during 2013 of $836,000. The revenues from the sale of such other products during 2014 include (i) sales by a variable interest entity which we now consolidate with our financial results in the amount of $1,125,000, (ii) sales of a line of “Candy Blossoms” and “Candy Loons” consisting of candy and small inflated balloons sold in small containers, and (iii) the sale of accessories and supply items related to balloon products.

 

Sales to a limited number of customers continue to represent a large percentage of our net sales. The table below illustrates the impact on sales of our top three and ten customers for the three months ended June 30, 2014 and 2013.

 

17
 

 

   Three Months Ended June 30,   Six Months Ended June 30, 
   % of Sales   % of Sales 
   2014   2013   2014   2013 
                 
Top 3 Customers   46.8%    49.4%    46.3%    50.1% 
                     
Top 10 Customers   65.0%    72.2%    62.8%    70.0% 

 

During the three and six months ended June 30, 2014, there were two customers whose purchases represented more than 10% of the Company’s consolidated net sales. Sales to these customers for the three months ended June 30, 2014 were $3,703,000 or 28.1% and $1,379,000 or 10.5%, of consolidated net sales, respectively. Sales to these customers for the three months ended June 30, 2013, were $3,537,000 or 27.1% and 1,921,000 or 14.7% of consolidated net sales. Sales to these customers for the six months ended June 30, 2014 were $7,930,000 or 28.2% and $3,163,000 or 11.3%, of consolidated net sales, respectively. Sales to these customers for the six months ended June 30, 2013 were $8,411,000 or 31.9% and $2,681,000 or 10.2%, of consolidated net sales, respectively. As of June 30, 2014, the total amounts owed to the Company by the top two customers were $2,092,000 or 20.8% and $1,541,000 or 15.3%, of the Company’s consolidated net accounts receivable, respectively. The amount owed at June 30, 2013 by the top two customers were $1,411,000 or 18.5% and $1,209,000 or 15.8%, of the Company’s consolidated net accounts receivable, respectively.

 

Cost of Sales. During the three months ended June 30, 2014, the cost of sales represented 77.0% of net sales compared to 81.0% for the three months ended June 30, 2013. During the six months ended June 30, 2014, the cost of sales represented 76.8% of net sales compared to 79.3% for the six months ended June 30, 2013. The improvement in gross margins is attributable principally to (i) sales by our Company, and the variable interest entity now consolidated with our financial results, of products having a greater gross margin rate than other products, and (ii) an increase in the gross margin at our Mexico subsidiary.

 

General and Administrative. During the three months ended June 30, 2014, general and administrative expenses were $1,967,000 or 15.0% of net sales, compared to $1,393,000 or 10.7% of net sales for the same period in 2013. During the six months ended June 30, 2014, general and administrative expenses were $3,875,000 or 13.8% of net sales, compared to $2,946,000 or 11.2% of net sales for the same period in 2013. The increase in general and administrative expenses is attributable principally to (i) administrative expenses of $589,000 of a variable interest entity which was consolidated with our financial statements beginning in the fourth quarter of 2013, (ii) an increase in audit expenses of $90,000, and (iii) an increase in administrative expenses at our Mexico subsidiary of $64,000.

 

Selling. During the three months ended June 30, 2014, selling expenses were $566,000 or 4.3% of net sales, compared to $435,000 or 3.3% of net sales for the same period in 2013. During the six months ended June 30, 2014, selling expenses were $1,327,000 or 4.7% of net sales, compared to $895,000 or 3.4% of net sales for the same period in 2013. The increase in selling expenses is attributable principally to (i) an increase in royalty expenses of $178,000, (ii) an increase in outside services of $120,000, and (iii) selling expenses of a variable interest entity consolidated with our financial statements in the amount of $83,000.

 

18
 

 

Advertising and Marketing. During the three months ended June 30, 2014, advertising and marketing expenses were $549,000 or 4.2% of net sales for the period, compared to $363,000 or 2.8% of net sales for the same period of 2013. During the six months ended June 30, 2014, advertising and marketing expenses were $1,051,000 or 3.7% of net sales for the period, compared to $793,000 or 3.0% of net sales for the same period of 2013. The increase in advertising and marketing expense is attributable to (i) outside services of $79,000 which were reallocated from selling expense to marketing expense, (ii) an increase in advertising related to the vacuum sealer machines of $63,000, (iii) an increase in artwork and films expense of $46,000, and (iv) advertising expenses of a variable interest entity consolidated with our financial statements in the amount of $40,000.

 

Other Income (Expense). During the three months ended June 30, 2014, the Company incurred net interest expense of $205,000, compared to net interest expense during the same period of 2013 in the amount of $200,000. During the six months ended June 30, 2014, the Company incurred net interest expense of $506,000, compared to net interest expense during the same period of 2013 in the amount of $668,000. The decrease in interest expense for the six months ended June 30, 2014 is attributable to a reduction in the amount of amortized debt discount we were required to recognize in relation to our mezzanine loan financing.

 

For the three months ended June 30, 2014, the Company had a foreign currency transaction gain of $3,000 compared to a foreign currency transaction loss of $171,000 during the same period of 2013. For the six months ended June 30, 2014, the Company had a foreign currency transaction loss of $2,000 compared to a foreign currency transaction loss of $26,000 during the same period of 2013.

 

Income Taxes. For the three months ended June 30, 2014, the Company reported a consolidated income tax benefit of $84,000, compared to a consolidated income tax benefit of $24,000 for the same period of 2013. For the six months ended June 30, 2014, the Company reported a consolidated income tax benefit of $86,000, compared to a consolidated income tax expense of $61,000 for the same period of 2013. For the six months ended June 30, 2014, this income tax expense was composed of an income tax benefit in the United States, income tax expense in Mexico of Flexo Universal, our Mexican subsidiary and income tax expense in the United Kingdom of CTI Balloons Limited, our United Kingdom subsidiary.

 

Net Income. For the three months ended June 30, 2014, the Company had net loss of $122,000 or ($0.04) per share (basic and diluted), compared to net loss of $56,000 for the same period of 2013 or ($0.02) per share (basic and diluted). For the six months ended June 30, 2014, the Company had net loss of $77,000 or ($0.02) per share (basic and diluted), compared to net income of $74,000 for the same period of 2013 or $0.02 per share (basic and diluted). In the first half of this year, the Company had income from operations of $270,000 compared to income from operations in the first half of 2013 of $821,000.

 

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Financial Condition, Liquidity and Capital Resources

 

Cash Flow Items.

 

Operating Activities. During the six months ended June 30, 2014, net cash provided by operations was $11,000, compared to net cash provided by operations during the six months ended June 30, 2013 of $1,650,000.

 

Significant changes in working capital items during the six months ended June 30, 2014 consisted of (i) an increase in accounts receivable of $1,183,000, (ii) an increase in inventories of $1,188,000, (iii) depreciation and amortization in the amount of $1,073,000, (iv) an increase in trade payables of $2,655,000, and (v) an increase in prepaid expenses and other assets of $49,000.

 

Investing Activity. During the six months ended June 30, 2014, cash used in investing activity was $619,000, compared to $956,000 in the same period of 2013. Substantially all of this expense is related to equipment acquisitions and capitalized maintenance, leasehold improvements, tooling and related expense.

 

Financing Activities. During the six months ended June 30, 2014, cash provided by financing activities was $199,000 compared to cash used in financing activities for the same period of 2013 in the amount of $582,000. During the six months ended June 30, 2014, financing activities included payment of $263,000 on long-term debt obligations and proceeds from issuance of stock of $300,000.

 

Liquidity and Capital Resources. At June 30, 2014, the Company had cash balances of $278,000 compared to cash balances of $459,000 for the same period in 2013 and there was $1,300,000 available to advance under the Company’s revolving line of credit.

 

At June 30, 2014, the Company had a working capital balance of $11,424,000 compared to a working capital balance of $11,738,000 at December 31, 2013.

 

The Company’s liquidity is dependent significantly on its bank financing and the Company relies on its revolving line of credit to maintain liquidity. On April 29, 2010, the Company entered into a Credit Agreement with BMO Harris Bank N.A. (“BMO Harris”). Under the Credit Agreement, BMO Harris agreed to provide loans and credits to the Company in the aggregate maximum amount of $14,417,000. The arrangement included:

 

i.A revolving credit up to a maximum amount of $9,000,000 based upon a borrowing base of 85% of eligible receivables and 60% of eligible inventory (up to a maximum of $5,000,000);
ii.A mortgage loan in the principal amount of $2,333,350, amortized over 25 years;
iii.A term loan in the principal amount of $583,333 maturing in monthly principal installments of $58,333; and
iv.An equipment loan commitment in the amount of up to $2,500,000 providing for loan advances from time to time until April 29, 2012 based upon 100% of the purchase price of equipment purchased, the loans to be amortized on a five year basis commencing April 29, 2012.

 

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The Credit Agreement included various representations, warranties and covenants of the Company, including various financial covenants.

 

In connection with the Credit Agreement, the Company executed and delivered to BMO Harris, a Term Loan Note, a Mortgage Loan Note, an Equipment Note and a Revolving Note, as well as a form of Mortgage, Security Agreement, Pledge Agreement (pursuant to which shares of capital stock of the Registrant’s Mexico subsidiary were pledged as security for the loans), Patent Security Agreement and Trademark Security Agreement. Two officers and principal shareholders of the Company, John H. Schwan and Stephen M. Merrick each executed Limited Guaranties of the loans and also executed Subordination Agreements with respect to obligations of the Company to them.

 

The Credit Agreement, as amended, provides that the outstanding balance of all loans under the agreement will bear interest with reference to a base rate or, at the option of the Company, with reference to an adjusted LIBOR. At June 30, 2014, the effective rate on the outstanding loan balances was 4.0%.

 

As of June 30, 2014, the outstanding balances on the loans with BMO Harris were: (i) revolving line of credit, $8,298,000, (ii) mortgage loan, $1,945,000, and (iii) equipment loan, $737,000.

 

On July 1, 2011, we entered into a swap agreement with BMO Capital Markets with respect to $6,780,000 of our loan balances with BMO Harris. This swap agreement is designated as a cash flow hedge to hedge the Company’s exposure to interest rate fluctuations on the Company’s floating rate loans. The swap agreement has the effect of fixing the interest rate on the loan balances covered by the swap at 4.65% per annum. The swap agreement is a derivative financial instrument and we will determine and record the fair market value of the swap agreement each quarter. This value will be recorded on the balance sheet of the Company and the amount of the unrealized gain or loss for each period will be recorded as interest income or expense.

 

On July 17, 2012, the Company entered into Amendment Number 3 to the Credit Agreement among the Company and BMO Harris pursuant to which (i) the amount of the loan commitment on the revolver loan of BMO Harris was increased from $9 million to $12 million, (ii) BMO Harris consented to a transaction among the Company and BMO Private Equity (U.S.), Inc. (“BMO Equity”) and (iii) the term of credit and loans to the Company provided in the Credit Agreement and BMO Harris was extended to July 17, 2017.

 

Also, on July 17, 2012, the Company entered into a Note and Warrant Purchase Agreement with BMO Equity pursuant to which (i) BMO Equity advanced to the Company the sum of $5 million and (ii) the Company issued to BMO Equity a warrant to purchase up to Four Percent (4%) of the outstanding shares of common stock of the Company on a fully-diluted basis (140,048 shares of common stock of the Company) at the price of One Cent ($0.01) per share. The term of the loan provided for in this Agreement is five and a half years. Interest is payable on the outstanding balance of the loan at the rate of 11.5% per annum.

 

The Note and Warrant Purchase Agreement included provisions for:

 

(i)           a closing fee of $100,000

 

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(ii)          payment of the principal amount in five and a half years with optional prepayment subject to certain prepayment premiums;

 

(iii)         security for the note obligations in all assets of the Company junior to the security interest of BMO Harris;

 

(iv)         various representations and warranties and covenants of the Company;

 

(v)          financial covenants including an applicable senior leverage ratio, fixed charge coverage ratio and tangible net worth amount.

 

On April 12, 2013, the Company entered into Amendment No. 4 to the Credit Agreement among the Company and BMO Harris, and Amendment No. 1 to the Note and Warrant Purchase Agreement among the Company and BMO Equity. In the Amendments, non-compliance with financial covenants prior to the date of the Amendments was waived and both the Credit Agreement and the Note and Warrant Purchase Agreement were amended (i) to modify the Senior Leverage Ratio and Total Leverage Ratio requirements for the fiscal quarter ending June 30, 2013 and each quarter thereafter during the term of the Credit Agreement and the Note and Warrant Purchase Agreement and (ii) to modify the definitions of EBITDA and Total Funded Debt in the Credit Agreement and the Note and Warrant Purchase Agreement.

 

On June 30, 2014, the Company received waivers from each of BMO Harris and BMO Equity of certain anticipated non-compliance with certain of the financial covenants under the Credit Agreement and the Note and Warrant Purchase Agreement, as amended. Accordingly, as of June 30, 2014, the Company was in compliance with all of the revised financial covenants of those agreements or the failure to comply with any of such covenants had been waived.

 

Management of the Company is currently engaged in negotiations with BMO Harris and BMO Equity, and in financing efforts, for a restructuring of the agreements with those entities under which financial covenants would be modified, additional financing provided and reduction of certain loan balances achieved. Management believes that a restructuring of these agreements will be completed during the third quarter 2014.

 

Seasonality

 

In recent years, sales in the foil balloon product line have historically been seasonal with approximately 40% occurring in the period from December through March and 24% being generated in the period from July through October. The sales of latex balloons and laminated film products have not historically been seasonal.

 

Critical Accounting Policies

 

Please see pages 25-28 of our Annual Report on Form 10-K for the year ended December 31, 2013 for a description of policies that are critical to our business operations and the understanding of our results of operations. The impact and any associated risks related to these policies on our business operations is discussed throughout Management’s Discussion and Analysis of Financial Condition and Results of Operations where such policies affect our reported and expected financial results. No material changes to such information have occurred during the three and six months ended June 30, 2014.

 

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Item 3. Quantitative and Qualitative Disclosures Regarding Market Risk

 

Not applicable.

 

Item 4. Controls and Procedures

 

Our management, under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer, has reviewed and evaluated the effectiveness of the design and operation of our disclosure controls and procedures as of June 30, 2014. Based on such review and evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that the disclosure controls and procedures were effective as of June 30, 2014, to ensure that the information required to be disclosed by us in the reports that we file or submit under the Securities Exchange Act of 1934, as amended, (a) is recorded, processed, summarized and reported within the time period specified in the SEC’s rules and forms and (b) is accumulated and communicated to our management, including the officers, as appropriate to allow timely decisions regarding required disclosure. There were no material changes in our internal control over financial reporting during the first half of 2014 that have materially affected or are reasonably likely to materially affect our internal controls over financial reporting.

 

Part II. OTHER INFORMATION

 

Item 1. Legal Proceedings

 

None.

 

Item 1A. Risk Factors

 

Not applicable.

 

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

 

Not applicable.

 

Item 3. Defaults Upon Senior Securities

 

Not applicable.

 

Item 4. Submission of Matters to a Vote of Security Holders

 

Reference made to Company’s Report on Form 8-K dated June 6, 2014.

 

Item 5. Other Information

 

The Certifications of the Chief Executive Officer and the Chief Financial Officer of Registrant Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 are attached as Exhibits to this Report on Form 10-Q.

 

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Item 6. Exhibits

 

The following are being filed as exhibits to this report:

 

Exhibit
Number
 

 

Description

     
3.1   Third Restated Certificate of Incorporation of CTI Industries Corporation (incorporated by reference to Exhibit A contained in Registrant’s Schedule 14A Definitive Proxy Statement for solicitation of written consent of shareholders, as filed with Commission on October 25, 1999).

3.2

 

  By-laws of CTI Industries Corporation (incorporated by reference to Exhibit 3.1 contained in Registrant’s Form SB-2 Registration Statement (File No. 333-31969) effective November 5, 1997).
10.1   Lease Agreement between Jules & Associates, Inc. and the Company dated July 3, 2014.
31.1   Certification of Chief Executive Officer pursuant to Rule 13a-14(a) and rule 15d-14(a) of the Securities Exchange Act, as amended (filed herewith).
31.2   Certification of Chief Financial Officer pursuant to Rule 13a-14(a) and rule 15d-14(a) of the Securities Exchange Act, as amended (filed herewith).
32   Certification of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (filed herewith).
101   Interactive Data Files, including the following materials from the Company’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2014, formatted in XBRL: (i) the Consolidated Balance Sheets, (ii) the Consolidated Statements of Income, (iii) the Consolidated Statements of Cash Flows, and (iv) the Notes to Consolidated Financial Statements.

 

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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.

 

Dated: August 14, 2014 CTI INDUSTRIES CORPORATION
   
  By: /s/ John H. Schwan  
    John H. Schwan  
    Chief Executive Officer  
       
  By: /s/ Stephen M. Merrick  
    Stephen M. Merrick  
    President  
       
  By: /s/ Timothy S. Patterson  
    Timothy S. Patterson  
    Chief Financial Officer  
    Senior Vice President Finance  

 

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Exhibit Index

 

Exhibit
Number
  Description
3.1   Third Restated Certificate of Incorporation of CTI Industries Corporation (incorporated by reference to Exhibit A contained in Registrant’s Schedule 14A Definitive Proxy Statement for solicitation of written consent of shareholders, as filed with Commission on October 25, 1999).

3.2

 

  By-laws of CTI Industries Corporation (incorporated by reference to Exhibit 3.1 contained in Registrant’s Form SB-2 Registration Statement (File No. 333-31969) effective November 5, 1997).
10.1   Lease Agreement between Jules & Associates, Inc. and the Company dated July 3, 2014.
31.1   Certification of Chief Executive Officer pursuant to Rule 13a-14(a) and rule 15d-14(a) of the Securities Exchange Act, as amended (filed herewith).
31.2   Certification of Chief Financial Officer pursuant to Rule 13a-14(a) and rule 15d-14(a) of the Securities Exchange Act, as amended (filed herewith).
32   Certification of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (filed herewith).
101  

Interactive Data Files, including the following materials from the Company’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2014, formatted in XBRL: (i) the Consolidated Balance Sheets, (ii) the Consolidated Statements of Income, (iii) the Consolidated Statements of Cash Flows, and (iv) the Notes to Consolidated Financial Statements. 

 

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