UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C.  20549

FORM 10-K

SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: NONE

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes o No ⌧

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. Yes o No ⌧

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 ⌧No □

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

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.             ☐

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

The aggregate market value of Common Stock held by non-affiliates of the Registrant was $47,033,354 on June 30, 2019, the last business day of the Registrant’s most recently completed second fiscal quarter, based on the closing price of such stock on that date of $2.34.

The number of shares outstanding of the registrant’s Common Stock as of May 31, 2020 was 20,389,082 shares.

TABLE OF CONTENTS

CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS.

This report and the documents incorporated by reference herein contain “forward-looking” statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”) that are based on management’s assumptions, expectations and projections about us, and the industry within which we operate, and that have been made pursuant to the Private Securities Litigation Reform Act of 1995 reflecting our expectations regarding our future growth, results of operations, performance and business prospects and opportunities. Wherever possible, words such as “anticipate”, “believe”, “continue”, “estimate”, “intend”, “may”, “plan”, “potential”, “predict”, “expect”, “should”, “will” and similar expressions, or the negative of these terms or other comparable terminology, have been used to identify these forward-looking statements. These forward-looking statements may also use different phrases. These statements regarding our expectations reflect our current beliefs and are based on information currently available to us. Accordingly, these statements by their nature are subject to risks and uncertainties, including those listed under Item 1A Risk Factors, which could cause our actual growth, results, performance and business prospects and opportunities to differ from those expressed in, or implied by, these forward-looking statements. We may not actually achieve the plans, intentions or expectations disclosed in our forward-looking statements and you should not place undue reliance on our forward-looking statements. Actual results or events could differ materially from the plans, intentions and expectations disclosed in the forward-looking statements we make. Except as otherwise required by federal securities law, we are not obligated to update or revise these forward looking statements to reflect new events or circumstances. We caution you that a variety of factors, including but not limited to the factors described below and in Item 1A Risk Factors, could cause our business conditions and results to differ materially from what is contained in forward-looking statements:

The forward-looking statements are based upon management’s beliefs and assumptions and are made as of the date of this report on Form 10-K. Other factors and assumptions not identified above were also involved in the formation of these forward-looking statements and the failure of such other assumptions to be realized, as well as other factors, may also cause actual results to differ materially from those projected. Most of these factors are difficult to predict accurately and are generally beyond our control. You should consider the areas of risk described above and in Item 1A Risk Factors in connection with any forward-looking statements that may be made by us. You should not place undue reliance on any forward-looking statements. New factors emerge from time to time, and it is not possible for us to predict which factors will arise.

We undertake no obligation to publicly update any forward-looking statements, whether as a result of new information, future events or otherwise. You are advised, however, to consult any additional disclosures we make in proxy statements, quarterly reports on Form 10-Q and current reports on Form 8-K filed with the SEC.

Company Information Available on the Internet

PART I

GSE Systems, Inc. (GSE Systems, GSE, the Company, we, us or our), a Nasdaq-listed company trading under the symbol GVP, is a leading provider of engineering, expert staffing, and simulation software to clients in the power and process industries. We provide customers with simulation, engineering and plant services that help clients reduce risks associated with operating their plants, increase revenue through improved plant and employee performance, and lower costs through improved operational efficiency. In addition, we provide professional services that systematically help clients fill key vacancies in the organization on a short-term basis, primarily in procedures, engineering, technical support, and training focused on regulatory compliance and certification in the nuclear power industry. Our operations also include interactive computer-based tutorials and simulation software for the refining, chemical, and petrochemical industries. We are one of the largest independent nuclear service companies in North America.

We execute projects globally with approximately 363 employees, as of December 31, 2019. We operate from offices in the U.S. and China and with our employees deployed at client sites. While most of our revenue comes from the nuclear power market, we also serve the fossil, refining, chemical, and petrochemical markets.

GSE Systems was formed on March 30, 1994, to consolidate the simulation and related businesses of General Physics International Engineering & Simulation, S3 Technologies, and EuroSim. The Company completed its Initial Public Offering in 1995.

On November 14, 2014, we acquired Hyperspring, LLC (Hyperspring). Hyperspring is a nuclear industry expert staffing firm that employs highly skilled, high-value professionals primarily filling training and consulting positions on a contract basis for nuclear power plant operators. Hyperspring professionals provide training, operations and maintenance support including: generic fundamentals exams (GFES), accreditation training visit (ATV) preparation, senior reactor operator (SRO) certification, procedure development, work management, tagging/labeling, outage execution, planning/scheduling, corrective action, self-assessments and equipment reliability. Customers have included Entergy, TVA, PSEG Nuclear and First Energy.

On September 20, 2017, we acquired Absolute Consulting, Inc. (Absolute). Absolute is a provider of technical consulting and staffing solutions to the global nuclear power industry with expertise in procedure writing, engineering, technical support, project management, training, project controls, and corrective actions. Customers have included Entergy, Duke Energy, Vistra Energy and Southern Nuclear Operating Company.

On May 11, 2018, we acquired True North Consulting, LLC (True North). True North is a provider of engineering solutions to nuclear and fossil fuel power plants with an emphasis on regulatory-driven ASME code programs. Customers have included Exelon, Entergy, Southern Nuclear Operating Company, and EPRI.

On February 15, 2019, we acquired DP Engineering Ltd, Co, (DP Engineering). DP Engineering is a specialized provider of high-value engineering services and solutions to the nuclear power industry. Founded in 1995 in Fort Worth, Texas, DP Engineering generates over 90% of its revenue from the nuclear power industry with core expertise in: mechanical design; civil/structural design; electrical, instrumentation and controls design; digital controls/cyber security; and fire protection. DP Engineering primarily works under master service agreements as the Engineer of Choice. Customers have included Entergy, Fluor, Talen Energy Services, and Vistra Energy.

Branding

On January 27, 2020, GSE Systems announced that it has completed a brand refresh to help unify the market presence of its recently acquired businesses under the new name GSE Solutions™. This undertaking is intended to more accurately reflect its comprehensive suite of solutions to the global power industry, particularly nuclear operations. The rebranding effort includes a new parent company market identity, a unified website for all lines of business, www.gses.com, and repositioned solution-sets more focused on the people, services, and products that the company as a whole provides. GSE Systems, Inc. remains the legal name of the parent company, publicly traded on Nasdaq under the ticker symbol “GVP”. But GSE operations and marketing will use the more distinct trademark “GSE Solutions” as a way to communicate the fact that GSE’s specialized businesses units help customers reduce risk and optimize performance through unique solutions, a centralized project approach, expert resource management, and a culture of continuous improvement.

Operating Segments

We operate through two reportable business segments: Performance Improvement Solutions and Nuclear Industry Training and Consulting. Each segment focuses on delivering solutions to customers within our targeted markets - primarily the power and process industries. Marketing and communications, accounting, finance, legal, human resources, corporate development, information systems and other administrative services are organized at the corporate level. Business development and sales resources are generally aligned with each segment to support existing customer accounts and new customer development. The business units collaborate to facilitate cross-selling and the development of new solutions. The following is a description of our business segments:

·●	Performance Improvement Solutions (approximately 55% of revenue)

Our Performance Improvement Solutions segment primarily encompasses our power plant high-fidelity simulation solutions, technical engineering services for ASME programs and thermal performance optimization, and interactive computer based tutorials/simulation focused on the process industry. This segment includes various simulation products, engineering services, and operation training systems delivered primarily to the nuclear and fossil fuel power generation and the process industries. Our simulation solutions include the following: (1) simulation software and services, including operator training systems, for the nuclear power industry, (2) simulation software and services, including operator training systems, for the fossil power industry, and (3) simulation software and services for the process industries used to teach fundamental industry processes and control systems to newly hired employees and for ongoing workforce development and training. GSE and its predecessors have been providing these services since 1976.

Our engineering solutions include the following: (1) in-service testing for engineering programs focused on ASME OM code including Appendix J, balance of plant programs, and thermal performance; (2) in-service inspection for specialty engineering including ASME Section XI; (3) software solutions; and (4) mechanical design, civil/structural design, electrical, instrumentation and controls design, digital controls/cyber security, and fire protection for nuclear power plant design modifications.  Our True North and DP Engineering businesses typically work as either the engineer of choice or specialty engineer of choice for our clients under master services agreements.  GSE has been providing these engineering solutions and services since 1995.

We include both True North and DP Engineering in our Performance Improvement Solutions due to their service offerings.

·●	Nuclear Industry Training and Consulting (approximately 45% of revenue)

Nuclear Industry Training and Consulting provides highly specialized and skilled nuclear operations instructors, procedure writers, technical engineers, and other consultants to the nuclear power industry. These employees work at our clients’ facilities under client direction. Examples of these highly skilled positions are senior reactor operations instructors, procedure writers, project managers, work management specialists, planners and training material developers. This business is managed through our Hyperspring and Absolute subsidiaries. The business model, management focus, margins and other factors clearly separate the business line from the rest of the Company’s product and service portfolio. GSE has been providing these services since 1997.

Financial information is provided in Note 20 of the accompanying consolidated financial statements regarding our business segments and geographic operations and revenue.

Business Strategy, Industry Trends, Products and Services

Business Strategy

Our objective has been to create a leading specialty engineering, expert staffing and technology delivery platform focused primarily on the nuclear power industry. We offer our differentiated suite of products and services to adjacent markets such as the defense industry, the fossil power and process industries where our offerings are a natural fit, delivering a clear and compelling value proposition to the market. Our growth strategy had been twofold: (1) seek acquisitions to accelerate our overall growth in a manner that is complementary to our core business and (2) expand organically within our core markets by leveraging our market leadership position and drive increased usage and product adoption via new products and services. To accomplish this objective, we will pursue the following activities:

Strategic pause in our executed roll-up acquisition strategy. Over the past few years we have complemented our organic growth strategy with selective acquisitions including, but not limited to, the following: engineering; training, staffing and consulting service businesses for the power industry, with a particular focus on nuclear power; and software utilized in the power industry, both domestic and international. We had focused our acquisition efforts on opportunities that would enhance our portfolio of products and services, strengthen our relationships with our existing customers, and potentially expand our footprint to include new customers in our core served industries. Following this strategy, we have made three acquisitions since 2017.  Although we believe opportunities still exist to acquire more businesses that would be complementary to ours, given our current desire to focus on cross selling and upselling across our existing business portfolio, we have paused our acquisition of new businesses.  Our current efforts are focused on organic growth across the portfolio while utilizing free cash flow to pay down debt associated with our delayed-draw term loan facility. While our roll-up acquisition strategy is on pause, the Company remains open to transformational opportunities that may present themselves.

Summary of recent acquisitions: In February 2019, we acquired DP Engineering, a specialized provider of high-value engineering services and solutions to the nuclear power industry. In May 2018, we acquired True North, a leading provider of specialty engineering solutions to the nuclear power industry, and in September 2017, we acquired Absolute, a provider of technical consulting and staffing solutions to the global nuclear power industry. The acquisitions of Absolute, True North, and DP Engineering collectively enhanced the Company’s unique capabilities in the nuclear services area. The acquisitions have added new capabilities to the GSE solution offering and bring new highly complementary customers to GSE, while at the same time deepening GSE relationships with existing clients. These acquisitions have added scale and focus to the business, while positioning GSE as a “go to” provider of technical and consulting solutions to the power industry, particularly nuclear power. We feel that now is the time to focus on organic growth opportunities through cross selling and upselling GSE’s full range of products and services to the industry.

Expand our total addressable market Our focus on organic growth means enhancing our product capabilities or new product and introduce new service categories that create value for our customers and therefore expand our total addressable market. Currently we are working on initiatives to expand our solution offerings in both of our business segments that may include, but are not limited to, the following: expanding our software product portfolio to include enhanced power and process simulation tools and systems that are complementary to our core offerings; delivering enhanced learning management systems/solutions; offering fully outsourced training solutions to our customers; adding work flow process improvement solutions; tailoring operational reporting and business intelligence solutions to address the unique need of our end user markets; and adding new services to broaden our market reach. With the pause of our roll-up acquisition strategy, our current expansion efforts are primarily organic in nature.

We are unique among engineering firms in the nuclear market in ability to serve the entire lifecycle of a plant through a combination of expert service not found in other Engineers of Choice.  We offer clients the ability to perform the upfront engineering design, address and optimize regulatory compliance, optimize designs through simulation assisted engineering, and provide all of the professional temporary staffing needed for a wide variety of specialized engineering projects.

Initiatives such as these will broaden our scope and enable us to engage more deeply with the segments we serve and to address the needs of customers in adjacent segments. We have delivered a compelling solution, the GSE GPWR^TM Generic Pressurized Water Reactor simulation technology, proving that our modeling technology can be sold in generic form via traditional license terms and conditions to the nuclear industry ecosystem. We have both upgraded and expanded the EnVision™ library of simulation and eLearning tutorials for the process industries with specific new products for training clients in the upstream segment of the oil and gas industry including launching a new cloud-based training platform, EnVision™ Learning On-Demand, that significantly extends the capabilities of its industry leading EnVision™ tutorials and simulations. We continue to provide cutting edge training systems by adapting our technology to systems that meet the specific needs of customers such as U.S. government laboratories.

Research and development (R&D) We invest in R&D to deliver unique solutions that add value to our end-user markets. We have delivered nuclear core and Balance-of-Plant modeling and visualization systems to the industry. To address the nuclear industry’s need for more accurate simulation of both normal and accident scenarios, we provide our DesignEP^® and RELAP5-HD^® solutions. Our entire JADE^TM suite of simulation software, including industry leading JTOPMERET^® and JElectric^TM software, provides the most accurate simulation of Balance-of-Plant and electrical systems available to the nuclear and fossil plant simulation market. The significant enhancements we have made to our SimExec^® and OpenSim^TM platforms enables customers to be more efficient in the daily operation of their simulators. We are bringing SimExec^® and OpenSim^TM together into a next generation unified environment that will add new capabilities as requested by clients and driven by market need.

We intend to continue to make pragmatic and measured investments in R&D that first and foremost are driven by the market and complement our growth strategy. Such investments in R&D may result in on-going enhancement of existing solutions as well as the creation of new solutions to serve our target markets, ensuring that we add greater value that is easier to use, at lower total cost of ownership than any alternative available to customers. GSE has pioneered a number of industry standards and intends to continue to be one of the most innovative companies in our industry. During the years ended December 31, 2019 and 2018, we have made R&D investments totaling $1.1 million and $1.3 million, respectively.

Strengthen and develop our talent while delivering high-quality solutions Our experienced employees and management team are our most valuable resources. Attracting, training, and retaining top talent is critical to our success. To achieve our talent goals, we intend to remain focused on providing our employees with entrepreneurial opportunities to increase client contact within their areas of expertise and to expand and deepen our service offerings. We will also continue to provide our employees with training, personal and professional growth opportunities, performance-based incentives including opportunities for stock ownership, bonuses and competitive benefits as benchmarked to our industry and locations. We have developed a strong reputation for quality services based upon our industry-recognized depth of experience, ability to attract and retain quality professionals, and exceptional expertise across multiple service sectors. We have received numerous industry certificates and awards over the years for outstanding service.

Industry Trends

Industry need to build and sustain a highly skilled workforce

We believe a critical ongoing challenge facing the industries we serve is access to, and continued development of, a highly trained and efficient workforce. This challenge manifests primarily in two ways: the increasing pace at which industry knowledge and experience are lost as a significant percentage of the existing experienced workforce reaches retirement age; and the fact that as new power plants come on-line, there is an increased demand for more workers to staff and operate those plants.

In the United States, the energy industry is expected to continue to lose more of its workforce than it can attract within the next few years as baby boomers retire on the traditional schedule. As the nuclear industry continues to operate and modernizes its fleet and strains to maintain the high standards of training for the existing workforce, existing plant simulator systems, which provide a critical environment for training services, are often operating 24 hours a day. With workers retiring and the need to backfill as well as expand the workforce for new units, certain operators are exploring the opportunity to de-bottleneck their existing simulator capabilities through the creation of dual reference simulators. Other workforce shortages and/or short-term spikes in demand for specialist skills that we offer similarly are positive developments for our business. This labor environment continues to foster opportunities for technology firms, such as ours, to innovate and develop investment worthy solutions.

Globally, as more people increase their standard of living, their demand for power will increase, which in turn will require the on-going construction of power plants to meet this surging demand. The drive to lower carbon emissions from power generation while ensuring a stable baseload to accommodate intermittent energy sources such as wind and solar power brings focus on the essential nature of nuclear power.  Developing a skilled labor force to operate these plants and keeping their skills current and their certifications in compliance with regulatory requirements is a key challenge facing the global power industry.

Status of nuclear power industry

The world’s nuclear reactors make an essential contribution to supplying clean and reliable electricity.  With world awareness of the impact of carbon emissions from bring fossil fuels, there is growing recognition of the importance of nuclear power, which emits no carbon in generating electricity.

According to the International Atomic Energy Agency most recent data, at the end of 2018 the capacity of the world’s 449 operable reactors was 397 GWe, up 4 GWe on the previous year. Nine new reactors were connected to the grid in 2018, with a combined capacity of 10.4 GWe. Seven reactors were closed down in 2018, with a combined capacity of 5.4 GWe. Of these, four are Japanese reactors that had not generated since 2011, and a fifth, Chinshan 1, had not generated since 2015, so these closures had minimal impact on overall electricity generation in 2018. Four reactors in Japan, with a combined capacity of 5.6 GWe, were given approval to restart. Japan continues to evaluate and prepare for further plant re-starts.

Reactors in the USA produced more electricity in 2018 than in any previous year, with 808 TWh generated. While 2019 data has not yet been reported, with the US fleet leading the world in capacity factors, this is expected to yet again achieve a record output. This amounts to about 20% of total electrical output. Two new AP-1000 reactors remain under construction at Southern Company’s Plant Vogtle. In regulated markets where the economy is growing, the nuclear fleet is profitable and expanding, with two reactors under construction in the southeast U.S. Certain US states in the deregulated power markets  have introduced economic incentives that support nuclear generation by recognizing the value of the clean, zero-carbon generation of electricity. This has provided critical economic support in states that are desperately trying to achieve emissions targets. With that said, in other states other reactors, particularly older single unit reactors, are under threat from distorted and challenging market conditions resulting from wind and solar subsidies and abundant and very cheap natural gas.

The world’s nuclear plants continue to perform excellently. Growth is strong, with more than 20 new reactors scheduled to be connected before the end of 2020, including two in the U.S. For the industry to reach the Harmony goal of supplying at least 25% of the world’s electricity before 2050, much greater commitment from policymakers will be required.

Longer term, the trends for nuclear power have promise as small-scale modular reactors (SMR’s) advance in development and prototyping.  A project is planned to build a NuScale Power SMR at Idaho National Labs. NuScale Power is a long-standing GSE customer. Tennessee Valley Authority submitted an application for an early site permit for two or more SMRs modules (up to 800 MWe, 2420 MWt) at the Clinch River Nuclear site on May 12, 2016. In January 2017 the Nuclear Regulatory Commission accepted and docketed the early site permit. United States Department of Energy (“DOE”) recently released a draft plan to double America’s nuclear power capacity by 2050.  The plan, dubbed “Vision 2050”, promotes expanding America’s nuclear capacity through advanced reactor designs including small and medium-size reactors.

We are seeing government focus on supporting the development of advanced reactors beyond SMR’s that offer significant promise.  In 2019, the DOE announced plans to build a Versatile Test Reactor, or VTR. This capability will help accelerate the testing of advanced nuclear fuels, materials, instrumentation, and sensors. It will also allow DOE to modernize its essential nuclear energy research and development infrastructure, and conduct crucial advanced technology and materials testing necessary to re-energize the U.S. nuclear energy industry. This is an exciting new development for the continued advancement of nuclear power in the United States.

In addition, in 2019, significant progress has been made by DOE to support the introduction of a domestic source of high-assay low-enriched uranium, or HALEU for short. More than 20 U.S. companies are developing advanced reactors that will completely change the way we think about the nuclear industry. Many of these companies require HALEU fuel for their designs, and DOE has risen to the challenge in developing near-term and long-term fuel supplies to ensure the United States continues to lead the way in this critical research and design effort for Advanced Reactors.

We believe GSE is well positioned to take full advantage of these strategic global and domestic trends by providing high fidelity simulation, engineering and training solutions to the global power and process industries.

The longer-term fundamentals of our end markets remain solid, as the nuclear power industry continues to invest for safety, operational reliability, extension of plant life and performance improvement to generate more power from existing assets.  Given the difficult-to-replicate assets, specialized employees and innovative technologies that we have amassed under a single go-to service provider platform, we are very optimistic about GSE’s future.

Products and Services

Performance Improvement Solutions

To assist our clients in creating world-class internal training and engineering improvement processes, we offer a set of integrated and scalable products and services that provide a structured program focused on continuous skills improvement for experienced employees to engineering services, including plant design verification and validation, ASME code compliance, and design plant modification work. We provide the right solutions to solve our clients’ most pressing needs.

For workforce development and training, students and instructors alike must have a high degree of confidence that their power plant simulator truly reflects plant behavior across the entire range of operations. To earn this confidence, GSE’s simulation solution starts with the most robust engineering approach possible. Using state-of-the-art modeling tools combined with our leading nuclear power modeling expertise, GSE provides simulation solutions that achieve unparalleled fidelity and accuracy. The solutions that GSE provides are also known for ease of use, resulting in increased productivity for end-users. For these reasons, GSE has delivered more nuclear power plant simulators than any other company in the world.

For virtual commissioning, designers of first-of-a-kind plants or existing plants need a highly accurate dynamic simulation platform to model a wide variety of design assumptions and concepts from control strategies to plant behavior to human factors. Because new builds and upgrades to existing plants result in deployment of new technology, often involving the integration of disparate technologies for the first time, a high-fidelity simulator enables designers to model the interaction between systems in advance of construction. With our combination of simulation technology and expert engineering, GSE was chosen to build first-of-a-kind simulators for the AP1000, PBMR, and small modular reactors such as those being built by NuScale.

Examples of the types of simulators we sell include the following:

Nuclear Industry Training and Consulting

As our customers’ experienced staff retire, access to experts that can help operate and train existing and new employees in how to operate their plants is essential to ensure safe ongoing plant operations. In addition, operating and training needs change over time and sometimes our clients require fixed priced discrete projects or specialized courses in contrast to straight staff augmentation. The industry needs operating personnel, including procedure writers, engineers, operators and instructors who can step in and use as well as update the client’s operating methods, procedures, training material and more. Finding technical professionals and instructors, who know the subject, can perform the work or teach it to others and can adapt to the client’s culture, is critical. GSE provides qualified professionals, instructors and turnkey projects/courses that work within the client’s system and complement the operating or training methods they already have in place. Examples of our training program courses include senior reactor operator certification, generic fundamentals training, and simulation supervisor training. In addition, we also provide expert support through consulting or turnkey projects for procedure writing, technical engineers, project managers, training material upgrade and development, outage execution, planning and scheduling, corrective actions programs, and equipment reliability.

We bring together the collection of skills we have amassed over more than 40 years beginning with its traditional roots in custom high-fidelity simulation and training solutions for the power industries, extended through the acquisition of specialized engineering capabilities, enhanced by the entry and intermediate level training solutions of EnVision and the extensive nuclear industry training and consulting services of Absolute and Hyperspring.

Customers and Locations

For almost 50 years, we have been developing next-generation, custom training simulation technologies. Since we built the first commercial full-scope nuclear power plant simulator in 1971, we have completed more than 1,100 installations, from full scope simulation systems to desktop workforce development solutions, in 50 countries. 

In 2019, approximately 16% of our revenue was generated from end-users outside the United States and we have a concentration of revenue from one individual customer, which accounted for 27.8% of our consolidated revenue. A small representative list of our customer base includes: ABB Inc., American Electric Power, Bechtel Hanford National Laboratory, Duke Energy, EDF Energy (United Kingdom), Emerson Process Management, Entergy Nuclear Operations Inc, Exelon, PSEG Nuclear, Inc., Siemens AG (Germany), Southern Nuclear Operating Company, Inc., State Nuclear Power Automation System Engineering Company (China), Savannah River Nuclear Solutions, LLC, Slovenkse Elektrarne, A.S. (Slovakia), Tennessee Valley Authority, and Westinghouse Electric Co.

Hydrocarbon and chemical process customers include numerous large oil refineries and chemical plants such as BP (worldwide), Statoil ASA (Norway), Chevron,, Shell Oil Company (worldwide), Total (Belgium), and Valero (USA).

Marketing and Sales

We market our products and services through a network of direct sales staff, agents and representatives, and strategic alliance partners. Market-oriented business and customer account teams define and implement specific campaigns to pursue opportunities.

We continue to have a proactive public relations program, issuing non-financial press releases to announce product development and significant deliveries, as well as our presence at numerous industry trade shows and technical conferences. We are active on numerous social media platforms and strive to build a strong presence across all media that our clients use to find information about the Company. Our goal is to provide useful information at each stage of the client’s journey with the Company.

The Company’s ability to support its multi-facility, international, and multinational clients is facilitated by its network of offices and strategic partners in the U.S. and overseas. In addition to its office located in China, the Company’s ability to conduct international business is enhanced by its multilingual and multicultural workforce. GSE has strategic relationships with system integrators and agents representing its interests in Bulgaria, Japan, Malaysia, Singapore, South Korea, Taiwan, Ukraine and various locations in the Gulf Coast Countries of the Middle East.

Competition

In the nuclear simulation market, we compete in a global market including firms located in Canada, France and the U.S., such as L-3 MAPPS Inc., a subsidiary of Harris (Canada), CORYS T.E.S.S (France) and Western Services Corporation. In the fossil simulation market, we competes with smaller companies in the U.S. and overseas. In the process industry our main competition comes from large digital control system/automation companies such as Honeywell and Schneider. In the engineering market, we compete with firms primarily from North America such as Enercon Services, Kinetrics, Sargent & Lundy, and AECOM.

The Nuclear Industry Training and Consulting business services include technical professional and training-related and services as well as staff augmentation solutions. The competition for these services includes but is not limited to the following: GP Strategies, The Westwind Group, Professional Training Technologies, and Western Technical Services. The competition for staff augmentation includes: Day & Zimmerman, The Planet Group, and The Westwind Group.

Competitive Advantages

Although there is competition in various industry niches, few companies in our space can combine our engineering, simulation and training expertise, especially for the nuclear power industry. Few of our competitors serve the broader performance improvement market and few work across the full spectrum of energy markets including nuclear and fossil power plus petrochemicals.

Proprietary Software Tools. We developed a library of proprietary software tools including auto-code generators and system models that substantially improve and expedite the design, production and integration, testing and modification of software and systems. These tools are used to automatically generate the computer code and systems models required for specific functions commonly used in simulation applications, thereby enabling the Company or its customers to develop high-fidelity, real-time software quickly, accurately and at lower costs. The Company also has an expertise integrating third-party engineering codes into the Company’s simulation environment, thereby offering some of the most sophisticated technical solutions in the market. The Company has a substantial library of Process-Specific Simulation models and eLearning Modules aimed at the oil and gas, refining and specialty chemicals markets.

Industry Expertise. We are a leading innovator and developer of real-time simulation software with more than 40 years of experience producing high-fidelity, real-time simulators. As a result, the Company has acquired substantial applications expertise in the energy and process industries. As of December 31, 2019,  the Company employed a highly educated and experienced multinational workforce of approximately 363 employees, including approximately 148 engineers and scientists in fields such as chemical, mechanical and electrical engineering, applied mathematics and computer sciences, and approximately 140 instructors and plant operations staff specialists. As a result of the DP Engineering acquisition, we have added approximately 32 employees.

Unique Combination of Talent. Few in our market space brings together the sophistication of simulation technology with the engineering expertise, training expertise and visualization expertise to provide the holistic people and plant performance improvement solutions as well as we do.

Reputation for Customer Satisfaction. As part of its ISO-9001:2015 Quality Program Certification, GSE measures customer satisfaction across numerous factors such as On-Time Delivery, Problem Solving, and Customer Communication. In each category measured we routinely exceed customer expectations.

Training Curricula. The Company has developed hundreds of detailed courses and simulator exercise material and specific industrial applications including oil and gas refining, gas-oil production, nuclear and combined cycle gas turbine power plant and desalination.

Our Nuclear Industry Training and Consulting business is mostly focused on training and operations support. Our trainers and consultants provide their services at customer facilities which allows us to interface with our customers directly in the course of doing business versus only periodically calling on customers. Our proximity gives us a significant competitive advantage in that we can immediately offer and implement solutions rather than contending with lengthy bid processes.

Intellectual Property.

The Company depends upon its intellectual property rights in its proprietary technology and information. GSE maintains a portfolio of trademarks (both registered and unregistered), copyrights (both registered and unregistered), and licenses. While such trademarks, copyrights and licenses as a group are of material importance to the Company, it does not consider any one trademark, copyright, or license to be of such importance that the loss or expiration thereof would materially affect the Company. The Company relies upon a combination of trade secrets, copyright, and trademark law, contractual arrangements and technical means to protect its intellectual property rights. GSE distributes its software products under software license agreements that grant customers nonexclusive licenses for the use of its products, which are nontransferable. Use of the licensed software is restricted to designated computers at specified sites, unless the customer obtains a site license of its use of the software. Software and hardware security measures are also employed to prevent unauthorized use of the Company’s software, and the licensed software is subject to terms and conditions prohibiting unauthorized reproduction of the software.

The Company does not own any patents. The Company believes that all of the Company’s trademarks (especially those that use the phrase “GSE Systems”) are valid and will have an unlimited duration as long as they are adequately protected and sufficiently used. The Company’s licenses are perpetual in nature and will have an unlimited duration as long as they are adequately protected and the parties adhere to the material terms and conditions.

GSE has numerous registered U.S. trademarks: GSE Systems®, JTOPMERET®, RELAP5-HD®, TOTALVISION®, VPanel® and SimExec®. Some of these trademarks have also been registered in foreign countries. The Company also claims trademark rights to DesignEP™, Java Application and Development Environment (JADE)™, OpenSim™, PSA-HD™, RACS™, SimSuite Pro™, SmartTutor™, THOR™, and Xtreme I/S™.

In addition, the Company maintains federal statutory copyright protection with respect to its software programs and products, has registered copyrights for some of the documentation and manuals related to these programs, and maintains trade secret protection on its software products and proprietary technologies and methodologies.

Despite these protections, the Company cannot be sure that it has protected or will be able to protect its intellectual property adequately, that the unauthorized disclosure or use of its intellectual property will be prevented, that others have not or will not develop similar technology independently, or, to the extent it owns any patents in the future, that others have not or will not be able to design around those patents. Furthermore, the laws of certain countries in which the Company’s products are sold do not protect its products and intellectual property rights to the same extent as the laws of the United States.

Government Regulations

Our operations are directly and indirectly affected by political developments and both domestic and foreign governmental regulations. We cannot determine the extent to which changing political priorities, new legislation, new regulations or changes in existing laws or regulations may affect our future operations, positively or negatively.

Industries Served

The following chart illustrates the approximate percentage of the Company’s 2019 and 2018 consolidated revenue by industries served:

Backlog 

As of December 31, 2019, we had approximately $52.7 million of total gross revenue in backlog compared to $70.6 million as of December 31, 2018.  Most of our contract terms are for less than 24 months. Our backlog includes only those amounts that have been funded and authorized and does not reflect the full amounts we may receive over the term of such contracts.  Our backlog includes future expected revenue at contract rates, excluding contract renewals or extensions that are at the discretion of the client.  We calculate backlog without regard to possible project reductions or expansions or potential cancellations unless and until we have reason to believe that such changes may occur.

Backlog is expressed in terms of gross revenue and, therefore, may include significant estimated amounts of third-party or pass-through costs to subcontractors and other parties.  Because backlog is not a defined accounting term, our computation of backlog may not necessarily be comparable to that of our industry peers.

Employees

As of December 31, 2019, we had approximately 363 employees, which include 205 our Performance Improvement segment and 158 our Nuclear Industry Training and Consulting segment.   Excluding our Nuclear Industry Training and Consulting business, which consists primarily of contracted instructors, our employee attrition rate for 2019 among all staff was approximately 10%.  To date, we have been able to locate and engage highly qualified employees as needed and we expect our growth efforts to be addressed through attracting top talent.

COVID-19 virus

The safety of our employees, their families and our customers are of primary concern to us. We operates consistent with Center for Disease Control and Prevention (“CDC”) and Federal and State guidelines. Changes in our operations as a result of COVID-19 is primarily reflecting in requiring employees to work from home vs. the office if able for the time being. As a result, employees almost entirely work from home for the Performance Solutions line of business, but for when required to be at the client site for essential project work. When at the client site, the employee(s) are required to become thoroughly familiar with client safety guidelines including COVID-19 guidelines. The use of IP/telephony has enabled our employees to be nearly as productive working from home vs. the office. We expect efficiency to improve with time along a natural learning curve. It is important to note that we have been designated as an essential services provider for certain nuclear power and defense customers. Performance Projects, since they are essential, for the most part continue without pause. For our staff augmentation, we have seen certain contract for NITC customers paused and or delayed as clients shrink their own on-premise workforces to the bare minimum in response to the pandemic; as a result the NITC business has seen its deployed billable employee base contract since the start of the pandemic. NITC still has a meaningful deployment of billable employees at client sites delivering essential services working at the direction of our customers. While we are still receiving new orders, we are experiencing a significant decline in the volume of new orders compared to prior periods. The COVID-19 crisis is still an evolving situation and we are unable to predict when it will end or the future impact it will have on the business and our operations will be. We have experienced current projects in our Performance Solutions and NITC segments being delayed or paused.

Delayed filing of Form 10K

We are filing our Form 10-K later than we have historically. We relied on the order issued by the SEC dated March 25, 2020: Order Under Section 36 of the Exchange Act Modifying Exemptions from the Reporting and Proxy Delivery Requirements for Public Companies (Release No. 34-88465)(the “Order”). The Order extends, by no later than forty-five (45) days, the deadlines for filing certain reports made under the Securities Exchange Act of 1934, including Annual Reports on Form 10-K, for registrants subject to the reporting obligations under the Exchange Act that have been impacted by COVID-19, and have filing deadlines between March 1 and July 1, 2020. As a result of federal, state, and local government continuing measures to prevent the spread of COVID-19, including policies regarding working from home, the preparation of the Company’s financial statements and disclosures have taken a greater amount of time than originally expected as the Company’s staff have experienced delays in completing audit-related functions and required disclosures.

The following are some of the factors that we believe could cause our actual results to differ materially from historical results and from the results contemplated by the forward-looking statements contained in this report and other public statements we have made.  Additional risks and uncertainties not presently known to us, or that we currently see as immaterial, may also harm our business.  Most of these risks are generally beyond our control.  If any of the risks or uncertainties described below, or any such other or additional risks and uncertainties actually occurs, our business, results of operations and financial condition could be materially and adversely affected.  The following information should be read in conjunction with Item 7 - Management’s Discussion and Analysis of Financial Condition and Results of Operations and the consolidated financial statements and related notes under Item 8 - Financial Statements and Supplementary Data.

A novel strain of coronavirus, the COVID-19 virus, may adversely affect our business operations and financial condition.

In December 2019, an outbreak of the COVID-19 virus was reported in Wuhan, China. On March 11, 2020, the World Health Organization declared the COVID-19 virus a global pandemic and on March 13, 2020, President Donald J. Trump declared the virus a national emergency in the United States. This highly contagious disease has spread to most of the countries in the world and throughout the United States, creating a serious impact on customers, workforces and suppliers, disrupting economies and financial markets, and potentially leading to a world-wide economic downturn. It has caused a disruption of the normal operations of many businesses, including the temporary closure or scale-back of business operations and/or the imposition of either quarantine or remote work or meeting requirements for employees, either by government order or on a voluntary basis. The pandemic may adversely affect our customers’ operations, our employees and our employee productivity. It may also impact the ability of our subcontractors, partners, and suppliers to operate and fulfill their contractual obligations, and result in an increase in costs, delays or disruptions in performance. These supply chain effects, and the direct effect of the virus and the disruption on our employees and operations, may negatively impact both our ability to meet customer demand and our revenue and profit margins. Our employees, in many cases, are working remotely and using various technologies to perform their functions. We might experience delays or changes in customer demand, particularly if customer funding priorities change. Further, in reaction to the spread of COVID-19 in the United States, many businesses have instituted social distancing policies, including the closure of offices and worksites and deferring planned business activity. Our Performance Solutions business segment, as they are classified essential, for the most part continue without pause. With regard to our Nuclear Industry Training and Consulting business segment, because of the embedded presence of our on-site workforce, if COVID-19 or a similar outbreak of infectious disease were to prevent our workers from being deployed to the applicable customer site, it may disrupt our Nuclear Industry Training and Consulting service offerings, interrupt performance on our Nuclear Industry Training and Consulting contracts with clients and negatively impact our business, financial condition and results of operations. Additionally, the disruption and volatility in the global and domestic capital markets may increase the cost of capital and limit our ability to access capital. Both the health and economic aspects of the COVID-19 virus are highly fluid and the future course of each is uncertain. For these reasons and other reasons that may come to light if the coronavirus pandemic and associated protective or preventative measures expand, we may experience a material adverse effect on our business operations, revenues and financial condition; however, its ultimate impact is highly uncertain and subject to change.

If we cannot comply with the financial or other restrictive covenants in our credit agreement, or obtain waivers or other relief from our lender, we may cause an event of default to occur, which could result in loss of our sources of liquidity and acceleration of our debt.

In order to fund our recent acquisitions, we borrowed under a delayed-draw term loan facility. Our ability to generate sufficient cash flow from operations to make scheduled payments on our term loan will depend on a range of economic, competitive and business factors, some of which are outside our control. If we are unable to meet our debt service obligations, we may need to refinance or restructure all or a portion of our debt on or before its stated maturity date, sell assets, pay down our outstanding debt and/or raise equity. We may not be able to refinance or restructure any of our debt, sell assets or raise equity, in each case on commercially reasonable terms or at all, which could cause us to default on our obligations and impair our liquidity. Our inability to generate sufficient cash flow to satisfy our debt obligations or to refinance or restructure our obligations on commercially reasonable terms could have a material adverse effect on our business, financial condition, results of operations and cash flows. Our credit agreement also contains financial and other restrictive covenants. Our ability to comply with the covenants in our credit agreement will depend upon our future performance and various other factors, some of which are beyond our control. We may not be able to maintain compliance with all of these covenants. In that event, we would need to seek an amendment to our credit agreement, a waiver from our lender, utilize cash to pay down outstanding debt and/or refinance or restructure our debt. There can be no assurance that we could obtain future amendments or waivers of our credit agreement, or refinance or restructure our debt, in each case on commercially reasonably terms or at all. Our failure to maintain compliance with the covenants under our credit agreement could result in an event of default, subject to applicable notice and cure provisions. Upon the occurrence of an event of default under our credit agreement, our lender could elect to declare all amounts outstanding thereunder to be immediately due and payable, terminate all commitments to extend further credit and cease making further loans. If we were unable to repay all outstanding amounts in full, our lender could exercise various remedies including instituting foreclosure proceedings against our assets pledged to them as collateral to secure that debt.

We have incurred indebtedness under the CARES Act which will be subject to review, may not be forgivable in whole or in part, and may eventually have to be repaid.

The Company has applied for, and has received, funds under the Paycheck Protection Program after the period end in the amount of $10.0 million serviced by Citizen's Bank. The application for these funds requires the Company to, in good faith, certify that the current economic uncertainty made the loan request necessary to support the ongoing operations of the Company. This certification further requires the Company to take into account our current business activity and our ability to access other sources of liquidity sufficient to support ongoing operations in a manner that is not significantly detrimental to the business. The receipt of these funds, and the forgiveness of the loan attendant to these funds, is dependent on the Company having initially qualified for the loan and qualifying for the forgiveness of such loan based on our future adherence to the forgiveness criteria.

On April 24, 2020, the Company received the loan. Under the terms of the CARES Act and the corresponding promissory note, the use of the proceeds of the loan is restricted to payroll costs (as defined in the CARES Act), covered rent, covered utility payments and certain other expenditures that, while permitted, would not result in forgiveness of a corresponding portion of the loan. Following recent amendments to the Paycheck Protection Program, after an eight- or twenty-four-week period starting with the disbursement of the loan proceeds, the Company may apply for forgiveness of some or all of the loan, with the amount which may be forgiven equal to the sum of eligible payroll costs, mortgage interest (not applicable to the Company), covered rent, and covered utility payments, in each case incurred by the Company during the eight- or twenty-four-week period following the date of first disbursement. Certain reductions in the Company’s payroll costs or full time equivalent employees (when compared against the applicable measurement period) may reduce the amount of the Loan eligible for forgiveness.

The U.S. Department of the Treasury ("Treasury") and the U.S. Small Business Administration ("SBA") have announced that they will review all Payroll Protection Program loans that equal or exceed $2.0 million. Guidance from Treasury and SBA has been slow to develop and occasionally unclear. At the same time, the Payroll Protection Program has been amended twice with the latest series of amendments significantly altering the timeline associated with the Payroll Protection Program spending and loan forgiveness. While the Company believes that it acted in good faith and has complied with all requirements of the Payroll Protection Program, if Treasury or SBA determined that the Company’s loan application was not made in good faith or that the Company did not otherwise meet the eligibility requirements of the Payroll Protection Program, we may not receive forgiveness of the loan (in whole or in part) and we could be required to return the loan or a portion thereof. Further, there is no guarantee that the Company will receive forgiveness for any amount, and forgiveness will be subject to Company’s submission to its lender of information and documentation as required by SBA and the lender.

A failure to obtain forgiveness of the Payroll Protection Program loan may adversely impact loan covenants under our senior credit facility. In the event that our Payroll Protection Program loan was not forgiven in whole or in part, we may need to seek an amendment to our credit agreement, a waiver from our lender, utilize cash to repay the Payroll Protection Program debt and/or refinance or restructure our outstanding debt. There can be no assurance that we could obtain future amendments or waivers of our credit agreement, or refinance or restructure our debt, in each case on commercially reasonably terms or at all. Our failure to maintain compliance with the covenants under our credit agreement could result in an event of default, subject to applicable notice and cure provisions. Upon the occurrence of an event of default under our credit agreement, our lender could elect to declare all amounts outstanding thereunder to be immediately due and payable, terminate all commitments to extend further credit and cease making further loans. If we were unable to repay all outstanding amounts in full, our lender could exercise various remedies including instituting foreclosure proceedings against our assets pledged to them as collateral to secure that debt.

Substantial doubt has been raised in our ability to continue as going concern as a result of the economic slowdown caused the global COVID 19 pandemic and continued deterioration of business could have an adverse effect.

The global COVID-19 pandemic could continue to have a negative impact on our financial position and results of operations. Negative impacts could include but are not limited to: loss or delayed orders, canceled or paused projects, possible disruption of business as a result of worker illness or mandated shutdowns, our ability to maintain compliance with loan covenants and/or refinance existing indebtedness, and access to new capital. Any additional deterioration in the business would result in missing minimum EBITDA covenants and possibly leverage ratios associated with covenants contained in our senior credit facility.

Although as of December 31, 2019, we are in compliance with the amended financial covenants contained in our debt agreement with our lender, and have entered into an additional amendment in April 2020, we cannot rely on forecasted future earnings and could continue to see further deterioration in business causing non-compliance.  Management believes the entity will be able to continue to develop new opportunities and will be able to obtain additional debt amendments; however, there is no assurance.

If we fail to maintain an effective system of internal control over financial reporting, we may not be able to accurately report our financial results, and current and potential stockholders may lose confidence in our financial reporting.

We are required by the Securities and Exchange Commission ("SEC")  to establish and maintain adequate internal control over financial reporting that provides reasonable assurance regarding the reliability of our financial reporting and the preparation of financial statements in accordance with U.S. generally accepted accounting principles. We are likewise required, on a quarterly basis, to evaluate the effectiveness of our internal controls and to disclose any changes and material weaknesses in those internal controls.

Based on management’s assessment, management has concluded that the Company’s internal control over financial reporting was not effective as of December 31, 2019 due to the existence of two material weaknesses in internal control over financial reporting surrounding the evaluation of significant or unusual transactions and certain controls within the  financial reporting close process. Management realizes that two material weaknesses in our internal controls are serious matters and require thoughtful responses. We developed and implemented a remediation plan to address the identified material weakness as follows: (i) hiring of dedicated staffing, (ii) revision of controls in application of guidance, (iii) shortening the close process, (iv) new revenue process tools and controls and (v) and expanding on mitigating controls.

Although we believe that these efforts have strengthened our internal control over financial reporting and address the concern that gave rise to the material weakness as of December 31, 2019, we cannot be certain that our expanded knowledge and revised internal control procedures will ensure that we maintain adequate internal control over our financial reporting in future periods. Any failure to maintain such internal controls could adversely impact our ability to report our financial results on a timely and accurate basis. If our financial statements are not accurate, investors may not have a complete understanding of our operations. Likewise, if our financial statements are not filed on a timely basis as required by the SEC and The NASDAQ Capital Market (Nasdaq), we could confront an enfocement action from the SEC and/or deslisting from Nasdaq. In either case, such an event could have a material adverse affect on our business. Finally, inferior internal controls could also cause investors to lose confidence in our reported financial information, which could have a negative effect on the trading price of our common stock.

Our business is largely dependent on sales to the nuclear power industry.  Any significant disruption in this industry would have a material adverse effect upon our revenue and profitability.

In 2019, 90% of our revenue was from customers in the nuclear power industry (91% in 2018). We expect to derive a significant portion of our revenue from customers in the nuclear power industry for the foreseeable future. Market demand for, and our ability to supply nuclear power plant simulators and related products and services is dependent on the continued operation of nuclear power plants globally and, to a lesser extent, on the construction of new nuclear power plants. A wide range of factors affect the continued operation and construction of nuclear power plants, including the political, regulatory and legal environment in which they operate, the availability and cost of alternative means of power generation, the occurrence of future nuclear incidents, such as the one which occurred at the Fukushima Daiichi nuclear plant in 2011, and general economic conditions. Significant regulatory changes in the U.S. or abroad could materially affect demand for our products, the profitability of our service deliveries to nuclear power industry customers, and the overall efficacy of our current business model.

Our sales to foreign customers expose us to risks associated with operating internationally.

Sales of products and services to end users outside the United States accounted for approximately 16% of the Company’s consolidated revenue in 2019 and 15% of consolidated revenue in 2018. Consequently, our businesses are subject to a variety of risks that are specific to international operations, including the following:

·	export laws and regulations that could erode our profit margins or restrict the export of some or all of our products;

·	compliance with the U.S. Foreign Corrupt Practices Act and similar non-U.S. regulations such as the UK Bribery Act;

·	the burden and cost of compliance with foreign laws, treaties and technical standards generally, as well as responding to changes in those requirements;

·	contract award and funding delays;

·	potential restrictions on transfers of funds;

·	potential difficulties in accounts receivable collection;

·	currency fluctuations, including costs and potentially limited availability of viable hedging options;

·	import and export duties and value added or other taxes;

·	transportation and communication delays and interruptions;

·	differences in insurance availability and coverage in some jurisdictions;

·	difficulties involving strategic alliances and managing foreign sales agents or representatives;

·	uncertainties arising from foreign local business practices and cultural considerations; and

·	potential military conflicts and political risks.

·	potential disruption of  our international business due to the worldwide COVID-19 virus outbreak.

In December 2019, an outbreak of the COVID-19 virus was reported in Wuhan, China. On March 11, 2020, the World Health Organization declared the COVID-19 virus a global pandemic. This highly contagious disease has spread to most of the countries in the world and throughout the United States, creating a serious impact on customers, workforces and suppliers, disrupting economies and financial markets, and potentially leading to a world-wide economic downturn. It has caused a disruption of the normal operations of many businesses, including the temporary closure or scale-back of business operations and/or the imposition of either quarantine or remote work or meeting requirements for employees, either by government order or on a voluntary basis. The pandemic may continue to adversely affect our international customers’ operations, our employees and our employee productivity. It may also continue to impact the ability of our subcontractors, partners, and suppliers to operate and fulfill their contractual obligations, resulting in increased costs, and  delays or disruptions in performance. These supply chain effects, and effect of the virus and the disruption on our employees and operations, may negatively impact both our ability to meet customer demand and our revenue and profit margins.

While we have and will continue to adopt measures to reduce the potential impact of losses resulting from the risks of our  business, we cannot ensure that such measures will be adequate.  During the years ended December 31, 2019 and 2018, we did not have revenues greater than 10% from any individual foreign country.

Exports and sales to certain foreign countries, including the People’s Republic of China, are subject to regulatory, political, and other risks.

The export and sale of our services and technology to certain foreign countries including China, are subject to U.S. export control regulations.  Export control policy pertaining to China and other countries may be enforced through laws and regulations administered by the Department of Commerce and the Department of Energy, and jurisdiction with regard to the export and sale of our services and technology may be overlapping and unclear.  Specific governmental authorizations may be required before we can export our services or technology to countries such as China, or collaborate with foreign entities or foreign individuals located in countries such as China.  These restrictions include our own wholly-owned Chinese subsidiary and its employees.  If export or other authorizations are required and not granted, or are significantly delayed, our international business plans pertaining to China and other countries could be materially affected.  Further, our exports and sales to China and other countries with respect to which the United States may have shifting or negative diplomatic and trade relations, including sales made by or through our wholly-owned Chinese subsidiary, expose us to particular risks associated with the political and regulatory relationship between the U.S. and China and between the U.S. and such other countries.

In October 2018, the Department of Energy announced the tightening of certain export control restrictions with regard to the export of nuclear technology to China, including certain presumptive denials with regard to the export of identified nuclear technologies to China.  Although we do not believe that these policy changes cover our technologies or services, additional restrictions pertaining to U.S. regulation and policy pertaining to international trade with China could adversely affect our business in China and the performance of our Chinese subsidiary.

Finally, violation of export control regulations, including those pertaining to China, could subject us to fines and other penalties, such as losing the ability to export for a period of years, which would limit our revenue growth opportunities and significantly hinder our attempts to expand our business internationally.  Although we take steps to monitor and ensure our compliance with all applicable export laws and regulations, we are nevertheless exposed to political and regulatory risks that we may not be able to mitigate fully and that may have a material adverse effect upon our international business operations.

Our operations within China subject us to risks and uncertainties relating to the laws and regulations of China.

Our business and operations within China may be adversely affected by China’s continuously evolving internal policies, laws and regulations, including those relating to nuclear technology, trade, taxation, import and export tariffs or restrictions, currency controls, cybersecurity and data protection, indigenous innovation and the promotion of a domestic nuclear industry, and intellectual property rights and enforcement and protection of those rights.  Enforcement of existing laws or agreements in China may be inconsistent.  In addition, changes in the political environment, governmental policies, international trade policies and relations, or U.S. - China relations could result in revisions to laws or regulations or their interpretation and enforcement, exposure of our proprietary intellectual property to risk of loss, increased taxation, trade sanctions, the imposition of import duties or tariffs, restrictions on imports or exports, currency revaluations, or retaliatory actions by the Chinese government in response to U.S. actions, any or all of which could have an adverse effect on our business plans and operating results.

Customer concentration in the U.S. nuclear power industry subjects us to risks and uncertainty, which we may not be able to mitigate through diversification.

The U.S. nuclear industry has significant customer concentration with a limited number of entities owning all of the 99 nuclear reactors currently operating in the United States. In 2019, we continued to experience high customer concentration with respect to each of our businesses. Indeed, one customer accounted for 27.8% of our total consolidated revenue for the year-ended December 31, 2019. We monitor our customer concentration and seek to diversify our customer base within this concentrated industry. In addition to pursuing diversification strategies and expanding relationships with targeted customers, we mitigate the associated customer concentration risk by developing meaningful relationships with each nuclear power plant, which are often separately responsible for vendor selection and individual procurement decisions.

Our diversification strategy is intended to reduce our customer concentration risk. One of the risks associated with customer concentration was underscored by a recent event at a customer location following our acquisition of DP Engineering. After that event, the customer identified a prior plant modification by DP Engineering as meriting further analysis. As is customary in the industry, pursuant to an Engineer of Choice agreement, the customer issued DP Engineering a Notice of Suspension by email while a root cause analysis of the event proceeds. Because of DP Engineering’s concentrated nature, this notice impacted a number of unrelated projects at other locations. Although more than 25% of the impacted projects have already been restarted at the request of the customer, this incident shows that high customer concentration can result in events at one location impacting projects at other locations. As a follow on to the Notice of Suspension, the Company received a Notice of Termination from this customer, notifying the Company that they were terminating their Engineer of Choice consulting service agreement with DP Engineering. Accordingly, DP Engineering is completing work under any open Contract Orders in accordance with the terms of the respective Contract Orders and the Agreement, which shall be deemed to remain in effect for purposes only of completing any such Contract Orders.

Our revenue, results of operations, and cash flows may suffer upon the loss of a significant customer.

For the years ended December 31, 2019 and 2018, the following customers have provided more than 10% of Nuclear Industry Training and Consulting segment’s revenues:

Hyperspring and Absolute, which together comprise our Nuclear Industry Training and Consulting segment, may lose a significant customer if any existing contract with such customer expires without extension, renewal, or negotiation or if it is terminated by the customer prior to its expiration. A number of Hyperspring’s and Absolute’s contracts typically are subject to expiration during each year, and either company may lose any of these contracts if they are unable to extend, renew, or renegotiate the contracts. The loss of a significant customer would adversely affect our Nuclear Industry Training and Consulting segment’s revenue, results of operations, and cash flows.

For the years ended December 31, 2019 and 2018, the following customer has provided more than 10% of Performance Improvement Solutions segment’s revenues:

Customer A also provided 27.8% and 26.9% of our total consolidated revenue for the years ended December 31, 2019 and 2018, respectively. While the acquisition of DP Engineering increased our product and service offerings, we anticipate that it will further increase the customer concentration in our Performance Improvement Solutions segment.

GSE Performance Solutions, Inc., GSE True North Consulting, LLC, and DP Engineering, which together comprise our Performance Improvement Solutions segment, may lose a significant customer if any existing contract with such customer expires without extension, renewal, or negotiation or if it is terminated by the customer prior to expiration. A majority of the contracts entered into by our Performance Improvement Solutions businesses are able to be terminated by our customer on relatively short notice without cause or further compensation. The loss of any significant customer would adversely affect our Performance Improvement Solutions segment’s revenue, results of operations, and cash flows.

A sustained decline in the price of our common stock or weaker than forecasted operating results could result in write-downs of goodwill and other intangible assets and capitalized software development costs.

In conjunction with business acquisitions, we record goodwill and other intangible assets and review their fair value for impairment annually as of December 31, or on an interim basis if impairment indicators are present, such as a significant reduction in our market capitalization, significant declines in operating performance or disruptions to the business that could reduce our future cash flow. On November 14, 2014, we recorded $5.6 million of goodwill related to our acquisition of Hyperspring. On September 20, 2017, we recorded $2.8 million of goodwill related to our acquisition of Absolute. On May 11, 2018, we recorded $4.7 million of goodwill related to our acquisition of True North, LLC. On February 15, 2019, we recorded $5.8 million of goodwill related the acquisition of DP Engineering. Following the February 23, 2019 event occurring at DP Engineering’s largest customer and subsequent receipt of the Notice of Suspension on February 28, 2019. The Company determined that the notice of suspension was a triggering event necessitating an interim assessment of a potential impairment of definite-lived intangible assets and goodwill. The Company recognized an  impairment charge of  $5.6 million to write down goodwill on DP Engineering at March 31, 2019. We tested our goodwill at the reporting unit level as of December 31, 2019 and 2018, and there was no indication of impairment. We can provide no assurance that we will not have an impairment charge in future periods as the result of changing conditions. See Note 7 to our consolidated financial statements for information regarding our goodwill.

We capitalize certain computer software development costs and, accordingly, the capitalized costs are reported on our balance sheet.  Capitalization of computer software development costs begins upon the establishment of technological feasibility. Capitalization ceases and amortization of capitalized costs begins when the software product is commercially available for general release to customers.  Amortization of capitalized computer software development costs is included in cost of revenue and is determined using the straight-line method over the remaining estimated economic life of the product, typically three years.  On an annual basis, and more frequently as conditions indicate, we assess the status of our development programs and the recoverability of the unamortized software development costs by estimating the net undiscounted cash flows expected to be generated by the sale of the product.  If the undiscounted cash flows are not sufficient to recover the unamortized software costs, we will write-down these costs to their estimated fair value based on the future undiscounted cash flows.  The excess of any unamortized computer software costs over the related net realizable value is written down and charged to operations.

Write-down of goodwill and capitalized software development costs in the current and future accounting periods may have an impact on the value of the company, results of operations, and price of our common stock.

Our expense levels are based upon our expectations as to future revenue, and we may be unable to adjust spending to compensate for a revenue shortfall. Accordingly, any revenue shortfall would likely have a disproportionate effect on our operating results.

Our revenue was $83.0 million and $92.2 million for the years ended December 31, 2019 and 2018, respectively. We had operating loss of $7.4 million and operating income $1.4 million for the years ended December 31, 2019 and 2018, respectively. Our operating results have fluctuated in the past and may fluctuate significantly in the future as a result of a variety of factors, including purchasing patterns, timing of launch or release of new products and enhancements by us and our competitors, and fluctuating global economic conditions. Because our expense levels are based in part on our expectations as to future revenue and includes certain fixed, pre-negotiated, and prepaid costs, we may be unable to adjust spending in a timely manner to compensate for any revenue shortfall. Because of this lag in response time, such revenue shortfalls likely would have a disproportionate adverse effect on our operating results.

Our backlog is subject to unexpected adjustments and cancellations and may not be a reliable indicator of future revenues or earnings.

Backlog represents products or services that our customers have committed by contract or purchase order to purchase from us and that we have not yet delivered or recognized as revenue. Our backlog as of December 31, 2019 and 2018 was $52.7 million and $70.6 million, respectively. There can be no assurance that the revenues projected in our backlog will be realized or, if realized, will result in profits. Because of project cancellations or changes in project scope and schedule, we cannot predict with certainty whether or when backlog services will be performed, or products delivered.  In addition, even where a project proceeds as scheduled, it is possible that contracted parties may default and fail to pay amounts owed to us. Our poor project performance could increase the cost associated with a project. Thus, delays, suspensions, cancellations, payment defaults, scope changes and poor project execution could materially reduce or eliminate the revenues and profits that we actually realize from projects in backlog.  Reductions in our backlog due to cancellation or modification by a customer or for other reasons may adversely affect, potentially to a material extent, the revenues and earnings we actually receive from contracts and orders included in our backlog.  Many, but not all, of the contracts in our backlog provide for cancellation fees in the event customers cancel projects. These cancellation fees usually provide for reimbursement of our out-of-pocket costs and payments, for work performed prior to cancellation including varying percentages of the profits we would have realized had the contract been completed. We usually have no contractual right to payment for all of the lost revenue or lost profits in the event of cancellation of the contracts and orders reflected in our backlog, however. Projects may remain in our backlog for extended periods of time. If we experience significant project terminations, suspensions, or scope adjustments to contracts reflected in our backlog, our financial condition, results of operations and cash flows may be adversely impacted.

We are currently a party to multiple fixed price contracts and will continue to enter into similar contracts in the future.  If we are not able to estimate accurately or control costs on such projects, the profitability of such projects could be reduced.

A significant portion of our revenue is attributable to contracts entered into on a fixed price basis, which enable us to benefit from cost savings, but expose us to the risk of cost overruns. If our initial estimates are incorrect regarding our costs of performance under these contracts, or if unanticipated circumstances arise, we could experience cost overruns that could result in reduced profits or even net losses on these contracts. Our financial condition is dependent upon our ability to maximize our earnings from our contracts. Lower earnings or losses caused by cost overruns could have a negative impact on our financial results.

Under our time and materials contracts, we are paid for labor at negotiated hourly billing rates and for certain expenses. Under cost-reimbursable contracts, which are subject to a contract ceiling amount, we are reimbursed for allowable costs and are paid a fee, which may be fixed, or performance based.  In both cases, however, if our costs exceed the contract ceiling or are not allowable under the provisions of the contract or applicable regulations, we may not be able to obtain reimbursement for all such costs even under a time and materials or cost-reimbursable contract.

Our inability to successfully estimate and manage costs on each of these contract types may materially and adversely affect our financial condition.

Our simulation business is dependent on product innovation and research and development, which costs are incurred prior to realization of revenue for new products and improvements.

We believe that our success will depend in large part on our ability to maintain and enhance our current product line, develop new products, maintain technological competitiveness and meet an expanding range of customer needs. Our product development activities are aimed at the development and expansion of our library of software modeling tools, the improvement of our display systems and workstation technologies, and the advancement and upgrading of our simulation technology. The life cycles for software modeling tools, graphical user interfaces, and simulation technology are variable and largely determined by competitive pressures and the evolution of software and standards that may be controlled by third parties. Consequently, we will need to continue to make significant investments in research and development to enhance and expand our capabilities in these areas and to maintain our competitive advantage. We cannot control, and we may be unable to predict accurately, the development and evolution of these competitive pressures and external software and standards. We may be unable to monetize our investment in research and development in a timely manner, or at all.  Unexpected or excessive delays in realizing a return on these investments may have a material and adverse effect on our cash position, results of operations, and financial condition.

We use derivative instruments in the normal course of our business which could result in financial losses and exposure to other risks that negatively impact our net income (loss) and business operational efficiency.

We periodically enter into forward foreign exchange contracts to manage market risks associated with the fluctuations in foreign currency exchange rates on foreign-denominated trade receivables. We could recognize financial losses as a result of volatility in the market values of these contracts or if a derivative instrument counterparty fails to perform. We attempt to minimize credit exposure by limiting counterparties to internationally recognized financial institutions, but even these counterparties are subject to default and contract risk and this risk is beyond our control. We also engage in interest rate hedging transactions in the ordinary courses of our business to mitigate the risk that amounts borrowed under our credit facility at floating interest rates may be affected by adverse rate movements.  Depending on future business, market, and interest rate environments, however, these hedging transactions may not be effective to mitigate the financial impact of the risks for which they were put into place sufficiently to justify their expense.  Additionally, we may need or wish to avail ourselves of other forms of hedging or derivative instruments in the future depending on our business needs, and these other types of derivative instruments may be subject to the same and other risks and may not be available to us on a cost-effective or risk-controlled basis, if at all. The unavailability of viable and cost effective risk management, hedging, or similar instruments now or in the future could adversely impact our business operational efficiency or results.

We issue performance, advance payment, and bid bonds in the normal course of our business which could result in financial losses that negatively impact our net income (loss).

We may be required to issue performance, advance payment, and bid bonds to our customers and potential customers as a normal part of our business activities. Our customers may have the ability to draw upon these performance bonds in the event we fail to cure a material breach of the contract within a specified period after receiving notice from the customer regarding the nature of the breach. For the year ended December 31, 2019, we did not issue any advance payment or performance bonds, but we may be required to do so in the future to secure contract awards.

We rely upon our intellectual property rights for the success of our business, but the steps we have taken to protect our intellectual property may be inadequate.

Although we believe that factors such as the technological and creative skills of our personnel, new product developments, frequent product enhancements and reliable product maintenance are important to establishing and maintaining a technological leadership position, our business depends, in part, on the strength of our intellectual property rights in our proprietary technology and information. We rely upon a combination of trade secret, copyright, and trademark law, contractual arrangements and technical means to protect our intellectual property rights. We enter into confidentiality agreements with our employees, consultants, joint venture and alliance partners, customers, and other third parties that are granted access to our proprietary information, and we limit access to and distribution of our proprietary information. There can be no assurance, however, that we have protected or will be able to protect our proprietary technology and information adequately, that the unauthorized disclosure or use of our proprietary information will be prevented, that others have not or will not develop similar technology or information independently, or, to the extent we own any patents in the future, that others have not or will not be able to design around those future patents. Furthermore, the laws of certain countries in which our products are sold do not protect our products and intellectual property rights to the same extent as the laws of the United States. Our inability to protect our intellectual property rights from infringement, dilution, or loss could make it more difficult for us to generate revenue from the offer, licensure, and sale of our products and services and could enable third parties to compete with us more effectively.

The industries in which we operate are highly competitive. This competition may prevent us from raising prices at the same pace at which our costs increase.

Our businesses operate in highly competitive environments with both domestic and foreign competitors, many of whom have substantially greater financial, marketing, and other resources than we do. The principal factors affecting competition in our industries include price, technological proficiency, ease of system configuration and use, product reliability, applications expertise, engineering support, local presence, personal relationships, and the relative financial stability of the competitor. We believe competition in the simulation fields may further intensify in the future as a result of advances in technology, consolidations and strategic alliances among competitors, increased costs required to develop new technology and the increasing importance of software content in systems and products. Because our business has a significant international component, changes in the value of the dollar could adversely affect our ability to compete internationally and could reduce our profitability on international business opportunities that we do win. Any of these competitive factors, or any combination of two or more factors, could make it more difficult for us to bid successfully on new projects, or to complete projects at profit margins that we consider reasonable.  An inability or reduced ability to win new work would have a material adverse impact on our backlog and revenue, and an inability or reduced ability to secure reasonable profit margins on projects awarded to us would have a material adverse impact on our profitability and overall results of operations.

We may encounter difficulties in effectively integrating acquired businesses.

As part of our business strategy, we have acquired, and intend to acquire, companies with compatible or related products. These acquisitions will be accompanied by the risks commonly encountered in acquisitions of companies, which include, among other things:

·	potential exposure to unknown liabilities of the acquired companies;

·	higher than anticipated acquisition costs and expenses;

·	depletion of cash and other company assets and resources in connection with the acquisition or integration;

·	difficulty and expense of integrating the operations and personnel of the companies, especially if the acquired operations are geographically distant or culturally different;

·	potential disruption of our ongoing business and diversion of management time and attention;

·	failure to maximize our financial and strategic position by the successful incorporation of acquired technology;

·	difficulties in adopting and maintaining uniform standards, controls, procedures, and policies;

·	loss of key employees and customers as a result of changes in management; and

·	possible dilution to our shareholders.

We may not be successful in overcoming these risks or any other problems encountered in connection with any of our acquisitions, and if we are not successful, our financial results may be materially impacted. We may be forced to modify our strategic objectives or seek alternative sources of growth.

We are dependent on our management team, and the loss of or the inability to attract and retain one or more key employees or groups could harm our business and prevent us from implementing our business plan in a timely manner.

Our future success is substantially dependent on the continued services and continuing contributions of our executive officers and other key personnel. All of our recently acquired businesses, including Hyperspring, Absolute, True North, and DP Engineering, are particularly dependent on key personnel and their key strategic relationships. The loss of the services of any of our executive officers or other key personnel could harm our business. Our future success also depends on our ability to continue to attract, retain, and motivate highly skilled employees.  If we are not able to attract and retain key skilled personnel, our business could be harmed and our revenue, profitability, and overall results of operations could be materially impacted.

A failure to attract and retain technical personnel could reduce our revenue and our operational effectiveness.

There is a continuing demand for qualified technical personnel in the industries within which we operate.  We believe that our future growth and success will depend upon our ability to attract, train and retain such personnel. Our design and development efforts, particularly within our Performance Improvement Solutions business segment, depend on hiring and retaining qualified technical personnel. An inability to attract or maintain a sufficient number of technical personnel could have a material adverse effect on our contract performance or on our ability to capitalize on market opportunities.

The nuclear power industry, our largest customer group, is associated with a number of hazards which could create significant liabilities.

Our business could expose us to third party claims with respect to product, environmental and other similar liabilities. Although we have sought protection from these potential liabilities through a variety of legal and contractual provisions as well as through liability insurance, the effectiveness of such protections has not been fully tested. Certain of our products and services are used by the nuclear power industry primarily in operator training. Although our contracts for such products and services typically contain provisions designed to protect us from potential liabilities associated with such use, there can be no assurance that we would not be materially adversely affected by claims or actions which may potentially arise due to factors that may be outside of our direct control.

Cyber security incidents could disrupt business operations, result in the loss of critical and confidential information, and adversely impact our reputation and results of operations.

Global cyber security threats can range from uncoordinated individual attempts to gain unauthorized access to our information technology (IT) systems to sophisticated and targeted measures known as advanced persistent threats. While we employ comprehensive measures to prevent, detect, address and mitigate these threats (including access controls, data encryption, vulnerability assessments, continuous monitoring of our IT networks and systems, and maintenance of backup and protective systems), cyber security incidents, depending on their nature and scope, could potentially result in the misappropriation, destruction, corruption or unavailability of critical data and confidential or proprietary information (our own or that of third parties) and the disruption of business operations. The potential consequences of a material cyber security incident include reputational damage, litigation with third parties, civil or regulatory liability for loss of sensitive or protected information such as personal data, incident response costs, diminution in the value of our investment in research, development and engineering, loss of intellectual property, and increased cyber security protection and remediation costs, which in turn could adversely affect our competitiveness and results of operations.

Third-party claims that we allegedly infringe the intellectual property rights of others may be costly to defend or settle and could damage our business.

We cannot be certain that our software and services do not infringe issued patents, copyrights, trademarks or other intellectual property rights of third parties. We may be subject to legal proceedings and claims from time to time, including claims of alleged infringement of intellectual property rights of third parties by us or our licensees concerning their use of our software products and integration technologies and services. Third parties may bring claims of infringement directly against us, or because our software is integrated with our customers’ networks and business processes, as well as other software applications against us, our customers, and our business partners or software suppliers, if the cause of the alleged infringement cannot easily be determined.

Claims of alleged infringement may have a material adverse effect on our business and may discourage potential customers from doing business with us on acceptable terms, if at all, even if the claims are ultimately adjudicated to have no merit, dismissed, or settled. Defending against claims of infringement may be time-consuming and may result in substantial costs and diversion of resources, including our management’s attention to our business. Furthermore, a party making an infringement claim could secure a judgment that requires us to pay substantial damages. A judgment could also include an injunction or other court order that could prevent us from selling our software or require that we re-engineer some or all of our products or modules.  Claims of intellectual property infringement also might require us to enter costly royalty or license agreements. We may be unable to obtain royalty or license agreements on terms acceptable to us or at all. Our business, operating results and financial condition could be harmed significantly if any of these events were to occur, and the price of our common stock could be adversely affected.  In addition, we have agreed, and may agree in the future, to indemnify certain of our customers against claims that our software infringes upon the intellectual property rights of others. Although we carry general liability insurance, our current insurance coverage may not apply to, and likely would not protect us entirely or at all from, liability that may be imposed under any of the types of claims described above.

We are subject to a wide variety of laws and regulations, and these may change.

Our businesses are subject to regulation by U.S. federal and state laws, and foreign laws, government regulations and policies, and other administrative requirements.  Changes to laws or regulations may require us to modify our business objectives if existing practices become more restricted, subject to escalating costs, or prohibited outright.  Particular risks include possible curtailment of our intended business activities or strategies as a result of changed or new regulatory risks arising from federal laws and regulations, such as laws and regulations regarding export of sensitive technologies or technical information or changed interpretations of existing laws and regulations.  Our business and the industries in which we operate are also at times being reviewed or investigated by regulators, which could lead to enforcement actions, fines and penalties, or the assertion of private litigation claims and damages.  Any significant change to laws, regulations, enforcement policies, or liability regimes, or other actions by government bodies having jurisdiction over our business, may have material adverse effects on our business and profitability.  We have only limited ability to foresee, plan for, or influence changes to these requirements.

Provisions in our corporate documents and Delaware law could delay or prevent a change in control of our company, even if that change may be considered beneficial by some stockholders.

The existence of some provisions of our certificate of incorporation and bylaws and Delaware law could discourage, delay or prevent a change in control of our company that a stockholder may consider favorable. These include provisions:

In addition, we are subject to Section 203 of the Delaware General Corporation Law, which may have an anti-takeover effect with respect to transactions not approved in advance by our Board of Directors, including discouraging takeover attempts that might result in a premium over the market price for shares of our common stock.

We believe these provisions protect our stockholders from coercive or otherwise unfair takeover tactics by requiring potential acquirers to negotiate with our Board of Directors and by providing our Board of Directors with more time to assess any acquisition proposal and are not intended to make our company immune from takeovers. These provisions apply even if the offer may be considered beneficial by some stockholders, however, and could delay or prevent an acquisition that our Board of Directors determines is not in the best interests of our company and our stockholders.

Our ability to use our net operating loss (NOL) carryforward and certain other tax attributes may be limited.

Under Section 382 of the Internal Revenue Code of 1986, as amended, if a corporation undergoes an “ownership change,” generally defined as a greater than 50% change (by value) in its equity ownership over a three-year period, the corporation’s ability to use its pre-change NOL carryforwards, and other pre-change tax attributes (such as research tax credits) to offset its post-change income or tax liabilities may be limited. We may experience ownership changes in the future as a result of shifts in our stock ownership. As a result, if we earn net taxable income, our ability to use our pre-change NOL carryforwards to offset U.S. federal taxable income may be subject to limitations, which could potentially result in increased future tax liability to us.

On March 27, 2020, the United States enacted the Coronavirus Aid, Relief and Economic Security Act (CARES Act). The Cares Act is an emergency economic stimulus package that includes spending and tax breaks to strengthen the United States economy and fund a nationwide effort to curtail the effect of COVID-19 While the CARES Act provides sweeping tax changes in response to the COVID-19 pandemic, some of the more significant provisions which are expected to impact the Company’s financial statements include removal of certain limitations on utilization of net operating losses and increasing the ability to deduct interest expense, as well as amending certain provisions of the previously enacted Tax Cuts and Jobs Act. Due to the recent enactment of the CARES Act, the Company is unable to fully quantify the impact, if any, that the CARES Act will have on its financial position, results of operations or cash flows.

None.

The Company is headquartered in Sykesville, Maryland. On November 28, 2017, the Company entered into an office lease agreement to sublease 5,039 rentable square feet of an office building located in Columbia, Maryland. The lease is for an initial six years and six months with two renewal periods of five years each. The Company relocated many of the back-office employees to the new office in the first quarter of 2018 from its Sykesville, Maryland office.

The Company leases a facility in Sykesville, Maryland (37,000 square feet). The lease for this facility expires on June 30, 2023. As of December 31, 2019, the Company subleased approximately 7,472 square feet of the facility with a sublease term ending June 30, 2023. As of December 31, 2019, as part of the Company’s ongoing restructuring plan, management decided to cease-use, and abandoned (21,913 square feet) a portion of this right of use lease.

In addition, the Company leases office space domestically in Huntsville, Alabama; Navarre, Florida; Montrose, Colorado; Fort Worth, Texas, and internationally in Beijing, China. The Company leases these facilities for terms ending between 2020 and 2023. Additionally, as of December 31, 2019, management decided to cease-use, abandoned (9,936 square feet) a portion of the right of use lease in Fort Worth, Texas. See Notes 6 and 18 to our consolidated financial statements for information regarding our restructuring activity and leases.

The Company and its subsidiaries are from time to time involved in ordinary routine litigation incidental to the conduct of its business. The Company and its subsidiaries are not a party to, and its property is not the subject of, any material pending legal proceedings that, in the opinion of management, are likely to have a material adverse effect on the Company’s business, financial condition or results of operations.

On March 29, 2019, a former employee of Absolute Consulting, Inc., filed a putative class action against Absolute and the Company, Joyce v. Absolute Consulting Inc., case number 1:19 cv 00868 RDB, in the United States District Court for the District of Maryland. The lawsuit alleges that plaintiff was not properly compensated for overtime hours that he worked.  In addition, he alleges that there is a class of employees who were not properly compensated for overtime hours worked. Absolute and the Company waived service and, on May 28, 2019, Absolute filed an answer to the complaint and the Company filed a motion to dismiss asserting that the Company was not the plaintiff’s employer and, therefore, not a proper party to the litigation. The court has granted the Company’s motion to dismiss the Company from the case, and the deadline has now passed for the plaintiff to amend the complaint to allege additional facts supporting reinsertion of the Company as a defendant.  Therefore, only Absolute remains as a defendant. No scheduling order has been issued. Absolute intends to vigorously defend this litigation with the Company’s assistance and support. The Company is unable to conclude that the likelihood of an unfavorable outcome in this matter is remote or probable, but Absolute continues to deny the allegations and defend the case. The Company has asserted an indemnification claim related to this litigation against the sellers of Absolute.

Not applicable.

PART II

The Company’s common stock is listed on the NASDAQ Capital Market, where it trades under the symbol “GVP”.  The following table sets forth, for the periods indicated, the high and low sale prices for the Company’s common stock reported by the Nasdaq Stock Exchange for each full quarterly period within the two most recent fiscal years:

On May 31, 2020, there were 20,389,082 shares of common stock outstanding. As of the latest record date, the Company had 740 holders of record. This number does not include GSE, holder of treasury shares, or beneficial owners of our common stock whose shares are held in the names of various dealers, clearing agencies, banks, brokers and other fiduciaries. The Company has never declared or paid a cash dividend on its common stock. The Company currently intends to retain future earnings to finance the growth and development of its business and, therefore, does not anticipate paying any cash dividends in the foreseeable future on its common stock.

The Company believes factors such as quarterly fluctuations in results of operations and announcements of new products by the Company or by its competitors may cause the market price of the common stock to fluctuate, perhaps significantly. In addition, in recent years the stock market in general, the shares of technology companies in particular, have experienced extreme price fluctuations. The Company’s common stock has also experienced a relatively low trading volume, making it further susceptible to extreme price fluctuations. Additionally, market and geopolitical unexpected or unpredictable events may cause adverse market price fluctuations of the common stock. These factors may adversely affect the market price of the Company’s common stock.

This information is not required for smaller reporting companies.

GSE is a leading provider of engineering, expert staffing, and simulation software to clients in the power and process industries. We provide customers with simulation, engineering and plant services that help clients reduce risks associated with operating their plants, increase revenue through improved plant and employee performance, and lower costs through improved operational efficiency. In addition, we provide professional services that systematically help clients fill key vacancies in the organization on a short-term basis, primarily in procedures, engineering, technical support, and training focused on regulatory compliance and certification in the nuclear power industry. Our operations also include interactive computer-based tutorials and simulation software for the refining, chemical, and petrochemical industries.

On February 15, 2019, GSE acquired DP Engineering for $13.5 million (subject to pre- and post-closing working capital adjustments). DP Engineering is a provider of value-added technical engineering solutions and consulting services to nuclear power plants with an emphasis on preparation and implementation of design modifications during plant outages.  For reporting purposes, DP Engineering is included in our Performance segment due to similarities in services provided including engineering solutions and implementation of design modifications to the nuclear power sector.

Approximately one week following our acquisition of DP Engineering, an adverse event occurred at one of DP Engineering’s major customer’s location that affected plant operations. In its initial analysis of the causes of that event, the customer identified a prior plant modification by DP Engineering as meriting further analysis. As is customary in the industry, pursuant to an Engineer of Choice agreement, the customer issued DP Engineering a Notice of Suspension while a root cause analysis was completed. We completed our root cause analysis and presented it to the customer on April 25, 2019. Following the initial analysis, the customer had DP Engineering restart all existing work with the Company, however, the customer also informed DP Engineering that it was suspended from bidding new contracts. This incident adversely impacted the relationship between DP Engineering and its customer. As a result, DP Engineering experienced a significant decline in new orders from this customer and was not able or permitted to bid on new work. The Company determined this represented a triggering event requiring an interim assessment for impairment. As a result of the impairment analysis, we recognized impairment charges of $5.6 million on goodwill assets related to the acquisition of DP Engineering during the quarter ended March 31, 2019. On August 6, 2019, as a follow on to the Notice of Suspension, the Company received a Notice of Termination from this customer, notifying the Company that they were terminating their Engineer of Choice consulting service agreement with DP Engineering. Accordingly, DP Engineering is completing work under any open contract orders in accordance with the terms of the respective contract orders and the consulting services agreement, which shall be deemed to remain in effect for purposes only of completing any such Contract Orders. Upon notice of termination from the customer, management has been assessing the impact of this customer loss on DP Engineering and the likelihood of additional impairment that would be recognized against goodwill and intangible assets.

In December 2019, a novel strain of coronavirus, the COVID-19 virus, was reported in Wuhan, China. On January 30, 2020, the World Health Organization (“WHO”) announced a global health emergency because of the COVID-19 virus. On March 11, 2020, the WHO declared the COVID-19 virus a global pandemic and on March 13, 2020, President Donald J. Trump declared the virus a national emergency in the United States. As of the date of this report, both the health and economic aspects of the COVID-19 virus are highly fluid and the future course of each is uncertain. As such, the ultimate impact the pandemic will have on the Company’s financial condition, liquidity, and future results of operations is highly uncertain and subject to change. Management is actively monitoring the situation on its financial condition, liquidity, operations, operations, industry, supplies, and workforce. The Company expects that financial results for the fiscal year 2020 will be lower as a result of COVID-19. In response, however, our Absolute Consulting business is providing payroll services for more than 100 individuals deployed for a stand-up hospital in Long Beach, California in support of the state’s COVID-19 efforts.

The Company has applied for, and received, funds under the PPP after the period end in the amount of $10.0 serviced by Citizen’s Bank. The application for these funds requires the Company to, in good faith, certify that the current economic uncertainty made the loan request necessary to support the ongoing operations of the Company. This certification further requires the Company to take into account our current business activity and our ability to access other sources of liquidity sufficient to support ongoing operations in a manner that is not significantly detrimental to the business. The receipt of these funds, and the forgiveness of the loan attendant to these funds, is dependent on the Company having initially qualified for the loan and qualifying for the forgiveness of such loan based on our future adherence to the forgiveness criteria.

Results of Operations.

The following table sets forth the results of operations for the periods presented expressed as a percentage of revenue.

Comparison of the Years Ended December 31, 2019 to December 31, 2018.

Revenue.  Revenue for the year ended December 31, 2019, totaled $83.0 million, which was 10.1% less than the $92.2 million of revenue for the year ended December 31, 2018.  The year over year decrease in revenue was attributable to the  Nuclear Industry Training and Consulting segment:

Performance Improvement Solutions revenue increased 6.6% from $43.0 million to $45.8 million for the years ended December 31, 2018 and 2019, respectively. The increase in revenue for the year ended December 31, 2019 compared to the prior year was driven primarily by the acquisition of DP Engineering, which contributed $8.2 million of revenue to the segment. This increase was offset by a decline of $6.1 million in revenue from three major nuclear sumulation projects. We recorded total Performance Improvement Solutions orders of $27.4 million and $42.6 million for the years ended December 31, 2019 and 2018, respectively. The decline in new orders is due to a combination of factors including expected new orders being delayed until the following year, the cyclical nature of our industry and business, and the re-establishment of our business development strategy in the first half of the year

For the year ended December 31, 2019, Nuclear Industry Training and Consulting revenue totaled $37.2 million compared to revenue of $49.3 million during the year ended December 31, 2018. The $(12.1) million decrease was largely due to lower customer demand for staffing due to three major staff augmentation projects in 2018 coming to a close in the beginning of 2019 resulting in lower utilization during the year ended December 31, 2019. Nuclear Industry Training and Consulting orders totaled $31.7 million and $45.4 million for the years ended December 31, 2019 and 2018, respectively. The decline in new orders is due to a combination of factors including customer budget cuts and the cyclical nature of our industry and business.

At December 31, 2019, the Company’s backlog was $52.7 million: $37.2 million for the Performance Improvement Solutions segment, $1.7 million of which was attributable to DP Engineering and $15.5 million for the Nuclear Industry Training and Consulting segment. At December 31, 2018, the Company’s backlog was $70.6 million: $49.4 million for the Performance Improvement Solutions segment and $21.2 million for the Nuclear Industry Training and Consulting segment. Nuclear Industry Training and Consulting segment’s backlog decreased by $5.7 million compared to December 31, 2018. The decrease in backlog is primarily due to 2018 backlog that was converted to revenues during 2019 and has only been partially replaced by new orders. Excluding DP Engineering, Performance Improvement Solutions segment’s backlog decreased by $13.9 million, primarily due to 2018 backlog that was converted to revenues during 2019 and has only been partially replaced by new orders.

Gross profit.  Gross profit was $20.3 million, or 24.5%, for the year ended December 31, 2019 compared to $23.1 million, or 25.1%, for the year ended December 31, 2018.

As a percentage of revenue, the Performance Improvement Solutions segment’s gross profit decreased from $16.5 million, or 38.3% for the year ended December 31, 2018 to $15.2 million, or 33.3%, for the year ended December 31, 2019. The decrease in gross profit percentage for Performance Improvement Solutions during 2019 was primarily driven by DP Engineering, which decreased Performance Improvement Solutions margin by 3.9%. The lower margin at DP Engineering in 2019 was driven by the adverse event at a significant customer.

For the years ended December 31, 2019 and 2018, the Nuclear Industry Training and Consulting segment had gross margin of 13.6% and 13.5%, respectively.  The minor fluctuations in gross profit percentage for Nuclear Industry Training and Consulting for the periods presented were due to normal changes in the mix of projects with different margins.

Selling, general and administrative expenses.  Selling, general and administrative (SG&A) expenses totaled $16.2 million and $17.5 million for the years ended December 31, 2019 and 2018, respectively.  Fluctuations in the components of SG&A spending were as follows:

Corporate charges decreased $(0.6) million in 2019 compared to 2018.  The decrease was primarily due to a $2.1 million  reduction in incentive compensation, and $0.1 million reduction in severance expense which was offset by the acquisition of DP Engineering and True North Consulting, which increased Corporate charges by $1.3 million.

Business development charges increased $0.3 million in 2019 compared to 2018. The minor fluctuations for the periods presented were due to the re-establishment of our business development strategy in the first half of 2019.

Facility O&M expenses increased $0.5 million for the year ended December 31, 2019 compared to the year ended December 31, 2018. The increase in 2019 was mainly due to the acquisition of DP Engineering in February 2019, which resulted in the lease of additional office space in Fort Worth, Texas, Baton Rouge, Louisiana, and Russellville, Arkansas. At the end of 2019, only a portion of the Fort Worth, Texas office space remained.

As a result of the triggering event occurring at DP Engineering, the Company determined the fair value of the contingent consideration recorded in connection with the acquisition of DP Engineering in February 2019 was zero and recorded the reduction as an offset to selling, general and administrative expenses.

Bad debt expense. We recorded bad debt expense of $31,000 and $0.3 million for the years ended December 31, 2019 and December 31, 2018, respectively.  GSE reserved the bad debt allowance based on historical trends of past due accounts, write-offs, and specific identification and review of customer accounts.

Research and development.  Research and development costs consist primarily of software engineering personnel and other related costs.  Research and development costs, net of capitalized software, totaled $0.7 million and $0.9 million for the years ended December 31, 2019 and 2018, respectively.

Restructuring charges.  Restructuring charges totaled $2.5 million and $1.3 million for the years ended December 31, 2019 and 2018, respectively. On December 27, 2017, the Board of GSE approved an international restructuring plan to streamline and optimize the Company’s global operations. Under the restructuring plan, we expect a total international restructuring charge of $2.2 million, excluding any tax impacts and cumulative translation adjustments. We recorded a severance expense of $0.4 million, lease termination fee of $0.7 million and other costs of $0.2 million for the year December 31, 2018. In the twelve months ending December 31, 2019, we recorded $0.1 million relating to international restructuring. We expect to record the remaining restructuring charges in our 2020 Statement of Operations, along with the impact of amounts previously recorded as cumulative translation adjustments in accumulated comprehensive income and certain other tax impacts. The increase in our 2019 restructuring plan charges resulted, inpart from the work suspension of DP Engineering’s largest customer. We recorded $1.6 million in lease abandonment and  termination fees, and $0.7 million related to employee termination benefits.

Loss on impairment. Loss on impairment totaled $5.6 million for the year ended December 31, 2019. There was zero loss on impairment for the year ended December 31, 2018. The increase is due to the $5.6 million impairment charge on the goodwill related to the acquisition of DP Engineering. See Note 7 for additional information regarding the impairment.

Depreciation. Depreciation expense totaled $0.4 million and $0.5 million for the years ended December 31, 2019 and 2018, respectively. The decrease was primarily due to the continued depreciation of our assets above the capital expenditures replacing them.

Amortization of definite-lived intangible assets.  Amortization expense related to definite-lived intangible assets totaled $2.4 million and $1.6 million for the years ended December 31, 2019 and 2018, respectively.  The increase in amortization expense was primarily due to the amortization expense of $0.7 million related to assets held by DP Engineering.

Interest expense.  Interest (expense) income net, totaled $(1.0) million for the year ended December 31, 2019. Interest (expense) income totaled $(0.3) million for year ended December 31, 2018. Through the Company’s term loan facility with Citizen’s Bank, a five-year term loan of $14.3 million in February 2019 was issued to finance the acquisition of DP Engineering, and has recorded interest expense of $1.0 million related to the DP Engineering and True North term loans for the year ended December 31, 2019.

Loss on derivative instruments. The Company periodically enters into forward foreign exchange contracts to manage market risks associated with the fluctuations in foreign currency exchange rates on foreign-denominated trade receivables. The Company had not designated the contracts as hedges and recognized a gain on the change in the estimated fair value of the contracts of $6,000 for the year ended December 31, 2019, and a loss of $(0.2) million for the year ended December 31, 2018.

The foreign currency denominated trade receivables, unbilled receivables, billings in excess of revenue earned and subcontractor accruals that are related to the outstanding foreign exchange contracts are remeasured at the end of each period into the functional currency using the current exchange rate at the end of the period.  The gain or loss resulting from such remeasurement is also included in gain (loss) on derivative instruments net in the consolidated statements of operations. For the years ended December 31, 2019 and 2018, the Company incurred gain of $38,000 and loss of $(0.1) million, respectively, from the remeasurement of such assets and liabilities.

Other income (expense), net.  The Company recognized $2.1 million and $29,000 of other income, net for the years ended December 31, 2019 and 2018, respectively. The Company entered into a settlement agreement pursuant to which the sellers of DP Engineering agreed to release the full escrow account balance to the Company and pay additional funds, in the total amount of $2.0 million. The Company received these funds on December 31, 2019.

Provision for Income Taxes.  The Company files tax returns in the United States federal jurisdiction and in several state and foreign jurisdictions. Because of the net operating loss carryforwards, the Company is subject to U.S. federal and state income tax examinations for tax years 2000, and forward, and is subject to foreign tax examinations by tax authorities for the years 2014 and forward. Open tax years related to state and foreign jurisdictions remain subject to examination but are not considered material to our financial position, results of operations or cash flows.

The Company’s tax expense (benefit) in 2019 was $5.7 million, representing an annual effective tax rate of (90.3)%, and consisted of $0.4 million of current tax provision and $5.3 million of deferred taxes. The Company’s tax expense in 2018 was $1.1 million, representing an annual effective rate of 145.6% and consisted of $0.5 million of current tax provision and $0.6 million of deferred taxes.

The significant change of $4.7 million in deferred tax expense (benefits) was primarily driven the recognition of $6.8 million of valuation allowance against the deferred tax assets related to the U.S. and foreign entities which was partially offset by the generation of a deferred tax asset related to the goodwill impairment in the U.S. entities. See Note 15 for additional information.

The difference between the effective rate and statutory rate primarily resulted from the recognition of a valuation allowance, permanent differences, accruals related to uncertain tax positions for certain foreign tax contingencies and revenue recognition, and return to provision true-ups. See Note 15 for additional information.

Coronavirus Aid, Relief and Economic Security Act (“CARES”)

On March 27, 2020, the United States government enacted the CARES Act. The CARES Act is an emergency economic stimulus package that includes spending and tax breaks to strengthen the United States economy and fund a nationwide effort to curtail the effect of COVID-19. While the CARES Act provides sweeping tax changes in response to the COVID-19 pandemic, some of the more significant provisions which are expected to impact the Company’s financial statements include removal of certain limitations on utilization of net operating losses and increasing the ability to deduct interest expense, as well as amending certain provisions of the previously enacted Tax Cuts and Jobs Act. Due to the recent enactment of the CARES Act, the Company is unable to fully quantify the impact, if any, that the CARES Act will have on its financial position, results of operations or cash flows.

Critical Accounting Policies and Estimates.

In preparing the Company’s consolidated financial statements, management makes several estimates and assumptions that affect the Company’s reported amounts of assets, liabilities, revenues and expenses.  Those accounting estimates that have the most significant impact on the Company’s operating results and place the most significant demands on management’s judgment are discussed below.  For all of these policies, management cautions that future events rarely develop exactly as forecast, and the best estimates may require adjustment. Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”) have been condensed or omitted.

Revenue Recognition.  The Company derives its revenue through three broad revenue streams: 1) System Design and Build (SDB), 2) Software, and 3) Training and Consulting services. We recognize revenue from SDB and software contracts mainly through the Performance Improvement Solutions segment and the training and consulting service contracts through both the Performance Improvement Solutions segment and Nuclear Industry Training and Consulting segment.

The SDB contracts are typically fixed-price and consist of initial design, engineering, assembly and installation of training simulators which include hardware, software, labor, and post contract support (PCS) on the software. We generally have two main performance obligations for an SDB contract: the training simulator build and PCS. The training simulator build performance obligation generally includes hardware, software, and labor. The transaction price under the SDB contracts is allocated to each performance obligation based on its standalone selling price. We recognize the training simulator build revenue over the construction and installation period using the cost-to-cost input method as our performance creates or enhances assets with no alternative use to the Company, and we have an enforceable right to payment for performance completed to date. Cost-to-cost input method best measures the progress toward complete satisfaction of the performance obligation. PCS revenue is recognized ratably over the service period, as PCS is deemed as a stand-ready obligation.

In applying the cost-to-cost input method, we use the actual costs incurred to date relative to the total estimated costs to measure the work progress toward the completion of the performance obligation and recognize revenue accordingly. Estimated contract costs are reviewed and revised periodically as the work progresses, and the cumulative effect of any change in estimates is recognized in the period in which the change is identified. Estimated losses are recognized in the period such losses are identified. Uncertainties inherent in the performance of contracts include labor availability and productivity, material costs, change order scope and pricing, software modification and customer acceptance issues. The reliability of these cost estimates is critical to the Company’s revenue recognition as a significant change in the estimates can cause the Company’s revenue and related margins to change significantly from the amounts estimated in the early stages of the project.

The SDB contracts generally provide a one-year base warranty on the systems. The base warranty will not be accounted for as a separate performance obligation under the contract because it does not provide the customer with a service in addition to the assurance that the completed project complies with agreed-upon specifications. Warranties extended beyond our typical one-year period will be evaluated on a case by case basis to determine if it provides more than just assurance that the product operates as intended, which requires carve-out as a separate performance obligation.

Revenue from the sale of perpetual standalone and term software licenses, which do not require significant modification or customization, is recognized upon its delivery to the customer. Revenue from the sale of cloud based subscription applications is recognized ratably over the subscription period following delivery to the customer. Delivery is considered to have occurred when the customer receives access to the software or the cloud based application.

A software license sale contract with multiple performance obligations typically includes the following elements: license, installation and training services and PCS. The total transaction price of a software license sale contract is typically fixed, and is allocated to the identified performance obligations based on their relative standalone selling prices. Revenue is recognized as the performance obligations are satisfied. Specifically, license revenue is recognized when the software license is delivered to the customer; installation and training revenue is recognized when the installation and training is completed without regard to a detailed evaluation of the point in time criteria due to the short-term nature of the installation and training services (one to two days on average); and PCS revenue is recognized ratably over the service period, as PCS is deemed as a stand-ready obligation.

The contracts within the training and consulting services revenue stream are either time and materials (T&M) based or fixed-price based. Under a typical T&M contract, the Company is compensated based on the number of hours of approved time provided by workers and the bill rates which are fixed per type of work, as well as approved expenses incurred. The customers are billed on a regular basis, such as weekly, biweekly or monthly. In accordance with Accounting Standards Codification (ASC) 606-10-55-18, we elected to apply the “right to invoice” practical expedient, under which we recognize revenue in the amount to which we have the right to invoice. The invoice amount represents the number of hours of approved time worked by each worker multiplied by the bill rate for the type of work, as well as approved expenses incurred. Under a typical fixed-price contract, we recognize the revenue on a Percentage of Completion basis as it relates to GSE Construction Contracts with revenue recognized based on project delivery over time. Revenue from the sale of short-term contracts with a delivery period of one month or less is recognized in the month completed.

For contracts with multiple performance obligations, we allocate the contract price to each performance obligation based on its relative standalone selling price. We generally determine standalone selling prices based on the prices charged to customers.

Impairment of Intangible Assets, including Goodwill. We review goodwill for impairment annually as of December 31 and whenever events or changes in circumstances indicate the carrying value of an asset may not be recoverable. We test goodwill at the reporting unit level. A reporting unit is an operating segment, or one level below an operating segment, as defined by U.S. GAAP.

Accounting Standards Update (ASU) 2011-08, Intangibles — Goodwill and Other (Topic 350): Testing Goodwill for Impairment (ASU 2011-08) permits an entity to first assess qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount as a basis for determining whether it is necessary to perform the two-step goodwill impairment test.  An entity is not required to perform step one of the goodwill impairment test for a reporting unit if it is more likely than not that its fair value is greater than its carrying amount (Step 0).  If the Step 0 test indicates the fair value of a reporting unit is less than its carrying value, then additional impairment testing is required in accordance with the provisions of ASC 350, Intangibles — Goodwill and Other.

If it is determined that it is more likely than not that the fair value of a reporting unit is less than its carrying amount, a two-step impairment test is required. In the first step, we compare the fair value of each reporting unit to its carrying value. If the fair value of the reporting unit exceeds the carrying value of the net assets assigned to that unit, goodwill is not impaired and we are not required to perform further testing. If the carrying value of the net assets assigned to the reporting unit exceeds the fair value of the reporting unit, then we must perform the second step of the impairment test in order to determine the implied fair value of the reporting unit’s goodwill. The implied fair value of goodwill is determined by allocating the fair value of the reporting unit’s assets and liabilities in a manner similar to a purchase price allocation, with any residual fair value allocated to goodwill. If the carrying value of a reporting unit’s goodwill exceeds its implied fair value, then we record an impairment loss equal to the difference.

At December 31, 2019, we performed a quantitative step 1 analysis and have concluded that the estimated fair values of each of our reporting units as of December 31, 2019, exceeded their respective carrying values. At December 31, 2018, we performed a qualitative step 0 goodwill impairment test and concluded that the fair values of each of our reporting units exceeded their respective carrying values.

Determining the fair value of a reporting unit is judgmental in nature and involves the use of significant estimates and assumptions. These estimates and assumptions include revenue growth rates and operating margins used to calculate projected future cash flows, risk-adjusted discount rates, future economic and market conditions and determination of appropriate market comparables. We base our fair value estimates on assumptions we believe to be reasonable but that are unpredictable and inherently uncertain. Actual future results may differ from those estimates. In addition, we make certain judgments and assumptions in allocating shared assets and liabilities to determine the carrying values for each of our reporting units. The timing and frequency of our goodwill impairment tests are based on an ongoing assessment of events and circumstances that would indicate a possible impairment. We will continue to monitor our goodwill and intangible assets for impairment and conduct formal tests when impairment indicators are present.

Capitalization of Computer Software Development Costs.  In accordance with U.S. GAAP, the Company capitalizes computer software development costs incurred after technological feasibility has been established, but prior to the release of the software product for sale to customers.  Once the product is available to be sold, the Company amortizes the costs, on a straight line method, over the estimated useful life of the product, which is typically three years.  As of December 31, 2019 and 2018, the Company has net capitalized software development costs of $0.6 million. On an annual basis, and more frequently as conditions indicate, the Company assesses the recovery of the unamortized software development costs by estimating the net undiscounted cash flows expected to be generated by the sale of the product. If the undiscounted cash flows are not sufficient to recover the unamortized software costs, the Company will write-down the investment to its estimated fair value based on future discounted cash flows.  The excess of any unamortized computer software costs over the related net realizable value is written down and charged to operations.  Significant changes in the sales projections could result in an impairment with respect to the capitalized software that is reported on the Company’s consolidated balance sheets.

Valuation of Contingent Consideration for Business Acquisitions.  Acquisitions may include contingent consideration payments based on future financial measures of an acquired company.  Contingent consideration is required to be recognized at fair value as of the acquisition date.  We estimate the fair value of these liabilities based on financial projections of the acquired companies and estimated probabilities of achievement.  We believe our estimates and assumptions are reasonable; however, there is significant judgment involved. At each reporting date, the contingent consideration obligation will be revalued to estimated fair value and changes in fair value subsequent to the acquisition will be reflected in income or expense in the consolidated statements of operations, and could cause a material impact to our operating results.  Changes in the fair value of contingent consideration obligations may result from changes in discount periods and rates, changes in the timing and amount of revenue and/or earnings estimates and changes in probability assumptions with respect to the likelihood of achieving the various earn-out criteria.

Deferred Income Tax Valuation Allowance. Deferred income taxes arise from temporary differences between the tax basis of assets and liabilities and their reported amounts in the consolidated financial statements.  Management makes a regular assessment of the realizability of the Company’s deferred tax assets.  In making this assessment, management considers whether it is more likely than not that some or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Management considers the scheduled reversal of deferred tax liabilities and projected future taxable income of the Company in making this assessment. A valuation allowance is recorded to reduce the total deferred income tax asset to its realizable value. At December 31, 2019, the Company’s largest deferred tax asset was $5.3 million of net operating losses, excluding the impact of uncertain tax positions. It primarily relates to a U.S. net operating loss carryforward of $4.7 million; $4.6 million of the net operating loss carryforward expires in various amounts between 2023 and 2037; $0.1 million of the net operating loss carryforward is an indefinite lived deferred tax asset. The Company does not believe that it is more likely than not that it will be able to realize its deferred tax assets for its U.S. and foreign deferred tax assets at December 31, 2019, therefore, we have established a $7.6 million valuation allowance for our net deferred tax assets.

Liquidity and Capital Resources.

As of December 31, 2019, GSE had cash and cash equivalents of $11.7 million compared to $12.1 million at December 31, 2018.

Cash provided by (used in) operating activities.  For the years ended December 31, 2019 and 2018, net cash (used in) provided by operating activities totaled $4.0 million and $(3.5) million, respectively.  The year over year increase in cash provided by operating activities was largely driven by:

●	A $12.3 million increase in net inflows from changes in net working capital primarily due to significantly increased billing in 2019 and a lower accounts receivable balance as of December 31, 2019 compared to prior year.

●	A $0.3 million increase in operating expenses (excluding non-cash operating expenses) mainly driven by higher administrative cost due to recent acquisitions.

●	The increase was partially offset by a $2.8 million decrease in gross profit, primarily driven by decreased gross margin from DP Engineering and decreased revenues from the NITC business segment.

Net cash provided by (used in) financing activities.  For the years ended December 31, 2019 and 2018, net cash provided by (used in) financing activities totaled $9.7 million and $6.5 million, respectively. The increase in the cash provided from financing activities in 2019 is largely driven by the proceeds from issuance of a term loan of $14.3 million, net of discount and issuance costs, a decrease of $0.1 million in the Company’s withholding RSUs in order to pay employees’ payroll withholding taxes on vested RSUs, partially offset by a $4.3  million due to repayment of long-term debt.

Debt

Citizen’s Bank

The Company entered into a three-year, $5.0 million revolving line of credit facility (RLOC) with Citizen’s Bank on December 29, 2016, to fund general working capital needs, including acquisitions. The Company is not required to maintain a restricted cash collateral account at Citizen’s Bank for outstanding letters of credit and working capital advances. The credit facility agreement is subject to standard financial covenants and reporting requirements.

On May 11, 2018, the Company entered into an Amended and Restated Credit and Security Agreement (the Credit Agreement) with the Bank, amending and restating the Company’s existing Credit and Security Agreement with the Bank, which included a $5.0 million asset-based revolving credit facility between the Company and the Bank, to now include (a) a $5.0 million revolving credit facility not subject to a borrowing base, including a letter of credit sub-facility, and (b) a $25.0 million delayed draw term loan facility available to be drawn upon for up to 18 months and to finance certain permitted acquisitions by the Company. The credit facilities mature in five years and bear interest at LIBOR plus a margin that varies depending on the overall leverage ratio of the Company and its subsidiaries. Revolving loans are interest-only with principal due at maturity, while term loans require monthly payments of principal and interest based on an amortization schedule. The Company drew down $10.3 million on the delayed draw term loan facility for the acquisition of True North, of which $0.5 million was repaid to the bank on the same day.

Attendant to the Company’s acquisition of DP Engineering, the Company and the Bank entered into a Third Amendment and Reaffirmation Agreement and a Fourth Amendment and Reaffirmation Agreement on February 15, 2019 and March 20, 2019, respectively. On June 28, 2019, the Company and the Bank entered into a Fifth Amendment and Reaffirmation Agreement, which changed the fixed charge coverage ratio from 1.25, to four different ratios ranging from 1.05 to 1.25 among different time periods and changed the leverage ratio to: (i) 2.75 to 1.00 for the periods ending on June 30, 2019, September 30, 2019, December 31, 2019 and March 31, 2020; (ii) 2.50 to 1.00 for the periods ending June 30, 2020 and September 30, 2020; (iii) 2.25 to 1.00 for the periods ending December 31st, March 31st, June 30th and September 30th thereafter. The Company drew down $14.3 on the delayed draw term loan facility million to finance the acquisition of DP Engineering.

On January 8, 2020, the Company entered into an Sixth Amendment and Reaffirmation Agreement. The amendments contained therein relaxed the fixed charge coverage ratio and leverage ratio, as well as delayed testing of both financial covenants, but added a covenant requiring that the Company maintain a consolidated, Adjusted EBITDA target of $4.25 million to be tested as of December 31, 2019, March 31, 2020, and June 30, 2020. Further, the Company agreed to maintain a minimum USA Liquidity of at least $5.0 million in the aggregate, to be tested bi-weekly as of the fifteenth (15th) and the last day of each month beginning on December 31, 2019 and thereafter until June 30, 2020. In addition to the revised covenants, GSE was required to pay a $20,000 bank fee and additional principal payments as follows: January 6, 2020 of $3.0 million, March 31, 2020 of $1.0 million, and June 30, 2020 of $1.0 million.

On April 17, 2020, the Company entered into a Seventh Amendment and Reaffirmation Agreement. The Company shall maintain a minimum fixed charge coverage ratio of 1.25 to 1.00, to be tested quarterly as of the last day of each quarter beginning with the quarter ending June 30, 2021, on rolling four-quarter basis. The Company shall not exceed a maximum leverage ratio, to be tested quarterly as of the last day of each quarter beginning with the quarter ending September 30, 2020, on a rolling four-quarter basis as follows:  (i)  3.00 to 1.00 for the period ending on September 30, 2020, (ii) 2.50 to 1.00 for the period ending on December 31, 2020, and (iii) 2.25 to 1.00 for the period ending on March 31, 2021 and for the periods ending on each December 31, March 31, June 30 and September 30 thereafter.  In addition to the revised covenants, GSE was required to pay a $50,000 bank fee and additional principal payments as follows: April 17, 2020 $0.75 million, and June 30, 2020 $0.5 million. The Company has the option to refinance the term loan facility if certain requirements are met, including meeting certain covenant thresholds.

Non-compliance with one or more of the covenants and restrictions after any applicable grace period could result in the obligations under the Credit Agreement becoming immediately due and payable and termination of the credit facilities. In addition to non-compliance with covenants and restrictions, the Credit Agreement also contains other customary events of default. If an event of default under the Credit Agreement occurs and is continuing, then the Bank may declare the obligations under the Credit Agreement to be immediately due and payable and may terminate the credit facilities.

RLOC

We intend to continue using the RLOC for short-term working capital needs and the issuance of letters of credit in connection with business operations. Letter of credit issuance fees range between 1.25% and 2% depending on the Company’s overall leverage ratio, and the Company pays an unused RLOC fee quarterly based on the average daily unused balance.

At December 31, 2019, there were no outstanding borrowings under the RLOC and four letters of credit totaling $1.2 million were outstanding. The amount available at December 31, 2019, after consideration of the borrowing base, letters of credit and working capital advances was approximately $3.8 million. At December 31, 2018, there were no outstanding borrowings on the RLOC and 5 letters of credit totaling $2.3 million.  See Note 13 for additional information.

Going Concern Consideration

We are in compliance with the amended financial covenants contained in our debt agreement with Citizen’s Bank at December 31, 2019 and in April 2020 entered into an amendment, which removes certain covenants through March 31, 2021.

We are experiencing, as a result of the COVID-19 pandemic a negative impact on our financial position and results of operations. We have, and are likely to continue to experience loss or delayed orders, disruption of business as a result of worker illness or mandated shutdowns, and this could impact our ability to maintain compliance with loan covenants, our ability to  refinance existing indebtedness, and access to new capital. As part of our certification for the PPP we indicated without these funds, the risk of employee terminations, layoffs and other drastic cost reductions exists. While the PPP funds will provide sufficient liquidity for the Company these funds will not prevent us from potentially not meeting the minimum EBITDA covenants and potentially not meeting the leverage ratio covenants in the future. Including the proceeds from our PPP loan, we believe we have sufficient cash to meet our operating requirement needs for at least the next twelve months, however since some of our loan covenants are related to operating performance, and our operating performance is being significantly impacted by COVID-19 we believe it is probable that we will not meet our debt covenants requirement during all of 2020. If our debt becomes due and payable as a result of a covenant violation, it calls into question our ability to continue as a going concern.

Liquidity

At December 31, 2019, the Company’s cash and cash equivalents totaled $11.7 million.

As discussed above, the Company has a $5.0 million RLOC with Citizen’s Bank to fund general working capital needs, including acquisitions. At December 31, 2019, the amount available under this RLOC, after consideration of the borrowing base, letters of credit and working capital advances was approximately $3.8 million. This credit facility provides the Company with additional flexibility to pursue its strategic initiatives and continue to expand the business.

On January 6, 2020, the Company entered into an Sixth Amendment and Reaffirmation Agreement. In addition to the revised covenants, GSE was required to pay a $20,000 bank fee and additional principal payments as follows: January 6, 2020 of $3.0 million, March 31, 2020 of $1.0 million, and June 30, 2020 of $1.0 million.

On April 10, 2020, the Company entered into the Seventh Amendment and Reaffirmation Agreement. In addition to the revised covenants, GSE was required to pay a $50,000 bank fee and additional principal payments as follows:  April 10, 2020 of $0.75 million, and June 30, 2020 of $0.5 million.

The Company entered 2020 with $52.7 million of backlog; $44.3 million of which is expected to convert to revenue in 2020.  The Company anticipates that its normal operations will generate sufficient liquidity and working capital to fund its consolidated operations during the next twelve months without additional financing. However, any additional deterioration in the business would result in non-compliance with bank covenants.

The Company has applied for, and received, funds under the PPP after the period end in the amount of $10.0 million serviced by Citizen’s Bank. The application for these funds requires the Company to, in good faith, certify that the current economic uncertainty made the loan request necessary to support the ongoing operations of the Company. This certification further requires the Company to take into account our current business activity and our ability to access other sources of liquidity sufficient to support ongoing operations in a manner that is not significantly detrimental to the business. The receipt of these funds, and the forgiveness of the loan attendant to these funds, is dependent on the Company having initially qualified for the loan and qualifying for the forgiveness of such loan based on our future adherence to the forgiveness criteria.

Foreign Exchange.

A portion of the Company’s international sales revenue has been and may be received in a currency other than the currency in which the expenses relating to such revenue are paid. Accordingly, the Company periodically enters into forward foreign exchange contracts to manage the market risks associated with the fluctuations in foreign currency exchange rates. As of December 31, 2019, the Company did not hold a position in forward foreign exchange contracts.

Off-balance Sheet Obligations.

The Company has no off-balance sheet obligations as of December 31, 2019, except for its operating lease commitments and outstanding letters of credit and surety bonds.

Other Matters.

Management believes inflation has not had a material impact on the Company’s operations.

References to “EBITDA” mean net (loss) income, before taking into account interest expense (income), provision for income taxes, depreciation and amortization. References to Adjusted EBITDA exclude the impact of loss on impairment, gain from the change in fair value of contingent consideration, restructuring charges, stock-based compensation expense, impact of the change in fair value of derivative instruments, acquisition-related expense, acquisition-related legal settlement and bad debt expense due to customer bankruptcy. EBITDA and Adjusted EBITDA are not measures of financial performance under generally accepted accounting principles (GAAP). Management believes EBITDA and Adjusted EBITDA, in addition to operating profit, net income and other GAAP measures, are useful to investors to evaluate the Company’s results because it excludes certain items that are not directly related to the Company’s core operating performance that may, or could, have a disproportionate positive or negative impact on our results for any particular period. Investors should recognize that EBITDA and Adjusted EBITDA might not be comparable to similarly-titled measures of other companies. This measure should be considered in addition to, and not as a substitute for or superior to, any measure of performance prepared in accordance with GAAP. A reconciliation of non-GAAP EBITDA and Adjusted EBITDA to the most directly comparable GAAP measure in accordance with SEC Regulation G follows:

References to Adjusted net income exclude the impact of gain from the change in fair value of contingent consideration, loss on impairment, restructuring charges, stock-based compensation expense, impact of the change in fair value of derivative instruments, acquisition-related expense, acquisition-related legal settlement, amortization of intangible assets related to acquisitions, bad debt expense due to customer bankruptcy, release of valuation allowance, and income tax expense impact of adjustments. Adjusted Net Income and adjusted earnings per share (adjusted EPS) are not measures of financial performance under generally accepted accounting principles (GAAP). Management believes adjusted net income and adjusted EPS, in addition to other GAAP measures, are useful to investors to evaluate the Company’s results because they exclude certain items that are not directly related to the Company’s core operating performance and non-cash items that may, or could, have a disproportionate positive or negative impact on our results for any particular period.  These measures should be considered in addition to, and not as a substitute for or superior to, any measure of performance prepared in accordance with GAAP. A reconciliation of non-GAAP adjusted net income and adjusted EPS to GAAP net income, the most directly comparable GAAP financial measure, is as follows:

Not required of a smaller reporting company.

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

Report of Independent Registered Public Accounting Firm

Shareholders and Board of Directors

GSE Systems, Inc.

Sykesville, Maryland

Opinion on the Consolidated Financial Statements

We have audited the accompanying consolidated balance sheets of GSE Systems, Inc. (the “Company”) as of December 31, 2019 and 2018, the related consolidated statements of operations and comprehensive loss, stockholders’ equity, and cash flows for each of the two years in the period ended December 31, 2019, and the related notes (collectively referred to as the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company at December 31, 2019 and 2018, and the results of its operations and its cash flows for each of the two years in the period ended December 31, 2019, in conformity with accounting principles generally accepted in the United States of America.

Going Concern Uncertainty

The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 1 to the consolidated financial statements, the Company has suffered recurring losses from operations and has negative working capital as of December 31, 2019. In addition, the risk of future covenant defaults under the Company’s credit agreement raises substantial doubt about the Company’s ability to continue as a going concern. Management’s plans in regard to these matters are also described in Note 1. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.

Basis for Opinion

These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s consolidated financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (“PCAOB”) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud.  The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion.

Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that our audits provide a reasonable basis for our opinion.

We have served as the Company’s auditor since 2014.

McLean, Virginia

June 11, 2020

PART I - FINANCIAL INFORMATION

Item 1.  Financial Statements

GSE SYSTEMS, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(in thousands, except share data)

The accompanying notes are an integral part of these consolidated financial statements.

GSE SYSTEMS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except per share data)

The accompanying notes are an integral part of these consolidated financial statements.

GSE SYSTEMS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

(in thousands)

The accompanying notes are an integral part of these consolidated financial statements.

GSE SYSTEMS, INC, AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY

(in thousands)

The accompanying notes are an integral part of these consolidated financial statements.

GSE SYSTEMS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

The accompanying notes are an integral part of these consolidated financial statements.

GSE SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

December 31, 2019 and 2018

1.  Summary of Significant Accounting Policies

Principles of consolidation

GSE Systems, Inc. is a leading provider of professional and technical engineering, staffing services, and simulation software to clients in the power and process industries. References in this report to “GSE,” the “Company,” “we” and “our” are to GSE Systems and its subsidiaries, collectively. All intercompany balances and transactions have been eliminated in consolidation.

Accounting estimates

The preparation of the consolidated financial statements in conformity with generally accepted accounting principles in the United States of America (“U.S. GAAP”) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenue and expenses during the reporting period. On an ongoing basis, the Company evaluates the estimates used, including, but not limited to those related to revenue recognition on long-term contracts, allowance for doubtful accounts, product warranties, valuation of goodwill and intangible assets acquired, impairment of long-lived assets, valuation of contingent consideration issued in business acquisitions, valuation of stock based compensation awards and the recoverability of deferred tax assets. Actual results could differ from these estimates.

Business combinations

Business combinations are accounted for in accordance with the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”), ASC 805, Business Combinations, using the acquisition method. Under the acquisition method, the identifiable assets acquired, liabilities assumed and any non-controlling interest in the acquiree are recognized at fair value on the acquisition date, which is the date on which control is transferred to the Company. Any excess purchase price is recorded as goodwill. Transaction costs associated with business combinations are expensed as incurred.

Revenues and the results of operations of the acquired business are included in the accompanying consolidated statements of operations commencing on the date of acquisition.

Acquisitions may include contingent consideration payments based on future financial measures of an acquired company. Under ASC 805, contingent consideration is required to be recognized at fair value as of the acquisition date. We estimate the fair value of these liabilities based on financial projections of the acquired companies and estimated probabilities of achievement. At each reporting date, the contingent consideration obligation is revalued to estimated fair value, and changes in fair value subsequent to the acquisition are reflected in income or expense in the consolidated statements of operations, and could cause a material impact to our operating results. Changes in the fair value of contingent consideration obligations may result from changes in discount periods and rates, changes in the timing and amount of revenue and/or earnings estimates, and changes in probability assumptions with respect to the likelihood of achieving the various earn-out criteria.

Revenue recognition

The Company derives its revenue through three broad revenue streams: 1) System Design and Build (SDB), 2) Software, and 3) Training and Consulting services. We recognize revenue from SDB and software contracts mainly through the Performance Improvement Solutions segment and the training and consulting service contracts through both the Performance Improvement Solutions segment and Nuclear Industry Training and Consulting segment.

The SDB contracts are typically fixed-price and consist of initial design, engineering, assembly and installation of training simulators which include hardware, software, labor, and post contract support (PCS) on the software. We generally have two main performance obligations for an SDB contract: the training simulator build and PCS. The training simulator build performance obligation generally includes hardware, software, and labor. The transaction price under the SDB contracts is allocated to each performance obligation based on its standalone selling price. We recognize the training simulator build revenue over the construction and installation period using the cost-to-cost input method as our performance creates or enhances assets with no alternative use to the Company, and we have an enforceable right to payment for performance completed to date. Cost-to-cost input method best measures the progress toward complete satisfaction of the performance obligation. PCS revenue is recognized ratably over the service period, as PCS is deemed a stand-ready obligation.

In applying the cost-to-cost input method, we use the actual costs incurred to date relative to the total estimated costs to measure the work progress toward the completion of the performance obligation and recognize revenue accordingly. Estimated contract costs are reviewed and revised periodically as the work progresses, and the cumulative effect of any change in estimates is recognized in the period in which the change is identified. Estimated losses are recognized in the period such losses are identified. Uncertainties inherent in the performance of contracts include labor availability and productivity, material costs, change order scope and pricing, software modification and customer acceptance issues. The reliability of these cost estimates is critical to the Company’s revenue recognition as a significant change in the estimates can cause the Company’s revenue and related margins to change significantly from the amounts estimated in the early stages of the project.

The SDB contracts generally provide a one-year base warranty on the systems. The base warranty will not be accounted for as a separate performance obligation under the contract because it does not provide the customer with a service in addition to the assurance that the completed project complies with agreed-upon specifications. Warranties extended beyond our typical one-year period will be evaluated on a case by case basis to determine if it provides more than just assurance that the product operates as intended, which requires carve-out as a separate performance obligation.

Revenue from the sale of perpetual standalone and term software licenses, which do not require significant modification or customization, is recognized upon its delivery to the customer. Revenue from the sale of cloud based subscription applications is recognized ratably over the subscription period following delivery to the customer. Delivery is considered to have occurred when the customer receives access to the software or the cloud based application.

A software license sale contract with multiple deliverables typically includes the following elements: license, installation and training services, and PCS. The total transaction price of a software license sale contract is typically fixed, and is allocated to the identified performance obligations based on their relative standalone selling prices. Revenue is recognized as the performance obligations are satisfied. Specifically, license revenue is recognized when the software license is delivered to the customer; installation and training revenue is recognized when the installation and training is completed without regard to a detailed evaluation of the point in time criteria due to the short-term nature of the installation and training services (one to two days on average); and PCS revenue is recognized ratably over the service period, as PCS is deemed as a stand-ready obligation.

The contracts within the training and consulting services revenue stream are either time and materials (T&M) based or fixed-price based. Under a typical T&M contract, the Company is compensated based on the number of hours of approved time provided by temporary workers and the bill rates which are fixed by type of work, as well as approved expenses incurred. The customers are billed on a regular basis, such as weekly, biweekly or monthly. In accordance with ASC 606-10-55-18, Revenue from contracts with customers, we elected to apply the “right to invoice” practical expedient, under which we recognize revenue in the amount to which we have the right to invoice. The invoice amount represents the number of hours of approved time worked by each temporary worker multiplied by the bill rate for the type of work, as well as approved expenses incurred. Under a typical fixed-price contract, we recognize the revenue on a Percentage of Completion basis as it relates to GSE Construction Contracts with revenue recognized based on project delivery over time. Revenue from the sale of short-term contracts with a delivery period of one month or less is recognized in the month completed.

For contracts with multiple performance obligations, we allocate the contract price to each performance obligation based on its relative standalone selling price. We generally determine standalone selling prices based on the prices charged to customers.

Cash and cash equivalents

Cash and cash equivalents represent cash and highly liquid investments including money market accounts with maturities of three months or less at the date of purchase.

Contract receivables, net

Contract receivables include recoverable costs and accrued profit not billed which represents revenue recognized in excess of amounts billed. Billings in excess of costs and estimated earnings on uncompleted contracts in the accompanying consolidated balance sheets represent advanced billings to clients on contracts in advance of work performed. Generally, such amounts will be earned and recognized over the next twelve months.

Billed receivables are recorded at invoiced amounts. The allowance for doubtful accounts is based on historical trends of past due accounts, write-offs, specific identification and review of customer accounts.

Impairment of long-lived assets

Long-lived assets, such as equipment, purchased software, capitalized software development costs, and intangible assets subject to amortization, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to estimated undiscounted future cash flows expected to be generated by the asset. If the carrying amount of an asset exceeds its estimated undiscounted future cash flows, an impairment charge is recognized at the amount by which the carrying amount of the asset exceeds its fair value. Assets to be disposed of would be separately presented in the consolidated balance sheets and reported at the lower of the carrying amount or fair value less costs to sell, and would no longer be depreciated.

Development expenditures

Development expenditures incurred to meet customer specifications under contracts are charged to contract costs. Company sponsored development expenditures are either charged to operations as incurred and are included in research and development expenses or are capitalized as software development costs. The amounts incurred for Company sponsored development activities relating to the development of new products and services or the improvement of existing products and services, were approximately $1.1 million and $1.3 million for the years ended December 31, 2019 and 2018, respectively. Of this amount, the Company capitalized approximately $0.4 million for the years ended December 31, 2019 and 2018.

Equipment, software and leasehold improvements, net

Equipment and purchased software are recorded at cost and depreciated using the straight-line method with estimated useful lives ranging from three years to ten years. Leasehold improvements are amortized over the life of the lease or the estimated useful life, whichever is shorter, using the straight-line method. Upon sale or retirement, the cost and related depreciation are eliminated from the respective accounts and any resulting gain or loss is included in operations. Maintenance and repairs are charged to expense as incurred.

Software development costs

Certain computer software development costs, including direct labor cost, are capitalized in the accompanying consolidated balance sheets. Capitalization of computer software development costs begins upon the establishment of technological feasibility. Capitalization ceases and amortization of capitalized costs begins when the software product is commercially available for general release to customers. Amortization of capitalized computer software development costs is included in cost of revenue and is determined using the straight-line method over the remaining estimated economic life of the product, typically three years. On an annual basis, or more frequently as conditions indicate, the Company assesses the recovery of the unamortized software development costs by estimating the net undiscounted cash flows expected to be generated by the sale of the product. If the undiscounted cash flows are not sufficient to recover the unamortized software costs the Company will write-down the carrying amount of such asset to its estimated fair value based on the future discounted cash flows. The excess of any unamortized computer software costs over the related fair value is written down and charged to operations.

Goodwill and intangible assets

The Company’s intangible assets include amounts recognized in connection with business acquisitions, including customer relationships, trade names, non-compete agreements and alliance agreements. Intangible assets are initially valued at fair value using generally accepted valuation methods appropriate for the type of intangible asset. Amortization is recognized on a straight-line basis over the estimated useful life of the intangible assets, except for contract backlog and contractual customer relations, which are recognized in proportion to the related project revenue streams. Intangible assets with definite lives are reviewed for impairment if indicators of impairment arise. The Company does not have any intangible assets with indefinite useful lives.

Goodwill represents the excess of costs over fair value of assets of businesses acquired. The Company reviews goodwill for impairment annually as of December 31 and whenever events or changes in circumstances indicate the carrying value of goodwill may not be recoverable in accordance with Accounting Standards Update (“ASU”) 2011-08, Intangibles - Goodwill and Other (Topic 350): Testing Goodwill for Impairment. The Company tests goodwill at the reporting unit level.

ASU 2011-08 permits an entity to first assess qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount as a basis for determining whether it is necessary to perform the two-step goodwill impairment test. Under ASU 2011-08, an entity is not required to perform step one of the goodwill impairment test for a reporting unit if it is more likely than not that its fair value is greater than its carrying amount. 

On February 15, 2019, we acquired DP Engineering (as described in Note 4) and preliminarily recorded goodwill and identified intangible assets as part of the acquisition. On February 23, 2019, an unexpected event occurred at one of DP Engineering’s significant customers and all pending work for that customer was suspended pending a root cause analysis on February 28, 2019. On May 10, 2019, the Company determined that a material impairment had occurred, requiring an assessment for impairment to be completed related to $5.8 million of goodwill recorded in the acquisition. See Note 7.

For the annual goodwill impairment test as of December 31, 2019, the Company performed a quantitative step 1 goodwill impairment analysis and have concluded that the estimated fair values of each of the reporting units exceeded their respective carrying values. No further goodwill impairment was recorded during 2019. At December 31, 2018, we performed a qualitative step 0 goodwill impairment test and concluded that the fair values of each of our reporting units exceeded their respective carrying values.

Foreign currency translation

The United States Dollar (“USD”) is the functional currency of GSE and our subsidiaries operating in the United States. Our subsidiaries’ financial statements are maintained in their functional currencies. The functional currency of each of our foreign subsidiaries is the currency of the economic environment in which the subsidiary primarily does business. Our foreign subsidiaries’ financial statements are translated into USD using the exchange rates applicable to the dates of the financial statements. Assets and liabilities are translated into USD using the period-end spot foreign exchange rates. Income and expenses are translated at the average exchange rate for the year. Equity accounts are translated at historical exchange rates. The effects of these translation adjustments are cumulative translation adjustments, which are reported as a component of accumulated other comprehensive income (loss) included in the consolidated statements of changes in stockholders’ equity.

For any business transaction that is in a currency different from the entity’s functional currency, we record a gain or loss based on the difference between the exchange rate at the transaction date and the exchange rate at the transaction settlement date (or rate at period end, if unsettled) to foreign currency realized gain (loss) account, net gain (loss) on derivative instruments in the consolidated statements of operations.

Income taxes

Income taxes are provided under the asset and liability method. Under this method, deferred income taxes are determined based on the differences between the consolidated financial statements and tax bases of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. Valuation allowances are established, when necessary, to reduce deferred tax assets to the amounts expected to be realized. A provision is made for the Company’s current liability for federal, state and foreign income taxes and the change in the Company’s deferred income tax assets and liabilities.

We establish accruals for uncertain tax positions taken or expected to be taken in a tax return when it is not more likely than not (i.e., a likelihood of more than fifty percent) that the position would be sustained upon examination by tax authorities that have full knowledge of all relevant information. A recognized tax position is then measured at the largest amount of benefit that is greater than fifty percent likely of being realized upon ultimate settlement. Favorable or unfavorable adjustment of the accrual for any particular issue would be recognized as an increase or decrease to income tax expense in the period of a change in facts and circumstances. Interest and penalties related to income taxes are accounted for as income tax expense.

Stock-based compensation

Share-based compensation expense is based on the grant-date fair value estimated in accordance with the provisions of ASC 718, Compensation-Stock Compensation. Compensation expense related to share based awards is recognized on a pro rata straight-line basis based on the value of share awards that are scheduled to vest during the requisite service period.

Significant customers and concentration of credit risk

For the year ended December 31, 2019, we have a concentration of revenue from one individual customer, which accounted for 27.8% of our consolidated revenue. For the year ended December 31, 2018, we have a concentration of revenue from two customers, which accounted for 14.3% and 26.9% of our consolidated revenue, respectively. These customers are part of both Performance and NITC segments. No other individual customer accounted for more than 10% of our consolidated revenue in 2019 or 2018.

As of December 31, 2019, we have two customers that accounted for 10.3% and 12.6% of the Company’s consolidated contract receivables. As of December 31, 2018, the Company had one customer that accounted for 16.8% of the Company’s consolidated contract receivables. No other individual customer accounted for more than 10% of our consolidated revenue in 2019 or 2018.

Fair values of financial instruments

The carrying amounts of current assets and current liabilities reported in the consolidated balance sheets approximate fair value due to their short term duration.

Derivative instruments

The Company utilizes forward foreign currency exchange contracts to manage market risks associated with the fluctuations in foreign currency exchange rates. It is the Company’s policy to use such derivative financial instruments to protect against market risk arising in the normal course of business in order to reduce the impact of these exposures. The Company minimizes credit exposure by limiting counterparties to nationally recognized financial institutions.

Earnings per share

Basic loss per share is computed by dividing our net loss available to common shareholders by the weighted average number of shares of common stock outstanding during the period. Diluted loss per share is computed by dividing our net loss available to common shareholders by the diluted weighted average number of shares of common stock during the period. Since we experienced a net loss for all periods presented, basic and diluted net loss per share are the same. As such, diluted loss per share for the years ended December 31, 2019 and 2018 excludes the impact of potentially dilutive common shares since those shares would have an anti-dilutive effect on loss per share.

The number of common shares and common share equivalents used in the determination of basic and diluted (loss) earnings per share were as follows:

Conversion of certain outstanding stock options was not assumed for the years ended December 31, 2019 and 2018 because the impact would have been anti-dilutive.

Going Concern Consideration

We are in compliance with the amended financial covenants contained in our debt agreement with Citizen’s Bank at December 31, 2019 and in April 2020 entered into an amendment, which removes certain covenants through March 31, 2021.

We are experiencing, as a result of the COVID-19 pandemic a negative impact on our financial position and results of operations. We have, and are likely to continue to experience loss or delayed orders, disruption of business as a result of worker illness or mandated shutdowns, and this could impact our ability to maintain compliance with loan covenants, our ability to  refinance existing indebtedness, and access to new capital. As part of our certification for the Paycheck Protection Program ("PPP") we indicated without these funds, the risk of employee terminations, layoffs and other drastic cost reductions exists. While the PPP funds will provide sufficient liquidity for the Company these funds will not prevent us from potentially not meeting the minimum EBITDA covenants and potentially not meeting the leverage ratio covenants in the future. Including the proceeds from our PPP loan, we believe we have sufficient cash to meet our operating requirement needs for at least the next twelve months, however since some of our loan covenants are related to operating performance, and our operating performance is being significantly impacted by COVID-19 we believe it is probable we will not meet our debt covenants requirement during all of 2020. If our debt becomes due and payable as a result of a covenant violation, it calls into question our ability to continue as a going concern.

2.  Recent Accounting Pronouncements

Accounting pronouncements recently adopted

In February 2016, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2016-02, Leases (Topic 842), a new standard related to leases to increase transparency and comparability among organizations by requiring the recognition of right-of-use (“ROU”) assets and lease liabilities on the balance sheet. Most prominent among the changes in the standard is the recognition of ROU assets and lease liabilities by lessees for those leases classified as operating leases under current U.S. GAAP. Under the standard, disclosures are required to meet the objective of enabling users of financial statements to assess the amount, timing, and uncertainty of cash flows arising from leases. The new standard is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. A modified retrospective transition approach is required for lessees with capital and operating leases existing at, or entered into after, the beginning of the earliest applicable period presented in the consolidated financial statements, with certain practical expedients available.

The Company adopted the new standard using the modified retrospective approach effective on January 1, 2019. The Company’s adoption included lease codification improvements that were issued by the FASB through June 2019.

The FASB made available several practical expedients in adopting the new lease accounting guidance. The Company elected the package of practical expedients permitted under the transition guidance within the amended guidance, which among other things, allowed registrants to carry forward historical lease classification. The Company elected the practical expedient that allows the combination of both lease and non-lease components as a single component and account for it as a lease for all classes of underlying assets. The Company elected not to apply the new guidance to short term leases with an initial term of twelve months or less. The Company recognizes those lease payments in the consolidated statements of operations on a straight-line basis over the lease term. The Company elected to use a single discount rate for a portfolio of leases with reasonably similar characteristics.

The most significant impact was the recognition of ROU assets and related lease liabilities for operating leases on the consolidated balance sheets. The Company recognized ROU assets and related lease liabilities of $2.7 million and $3.0 million respectively, related to operating lease commitments, as of January 1, 2019. The operating lease ROU asset represents the lease liability, plus any lease payments made at or before the commencement date, less any lease incentives received. The new guidance did not have a material impact on the Company’s cash flows or results of operations. See Note 18 of the consolidated financial statements.

Accounting pronouncements not yet adopted

In June 2016, the FASB issued ASU 2016-13, Financial Instruments – Credit Losses, which introduces new guidance for credit losses on instruments within its scope. The new guidance introduces an approach based on expected losses to estimate credit losses on certain types of financial instruments, including, but not limited to, trade and other receivables, held-to-maturity debt securities, loans and net investments in leases. The new guidance also modifies the impairment model for available-for-sale debt securities and requires the entities to determine whether all or a portion of the unrealized loss on an available-for-sale debt security is a credit loss. The standard also indicates that entities may not use the length of time a security has been in an unrealized loss position as a factor in concluding whether a credit loss exists. The ASU is effective for public companies for fiscal years beginning after December 15, 2019, and interim periods within those fiscal years. Early adoption is permitted for all entities for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. On October 16, 2019 the FASB voted to defer the deadlines for private companies and certain small public companies, including smaller reporting companies, to implement the new accounting standards on credit losses. The new effective date is January 1, 2023. The Company is currently evaluating the effects, if any, that the adoption of this guidance will have on the Company’s consolidated financial position, results of operations and cash flows.

In January 2017, the FASB issued ASU 2017-04, Simplifying the Test for Goodwill Impairment.  ASU 2017-04 simplifies the accounting for goodwill impairment by eliminating Step 2 of the current goodwill impairment test, which required a hypothetical purchase price allocation.  Goodwill impairment will now be the amount by which the reporting unit’s carrying value exceeds its fair value, limited to the carrying value of the goodwill.  ASU 2017-04 is effective for financial statements issued for fiscal years, and interim periods beginning after December 15, 2019.  We are currently evaluating the potential impact of the adoption of ASU 2017-04 on our consolidated financial statements.

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

During the quarter ended December 31, 2019, we identified errors related to the impairment of intangibles we acquired as part of our acquisition of DP Engineering.  In our March 31, 2019 interim unaudited financial statements we recorded an impairment charge to both our definite-lived intangible assets  (customer relationships) of $3.4 million and goodwill of $2.2 million. Subsequently, we concluded no impairment of the definite-lived intangibles was necessary and the entire impairment amount should have been allocated to goodwill. The revision had no overall impact on the amount of the total impairment but did impact the allocation of impairment between definite-lived intangibles and goodwill. This revision results in additional amortization of the definite-lived intangible asset. In accordance with ASC 250, Accounting Changes and Error Corrections, we evaluated the materiality of the errors from quantitative and qualitative perspectives and concluded that the errors were immaterial to the Company’s prior 2019 interim unaudited financial statements. Since these revisions were not material to any prior period interim financial statements, no amendments to previously filed interim periodic reports are required. Consequently, the Company has adjusted for these errors by revising our historical unaudited financial statements presented herein.  The Company corrected this immaterial error by revising the March 30, 2019, June 30, 2019 and September 30, 2019 unaudited financial statements included herein.

The tables below present the effect of the financial statement adjustments related to the revision discussed above of the Company’s previously reported financial statements as of and for the periods ended March 31, June 30, and September 30, 2019. The cumulative tax effect of the revision is reflected in the twelve months ended December 31, 2019 financial statements. This misstatement had no net impact on the Company’s consolidated statements of cash flows.

The effect of the immaterial correction of an error on our previously filed unaudited consolidated financial statements as of and for the three months ended March 31, 2019 is as follows:

The effect of the immaterial correction of an error on our previously filed unaudited consolidated financial statements as of and for the six months ended June 30, 2019 is as follows:

The effect of the immaterial correction of an error on our previously filed unaudited consolidated financial statements as of and for the nine months ended September 30, 2019 is as follows: