Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

____________

 

FORM 10-Q/A

AMENDMENT NO. 1 TO FORM 10-Q

 

(Mark One)

☒	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2019
OR
☐	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from _________to_________

 

Commission File Number

000-23115

 

YUNHONG CTI LTD.

(Exact name of registrant as specified in its charter)

 

Illinois		36-2848943
(State or other jurisdiction of		(I.R.S. Employer Identification No.)
incorporation or organization)

 

22160 N. Pepper Road
Barrington, Illinois		60010
(Address of principal executive offices)		(Zip Code)

 

(847)382-1000

(Registrant’s telephone number, including area code)

 

Securities registered pursuant to Section 12(b) of the Act:

 

Title of each class		Trading Symbol(s)		Name of each exchange on which registered
Common Stock		CTIB		The Nasdaq Stock Market LLC  (The Nasdaq Capital Market)

 

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 has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes ☑     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.

 

Large accelerated filer	☐	Accelerated filer	☐
Non-accelerated filer	☐	Smaller reporting company	☒
		Emerging growth company	☐

 

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

 

The number of shares outstanding of the registrant’s common stock as of November 1, 2019 was 3,835,950 (excluding treasury shares).

 

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		September 30, 2019				December 31, 2018
		Restated/Unaudited				Restated/Unaudited
ASSETS
Current assets:
Cash and cash equivalents		$	59,205			$	258,238
Accounts receivable, net			6,914,584				10,245,728
Inventories, net			16,286,452				17,388,634
Prepaid expenses			452,125				834,690
Other current assets			1,145,545				784,125
Receivable from related party			1,392,666
Current assets of discontinued operations			1,304,305				3,499,319
Total current assets			27,554,882				33,010,734
Property, plant and equipment:
Machinery and equipment			23,747,842				23,668,082
Building			3,374,334				3,367,082
Office furniture and equipment			2,285,345				2,573,095
Intellectual property			783,179				783,179
Land			250,000				250,000
Leasehold improvements			409,347				409,188
Fixtures and equipment at customer locations			518,450				518,450
Projects under construction			96,696				150,272
			31,465,193				31,719,348
Less : accumulated depreciation and amortization			(28,600,235	)			(27,998,437	)
Total property, plant and equipment, net			2,864,958				3,720,912
Other assets:
Goodwill							1,473,176
Net deferred income tax asset			135,094				135,094
Operating lease right-of-use			1,295,745
Other assets			123,160				248,120
Total other assets			1,554,000				1,856,390
Other non-current assets of discontinued operations			-				172,798
TOTAL ASSETS			31,973,840				38,760,834
LIABILITIES AND EQUITY
Current liabilities:
Checks written in excess of bank balance		$	244,201			$	636,142
Trade payables			8,032,613				5,951,929
Line of credit			12,560,206				16,582,963
Notes payable - current portion			3,787,533				4,432,320
Notes payable affiliates - current portion			11,789				10,821
Operating Lease Liabilities			839,836				0
Accrued liabilities			1,062,601				1,786,761
Current liabilities of discontinued operations			1,071,617				807,776
Total current liabilities			27,610,396				30,208,712
Long-term liabilities:
Notes payable - affiliates			19,347				167,248
Notes payable, net of current portion			839,207				399,912
Operating Lease Liabilities			455,909
Notes payable - officers, subordinated			1,042,766				1,597,019
Deferred gain (non-current)			214,074				100,340
Other long-term liabilities of discontinued operations			-				31,874
Total long-term liabilities			2,571,303				2,296,393
TOTAL LIABILITIES			30,181,699				32,505,105
Equity:
Yunhong CTI, LTD stockholders' equity:
Preferred Stock -- no par value, 3,000,000 shares authorized, 0 shares issued and outstanding
Common stock - no par value, 15,000,000 shares authorized, 3,879,608 shares issued and 3,835,950 shares outstanding			13,898,494				13,898,494
Paid-in-capital			3,481,838				2,506,437
Accumulated earnings			(8,545,637	)			(2,865,486	)
Accumulated other comprehensive loss			(6,034,745	)			(6,050,347	)
Less: Treasury stock, 43,658 shares			(160,784	)			(160,784	)
Total Yunhong CTI, LTD stockholders' equity			2,639,166				7,328,314
Noncontrolling interest			(847,025	)			(1,072,585	)
Total Equity			1,792,141				6,255,729
TOTAL LIABILITIES AND EQUITY		$	31,973,840			$	38,760,834

 

		For the Three Months Ended September 30,								For the Nine Months Ended September 30,
		2019				2018				2019				2018
		Restated				Restated				Restated				Restated
Net Sales		$	8,329,043			$	10,128,436			$	30,297,835			$	36,508,220
			-				-								-
Cost of Sales			7,706,748				8,295,669				25,651,678				28,776,700
			-				-								-
Gross profit			622,295				1,832,767				4,646,157				7,731,520
			-				-								-
Operating expenses:			-				-								-
General and administrative			1,148,482				1,277,503				3,939,289				4,307,784
Selling			233,506				629,706				842,546				2,208,925
Advertising and marketing			134,040				302,985				485,096				931,475
Impairment on long-lived assets							-				1,472,382
Gain on loss of control of VIEs			(218,527	)			-				(218,527	)
Gain on sale of assets			(23,054	)			(24,061	)			(70,263	)			(71,474	)
Total operating expenses			1,274,447				2,186,133				6,450,524				7,376,710
			-				-								-
Loss from operations			(652,152	)			(353,366	)			(1,804,367	)			354,810
			-				-								-
Other (expense) income:			-				-								-
Interest expense			(464,546	)			(462,855	)			(1,493,264	)			(1,560,130	)
Interest income							(27	)							(356	)
Other Income/(expense)			(82,873)				(57	)			(485,742	)			1,601
Foreign currency loss			(25,747	)			24,584				(27,458	)			8,336
							-								-
Total other expense, net			(573,166	)			(438,355	)			(2,006,464	)			(1,550,549	)
			-				-								-
Loss from continuing operations before taxes			(1,225,318	)			(791,721	)			(3,810,831	)			(1,195,739	)
			-				-								-
Income tax benefit							(221,803	)			-				(347,318	)
							-								-
							-								-
Loss from continuing operations			(1,225,318	)			(569,918	)			(3,810,831	)			(848,422	)
Income (Loss) from discontinued operations (including loss on HFS of $0.6M), net of tax			(999,251	)			23,693				(2,730,796	)			37,354
							-
Net loss		$	(2,224,569	)		$	(546,225	)		$	(6,541,627	)		$	(811,068	)
Less: Net (loss) income attributable to noncontrolling interest			(282,985	)			13,072				(861,475	)			(38,968	)
Net loss attributable to Yunhong CTI, LTD		$	(1,941,584	)		$	(559,297	)		$	(5,680,152	)		$	(772,100	)
Other Comprehensive Income (Loss)
Foreign currency adjustment			(281,817	)			231,827				15,603				(110,605	)
Comprehensive loss		$	(2,223,401	)		$	(327,470	)		$	(5,664,549	)		$	(882,705	)
Basic loss per common share
Continuing operations			(0.25	)		$	(0.16	)			(0.77	)		$	(0.23	)
Discontinued operations			(0.26)				0.00				(0.71	)			0.01
Basic loss per common share		$	(0.51)			$	(0.16	)		$	(1.48	)		$	(0.22	)
Diluted loss per common share
Continuing operations		$	(0.25	)		$	(0.16	)		$	(0.77	)		$	(0.23	)
Discontinued operations			(0.26)				0.00				(0.71	)			(0.01	)
Diluted loss per common share		$	(0.51)			$	(0.16	)		$	(1.48	)		$	(0.22	)
Weighted average number of shares and equivalent shares of common stock outstanding:
Basic			3,835,950				3,530,227				3,835,950				3,530,227
Diluted			3,835,950				3,530,227				3,835,950				3,530,227

 

		For the Nine Months Ended September 30,
		2019				2018
		Restated
Cash flows from operating activities:
Net loss		$	(6,541,627	)		$	(811,068	)
Depreciation and amortization			835,302				981,449
Amortization of deferred gain on sale/leaseback			(82,422)				(83,394	)
Other			248,974
Provision for losses on accounts receivable			399,463				(40,924	)
Provision for losses on inventories			1,249,519				14,250
Impairment of long-lived assets			1,252,283
Stock Based Compensation			72,401				139,450
Impairment of Prepaids, Current Assets, and Other Non-Current Assets			168,931
Gain on deconsolidation of Clever			(218,534	)
Impairment of assets held for sale			604,483
Deferred income taxes			-				(347,725	)
Loss on disposition of asset			17,480
Change in assets and liabilities:
Accounts receivable			2,776,396				1,717,018
Inventories			1,435,411				(819,293	)
Prepaid expenses and other assets			228,389				(776,294	)
Trade payables			1,892,671				385,715
Accrued liabilities			(166,823	)			(267,938	)
Net cash provided by operating activities			4,172,297				91,246
Cash flows from investing activities:
Purchases of property, plant and equipment			(144,222	)			(323,785	)
Net cash provided by (used in) investing activities			(144,222	)			(323,785	)
Cash flows from financing activities:
Change in checks written in excess of bank balance			(391,313	)			149,447
Net change in revolving line of credit			(3,808,012	)			821,390
Repayment of long-term debt			(913,855	)			(697,040	)
Cash paid for deferred financing fees			(82,763	)			(32,805	)
Proceeds from issuance of long-term debt			650,000
Net cash provided by (used in) financing activities			(4,545,943	)			240,992
Effect of exchange rate changes on cash			205,692				84,360
Net increase/(decrease) in cash and cash equivalents			(312,176	)			92,813
Cash and cash equivalents at beginning of period			428,150				181,026
Cash and cash equivalents at end of period		$	115,974			$	273,839
The cash flows related to discontinued operations have not been segregated, and are included in the Consolidated Statements of Cash Flows. The cash and equivalents amounts presented above differ from cash and equivalents in the Consolidated Balance Sheets due to cash included in “Current assets of discontinued operations in amount of $57,000.”
Supplemental disclosure of cash flow information:
Cash payments for interest		$	1,558,817			$	1,381,149
Common stock issued for accounts payable		$	303,000
Common stock issued for notes payable		$	600,000

 

		Yunhong CTI, LTD
																		Accumulated
																		Other				Less
		Common Stock								Paid-in				Accumulated				Comprehensive				Treasury Stock								Noncontrolling
		Shares				Amount				Capital				(Deficit) Earnings				Loss				Shares				Amount				Interest				TOTAL
Balance December 31, 2018			3,578,885			$	13,898,494			$	2,506,437			$	(2,865,486	)		$	(6,050,347	)			(43,658	)		$	(160,784	)		$	(1,072,585	)			6,255,729
																																			-
Note conversion - Schwan			180,723								600,000																								600,000
Less deconsolidation of VIE																															1,087,035				1,087,035
Stock Issued			120,000								303,000																								303,000
Stock Option Expense											72,401																								72,401
Net Income															(5,680,152	)															(861,475	)			(6,541,627	)
Other comprehensive income, net of taxes																			15,603																15,603
Foreign currency translation																																			-
Balance September 30, 2019, restated			3,879,608			$	13,898,494			$	3,481,838			$	(8,545,638	)		$	(6,034,744	)			(43,658	)		$	(160,784	)		$	(847,025	)		$	1,792,141

 

Note 1 - Basis of Presentation

 

The accompanying condensed (a) consolidated balance sheet as of December 31, 2018, which has been derived from audited consolidated financial statements, and (b) the unaudited interim condensed consolidated financial statements have been prepared and, in the opinion of management, contain all the adjustments (consisting of those of a normal recurring nature) considered necessary to present fairly the consolidated financial position and the consolidated statements of comprehensive income and consolidated cash flows for the periods presented in conformity with generally accepted accounting principles for interim consolidated financial information and the instructions to Form 10-Q and Article 8 of Regulation S-X. Accordingly, they do not include all the information and footnotes required by accounting principles generally accepted in the United States of America. Operating results for the three and nine months ended September 30, 2019 are not necessarily indicative of the results that may be expected for the fiscal year ending December 31, 2019. It is suggested that these condensed consolidated financial statements be read in conjunction with the consolidated financial statements and notes thereto included in the Company's annual report on Form 10-K for the fiscal year ended December 31, 2018.

 

Principles of consolidation and nature of operations:

 

The condensed consolidated financial statements include the accounts of Yunhong CTI Ltd. (formerly CTI Industries Corporation) and its wholly-owned subsidiaries, CTI Balloons Limited (CTI Balloons) and CTI Supply, Inc., its majority-owned subsidiaries, Flexo Universal, S. de R.L. de C.V. (Flexo) and CTI Europe GmbH (CTI Europe), as well as the accounts of Venture Leasing S. A. de R. L. (VLM). As discussed in Note 2 Discontinued Operations, effective in the third quarter, the Company determined that it is exiting CTI Balloons and CTI Europe. Accordingly, the operations of these entities are classified as discontinued operations in these financial statements.

 

The Company (i) designs, manufactures and distributes balloon and related novelty (candy and party related) products, (ii) operates systems for the production, lamination, coating and printing of films used for food packaging and other commercial uses and for conversion of films to flexible packaging containers and other products, and (iii) distributes vacuum sealing products and home organization products in the United States.

 

 

Variable Interest Entities (“VIE’s”):

 

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

 

 

The Company has variable interests in Venture Leasing L.L.C (VL) and Clever Container Company, L.L.C. (Clever). Through June 30, 2019, the Company had determined that it was the primary beneficiary of these entities and included them in our consolidated results. In the third quarter, we determined that operationally material changes in our involvement with Clever and VL resulted in us having no power over the decisions which impact their financial performance. Therefore, we are no longer the primary beneficiary of these entities. Effective July 1, 2019, we deconsolidated these entities and their results are not included in our Consolidated Statements of Comprehensive Income subsequent to June 30, 2019. Upon deconsolidation of these entities, we recognized a gain of $219,000. In accordance with ASC 810-10 because the carrying value of the noncontrolling interest of Clever which was eliminated exceeded the net carrying value of the assets and liabilities of Clever. The Company determined that there was no fair value associated with its remaining noncontrolling interest in Clever based on an income approach.

 

Use of estimates:

 

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

 

Earnings per share:

 

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

 

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

 

As of September 30, 2019, and 2018, shares to be issued upon the exercise of options and warrants aggregated 471,000 and 471,000, respectively. The number of shares included in the determination of earnings on a diluted basis for the three months ended September 30, 2019 and 2018 were 25,000 and 25,000, respectively. For the nine months ended September 30, 2019 and 2018, the same share disclosure was 25,000 and 25,000, respectively.

 

 

Significant Accounting Policies:

 

The Company’s significant accounting policies are summarized in Note 2 of the Company’s consolidated financial statements for the year ended December 31, 2018. There were no significant changes to these accounting policies during the three or nine months ended September 30, 2019, except for the adoption of Accounting Standards Codification (ASC) Topic 842, Leases.

 

On January 1, 2019, we adopted ASC Topic 842 (Leases). The adoption of this standard significantly increased our assets and liabilities and further discussed in Note 12. ASC 842 requires a lessee to recognize assets and liabilities related to leases with terms in excess of 12 months. Such assets are typically considered Right-Of-Use (“ROU”) assets. Prior information has not been restated and continues to be reported under the accounting standards in effect for those periods.

 

On January 1, 2018, we adopted ASC 606 (Revenue From Contracts With Customers) using the modified retrospective method. The adoption of ASC 606 did not have a material impact on our consolidated financial position or results of operations, as our revenue arrangements generally consist of a single performance obligation to transfer promised goods at a fixed price.

 

Net sales include revenues from sales of products and shipping and handling charges, net of estimates for product returns. Revenue is measured at the amount of consideration the Company expects to receive in exchange for the transferred products. Revenue is recognized at the point in time when we transfer the promised products to the customer and the customer obtains control over the products. The Company recognizes revenue for shipping and handling charges at the time the goods are shipped to the customer, and the costs of outbound freight are included in cost of sales, as we have elected the practical expedient included in ASC 606.

 

The Company provides for product returns based on historical return rates. While we incur costs for sales commissions to our sales employees and outside agents, we recognize commission costs concurrent with the related revenue, as the amortization period is less than one year and we have elected the practical expedient included in ASC 606. We do not incur incremental costs to obtain contracts with our customers. Our product warranties are assurance-type warranties, which promise the customer that the products are as specified in the contract. Therefore, the product warranties are not a separate performance obligation and are accounted for as described herein. Sales taxes assessed by governmental authorities are accounted for on a net basis and are excluded from net sales.

 

Auditor Replacement Process:

 

During April 2019, our independent registered accounting firm, Plante & Moran PLLC, declined to stand for reappointment as auditor.  As of January 3, 2020, the Audit Committee of the Board approved the engagement of RBSM, LLP (“RBSM”) as the Company’s independent registered public accounting firm for the Company’s fiscal year ended December 31, 2019.   Previously, the quarterly report on Form 10-Q was prepared without the benefit of auditor review.  This Form 10-Q/A is filed with review from RBSM. 

 

Note 2 – Discontinued Operations

 

In July 2019 management and the Board engaged in a review of CTI Balloons and CTI Europe and determined that they are not accretive to the Company overall, add complexity to the Company’s structure and utilize resources. Therefore, as of July 19, 2019, the board authorized management to divest of CTI Balloons and CTI Europe. These actions are being taken to focus our resources and efforts on our core business activities, particularly foil balloons and ancillary products based in North America. The Company determined that these entities met the held-for-sale and discontinued operations accounting criteria. Accordingly, the Company has reported the results of these operations as discontinued operations in the Consolidated Statements of Comprehensive Income and presented the related assets and liabilities as held-for-sale in the Consolidated Balance Sheets. These changes have been applied for all periods presented. The Company divested its CTI Balloons (United Kingdom) subsidiary in the fourth quarter 2019 and expects to divest CTI Europe (Germany) in the first half of 2020.

 

 

In connection with management’s intentions to simplify these operations and organizational structure, we identified write-offs of $88,000 and $1.7 million for the three and nine months ended September 30, 2019, respectively, related to CTI Balloons and CTI Europe. The charges for the three months ended September 30, 2019 were comprised of the following: $78,000 inventory and other assets and $10,000 allowance for doubtful accounts. The charges for the nine months ended September 30, 2019 were comprised of the following: $1.3M inventory, $76,000 allowance for doubtful accounts; and $280,000 for other assets. Additionally, it recognized an impairment charge of $1.0 million, including $167,000 of previously unrecognized currency translation adjustment losses because the Company is completely exiting its operations in Germany and the UK once the divestitures occur.      

 

CTI Balloons recorded losses from discontinued operations, net of taxes of ($433,000) and ($996,000) for the three and nine months ended September 30, 2019, respectively (including an estimated loss on sale of $321,000). The losses, net of tax were ($8,000) and ($59,000) for the three and nine months ended September 30, 2018, respectively.

 

CTI Europe recorded losses from discontinued operations, net of taxes of ($566,000) and ($1,735,000) for the three and nine months ended September 30, 2019, respectively (including an estimated loss on sale of $283,000). The income, net of taxes were $32,000 and $96,000 for the three and nine months ended September 30, 2018, respectively.

 

 

Summarized Discontinued Operations Financial Information

The following table summarizes the major line items for the International operations that are included in the income from discontinued operations, net of tax line item in the Consolidated Statements of Income for the three months ending

 

 

 

 

The following table summarizes the major line items for the International operations that are included in the income from discontinued operations, net of tax line item in the Consolidated Statements of Income for the nine months ending

 

 

 

The following table summarizes the carrying amounts of major classes of assets and liabilities of discontinued operations for each of the periods presented:

 

 

 

The cash flows related to discontinued operations have not been segregated and are included in the Consolidated Statements of Cash Flows. The following table summarizes depreciation from discontinued operations for each of the periods presented:

 

 

 

 

 

Note 3 – Liquidity and Going Concern

 

The Company’s primary sources of liquidity are cash and cash equivalents as well as availability under the Credit Agreement with PNC Bank, National Association (“PNC”) (see Note 4). As indicated in Note 4, twice during 2018 we violated covenants in our credit facility and as of March 2019 we entered into a forbearance agreement with PNC. Under the terms of this agreement, financial covenants as of March 31, 2019 were not considered and all previously identified compliance failures were waived, but we remain out of compliance with the terms of our credit facility, as amended, including the covenants as of June 30, 2019 calculated on or about July 31, 2019. On August 1, 2019, PNC issued a Default and Reservation of Rights letter to the Company, in which PNC advised that line of credit advances would continue to be available to the Company at PNC’s sole discretion, and subject to its terms and conditions. On October 18, 2019, we entered into a new forbearance agreement with PNC (“Amendment 4”). Identified events of default were waived until January 10, 2020 with respect to Yunhong CTI, LTD, but not its Mexican subsidiary (Flexo), subject to its terms and conditions. On January 13, 2020, we entered into a new forbearance agreement with PNC (“Amendment 5”). PNC agreed to (i) waive the Loan Agreement’s requirement that the Company apply the net proceeds of the Offering first to the Term Loans (as defined in the Loan Agreement), and agreed that the Company shall instead apply the net proceeds of the Offering to the Revolving Advances (as defined in the Loan Agreement) and in connection therewith the Revolving Commitment Amount (as defined in the Loan Agreement) shall be reduced on a dollar for dollar basis by the amount so applied to the Revolving Advances, and (ii) forebear from exercising the rights and remedies in respect of the Existing Defaults afforded to Lender under the Loan Agreement for a period ending no later than December 31, 2020.

 

 

During 2019 we attempted to execute a major capital event with a partner that would infuse money, among other attributes. That effort was unsuccessful as envisioned. We are currently seeking to execute on one or more smaller transactions, as well as pursue other financing options. There is no assurance that any of these efforts will be successful.

 

In addition to the above, due to financial performance in 2016, 2017 and 2018, including net income/(losses) attributable to the Company of $0.7 million, ($1.6 million), and ($3.6 million), respectively, we believe that substantial doubt about our ability to continue as a going concern exists at September 30, 2019.

 

Additionally, we have experienced challenges in maintaining adequate seasonal working capital balances, made more challenging by increases in financing and labor costs, along with a supply disruption in the helium market. These changes in cash flows have created very significant strain within our operations and have therefore increased our attempts to obtain additional funding resources.

 

Finally, four claims have been filed in court by vendors, one current and three former, regarding claims of non-payment pursuant to contractual obligations. The sum of these claims is approximately $0.7 million. The cost of defense and potential ultimate resolution increases the strain on our financial resources.

 

Management’s plans include:

 

(1)     Pursuing a smaller strategically significant major capital event.

(2)     Working with our bank to resolve our compliance failure on a long-term basis.

(3)     Evaluating and potentially executing a transaction of our facility in Lake Barrington, IL.

(4)     Simplifying our group structure, and

(5)     Exploring alternative funding sources.

 

Management Assessment

 

Considering both quantitative and qualitative information, we believe that our plans to obtain additional financing may provide us with an ability to finance our operations through 2020 and, if successfully executed, may mitigate the substantial doubt about our ability to continue as a going concern.

 

 

Note 4 - Debt

 

During December 2017, we terminated a prior credit arrangement and entered in new financing agreements with PNC Bank, National Association (“PNC”). The “PNC Agreements” include a $6 million term loan and an $18 million revolving credit facility, with a termination date of December 2022.

 

 

Available credit under the Revolving Credit facility is determined by eligible receivables and inventory at Yunhong CTI, LTD (U.S.) and Flexo Universal (Mexico). We notified PNC of our failure to meet two financial covenants as of March 31, 2018. On June 8, 2018, we entered into Waiver and Amendment No. 1 (the “Amendment 1”) to our PNC Agreements. The Amendment modified certain covenants, added others, waived our failure to comply as previously reported, and included an amendment fee and temporary increase in interest rate. During September 2018, we filed a preliminary prospectus on Form S-1 for a planned equity issuance. On October 8, 2018, we entered into Consent and Amendment No. 2 (the “Amendment 2”) to our PNC Agreements. Amendment 2 reduced the amount of new funding proceeds that must be used to repay the term loan from $5 million to $2 million and waived the calculation of financial ratios for the period ended September 30, 2018, in exchange for a new covenant committing to raise at least $7.5 million in gross proceeds from our equity issuance by November 15, 2018 and pay an amendment fee. Market conditions ultimately forced us to postpone the offering, and thus no proceeds were received by the November 15, 2018 requirement.

 

We engaged PNC to resolve this failure to meet our amended covenant, and as of March 2019 entered into a forbearance agreement. Under the terms of this agreement, previously identified compliance failures were waived and financial covenants as of March 31, 2019 were not considered, with the next calculation due July 31, 2019 for the period ended June 30, 2019. We received a temporary over-advance of $1.2 million, which declined to zero over a six-week period under the terms of this agreement and paid a fee of $250,000.

 

On August 1, 2019, PNC issued a Notice of Default and Reservation of Rights letter, indicating the end of the forbearance period and continued events of default with our credit agreement, as amended. We remain out of compliance with the terms of our facility and have thus reclassified long-term bank debt to current liabilities on our balance sheet.

 

Available credit under the Revolving Credit facility is determined by eligible receivables and inventory at Yunhong CTI, LTD (U.S.) and Flexo Universal (Mexico).

 

Certain terms of the PNC Agreements include:

 

●

Restrictive Covenants: The Credit Agreement includes several restrictive covenants under which we are prohibited from, or restricted in our ability to:

o

Borrow money;

o

Pay dividends and make distributions;

o

Make certain investments;

o

Use assets as security in other transactions;

o

Create liens;

o

Enter into affiliate transactions;

o

Merge or consolidate; or

o

Transfer and sell assets.

 

 

●

Financial Covenants: The Credit Agreement includes a series of financial covenants we are required to meet including:

o

We are required to maintain a "Leverage Ratio", which is defined as the ratio of (a) Funded Debt (other than the Shareholder Subordinated Loan) as of such date of determination to (b) EBITDA (as defined in the PNC Agreements) for the applicable period then ended. The highest values for this ratio allowed by the PNC Agreements are:

 

Fiscal Quarter Ratio

 

 

 

o

We are required to maintain a "Fixed Charge Coverage Ratio", which is defined as the ratio of (a) EBITDA for such fiscal period, minus Unfinanced Capital Expenditures made during such period, minus distributions (including tax distributions) and dividends made during such period, minus cash taxes paid during such period to (b) all Debt Payments made during such period. This ratio must not exceed 1.1 : 1.0 for any quarterly calculation.

 

The credit agreement provides for interest at varying rates in excess of the prime rate, depending on the level of senior debt to EBITDA over time. We also entered into a swap agreement with PNC Bank to fix the rate of interest for $3 million of the notes over 3 years at 2.25%. This contract was made at market value upon December 14, 2017 execution and accounted for as a hedge. This contract terminated during 2019 under the terms of the forbearance agreement.

 

Failure to comply with these covenants has caused us to pay a higher rate of interest (by 2% per the Agreements), and other potential penalties may impact the availability of the credit facility itself, and thus might negatively impact our ability to remain a going concern. As described above in this Note as well as in Note 2, we remain out of compliance with the terms of this facility.

 

As of December 2017, Mr. Schwan was owed a total of $1,099,000, with additional accrued interest of $400,000, by the Company. As part of the December 2017 financing with PNC, Mr. Schwan executed a subordination agreement related to these amounts due him, as evidenced by a related note representing the amount owed to Mr. Schwan. During January 2019, Mr. Schwan converted $600,000 of his balance into approximately 181,000 shares of our common stock at the then market rate. No payments were issued to Mr. Schwan during 2018 or the three or nine months ended September 30, 2019, with $15,000 and $45,000, respectively, of interest recorded as an expense.

 

 

Note 5 - Stock-Based Compensation; Changes in Equity

 

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

 

 

The Company has applied the Black-Scholes model to value stock-based awards and issued warrants related to notes payable. That model incorporates various assumptions in the valuation of stock-based awards relating to the risk-free rate of interest to be applied, the estimated dividend yield and expected volatility of our common stock. The risk-free rate of interest is the related U.S. Treasury yield curve for periods within the expected term of the option at the time of grant. The dividend yield on our common stock is estimated to be 0%, as the Company did not issue dividends during 2019 and 2018. The expected volatility is based on historical volatility of the Company’s common stock.

 

The Company’s net loss for the three months ended September 30, 2019 and net loss for the three months ended September 30, 2018 includes approximately $20,000 and $34,000, respectively, of compensation costs related to share based payments. The Company’s net loss for the nine months ended September 30, 2019 and 2018 includes approximately $72,000 and $139,000 respectively, of compensation costs related to share based payments. As of September 30, 2019, there was $118,000 of unrecognized compensation expense related to non-vested stock option grants and stock grants. We expect approximately $18,000 of additional stock-based compensation expense to be recognized over the remainder of 2019, and $56,000 to be recognized during 2020.

 

On April 10, 2009, the Board of Directors approved for adoption, and on June 5, 2009, the shareholders of the Corporation approved, a 2009 Stock Incentive Plan (“2009 Plan”). The 2009 Plan and subsequent awards categorized as inducement of employment authorized the issuance of up to 510,000 shares of stock or options to purchase stock of the Company (including cancelled shares reissued under the plan.) On June 8, 2018, our shareholders approved the 2018 Stock Incentive Plan (“2018 Plan”). The 2018 Plan authorizes the issuance of up to 300,000 shares of our common stock in the form of equity-based awards. Because no registration on Form S-8 was filed for these additional shares within 12 months of approval by our shareholders, those additional shares are not available for issuance in the normal course. As of September 30, 2019, options for 471,144 shares remain outstanding.

 

A summary of the Company’s stock option activity, which includes grants of restricted stock, non-qualified stock options, incentive stock options, warrants and related information, is as follows:

 

 

 

The instruments above have an aggregate intrinsic value of $83,000, which represents the total pre-tax intrinsic value (the difference between the closing price of the Company’s common stock on the last trading day of the quarter ended September 30, 2019 and the exercise price, multiplied by the number of in-the-money options) that would have been received by the option holders had all the holders exercised their options on September 30, 2019.

 

 

 

 

Note 6 - Legal Proceedings

 

The Company may be party to certain lawsuits or claims arising in the normal course of business. The ultimate outcome of these matters is unknown but, in the opinion of management, we do not believe any of these proceedings will have, individually or in the aggregate, a material adverse effect upon our financial condition, cash flows or future results of operation.

 

In July 2017, God’s Little Gift, Inc. (d\b\a) Helium and Balloons Across America and Gary Page (“Claimants”) filed an action against the Company based on disputed compensation amounts over several years. This action was resolved by mutual agreement between the parties during January 2019. Mr. Page received 20,000 shares of CTI common stock, $5,000 in cash, and a minimum payout in his monthly royalty calculation of $7,667 beginning March 1, 2019 and ending August 1, 2021. The Company accrued the $0.3 million in committed costs under this settlement in its December 31, 2018 financial statements.

 

During 2019, four claims have been filed against us claiming failure to pay contractually obligated amounts. Three of these claims have been filed by former vendors, and the fourth by a current vendor. The total of these four claims exceeds $0.7 million. All are being actively defended, and the claimed amount is recorded on our balance sheet as of September 30, 2019. Some of the largest with a combined claimed value of approximately $0.6M have subsequently been settled at approximately 50% of the amount claimed. Additional smaller amounts are pending some form of resolution.

 

 

 

 

Note 7 - Other Comprehensive Income

 

In the nine months ended September 30, 2019, the Company incurred other comprehensive gain of approximately $16,000, all from foreign currency translation adjustments.

 

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

 

 

 

Note 8 - Geographic Segment Data

 

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

 

 

 

 

 

 

 

 

Note 9 - Inventories, Net of Continuing Operations

 

 

 

 

Note 10 - Concentration of Credit Risk

 

Concentration of credit risk with respect to trade accounts receivable is generally limited due to the large number of entities comprising the Company's customer base. The Company performs ongoing credit evaluations and provides an allowance for potential credit losses against the portion of accounts receivable which is estimated to be uncollectible. Such losses have historically been within management's expectations. During the three and nine months ended September 30, 2019 and 2018, there were two customers whose purchases represented more than 10% of the Company’s consolidated net sales, respectively. Sales to these customers for the three ended September 30, 2019 and 2018 are as follows:

 

 

Sales to these customers for the nine months ended September 30, 2019 and 2018 are as follows:

 

 

As of September 30, 2019, the total amounts owed to the Company by these customers were approximately $1,777,000 or 26%, and $996,000 or 14%, of the Company’s consolidated net accounts receivable, respectively. The amounts owed at September 30, 2018 by these customers were approximately $2,241,000 or 22%, and $1,702,000 or 17% of the Company’s consolidated net accounts receivable, respectively.

 

Note 11 - Related Party Transactions

 

Stephen M. Merrick, Chief Executive Officer of the Company, is of counsel to the law firm of Vanasco Genelly and Miller PC which used to provide legal services to the Company. Legal fees paid by the Company to this firm for the three months ended September 30, 2019 and 2018, respectively, were none and none. Legal fees paid by the Company to this firm for the nine months ended September 30, 2019 and 2018, respectively, were none and $88,000.  On July 1, 2019, the Company deconsolidated Clever, and as result the Company has a note receivable of $1.3 million. One of owners of Clever is Mr. Schwan, the Company’s chairman.

 

 

 

Note 12 - Derivative Instruments; Fair Value

 

The Company accounts for derivative instruments in accordance with U.S. GAAP, which requires that all derivative instruments be recognized on the balance sheet at fair value. We may enter into interest rate swaps to fix the interest rate on a portion of our variable interest rate debt to reduce the potential volatility in our interest expense that would otherwise result from changes in market interest rates. Our derivative instruments are recorded at fair value and are included in accrued liabilities of our consolidated balance sheet. Our accounting policies for these instruments are based on whether they meet our criteria for designation as hedging transactions, which include the instrument’s effectiveness, risk reduction and, in most cases, a one-to-one matching of the derivative instrument to our underlying transaction. As of September 30, 2019, we had no such instrument. The only derivative instrument, terminated during 2019, was accounted for as a hedge. Changes in fair value for the respective periods were recognized in the consolidated statement of operations.

 

The interest rate swap we entered into December 14, 2017 had a three-year term (ending December 14, 2020) and a notional amount of $3 million. The Company purchased a 2.25% fixed rate in exchange for the variable rate on a portion of the notes payable under the PNC Agreements, which was 1.47% at time of execution. The swap was terminated during 2019 as a result of the first forbearance agreement with the bank.

 

 

 

Note 13 - Leases

 

We adopted ASC Topic 842 (Leases) on January 1, 2019. This standard requires us to record certain operating lease liabilities and corresponding right-of-use assets on our balance sheet. Results for periods beginning after January 1, 2019 are presented under Topic 842, while prior period amounts are not adjusted and continue to be reported in accordance with our historic accounting under Topic 840. We elected the package of practical expedients available for expired or existing contracts, which allowed us to carryforward our historical assessments of whether contracts are (or contain) leases, as well as lease classification tests and treatment of initial direct costs. We also elected to not separate lease components from non-lease components for all fixed payments, and we exclude variable lease payments in the measurement of right-of-use assets and lease obligations.

 

Upon adoption of ASC 842 we recorded a $2.8 million increase in other assets, a $1.1 million increase in current liabilities, and a $1.7 million increase in non-current liabilities. We did not record any cumulative effect adjustments in opening retained earnings, and adoption of ASC 842 had no impact on cash flows from operating, investing, or financing activities.

 

We determine if an arrangement is a lease at inception. Most of our operating leases do not provide an implicit rate of interest so we use our incremental borrowing rate based on the information available at the commencement date to determine the present value of future payments. We lease various assets in the course of ordinary business including warehouses and manufacturing facilities, as well as vehicles and equipment used in our operations. Leases with an initial term of 12 months or less are not recorded on the balance sheet as we recognize lease expense for these leases on a straight-line basis over the lease term. The depreciable life of assets and related improvements are limited by the expected lease term, unless there is a reasonably certain expected transfer or title or purchase option. Some lease agreements include renewal options at our sole discretion. Any guaranteed residual value is included in our lease liability.

 

 

The table below describes our lease position as of September 30, 2019:

 

 

 

During the three months ended September 30, 2019, we recorded expenses related to

 

 

 

During the nine months ended September 30, 2019, we recorded expenses related to

 

 

 

 

Operating lease expense were approximately $216,000 for the three months and $938,000 for the nine months ended September 30, 2019. Operating lease costs are included within selling, general and administrative expenses on the condensed consolidated statements of operations.  The Company does not have any finance leases.  Cash paid for amounts included in the measurement of operating lease liabilities were approximately $216,000 for the three months and $938,000 for the nine months ended September 30, 2019.

 

 

 

 

 

 

 

 

 

 

 

Note 14 - Impairment

 

Upon closing of the first quarter of 2019, the Company identified an impairment indicator related to the goodwill associated with Clever Container.  As a result of an impairment test, the Company fully impaired the goodwill related to Clever Container in the first quarter and recorded an impairment charge of $220,000.  Upon closing of the first quarter of 2019, the Company identified an impairment indicator related to the goodwill associated with Flexo.  As a result of an impairment test, the Company fully impaired the goodwill related to Flexo in the first quarter of 2019 and recorded an impairment charge of $1,033,000.

 

Note 15 - Subsequent Events 

 

In October 2019, we determined that we would not renew our Trademark License Agreement with SC Johnson when it expired on December 31, 2019.   Under this Agreement, we were licensed to manufacture and sell a line of vacuum sealing machines and pouches under the Ziploc® Brand Vacuum Sealer System.   The terms of the Agreement included a run-off provision which allowed us to sell products under the Ziploc® trademark for 90 days after the end of the Agreement.   For the three and nine months ended September 30, 2019, we had revenue of $2.0 million and $6.3M, respectively, associated with products which utilized the Ziploc® trademark.   Our exit of the Ziploc® product line is considered a strategic shift and will have a major effect on our operations and financial results on a go forward basis.   However, as we continued to utilize the Ziploc® related assets in 2020, those assets will not be considered abandoned until they cease to be used at the end of the first quarter of 2020.   Therefore, our Ziploc® operations cannot be classified as discontinued operations in these financial statements but will be presented as discontinued operations when all of the applicable accounting criteria are met. We have also dramatically changed our capital structure.  On January 3, 2020 we entered into a securities purchase agreement, as amended on February 24, 2020 and April 13, 2020, (the “LF Purchase Agreement”) with LF International Pte., a Singapore private limited company (the “LF International”), which is controlled by Company director Mr. Yubao Li, pursuant to which the Company agreed to issue and sell, and LF International agreed to purchase, up to 500,000 shares of the Company’s newly created Series A Convertible Preferred Stock (“Series A Preferred”), with each share of Series A Preferred initially convertible into ten shares of the Company’s common stock, at a purchase price of $10.00 per share, for aggregate gross proceeds of $5,000,000 (the “LF International Offering”).  As a result of the LF International Offering, a change of control of the Company may occur. As permitted by the LF Purchase Agreement, the Company may, in its discretion issue up to an additional 200,000 shares of Series A Preferred for a purchase price of $10.00 per share to additional investors (the “Additional Shares Offering,” and collectively with the LF International Offering, the “Offering”). On January 13, 2020, the Company conducted its first closing of the LF International Offering, resulting in aggregate gross proceeds of $2,500,000. Pursuant to the LF Purchase Agreement, LF International received the right to nominate and elect one member to the Company’s board of directors (subject to certain adjustments), effective as of the first closing, as well as a second director by the earlier of (i) the Company’s upcoming 2020 annual meeting of shareholders and (ii) May 15, 2020 and a third director by the Company’s upcoming 2020 annual meeting of shareholders. Pursuant to LF International’s nomination, effective January 13, 2020, the Board appointed Mr. Yubao Li as a director of the Company. Additionally, pursuant to the LF Purchase Agreement, on March 12, 2020, the Company changed its name to Yunhong CTI Ltd. To date, the Company has sold 492,660 shares of Series A Preferred to LF International and other accredited investors for aggregate gross proceeds of $4,926,600. Additionally, on April 1, 2020, an investor converted an accounts receivable of $482,000 owed to the investor by the Company in exchange for 48,200 shares of Series A Preferred.  Our business and results of operations may be negatively impacted by the spread of COVID-19.  We sell our products throughout the United States and in many foreign countries and may be impacted by public health crises beyond our control. This could disrupt our operations and negatively impact sales of our products. Our customers, suppliers and distributors may experience similar disruption. In December 2019, COVID-19 was reported in Wuhan, China. The World Health Organization has since declared the outbreak to constitute a pandemic. The extent of the impact of COVID-19 on our operational and financial performance will depend on certain developments, including the duration and spread of the outbreak, the impact on our customers and employees, all of which are uncertain and cannot be predicted. The preventative and protective actions that governments have taken to counter the effects of COVID-19 have resulted in a period of business disruption, including delays in shipments of products and raw materials. To the extent the impact of COVID-19 continues or worsens, the demand for our products may be negatively impacted, and we may have difficulty obtaining the materials necessary for the production of our products. In addition, the production facilities of our suppliers may be closed for sustained periods of time and industry-wide shipment of products may be negatively impacted, the severity of which may exceed the $1 million in Payroll Protection Program funds received by the Company from the US Federal Government. COVID-19 has also delayed certain strategic transactions the Company intended to close on in the near future and the Company does not know if and when such transactions will be completed.

 

 

 

Note 16 – Restatement of Financial Statements

 

As of January 3, 2020, the Audit Committee of the Board approved the engagement of RBSM, LLP (“RBSM”) as the Company’s independent registered public accounting firm for the Company’s fiscal year ended December 31, 2019.  This Form 10-Q/A is being prepared with the benefit of auditor review and will constitute our amended filing.

 

This Form 10-Q/A has also been updated to reflect disclosure of subsequent events that have occurred after the balance sheet date, but before the issuance of the associated financial statements.  The subsequent events include the Company’s decision to exit its underperforming international subsidiaries, exit a significant product line, change its capital structure and focus its efforts on its US-based foil balloon and related product offerings.  

 

The company had previously included a non-cash charge of $3,000,000 during the second quarter of 2019 in anticipation of the divestiture or liquidation of European Sales entities and Clever Container.  This Form 10-Q/A has had this reserve replaced by detailed calculations.  Based on this detailed calculation herein we believe the magnitude of the initial charge was appropriate.  

 

 

Yunhong CTI, LTD (f/k/a CTI Industries Corporation)

Condensed Consolidated Balance Sheets

 

 

 

 

Yunhong CTI, LTD (f/k/a CTI Industries Corporation)

Condensed Consolidated Statements of Comprehensive Income

 

 

 

 

Yunhong CTI, LTD (f/k/a CTI Industries Corporation)

Condensed Consolidated Statements of Cash Flows (Unaudited)