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IDSY > SEC Filings for IDSY > Form 10-K on 28-Mar-2014All Recent SEC Filings

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Form 10-K for ID SYSTEMS INC


28-Mar-2014

Annual Report


Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

The following discussion is intended to assist you in understanding our financial condition and results of operations and should be read in conjunction with the financial statements and related notes included elsewhere in this Annual Report on Form 10-K. Many of the amounts and percentages in this section have been rounded for convenience of presentation, but actual recorded amounts have been used in computations. Accordingly, some information may appear not to compute accurately.

Overview

I.D. Systems, Inc. ("IDS", and together with its subsidiaries, "I.D. Systems," the "Company," "we," "our," or "us") develops, markets and sells wireless machine-to-machine ("M2M") solutions for managing and securing high-value enterprise assets. These assets include industrial vehicles, such as forklifts and airport ground support equipment; rental vehicles; and transportation assets, such as dry van trailers, refrigerated trailers, railcars and containers. Our patented wireless asset management systems utilize radio frequency identification (RFID), Wi-Fi, satellite or cellular communications, and sensor technology to address the needs of organizations to control, track, monitor and analyze their assets. Our solutions enable our customers to achieve tangible economic benefits by making timely, informed decisions that increase the security, productivity and efficiency of their operations.

We have focused our business activities on three primary applications: (i) industrial fleet management, (ii) transportation asset management, and (iii) rental fleet management. Our solution for industrial fleet management allows our customers to reduce operating costs and capital expenditures and to comply with certain safety regulations by accurately and reliably measuring and controlling fleet activity. This solution also enhances security at industrial facilities and areas of critical infrastructure, such as airports, by controlling access to, and restricting the use of, vehicles and equipment. Our solution for transportation asset management allows our customers to increase revenue per asset deployed, reduce fleet size, and improve the monitoring and control of sensitive cargo. Our solution for rental fleet management allows rental car companies to generate higher revenue by more accurately tracking vehicle data, such as fuel consumption and odometer readings, and improve customer service by expediting the rental and return processes. In addition, our wireless solution for "carsharing" enables rental car companies to establish a network of vehicles positioned strategically around cities for use by their members, control vehicles remotely, manage member reservations by phone or Internet, and charge members for vehicle use by the hour.

We sell our system to both executive and division-level management. Typically, our initial system deployment serves as a basis for potential expansion across the customer's organization. We work closely with customers to help maximize the utilization and benefits of our system and demonstrate the value of enterprise-wide deployments. Post-implementation, we consult with our customers to further extend and customize the benefits to the enterprise by delivering enhanced analytics capabilities.

We market and sell our solutions to a wide range of customers in the commercial and government sectors. Our customers operate in diverse markets, such as automotive manufacturing, heavy industry, retail and wholesale distribution, transportation, aerospace and defense, homeland security, and vehicle rental.

In December 2013, as part of a strategic review and in response to the expected engineering releases of our new products and/or new components, the Company evaluated its product life cycle expectations as it relates to inventory on hand as of December 31, 2013. With the expected release of the Company's next generation vehicle management systems vehicle platform, the VAC4, and expansion of the Company's product line of over-the-road asset management solutions, the Company made the strategic decision to discontinue offering the Powerkey and prior models of the satellite intermodal and rail product lines for sale to new customers in 2014. As a result of the strategic review of its products line, the Company recorded a $2,066,000 inventory reserve in December 2013.

We have incurred net losses of approximately $4.0 million, $2.6 million and $7.5 million for the years ended December 31, 2011, 2012 and 2013, respectively, and have incurred additional net losses since inception. At December 31, 2013, we had an accumulated deficit of approximately $63.6 million.

During the year ended December 31, 2013, we generated revenues of $39.9 million with Wal-Mart Stores, Inc. and the Raymond Corporation accounting for 18% and 10%, respectively, of our revenues. During the year ended December 31, 2012, we generated revenues of $44.6 million, with Avis Budget Group, Inc. and Wal-Mart Stores, Inc. accounting for 18% and 15%, respectively, of our revenues. During the year ended December 31, 2011, we generated revenues of $39.3 million, with Wal-Mart Stores, Inc., Avis Budget Group, Inc., and Ford Motor Company accounting for 17%, 11% and 10%, respectively, of our revenues.

We are highly dependent upon sales of our system to a few customers. The loss of any of these key customers, or any material reduction in the amount of our products they purchase during a particular period, could materially and adversely affect our revenues for such period. Conversely, a material increase in the amount of our products purchased by a key customer (or customers) during a particular period could result in a significant increase in our revenues for such period, and such increased revenues may not recur in subsequent periods. Some of these key customers, as well as other customers of the Company, operate in markets that have suffered business downturns in the past few years or may so suffer in the future, particularly in light of the current global economic downturn, and any material adverse change in the financial condition of such customers could materially and adversely affect our financial condition and results of operations. If we are unable to replace such revenue from existing or new customers, the market price of our common stock could decline significantly.

We expect that many customers who utilize our solutions will do so as part of a large-scale deployment of these solutions across multiple or all divisions of their organizations. A customer's decision to deploy our solutions throughout its organization will involve a significant commitment of its resources. Accordingly, initial implementations may precede any decision to deploy our solutions enterprise-wide. Throughout this sales cycle, we may spend considerable time and expense educating and providing information to prospective customers about the benefits of our solutions.

The timing of the deployment of our solutions may vary widely and will depend on the specific deployment plan of each customer, the complexity of the customer's organization and the difficulty of such deployment. Customers with substantial or complex organizations may deploy our solutions in large increments on a periodic basis. Accordingly, we may receive purchase orders for significant dollar amounts on an irregular and unpredictable basis. Because of our limited operating history and the nature of our business, we cannot predict the timing or size of these sales and deployment cycles. Long sales cycles, as well as our expectation that customers will tend to place large orders sporadically with short lead times, may cause our revenues and results of operations to vary significantly and unexpectedly from quarter to quarter.

Our ability to increase our revenues and generate net income will depend on a number of factors, including our ability to:

increase sales of products and services to our existing customers;

convert our initial programs into larger or enterprise-wide purchases by our customers;

increase market acceptance and penetration of our products; and

develop and commercialize new products and technologies.

Critical Accounting Policies and Estimates

We have adopted various accounting policies that govern the application of accounting principles generally accepted in the United States in the preparation of our financial statements. Our significant accounting policies are described in Note 2 to our consolidated financial statements included in this Annual Report on Form 10-K. Certain accounting policies involve significant judgments and assumptions by our management that can have a material impact on the carrying value of certain assets and liabilities. We consider such accounting policies to be our critical accounting policies. The judgments and assumptions used by our management in these critical accounting policies are based on historical experience and other factors that our management believes to be reasonable under the circumstances. Because of the nature of these judgments and assumptions, actual results could differ significantly from these judgments and estimates, which could have a material impact on the carrying values of our assets and liabilities and our results of operations. Our critical accounting policies are described below.

Revenue Recognition

We derive revenue from: (i) sales of our industrial and rental fleet wireless asset management systems and services, which includes training and technical support; (ii) sales of our transportation asset management systems and spare parts sold to customers (for which title transfers on the date of customer receipt) and from the related communication services under contracts that generally provide for service over periods ranging from one to five years; (iii) post-contract maintenance and support agreements; and (iv) periodically, from leasing arrangements.

Our industrial and rental fleet wireless asset management systems consist of on-asset hardware, communication infrastructure and software. Revenue derived from the sale of our industrial and rental fleet wireless asset management systems is allocated to each element based upon vendor specific objective evidence (VSOE) of the fair value of the element. VSOE of the fair value is based upon the price charged when the element is sold separately. Revenue is recognized as each element is earned based on the selling price of each element based upon VSOE, and when there are no undelivered elements that are essential to the functionality of the delivered elements. The Company's system is typically implemented by the customer or a third party and, as a result, revenue is recognized when title and risk of loss passes to the customer, which usually is upon delivery of the system, persuasive evidence of an arrangement exists, sales price is fixed and determinable, collectability is reasonably assured and contractual obligations have been satisfied. In some instances, we are also responsible for providing installation services. The installation services, which could be performed by third parties, are considered another element in a multi-element deliverable and revenue for installation services is recognized at the time the installation is provided. Training and technical support revenue are recognized at time of performance.

We recognize revenues from the sale of remote transportation asset management systems and spare parts when persuasive evidence of an arrangement exists, delivery has occurred, the price is fixed or determinable, and collectability is reasonably assured. These criteria include requirements that the delivery of future products or services under the arrangement is not required for the delivered items to serve their intended purpose. The Company has determined that the revenue derived from the sale of transportation asset management systems does not have stand-alone value to the customer separate from the communication services provided and, therefore, the arrangements constitute a single unit of accounting. Under the applicable accounting guidance, all of the Company's billings for equipment and the related cost are deferred, recorded, and classified as a current and long-term liability and a current and long-term asset, respectively. Deferred revenue and cost are recognized over the service contract life, beginning at the time that a customer acknowledges acceptance of the equipment and service. The customer service contracts typically range from one to five years.

The service revenue for our remote asset monitoring equipment relates to charges for monthly messaging usage and value-added features charges. The usage fee is a monthly fixed charge based on the expected utilization according to the rate plan chosen by the customer. Service revenue generally commences upon equipment installation and customer acceptance, and is recognized over the period such services are provided.

Spare parts sales are reflected in product revenues and recognized on the date of customer receipt of the part. Revenue from remote asset monitoring equipment activation fees are deferred and amortized over the life of the contract.

We also enter into post-contract maintenance and support agreements for our wireless asset management systems. Revenue is recognized over the service period and the cost of providing these services is expensed as incurred. Deferred revenue also includes prepayment of extended maintenance and support contracts.

Financing Receivables

Notes receivable relate to interest-bearing product financing arrangements that exceed one year and are recorded at face value. Interest income is recognized over the life of the note. Amounts collected on notes receivable are included in net cash provided by operating activities in the consolidated statements of cash flows. Unearned income is amortized to interest income over the life of the notes using the effective-interest method.

We also derive revenue under leasing arrangements. The arrangements provide for monthly payments covering the system sale, maintenance, support and interest. These arrangements meet the criteria to be accounted for as sales-type leases. Accordingly, an asset is established for the "sales-type lease receivable" at the present value of the future minimum lease payments. Revenue is deferred and recognized over the service contract, as described above. Maintenance revenue is recognized monthly over the lease term. Interest income is recognized monthly over the lease term using the effective-interest method.

The allowance for uncollectable minimum lease payments represents our best estimate of the amount of credit losses in the existing notes and sales-type lease receivable. The allowance is determined on an individual note and lease basis if it is probable that the Company will not collect all principal and interest contractually due. We consider our customers' financial condition and historical payment patterns in determining the customers' probability of default. The impairment is measured based on the present value of expected future cash flows discounted at the note's effective interest rate. There were no impairment losses recognized for the years ended December 31, 2011, 2012 and 2013. We do not accrue interest when a note or lease is considered impaired. When the ultimate collectability of the principal balance of the impaired note or lease is in doubt, all cash receipts on impaired notes or leases are applied to reduce the principal amount of such notes/leases until the principal has been recovered and are recognized as interest income thereafter. Impairment losses are charged against the allowance and increases in the allowance are charged to bad debt expense. Notes and leases are written off against the allowance when all possible means of collection have been exhausted and the potential for recovery is considered remote. We resume accrual of interest when it is probable that we will collect the remaining principal and interest of an impaired note/lease. Notes and leases become past due based on how recently payments have been received.

Inventory

Inventory, which primarily consists of finished goods and components used in the Company's products, is stated at the lower of cost or market using the first-in first-out (FIFO) method.

Inventory valuation reserves are established in order to report inventories at the lower of cost or market value in the consolidated balance sheet. The determination of inventory valuation reserves requires management to make estimates and judgments on the future salability of inventories. Valuation reserves for obsolete and slow-moving inventory are estimated based on assumptions of future sales forecasts, product life cycle expectations, the impact of new product introductions, production requirements, and specific identification of items, such as product discontinuance or engineering/material changes and by comparing the inventory levels to historical usage rates.

In December 2013, as part of a strategic review and in response to the expected engineering releases of our new products and/or new components, the Company evaluated its product life cycle expectations as it relates to inventory on hand as of December 31, 2013. With the release of the Company's next generation vehicle management systems vehicle platform, the VAC4, and expansion of the Company's product line of over-the-road asset management solutions, the Company decided to discontinue offering the Powerkey and prior models of the satellite intermodal and rail product lines for sale to new customers in 2014. As a result, the Company recorded a $2,066,000 inventory reserve in December 2013.

Stock-Based Compensation

We account for stock-based employee compensation for all share-based payments, including grants of stock options, as an operating expense, based on their fair values on the grant date. The Company recorded stock-based compensation expense of $1,188,000, $1,154,000 and $1,118,000 for the years ended December 31, 2011, 2012 and 2013, respectively.

We estimate the fair value of share-based payment awards on the grant date using an option pricing model. The value of the portion of the award that is ultimately expected to vest is recognized as expense over the requisite service period in our consolidated statement of operations. We estimate forfeitures at the time of grant in order to estimate the amount of share-based awards that will ultimately vest. The estimate is based on our historical rates of forfeitures. Estimated forfeitures are revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates.

Long-lived Assets

Long-lived assets 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 the assets to the future undiscounted net cash flows expected to be generated by the asset. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds the fair value of the assets and would be charged to earnings.

Goodwill and Other Intangible Assets

Goodwill represents costs in excess of fair values assigned to the underlying net assets of acquired businesses. Goodwill and intangible assets deemed to have indefinite lives are not amortized. Intangible assets are amortized over their estimated useful lives unless the lives are determined to be indefinite. Intangible assets are carried at cost, less accumulated amortization and impairment charges. Intangible assets consist of trademarks and trade names, patents, customer relationships and other intangible assets. We test goodwill and other intangible assets annually, or when a triggering event occurs between annual impairment tests, to determine if impairment exists and if the use of indefinite lives is currently applicable.

For the year ended December 31, 2013 we recorded a $74,000 impairment charge to our PowerKey tradename and trademark intangible assets which is included in amortization expense. In December 2013, as part of a strategic review of our product lines for 2014we decided to discontinue offering the Powerkey product line for sale to new customers in 2014 and as result, wrote-off the PowerKey tradename and trademark intangible assets. There were no impairments to the remaining trademark and tradename intangible assets.

Product Warranties

We provide a one-year warranty on our products. Estimated future warranty costs are accrued in the period that the related revenue is recognized. These estimates are derived from historical data and trends of product reliability and costs of repairing and replacing defective products.

Income taxes

We use the asset and liability method of accounting for deferred income taxes. Deferred income taxes are measured by applying enacted statutory rates to net operating loss carryforwards and to the differences between the financial reporting and tax bases of assets and liabilities. Deferred tax assets are reduced, if necessary, by a valuation allowance if it is more likely than not that some portion or all of the deferred tax assets will not be realized.

Fair Value Measurements

In determining fair value of financial instruments, we utilize a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value into three broad levels. The following is a brief description of those levels:

Level 1: Unadjusted quoted prices in active markets for identical assets or liabilities.

Level 2: Inputs other than quoted prices that are observable for the asset or liability, either directly or indirectly. These include quoted prices for similar assets or liabilities in active markets and quoted prices for identical or similar assets or liabilities in markets that are not active.

Level 3: Unobservable inputs that reflect the reporting entity's estimates of market participant assumptions.

Results of Operations

The following table sets forth certain items related to our statement of operations as a percentage of revenues for the periods indicated and should be read in conjunction with our consolidated financial statements and the related notes included elsewhere in this Annual Report on Form 10-K. A detailed discussion of the material changes in our operating results is set forth below.

                                                          Year Ended December 31,
                                                        2011        2012       2013
Revenues:
Products                                                  57.1 %     64.2 %     57.9 %
Services                                                  42.9       35.8       42.1

                                                         100.0      100.0      100.0

Cost of revenues:
Cost of products                                          32.7       35.9       39.8
Cost of services                                          14.9       12.7       15.3

Total gross profit                                        52.4       51.4       44.9

Selling, general and administrative expenses              56.0       50.2       54.5
Research and development expenses                          9.0        9.7       11.0

Loss from operations                                    (12.6)      (8.5)     (20.6)
Interest income                                            0.6        1.1        1.6
Other income (loss), net                                   0.7        0.1        0.1

Loss before income taxes                                (11.3)      (7.3)     (18.9)
Income tax benefit - sale of NJ net operating losses       1.0        1.5         .2

Net loss                                                (10.3) %    (5.8) %   (18.7) %

Year Ended December 31, 2013 Compared to Year Ended December 31, 2012

The following table sets forth our revenues by product line for the periods
indicated:

                                                 Year Ended
                                                December 31,
                                             2012           2013
Product revenue:
Industrial and rental fleet management   $ 22,636,000   $ 16,751,000
Transportation asset management             6,004,000      6,389,000
                                           28,640,000     23,140,000

Services revenue:
Industrial and rental fleet management      4,434,000      5,338,000
Transportation asset management            11,561,000     11,468,000
                                           15,995,000     16,806,000

                                         $ 44,635,000   $ 39,946,000

REVENUES. Revenues decreased by approximately $4.7 million, or 10.5%, to $39.9 million in 2013 from $44.6 million in 2012. The decrease in revenue is principally attributable to a decrease in total industrial and rental fleet management revenue of approximately $5.0 million to $22.1 million in 2013 from $27.1 million in 2012 due to a decrease in rental fleet management revenue of approximately $6.8 million from Avis Budget Group, Inc., representing revenue from the delivery of 20,000 units under SOW#1 in 2012, which was partially offset by an increase in industrial fleet management revenue of $1.8 million in 2013. Transportation asset management revenue increased by approximately $0.3 million to $17.9 million in 2013 from $17.6 million in 2012.

Revenues from products decreased by approximately $5.5 million, or 19.2%, to $23.1 million in 2013 from $28.6 million in 2012. Industrial and rental fleet management product revenue decreased by approximately $5.9 million to $16.8 million in 2013 from $22.6 million in 2012. Transportation asset management product revenue increased approximately $0.4 million to $6.4 million in 2013 from $6.0 million in 2012. The decrease in industrial and rental fleet management product revenue resulted principally from a decrease in revenue of approximately $7.5 million from Avis Budget Group, Inc. representing revenue from the delivery of 20,000 units under SOW#1 in 2012, partially offset by increased product sales of $2.6 million to the Raymond Corporation in 2013. The increase in transportation asset management product revenue resulted principally from increased product sales to Wal-Mart Stores, Inc.

Revenues from services increased by approximately $0.8 million, or 5.1%, to $16.8 million in 2013 from $16.0 million in 2012. Industrial and rental fleet management service revenue increased approximately $0.9 million to $5.3 million in 2012 from $4.4 million in 2012 principally due to an increase in revenue of $0.7 million from Avis Budget Group, Inc. from services related to the units under SOW#1. Transportation asset management service revenue decreased approximately $0.1 million to $11.5 million in 2013 from $11.6 million in 2012.

The following table sets forth our cost of revenues by product line for the periods indicated:

                                                 Year Ended
                                                December 31,
                                             2012           2013
Cost of products:
Industrial and rental fleet management   $ 10,871,000   $ 10,068,000
Transportation asset management             5,167,000      5,846,000
                                           16,038,000     15,914,000

Cost of services:
Industrial and rental fleet management      2,140,000      2,695,000
Transportation asset management             3,527,000      3,427,000
                                            5,667,000      6,122,000

                                         $ 21,705,000   $ 22,036,000

COST OF REVENUES. Cost of revenues increased by approximately $0.3 million, or 1.5%, to $22.0 million in 2013 from $21.7million in 2012. The increase is principally attributable to a $2.1 million increase in the inventory reserve in 2013. In December 2013, as part of a strategic review and in response to the expected engineering releases of our new products and/or new components, the Company evaluated its product life cycle expectations as it relates to inventory as of December 31, 2013. With the release of the Company's next generation vehicle management systems vehicle platform, the VAC4, and expansion of the Company's product line of over-the-road asset management solutions, the Company . . .

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