ITEM
2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The
following is a discussion of our financial condition and results of operations, and should be read in conjunction with our financial
statements and the related notes included elsewhere in this Form 10-Q. Certain statements contained in this section
are not historical facts, including statements about our strategies and expectations about new and existing products, market demand,
acceptance of new and existing products, technologies and opportunities, market and industry segment growth, and return on investments
in products and markets. These statements are forward-looking statements as defined in the Private Securities Litigation
Reform Act of 1995, Section 27A of the Securities Act of 1933, and Section 21E of the Securities Exchange Act of 1934 (the "Exchange
Act"), and we intend such forward-looking statements to be covered by the safe harbor provisions for forward-looking statements
contained in these statutes. You can identify forward-looking statements by the use of forward-looking terminology
such as "believes," "expects," "may," "will," "should," "seeks," "intends,"
"plans" or "anticipates" or the negative of these words and phrases or similar words or phrases that are predictions
of or indicate future events or trends and that do not relate solely to historical matters. Such statements involve
substantial risks and uncertainties that may cause actual results to differ materially from those indicated by the forward-looking
statements. All forward-looking statements in this section are based on information available to us on the date of
this document, and we assume no obligation to update such forward looking statements. Readers of this Form 10-Q are
strongly encouraged to review the section titled "Risk Factors" in our December 31, 2019 Form 10-K.
Overview
Lifeloc
Technologies, Inc., a Colorado corporation ("Lifeloc" or the "Company"), is a Colorado-based developer,
manufacturer and marketer of portable hand-held and fixed station breathalyzers and related accessories, supplies and education.
We design, produce and sell fuel-cell based breath alcohol testing equipment. We compete in all major segments of the
portable breath alcohol testing instrument market, including law enforcement, workplace, corrections, original equipment manufacturing
("OEM") and consumer markets. In addition, we offer a line of supplies, accessories, services, and training to support
customers' alcohol testing programs. We sell globally through distributors as well as directly to users.
We
define our business as providing "near and remote sensing" products and solutions. Today, the majority of our revenues
are derived from products and services for alcohol detection and measurement. We remain committed to growing our breath alcohol
testing business. In the future, we anticipate the commercialization of new sensing and measurement products that may allow Lifeloc
to successfully expand our business into new growth areas where we do not presently compete or where no satisfactory product solutions
exist today.
In
addition, with the October 2014 purchase of our corporate headquarters and certain adjacent property, we added a new reporting
segment focused on the ownership and rental of real property through existing commercial leases.
Lifeloc
incorporated in Colorado in December 1983. We filed a registration statement on Form 10 with the Securities and
Exchange Commission, which became effective on May 31, 2011. Our fiscal year end is December 31. Our principal executive
offices are located at 12441 West 49th Avenue, Unit 4, Wheat Ridge, Colorado 80033-3338. Our telephone number is (303)
431-9500. Our websites are www.lifeloc.com, www.stsfirst.com and lifeguardbreathtester.com. Information contained
on our websites does not constitute part of this Form 10-K.
Principal
Products and Services and Methods of Distribution
Alcohol
Breath Testers
In
1989, we introduced our first breath alcohol tester, the PBA3000. Our Phoenix® Classic was completed and released for sale
in 1998, superseding the PBA3000. In turn, the Phoenix® Classic has been superseded by our FC Series and Workplace Series
of portable breath alcohol testers, which are discussed below. Neither the PBA3000 nor the Phoenix® Classic is actively sold
today.
In
2001, we completed and released for sale our new FC Series, designed specifically for domestic and international law enforcement
and corrections markets. The portable breath alcohol testers comprising our FC Series are currently being sold worldwide, having
contributed to our growth since their introduction. The FC Series is designed to meet the needs of domestic and international
law enforcement for roadside drink/drive testing and alcohol offender monitoring. The FC Series is approved by the U.S. Department
of Transportation ("DOT") as an evidential breath tester, making it suitable for sale to state law enforcement agencies
for preliminary roadside breath alcohol testing. The FC Series is routinely updated with firmware, software and component
improvements as they become available. It is readily adaptable to the specific requirements and regulations of domestic
and international markets.
In
2005 and 2006, we introduced two new models, the EV30 and Phoenix® 6.0 Evidential Breath Tester ("Phoenix® 6.0"),
which constitute our Workplace Series of testing devices. Like their predecessor, the Phoenix® Classic, and our
FC Series, these instruments are DOT approved. The DOT's specifications support the DOT's workplace alcohol testing programs,
including those applicable to workplace alcohol testing for the federally regulated transportation industry. We also sell component
parts used in alcohol testing devices, such as mouthpieces used by our breathalyzers, as well as forms and labels used for record
keeping, and calibration products for user re-calibration of our devices. We offer optional service agreements on our
equipment, re-calibration services, and spare parts, and we sell supporting instrument training and user certification training
to our workplace customers.
In
2006, we commenced selling breath alcohol equipment components that we manufacture to other OEMs for inclusion as subassemblies
or components in their breath alcohol testing devices.
In
late 2009, Lifeloc released the LifeGuard® Personal Breathalyzer ("LifeGuard®"), a personal alcohol breath
tester that incorporates the same fuel-cell technology used in our professional devices. Intended for the global consumer
breathalyzer market, LifeGuard® is marketed internationally through global distributors.
In
2011 and 2012, Lifeloc introduced Bluetooth wireless keyboard and printer communication options for our Phoenix® 6.0 along
with a series of web based workplace training courses. We believe these two product innovations have been key to our success
and leadership in workplace breath testing.
In
2013, Lifeloc expanded our FC Series of professional breath alcohol testers targeted at domestic and international law enforcement
and corrections markets with the addition of the FC5 Hornet (the "FC5"). The FC5 is a passive (no mouthpieces required)
portable handheld alcohol screening device that competes directly with passive alcohol screeners from our competitors in the education,
law enforcement, workplace and corrections markets.
In
2013, we also introduced the Sentinel™ zero tolerance alcohol screening station, a fully automated wall mounted screening
station for use in safety sensitive industries such as oil and gas and mining. Both devices expand Lifeloc's products for passive
alcohol screening.
In
the third quarter of 2014, we received approval from DOT for our EASYCAL® automatic calibration station for use with our Phoenix
® 6.0 Evidential Breath Testers, and we began shipments of the EASYCAL® to our law enforcement, corrections, workplace
and international customers. The EASYCAL® calibration station is a first of its kind device that automatically
performs breath tester instrument calibration, calibration verification and gas management. As compared to manual instrument
calibration, the EASYCAL® reduces the opportunity for human error, saves time and reduces operating costs. In May of
2019, we received DOT approval on a second generation EASYCAL® with broader capabilities called the EASYCAL® G2.
In
October 2015, we expanded our Sentinel™ line with the Sentinel™ VA alcohol screening station, a fully automated station
to control vehicular access to safety critical facilities, such as mines, refineries, power stations and nuclear facilities.
The Sentinel™ VA alcohol screening station is intended to allow all drivers entering a secure area to be tested quickly
and efficiently without leaving their vehicle.
In
November 2019, we received approval from DOT for our LX9 and LT7 base unit alcohol breathalyzers.
Testers
for Drugs of Abuse
In
August 2016, we entered into an exclusive patent license agreement with Sandia Corporation, Albuquerque, NM, pursuant to which
we acquired the exclusive rights to develop, manufacture and market Sandia's patented SpinDx™ technology for the detection
of drugs of abuse. SpinDx™ uses a centrifugal disk with micro fluidic flow paths allowing multiple tests to be carried out
on a single small sample. Sandia Corporation developed a prototype using the SpinDx™ technology under our Cooperative
Research and Development Agreement. We received the prototype in 2018 and are now commercializing the device. The SpinDx™
platform has the potential to improve real-time screening for a panel of high-abuse drugs, with the ability to efficiently and
quantitatively measure relatively low concentrations of drugs such as cocaine, heroin, methamphetamine, fentanyl and other high-abuse
drugs. We intend to use this technology, sometimes referred to as "Lab on a Disk", to develop devices and
tests that could be used at roadside, emergency rooms and in workplace testing to get a rapid and quantitative measure for a panel
of such drugs of abuse. We have detected delta-9-THC (the primary psychoactive component of marijuana) down to concentrations
of 5 nanograms per milliliter in our laboratory. This includes resolving the psychoactive delta-9-THC from its inactive
metabolites, an important step in establishing impairment. We completed the upgrade of our base breathalyzer platform in
2019 (the LX9), and we remain committed to combining it with the SpinDx™ technology. Our goal is to use this combination
to develop a THC breathalyzer. There is no assurance that our efforts to develop a marijuana breathalyzer will be successful
or that significant sales will result from such development if successful.
In
March 2017 we acquired substantially all of the assets related to the Real-time Alcohol Detection and Reporting product ("R.A.D.A.R.®")
from Track Group, Inc. ("TRCK") for $860,000 in cash. The purchased assets included the R.A.D.A.R.® device
with cellular reporting for real-time alcohol monitoring, database infrastructure to tabulate and manage subscriber behavior,
and biometric methodology and intellectual property to fully automate identity verification. The R.A.D.A.R.® device
was designed to be part of an offender supervision program as an alternative to incarceration, and it is assigned to offenders
as a condition of parole or probation with random testing throughout the day to demonstrate that they are meeting the conditions
of their sentence. We essentially completed improving the manufacturability of R.A.D.A.R.® devices in Q1 of 2020, with
final testing and sales to commence in Q2.
Training
Drug
and alcohol testing is highly regulated; thus quality training is an important component of our business. Initially, our
network of Master Trainers provided classroom training which generated certification fees. This was expanded to include
instructor materials, online training modules and direct (live) training via webcam. In 2011, we launched Lifeloc University,
a Learning Management System (LMS), defined as "a software application for the administration, documentation, tracking, reporting
and delivery of educational courses or training programs." Lifeloc University is a critical component for online training
courses since it provides student accountability. In 2018, we updated and revised the Lifeloc University LMS utilizing responsive
design so it could be viewed on mobile devices.
In
December 2014, we acquired substantially all of the assets of Superior Training Solutions, Inc. ("STS"), a company that
develops and sells online drug and alcohol training and refresher courses. We have augmented and updated the assets we acquired
from STS to enable mobile device usage. These assets complement our existing drug and alcohol training courses.
Real
Property
On
October 31, 2014, we purchased the commercial property we use as our corporate headquarters and certain adjacent property in Wheat
Ridge, Colorado. The building consists of 22,325 square feet, of which 14,412 square feet are occupied by us and 7,913 square
feet are currently leased to two tenants under leases that expire at various times in 2020. We intend to continue to lease the
space we are not occupying, but in the future may elect to expand our own operations into space currently leased to other tenants.
Our purchase of the property was partially financed through a term loan in an original principal amount of $1,581,106, secured
by a first-priority mortgage on the property. The loan matures in October 2024.
Additional
Areas of Interest
Consistent
with our business goal of providing "near and remote sensing and monitoring" products and solutions, our acquisition
strategy involves purchasing companies, development resources and assets that are aligned with our areas of interest and that
can further aid in our entering additional markets. We expect to actively research and engage in the acquisition of resources
that can expedite our entrance into new markets or strengthen our position in existing ones.
Results
of Operations
For
the three months ended March 31, 2020 compared to the three months ended March 31, 2019.
Net
sales. Our product sales for the quarter ended March 31, 2020 were $1,937,866, a decrease of 2% from $1,970,101 for the quarter
ended March 31, 2019. This decrease is primarily attributable to a decrease in demand, which is impacted by Covid-19. When
royalties of $59,281 and rental income of $21,189 are included, total revenues of $2,018,336 decreased by $50,425, or 2%, for
the quarter ended March 31, 2020 when compared to the same quarter a year ago. Product sales and royalties are expected to continue
to decline in Q2 as a continuing result of the Covid-19 impact.
Gross
profit. Our total gross profit for the three months ended March 31, 2020 of $778,076 represented a decrease of 17%
from total gross profit of $932,202 for the same period a year earlier. This decrease is primarily as a result of decreased sales
volume, as well as decreased royalties and rental income. Cost of product sales increased from $1,119,864 in Q1 of
2019 to $1,223,572 in Q1 of 2020, or 1%, primarily as a result of decreased sales volume and fixed production overhead.
Gross profit margin on products went from 43% in Q1 of 2019 to 37% in Q1 of 2020, also as a result of reduced sales volume.
Research
and development expenses. Our research and development expenses were $296,897 for the quarter ended March 31, 2020,
representing an increase of 21% over the $245,799 in the same quarter a year ago. This increase resulted mostly from
adding personnel and increased compensation, along with higher payments to outside vendors in connection with the work needed
to upgrade and re-launch R.A.D.A.R.®
Sales
and marketing expenses. Our sales and marketing expenses of $326,564 for the quarter ended March 31, 2020 were relative
unchanged from the $316,383 for the quarter ended March 31, 2019.
General
and administrative expenses. Our general and administrative expenses of $356,887 for the quarter ended March 31, 2020
increased over the same period a year ago by $31,712 or 10%, mostly attributable to stock-based compensation expense related to
stock options granted during the current quarter.
Other
income (expense). Our other income consisted of interest income of $7,176 in the quarter ended March 31, 2020,
which decreased over the $9,422 in the same quarter a year ago, mostly as the result of decreased yield on cash available for
investment in Q1 of 2020. Our interest expense of $14,131 in the current quarter over $14,423 in the same period a year
ago is the result of the balance of the term loan on our building declining.
Net
income (loss). We realized a net loss of $165,306 for the quarter ended March 31, 2020 compared to net income of $30,964
for the quarter ended March 31, 2019. This decrease of $196,270 was the result of the changes in gross profit and
operating expenses discussed above, offset in part by a reduction of income taxes of $52,801.
Trends
and Uncertainties That May Affect Future Results
Revenues
in the first quarter of 2020 were lower compared to revenues in 2019 as a result of the Covid-19 pandemic and related governmental
orders. We believe this situation will continue into Q2, although the re-launch of R.A.D.A.R.® late in Q1 may offset
this to some extent. We expect our quarter-to-quarter revenue fluctuations to continue, due to the unpredictable timing
of large orders from customers and the size of those orders in relation to total revenues. Going forward, we intend
to focus our development efforts on products we believe offer the best prospects to increase our intermediate and near-term revenues.
Our
2020 operating plan is focused on growing sales, increasing gross profits, and increasing research and development efforts on
new products for long term growth. We cannot predict with certainty the expected sales, gross profit, net income or
loss, or usage of cash and cash equivalents for 2020. However, we believe that cash resources and borrowing capacity
will be sufficient to fund our operations for the next twelve months under our current operating plan. If we are unable
to manage the business operations in line with our budget expectations, it could have a material adverse effect on business viability,
financial position, results of operations and cash flows. Further, if we are not successful in sustaining profitability and remaining
at least cash flow break-even, additional capital may be required to maintain ongoing operations.
Liquidity
and Capital Resources
We
compete in a highly technical, very competitive and, in most cases, price driven alcohol testing marketplace, where products can
take years to develop and introduce to distributors and end users. Furthermore, manufacturing, marketing and distribution
activities are regulated by the FDA, the DOT, and other regulatory bodies that, while intended to enhance the ultimate quality
and functionality of products produced, can contribute to the cost and time needed to maintain existing products and develop and
introduce new products.
We
have traditionally funded working capital needs through product sales and close management of working capital components of our
business. Historically, we have also received cash from private offerings of our common stock, warrants to purchase
shares of our common stock, and notes. In our earlier years, we incurred quarter to quarter operating losses to develop current
product applications, utilizing a number of proprietary and patent-pending technologies. Although we have been profitable
during the last several years, we expect that operating losses could well occur in the future. Should that situation
arise, we may not be able to obtain working capital funds necessary in the time frame needed and at satisfactory terms or at all.
On
October 31, 2014, we purchased the commercial property we use as our corporate headquarters and certain adjacent property in Wheat
Ridge, Colorado for a total purchase price of $1,949,139, of which we paid $368,033 in cash and financed the remaining $1,581,106
through a 10-year term loan from Bank of America bearing interest at 4.45% per annum (amended to 4% per annum in 2017), secured
by a first-priority security interest in the property we acquired with the loan. In connection with the term loan, we arranged
for a one-year $250,000 line of credit (increased to $500,000 in 2016, and again to $750,000 in 2017) from Bank of America secured
by all assets of the Company. The line of credit bears interest at a rate calculated at the LIBOR daily floating rate plus
2.5%. As of March 31, 2020, this credit facility had not been used.
Equipment
and software purchased during the quarter ended March 31, 2020 were $9,088, compared to $115,995 in the same period a year ago.
Building improvements during the quarter ended March 31, 2019 were $12,619, compared to none in the quarter ended March 31, 2020.
We filed patent applications at a cost to us of $18,772 in the first quarter of 2020 and $0 in the first quarter of 2019.
As
of March 31, 2020, cash was $2,913,331, accounts receivable were $638,038 and current liabilities were $1,118,402 resulting in
a net liquid asset amount of $2,432,968. We believe that the introduction of several new products during the last several
years, along with new and on-going customer relationships, will continue to generate sufficient revenues to maintain profitability. If
these revenues are not achieved on a timely basis, we may be required to implement cost reduction measures, as necessary.
We
generally provide a standard one-year warranty on materials and workmanship to our customers. We provide for estimated
warranty costs at the time product revenue is recognized. Warranty costs are included as a component of cost of goods
sold in the accompanying statements of income. For the quarter ended March 31, 2020 and for the quarter ended March
31, 2019, warranty costs were not deemed significant.
Critical
Accounting Policies and Estimates
Our
financial statements and accompanying notes have been prepared in accordance with United States generally accepted accounting
principles applied on a consistent basis. The preparation of financial statements in conformity with United States generally accepted
accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities,
the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues
and expenses during the reporting periods.
We
regularly evaluate the accounting policies and estimates that we use to prepare our financial statements. In general,
management's estimates are based on historical experience, on information from third party professionals, and on various other
assumptions that are believed to be reasonable under the facts and circumstances. Actual results could differ from those estimates
made by management.
Our
discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have
been prepared in accordance with accounting principles generally accepted in the United States. The preparation of
these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities,
sales and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, we evaluate
our estimates, including those related to bad debts, inventories, sales returns, warranty, contingencies and litigation. We
base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances,
the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily
apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. We
believe the following critical accounting policies affect the more significant judgments and estimates used in the preparation
of our financial statements.
We
have concluded that we have two operating segments, including our primary business which is as a developer, manufacturer, lessor
and marketer of portable hand-held breathalyzers and related accessories, supplies, education, training and royalties from development
contracts and a second segment consisting of renting portions of our building to existing tenants.
We
maintain allowances for doubtful accounts for estimated losses resulting from the inability of our customers to make required
payments. If the financial condition of our customers were to deteriorate, resulting in an impairment of their ability
to make payments, additional allowances would be required, which would increase our expenses during the periods in which any such
allowances were made. The amount recorded as a provision for bad debts in each period is based upon our assessment
of the likelihood that we will be paid on our outstanding receivables, based on customer-specific as well as general considerations. To
the extent that our estimates prove to be too high, and we ultimately collect a receivable previously determined to be impaired,
we may record a reversal of the provision in the period of such determination.
We
reduce inventory for estimated obsolete or unmarketable inventory equal to the difference between the cost of inventory and the
estimated market value based upon assumptions about future demand and market conditions. If actual market conditions
are less favorable than those projected by management, additional inventory write-downs may be required. Any write-downs
of inventory would reduce our reported net income during the period in which such write-downs were applied.
Property
and equipment are stated at cost, with depreciation computed over the estimated useful lives of the assets, generally five years
(three years for software and technology licenses). We use the double declining method of depreciation for property and
equipment, and the straight line method for software and technology licenses. We purchased all of the assets of STS, an online
education company, in 2014, which consisted of training courses that are amortized over 15 years using the straight line method.
In October 2014, we purchased our building. A majority of the cost of the building is depreciated over 39 years using the straight
line method. In addition, based on the results of a third party analysis, a portion of the cost was allocated to components integral
to the building. Such components are depreciated over 5 and 15 years, using the double declining method and the straight
line method respectively. Maintenance and repairs are expensed as incurred and major additions, replacements and improvements
are capitalized.
In
March 2017, we acquired the R.A.D.A.R.® assets from TRCK, which consisted of production equipment and of hardware device technology
(the "Devices") that are depreciated over 5 years using the double declining balance method when placed in service.
With the R.A.D.A.R.® assets, we also purchased software designed to measure breath alcohol content of the user and software
technology designed to allow the Devices to be configured and to capture and manage the data being returned from the Device, as
well as 6 issued U.S. patents and 16 domestic and international patent applications. This software and the patents and patent
applications will be amortized over 15 years using the straight line method.
Revenue
from product sales and supplies is generally recorded when we ship the product and title has passed to the customer, provided
that we have evidence of a customer arrangement and can conclude that collection is probable. The prices at which we
sell our products are fixed and determinable at the time we accept a customer's order. We recognize revenue from sales to stocking
distributors when there is no right of return, other than for normal warranty claims, and generally have no ongoing obligations
related to product sales, except for normal warranty.
The
sales of licenses to our training courses are recognized as revenue at the time of sale. Training and certification revenues
are recognized at the time the training and certification occurs. Data recording revenue is recognized based on each
day's usage of enrolled devices.
Revenues
arising from extended warranty contracts are booked as sales over their life on a straight-line basis. We are providing
for customer financing and leasing, which we recognize as revenue over the applicable lease term. Occasionally, we
rent used equipment to customers, and in those cases, we recognize the revenues as they are earned over the life of the contract.
Revenues from rental of equipment and extended service plans are recognized over the life of the contracts.
Royalty
income is recognized in accordance with agreed upon terms, when performance obligations are satisfied, the amount is fixed or
determinable and collectability is reasonably assured.
Rental
income from space leased to our tenants is recognized in the month in which it is due.
On
occasion we receive customer deposits for future product orders. Customer deposits are initially recorded as a liability
and recognized as revenue when the product is shipped and title has passed to the customer.
Stock-based
compensation is presented in accordance with the guidance of Financial Accounting Standards Board ("FASB") Accounting
Standards Codification ("ASC") Topic 718, Compensation — Stock Compensation ("ASC 718"). Under
the provisions of ASC 718, companies are required to estimate the fair value of share-based payment awards made to employees and
directors including employee stock options based on estimated fair values on the date of grant 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 periods
in our statement of operations.
Off-Balance
Sheet Arrangements
We
currently have no off-balance sheet arrangements that have or are reasonably likely to have a current or future material effect
on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures
or capital resources.
