Notes to Condensed Consolidated Financial Statements
June 30, 2016
(unaudited)
Active Power, Inc. and its subsidiaries (collectively, “we”, “us”, “Active Power” or “Company”) design, manufacture, sell, and service flywheel-based uninterruptible power supply (“UPS”) products that use kinetic energy to provide short-term power as a cleaner alternative to conventional electro-chemical battery-based energy storage. We also design, manufacture, sell, and service modular infrastructure solutions (“MIS”) that integrate critical power components into a pre-packaged, purpose-built enclosure that may include our UPS products as a component. In the second quarter of 2016,
84%
of our product revenue came from the sale of UPS systems and
16%
from the sale of MIS products. Our products and solutions are based on our patented flywheel and power electronics technology and are designed to ensure continuity for data centers and other mission critical operations in the event of power disturbances.
Our products and solutions are designed to deliver continuous conditioned power during power disturbances such as voltage sags and surges, and to provide ride-through power in the event of a brief utility failure, supporting operations until utility power is restored or a longer term alternative power source, such as a diesel generator, is started. We sell our products globally through our direct sales force, manufacturer’s representatives, distributors, original equipment manufacturers (“OEM”), and IT partners in the Americas, in Europe, the Middle East, and Africa (“EMEA”), and in the Asia Pacific region (“APAC”).
We also offer services, including hardware and software maintenance, on all Active Power products, and other professional services such as assessment and implementation, for our customers’ infrastructure projects.
We were founded as a Texas corporation in 1992 and reincorporated in Delaware in 2000. Our headquarters are in Austin, Texas, with international offices in the United Kingdom, Germany, and China.
The accompanying condensed consolidated balance sheet as of
December 31, 2015
, which has been derived from our audited financial statements, and the unaudited condensed consolidated financial statements as of
June 30, 2016
, have been prepared in accordance with accounting principles generally accepted in the United States of America (“US GAAP”) for interim financial statements and pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) for interim reporting, and include the accounts of the Company and its consolidated subsidiaries. All intercompany transactions and balances have been eliminated upon consolidation. Certain information and note disclosures normally included in annual financial statements prepared in accordance with US GAAP have been condensed or omitted pursuant to those rules and regulations, although we believe the disclosures made are adequate to make the information not misleading. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments (consisting only of normal recurring items) necessary to present fairly the consolidated financial position of the Company and its consolidated results of operations and cash flows. These interim financial statements should be read in conjunction with the financial statements and accompanying notes included in our Annual Report on Form 10-K for the year ended
December 31, 2015
.
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2.
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Significant Accounting Policies and Supplemental Balance Sheet Information
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For a complete description of our principal accounting policies see Note 1. “Summary of Significant Accounting Policies,” to our Consolidated Financial Statements and Notes thereto included in our Annual Report on Form 10-K for the fiscal year ended
December 31, 2015
. Shown below are certain of our principal accounting policies.
Restricted Cash
Our restricted cash balance of
$37,000
as of
June 30, 2016
, consists of a
$6,000
deposit guarantee for our building lease in Germany, which renews every
six months
through the term of the lease agreement and a
$31,000
performance guarantee to a customer that was secured with a letter of credit, which expires in
June 2017
. As of
December 31, 2015
, our restricted cash balance was
$36,000
, which consisted of secured performance and deposit guarantees.
Receivables
Accounts receivable consist of the following (in thousands):
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|
|
|
|
|
|
|
|
|
June 30, 2016
|
|
December 31, 2015
|
Trade receivables
|
$
|
6,610
|
|
|
$
|
8,919
|
|
Less: Allowance for doubtful accounts
|
(37
|
)
|
|
(70
|
)
|
|
$
|
6,573
|
|
|
$
|
8,849
|
|
We estimate an allowance for doubtful accounts based on factors related to the credit risk of each customer. Historically, credit losses have been minimal, primarily because the majority of our revenues were generated from large customers, such as Caterpillar, Inc. (“Caterpillar”) and Hewlett Packard Enterpise. We perform credit evaluations of new customers and, when necessary, we require deposits, prepayments or use of bank instruments such as trade letters of credit to mitigate our credit risk. We write off uncollectable trade receivables, and record any recoveries of previous write offs against the allowance. Our standard payment terms are net
30
days; however, we may have agreements with certain larger customers and certain distributors that allow for more extended terms at or above net
60
days.
Inventories, net
Inventories are stated at the lower of cost or market, using the first-in-first-out method, and consist of the following (in thousands, net of allowances of
$0.9 million
and
$0.8 million
at
June 30, 2016
and
December 31, 2015
, respectively):
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|
|
|
|
|
|
|
|
|
June 30, 2016
|
|
December 31, 2015
|
Raw materials
|
$
|
4,638
|
|
|
$
|
4,748
|
|
Work in process
|
1,785
|
|
|
1,425
|
|
Finished goods
|
1,939
|
|
|
293
|
|
|
$
|
8,362
|
|
|
$
|
6,466
|
|
Accrued Expenses
Accrued expenses consist of the following (in thousands):
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|
|
|
|
|
|
|
|
June 30, 2016
|
|
December 31, 2015
|
Compensation, severance and benefits
|
$
|
822
|
|
|
$
|
727
|
|
Management incentive bonus
|
1,200
|
|
|
1,282
|
|
Warranty liability
|
347
|
|
|
531
|
|
Taxes, other than income
|
303
|
|
|
518
|
|
Professional fees
|
346
|
|
|
441
|
|
Deferred Rent and other
|
665
|
|
|
995
|
|
|
$
|
3,683
|
|
|
$
|
4,494
|
|
Warranty Liability
Generally, the warranty period for our products is
12 months
from the date of commissioning or
18 months
from the date of shipment from Active Power, whichever period is shorter. Occasionally, we provide longer warranty periods to certain customers. The warranty period for products sold to our primary OEM customer, Caterpillar, is
12 months
from the date of shipment to the end-user, or up to
36 months
from shipment from Active Power, whichever period is shorter. This is dependent upon Caterpillar complying with our storage requirements for our products in order to preserve this warranty period beyond the standard
18
-month
limit. We provide for the estimated cost of product warranties at the time revenue is recognized, and this accrual is included in accrued expenses and long-term liabilities on the accompanying consolidated balance sheet. Changes in our warranty liability are as follows (in thousands):
|
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|
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|
Balance at December 31, 2015
|
$
|
572
|
|
Warranty expense
|
(19
|
)
|
Payments
|
(183
|
)
|
Balance at June 30, 2016
|
$
|
370
|
|
|
|
|
Warranty liability included in accrued expenses
|
$
|
347
|
|
Warranty liability included in long-term liabilities
|
23
|
|
Balance at June 30, 2016
|
$
|
370
|
|
Revenue Recognition
We recognize revenue when
four
criteria are met: (i) persuasive evidence that an arrangement exists; (ii) delivery has occurred or services have been rendered; (iii) the sales price is fixed or determinable; and (iv) collectability is reasonably assured. In general, revenue is recognized when revenue-generating transactions fall into one of the following categories of revenue recognition:
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•
|
We recognize product revenue at the time of shipment for a significant portion of all products sold directly to customers and through distributors because title and risk of loss pass on delivery to the common carrier. Our customers and distributors do not have the right to return products. We may enter into bill-and-hold arrangements and when this occurs physical delivery may not be present, but other criteria are reviewed to determine proper timing of revenue recognition.
|
|
|
•
|
Unless performed under a maintenance contract, we recognize installation, service and maintenance revenue at the time the service is performed.
|
|
|
•
|
We recognize revenue associated with maintenance agreements over the life of the contracts using the straight-line method, which approximates the expected timing in which applicable services are performed. Amounts collected in advance of revenue recognition are recorded as a current liability in the deferred revenue line of the consolidated balance sheet or as a long-term liability based on the time from the balance sheet date to the future date of revenue recognition.
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•
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We recognize revenue on certain rental programs over the life of the rental agreements using the straight-line method. Amounts collected in advance of revenue recognition are recorded as a current or long-term liability based on the time from the balance sheet date to the future date of revenue recognition.
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When collectability is not reasonably assured, we defer revenue and will recognize revenue as payments are received.
Multiple element arrangements (“MEAs”) are arrangements to sell products to customers that frequently include multiple deliverables. Our most significant MEAs include the sale of
one
or more of our CleanSource® UPS or CleanSource PowerHouse products, combined with
one
or more of the following products or services: design services, project management, commissioning and installation services, spare parts or consumables, and maintenance agreements. Delivery of the various products or performance of services within the arrangement may or may not coincide. Certain services related to design and consulting may occur prior to product delivery. Commissioning and installation typically take place within
six months
of product delivery, depending upon customer requirements. Maintenance agreements, consumables, and repair, maintenance or consulting services are generally delivered over a period of
one
to
five
years.
When arrangements include multiple elements, we allocate revenue to each element based on the relative selling price and recognize revenue when the elements have standalone value and the
four
criteria for revenue recognition have been met. We establish the selling price of each element based on Vendor Specific Objective Evidence (“VSOE”) if available, Third Party Evidence (“TPE”) if VSOE is not available, or best estimate of selling price if neither VSOE nor TPE is available. We generally determine selling price based on amounts charged separately for the delivered and undelivered elements to similar customers in standalone sales of the specific elements. When arrangements include a maintenance agreement, we recognize revenue related to the maintenance agreement at the relative selling price on a straight-line basis over the life of the agreement.
Any taxes imposed by governmental authorities on our revenue-producing transactions with customers are shown in our consolidated statements of operations on a net-basis; that is, excluded from our reported revenues.
Recently issued accounting pronouncements not yet adopted
In March 2016, the Financial Accounting Standards Board (the “FASB”) issued Accounting Standards Update (“ASU”) No. 2016-09, (“ASU 2016-09”), Compensation - Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting. The amendments in this update simplify several aspects of the accounting for share-based payment award transactions including: (a) income tax consequences; (b) classification of awards as either equity or liabilities; and (c) classification on the statement of cash flows. For public entities, ASU 2016-09 is effective for financial statements issued for annual periods beginning after December 15, 2016, and interim periods within those annual periods. We do not expect the adoption of this standard will have a material effect on our consolidated financial statements.
In February 2016, FASB issued ASU No. 2016-02, (“ASU 2016-02”), Leases (Topic 842). The amendments in this update require lessees to recognize a lease liability measured on a discounted basis and a right-of-use asset for all leases at the commencement date. For public entities, ASU 2016-02 is effective for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years, and is to be applied using a modified retrospective transition approach for leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements. We are evaluating the new guidelines to see if they will have a significant impact on our consolidated results of operation, financial condition or cash flows.
In November 2015, the FASB issued ASU No. 2015-17, (“ASU 2015-17”), Income Taxes (Topic 740): Balance Sheet Classification of Deferred Taxes. The amendments in this update simplify the presentation of deferred income taxes and require that deferred tax liabilities and assets be classified as noncurrent in a classified statement of financial position. This update applies to all entities that present a classified statement of financial position. These amendments may be applied either prospectively to all deferred tax liabilities and assets or retrospectively to all periods presented. If the guidance is applied prospectively, disclosure is made in the first interim and first annual period of change, the nature of and reason for the change in accounting principle and a statement that prior periods were not retrospectively adjusted. If the guidance is applied retrospectively, disclosure is made in the first interim and first annual period of change, the nature of and reason for the change in accounting principle and quantitative information about the effects of the accounting change on prior periods. ASU 2015-17 is effective for financial statements issued for annual periods beginning after December 15, 2016, and interim periods within those annual periods. We do not expect the adoption of this standard will have a material effect on our consolidated financial statements.
In July 2015, the FASB issued ASU No. 2015-11, (“ASU 2015-11”), Inventory (Topic 330): Simplifying the Measurement of Inventory. ASU 2015-11 requires an entity to measure in scope inventory at the lower of cost and net realizable value. The amendment does not apply to inventory that is measured using the last-in, first-out or the retail inventory method. For public entities, ASU 2015-11 is effective for fiscal years beginning after December 15, 2016, and interim periods within those fiscal years, and is to be applied prospectively. We do not expect the adoption of this standard will have a material effect on our consolidated financial statements.
In August 2014, the FASB issued ASU No. 2014-15, (“ASU 2014-15”), Disclosure of Uncertainties About an Entity’s Ability to Continue as a Going Concern. ASU 2014-15 requires management to perform interim and annual assessments of an entity’s ability to continue as a going concern within one year of the date the financial statements are issued and provides guidance on determining when and how to disclose going concern uncertainties in the financial statements. Certain disclosures will be required if conditions give rise to substantial doubt about an entity’s ability to continue as a going concern. ASU 2014-15 applies to all entities and is effective for annual and interim reporting periods ending after December 15, 2016, with early adoption permitted. We are evaluating the new guidelines to see if they will have a significant impact on our consolidated results of operation, financial condition or cash flows.
In May 2014, the FASB issued ASU No. 2014-09, (“ASU 2014-09”), Revenue from Contracts with Customers (Topic 606)
.
This ASU will supersede the revenue recognition requirements in Topic 605, Revenue Recognition, and most industry-specific guidance, and creates a Topic 606 Revenue from Contracts with Customers. The core principle of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. In August 2015, the FASB issued ASU 2015-14, Revenue from Contracts with Customers (Topic 606): Deferral of the Effective Date
,
which defers the effective date of its new revenue recognition standard by one year. In March 2016, the FASB issued ASU 2016-08, Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations (Reporting Revenue Gross versus Net), which is intended to improve the operability and understandability of the implementation guidance on principal versus agent considerations by amending certain existing illustrative examples and adding additional illustrative examples.
In April 2016, the FASB issued ASU No. 2016-10, (“ASU 2016-10”) Revenue from Contracts with Customers (Topic 606): Identifying Performance Obligations and Licensing, which adds further guidance on identifying performance obligations and improves the operability and understanding of the licensing implementation guidance. In May 2016, the FASB issued ASU 2016-11, Revenue Recognition (Topic 605) and Derivatives and Hedging (Topic 815): Rescission of SEC Guidance Because of Accounting Standards Updates 2014-09 and 2014-16 Pursuant to Staff Announcements at the March 3, 2016 EITF Meeting, which rescinds SEC paragraphs pursuant to the SEC Staff Announcement, “Rescission of Certain SEC Staff Observer Comments upon Adoption of Topic 606,” and the SEC Staff Announcement, “Determining Whether the Host Contract in a Hybrid Financial Instrument Issued in the Form of a Share Is More Akin to Debt or Equity”. The FASB also issued ASU 2016-12, Revenue from Contracts with Customers (Topic 606): Narrow-Scope Improvements and Practical Expedients, which addresses narrow-scope improvements to the guidance on collectability, noncash consideration, and completed contracts at transition. Additionally, the amendments in this update provide a practical expedient for contract modifications at transition and an accounting policy election related to the presentation of sales taxes and other similar taxes collected from customers. We will adopt this guidance January 1, 2018. We are evaluating the new guidelines to determine if they will have a significant impact on our consolidated results of operation, financial condition or cash flows.
3. Net Loss Per Share
The following table sets forth the computation of basic and diluted net loss per share (in thousands, except per share data):
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|
|
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|
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|
|
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|
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Three Months Ended June 30,
|
|
Six Months Ended June 30,
|
|
2016
|
|
2015
|
|
2016
|
|
2015
|
Net loss
|
$
|
(1,837
|
)
|
|
$
|
(258
|
)
|
|
$
|
(5,892
|
)
|
|
$
|
(1,817
|
)
|
Basic and dilutive:
|
|
|
|
|
|
|
|
|
|
|
|
Weighted-average shares of common stock outstanding used in computing basic and diluted net loss per share
|
23,141
|
|
|
23,133
|
|
|
23,140
|
|
|
23,131
|
|
|
|
|
|
|
|
|
|
Basic and diluted net loss per share
|
$
|
(0.08
|
)
|
|
$
|
(0.01
|
)
|
|
$
|
(0.25
|
)
|
|
$
|
(0.08
|
)
|
The calculation of diluted loss per share excludes
3,348,022
and
3,177,928
shares of common stock issuable upon exercise of employee stock options for the
six
months ended
June 30, 2016
and
2015
, respectively, and non-vested shares of restricted stock units issuable upon vesting of
475,200
and
13,765
shares for the
six
months ended
June 30, 2016
and
2015
, respectively, because their inclusion would be anti-dilutive.
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4.
|
Fair Value of Financial Instruments
|
Fair value is measured based on an exit price, representing the amount that would be received to sell an asset or paid to satisfy a liability in an orderly transaction between market participants. Fair value is a market-based measurement that should be determined based on assumptions that market participants would use in pricing an asset or liability. As a basis for considering such assumptions, a fair value hierarchy is established, which categorizes the inputs used in measuring fair value as follows:
Level 1—Quoted prices in active markets for identical assets or liabilities.
Level 2—Significant observable inputs other than quoted prices in Level 1, such as quoted prices for similar assets and liabilities in active markets; quoted prices for identical or similar assets and liabilities in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.
Level 3—One or more significant inputs that are unobservable and supported by little or no market data.
Highest priority is given for Level 1 input and lower priority to Level 3 inputs. A financial instrument’s level is based on the lowest level of any input that is significant to the fair value measurement. No changes were made to our methodology.
Our Level 1 assets consist of cash equivalents, which are primarily invested in money-market funds. These assets are classified as Level 1 because they are valued using quoted prices in active markets and other relevant information generated by market transactions involving identical assets and liabilities. The fair value of our Level 1 assets was
$3.1 million
as of
June 30, 2016
and
December 31, 2015
.
For cash and cash equivalents, accounts receivable, accounts payable and our revolving line of credit, the carrying amount approximates fair value because of the relative short maturity of those instruments.
In certain geographical regions, particularly Europe, we are sometimes required to issue performance guarantees to our customers as a condition of sale. These guarantees usually provide financial protection to our customers in the event that we fail to fulfill our delivery or warranty obligations. We secure these guarantees with standby letters of credit through our bank. At
June 30, 2016
, we had a
$6,000
deposit guarantee for our building lease in Germany, which renews every
six months
through the term of the lease agreement and a
$31,000
performance guarantee to a customer that was secured with a letter of credit, which expires in
June 2017
. As of
December 31, 2015
, our restricted cash balance was
$36,000
, which consisted of secured performance and deposit guarantees. There is no foreseeable risk that we will not be able to meet the performance obligations. Our restricted cash, as shown on the balance sheet, is related to these guarantees.
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6.
|
Revolving Line of Credit
|
Our Second Amended and Restated Loan and Security Agreement dated August 5, 2010 (as amended on March 5, 2012, August 15, 2012 and July 28, 2014, the “Loan Agreement”) with Silicon Valley Bank (“SVB”) gives us flexibility to help fund our business operations and manage our working capital requirements. The Loan Agreement provides for a secured revolving line of credit with a maturity date of August 5, 2017. Until that date, we may borrow an aggregate amount of up to eighty percent (
80%
) of the facility amount of
$18.8 million
, or
$15.0 million
, subject to certain borrowing bases. We may also request that SVB issue letters of credit on our behalf, of up to
$1.5 million
, as a portion of the total facility amount. The facility allows us to borrow against our U.S., United Kingdom (“U.K.”) and German accounts receivables and also allows us to borrow against our eligible inventory and purchase orders. Purchase orders and eligible inventory are subject to a sublimit of
$3.0 million
and
$4.0 million
, respectively, and accounts receivable for U.K. and Germany have a
$5.0 million
sublimit. However, if we maintain our liquidity ratio at or above
2.50
:1.00 for the immediately preceding
two
reconciliation periods the sublimits will be uncapped. The liquidity ratio is defined as unrestricted cash, cash equivalents and marketable securities on which SVB has a perfected security interest, plus the aggregate amount of eligible accounts receivable accounts divided by all obligations we owe to SVB. The finance charge is a per annum rate equal to SVB’s prime rate, subject to a minimum prime rate of
4.00%
, plus (a)
0.50%
for eligible accounts, inventory and purchase orders when we are Borrowing Base Eligible, or (b)
1.20%
for eligible accounts when we are not Borrowing Base Eligible. We are “Borrowing Base Eligible” when our liquidity ratio is equal to or greater than
1.75
:1.00 at all times for at least
sixty
consecutive days.
The revolving loans made to us under the Loan Agreement are secured by a lien on substantially all of our assets, including the assets of Active Power Solutions Limited (“Active Power Limited”), our wholly-owned U.K. subsidiary, and the assets of Active Power (Germany) GmbH, our indirect wholly-owned German subsidiary. The only direct or indirect subsidiaries of Active Power, Inc. that are not guarantors under the Loan Agreement are Active Power China (Beijing) Co. Ltd. and immaterial subsidiaries that are not operating companies. There are no restrictions on the ability of any of the subsidiary guarantors to transfer funds to Active Power, Inc. in the form of loans, advances or dividends, except as provided by applicable law.
The Loan Agreement includes customary affirmative covenants for a credit facility of this size and type, including delivery of financial statements, compliance with laws, maintenance of insurance, and maintenance and protection of intellectual property rights. Further, the Loan Agreement contains customary negative covenants for a credit facility of this size and type, including covenants that limit or restrict our ability, among other things, to sell all or any part of our business, dispose of assets, change our business, change our CEO or CFO without replacing such person within
120
days, have a change in control, make acquisitions,
merge or be acquired, incur indebtedness, grant liens, make investments, make distributions, repurchase stock, and enter into certain transactions with affiliates.
The Loan Agreement contains customary events of default that include, among other things, non-payment defaults, covenant defaults, material adverse change defaults, insolvency defaults, material judgment defaults and inaccuracy of representations and warranty defaults. The financial covenant requires us to maintain a liquidity ratio equal to or greater than
1.25
:1.00. Some of the strategic and financial alternatives currently being explored by our board of directors, including without limitation, a sale of the Company, seeking new investors, and the transition into other profitable businesses, may result in an event of default under the Loan Agreement unless the Loan Agreement is repaid. The occurrence of an event of default could result in the acceleration of obligations under the Loan Agreement, in which case we must repay all loans and related charges, fees and amounts then due and payable, and Active Power Limited may be required to pay any such amounts under the Guarantee and Debenture Agreement, dated August 5, 2010 between Active Power Limited and SVB. At the election of SVB, upon the occurrence and during the continuance of an event of default, finance charges or interest rates, as applicable, will increase an additional
5.00%
per annum above the rate that is otherwise applicable thereto upon the occurrence of such event of default, and the collateral handling fees will increase by
0.50%
.
We are currently in compliance with the covenants and restrictions under the Loan Agreement as of the date of this report. Based on our our cash flow projections, we expect to remain in compliance with the covenants and restrictions under the Loan Agreement for at least the next twelve months. If we fail to stay in compliance with our covenants or experience some other event of default, we may be forced to repay the outstanding borrowings under this credit facility. Our projections and our assumptions regarding our liquidity are based on estimates regarding expected revenues and future costs. However, our revenues may not meet our projections, our costs may exceed our estimates or our working capital or capital expenditure needs may be greater than anticipated. Further, our estimates may change and future events or developments, including the ultimate outcome of the strategic and financial alternatives currently being explored by our board of directors, may affect our estimates.
During 2012, we borrowed
$5.5 million
under the Loan Agreement based on our short term liquidity requirements, and have not borrowed any additional amounts after this initial borrowing. As of
June 30, 2016
, we had outstanding borrowings of
$5.5 million
under this Loan Agreement. Based on the borrowing base formula subsequent to the amendment, the additional amount available for use at
June 30, 2016
was
$2.4 million
. As of
December 31, 2015
, our additional amount available to us was
$5.9 million
. For further information regarding this loan facility, refer to our Annual Report on Form 10-K for the year ended
December 31, 2015
, and to our Current Report on Form 8-K filed on July 29, 2014.
7. Commitments and Contingencies
We may be involved, either as plaintiff or defendant, in a variety of ongoing claims, demands, suits, investigations, tax matters and proceedings that arise from time to time in the ordinary course of our business. We evaluated all potentially significant litigation, government investigations, claims or assessments in which we are involved and do not believe that any of these matters, individually or in the aggregate, will result in losses that are materially in excess of amounts already recognized, if any.
We record an accrual with respect to a claim, suit, investigation or proceeding when it is reasonably probable that a liability has been incurred and the amount of the loss can be reasonably estimated. Any recorded liabilities, including any changes to such liabilities for the quarter ended
June 30, 2016
, were not material to the Consolidated Financial Statements.
The following is a summary of the more significant legal matters involving the Company.
SEC Inquiry
As previously disclosed, by letter dated September 30, 2013, the SEC Division of Enforcement notified us that it was conducting an investigation regarding us, including matters relating to our public statements regarding Digital China Information Service Company Limited and our distribution relationships in China. On March 31, 2016, we received notification from the SEC that it had concluded its investigation and that no enforcement action had been recommended against the Company.
8. Shareholder Rights Plan
On June 15, 2016, our Board of Directors adopted a shareholder rights plan designed to protect our substantial net operating loss carryforwards from the effect of limitations imposed by federal and state tax rules following an ownership change. This plan was designed to deter an ownership change (as defined in IRC Section 382) from occurring, and therefore protect our ability to utilize our federal and state net operating loss carryforwards in the future. Our board of directors has established a procedure to consider requests to exempt the acquisition of our common stock from the rights agreement, if such acquisition would not limit or impair the availability of our net operating loss carryforwards. In connection with the adoption of the shareholder rights plan, the Board of Directors approved a Certificate of Designations of Series B Junior Participating Preferred Stock designating
50,000
shares of Preferred Stock. We filed the Certificate of Designations on June 16, 2016 with the Secretary of State of the State of Delaware and the Certificate of Designations became effective on such date. The shareholder rights plan will expire on the first day after our 2017 annual meeting of stockholders unless our stockholders ratify the plan prior to such date, in which case the term of the plan would be extended to
three years
.