SERVOTRONICS, INC. The following discussion should be read in conjunction with the consolidated financial statements and the notes related thereto. As noted under the heading "Forward-Looking and Cautionary Statements" of this Annual Report on Form 10-K, this discussion and analysis contains forward-looking statements. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of many known and unknown risks and uncertainties described elsewhere is this report. All comparisons included within this Part II, Item 7, Management's Discussion and Analysis of Financial Condition and Results of Operations, refer to results for the year endedDecember 31, 2022 compared to the year endedDecember 31, 2021 , unless stated otherwise. Additionally, the information provided is expected to better allow investors to view the registrant from management's perspective including using quarterly data supporting management's discussion. -7- Table of Contents Business Overview
The aviation and aerospace industries as well as markets for the Company's consumer products continually face evolving challenges on a global basis. The operations of the Company can be affected by the trends of the economy, including interest rates, income tax laws, government regulation, legislation, and other factors. In addition, uncertainties in today's global economy, competition from expanding manufacturing capabilities and technical sophistication of low-cost developing countries and emerging markets, currency policies in relation to theU.S. dollar of some major foreign exporting countries, the effect of terrorism, difficulty in predicting defense and other government appropriations, the vitality of the commercial aviation industry and its ability to purchase new aircraft, the willingness and ability of the Company's customers to fund long-term purchase programs, volatile market demand and the continued market acceptance of the Company's advanced technology and cutlery products make it difficult to predict the impact on future financial results. Both the ATG and CPG markets are sensitive to domestic and foreign economic conditions and policies, which may create volatility in operating results from period to period. For example, the airline industry is sensitive to fuel price increases and economic conditions. These factors directly impact the demand for aircraft production as well as the amount of repair and overhaul required on in-service aircraft. The Company's suppliers are also subject to all the pressures and volatility being generated by the current global economic conditions. Any interruption of the Company's continuous flow of material and product parts that are required for the manufacture of the Company's products could adversely impact the Company's ability to meet the Company's customers' delivery requirements. Consistent with the evolving requirements of the aerospace industry, companies are increasingly being requested to operate under long-term agreements with their customers on the basis of fixed prices, targeted year to year price reductions and/or year to year price adjustments predicated on mutually agreed indices and/or a combination of some or all of the above described pricing arrangements and/or otherwise. Therefore, productivity improvements and cost containment strategies are continuously sought within the Company's concept of continuous improvement. The Company's products are labor intensive and as such productivity improvements are expected to have positive effects on the Company's operating results. However, increased costs for raw material, purchased parts and/or labor will have the reverse effect. If any adverse economic events reduce the number of airliners and/or aircraft being produced by the Company's relevant prime contractors, the negative effects of that reduction will in turn flow down through the supply chain. Also, certain major manufacturers have successfully imposed extended payment terms to their suppliers. At times, these extended payment terms are not available to the Company when purchasing raw material such as aluminum, magnetic material, steel and/or other product support items and services. If the Company's customers delay their payments until after the extended due date or fail to pay, it could adversely impact the Company's operating results and cash flow. During 2022, inflation negatively impacted our input costs, primarily for labor and materials. Supply chain disruptions, labor shortages, and global inflation remain persistant. Maximizing the Company's operations and resources requires continued dedicated performances from the Company's key and other personnel. In the Company's markets and business arenas there is substantial competition for the services of the highest performing individuals. Any unplanned replacement of such personnel may require the hiring of new personnel on an expedited basis (provided they are available) and may temporarily interrupt the Company's operations and efforts for continuous improvement. OnMarch 30, 2023 , the Company announced that the Company's Board of Directors has authorized the review of the strategic alternatives for the CPG with a goal of enhancing shareholder value. This review was authorized by the Board onFebruary 28, 2023 and the company has engaged a financial advisor to evaluate potential alternatives. There is no set timetable for the strategic review process and there can be no assurance that such review will result in any transaction or other alternative. -8- Table of Contents Management Discussion There was an increase in consolidated revenue in the twelve months endedDecember 31, 2022 from 2021 of approximately$3,263,000 or 8.0%. This is primarily due to an increase in the number of units shipped at the ATG of approximately$3,007,000 and to price increases at the ATG of approximately$1,699,000 and the CPG of approximately$300,000 . This is partially offset by an unfavorable product mix shipped at the ATG of approximately$1,198,000 and at the CPG of approximately$427,000 and a decrease in the number of units shipped at the CPG of approximately$118,000 . During the twelve months endedDecember 31, 2022 and 2021, approximately 80% and 78%, respectively, of the Company's consolidated revenues were derived from the ATG sale of product to a small base of customers. During the twelve months endedDecember 31, 2022 and 2021, approximately 20% and 22%, respectively, of the Company's consolidated revenues were derived from the CPG sale of product to a large base of retail customers. Our commercial business is affected by such factors as uncertainties in today's global economy, global competition, the vitality and ability of the commercial aviation industry to purchase new aircraft, the effects and threats of terrorism, and increasing market demand could impact our ability to produce and deliver product on time. The ATG engages its business development efforts in its primary markets and is broadening its activities to include new domestic and foreign markets that are consistent with its core competencies. We believe our business remains particularly well positioned in the strong commercial aircraft market driven by the recovery of business with increased demand post COVID, the replacement of older aircraft with more fuel-efficient alternatives and the increasing demand for air travel in emerging markets. Although the ATG backlog continues to be strong, actual scheduled shipments may be delayed or changed as a function of our customers' final delivery determinations.
See also Note 10, Business Segments, of the accompanying condensed consolidated financial statements for information concerning business segment operating results.
-9-
Table of Contents
Results of Operations
The following table compares the Company's consolidated statements of income
data for the years ended
($000 omitted except for per share data)
Year Ended December 31, 2022 vs 2021
2022 2021 Dollar % Favorable/
Dollars % of Sales Dollars % of Sales Change (Unfavorable)
Revenue:
Advanced Technology $ 35,185 80.3 % $ 31,677 78.1 % $ 3,508 11.1 %
Consumer Products 8,636 19.7 % 8,881 21.9 % (245) (2.8) %
43,821 100.0 % 40,558 100.0 % 3,263 8.0 %
Cost of goods sold, inclusive of dep.
and amortization (37,877) 86.4 % (34,570) 85.2 % (3,307) (9.6) %
Gross profit 5,944 13.6 % 5,988 14.8 % (44) (0.7) %
Gross margin % 13.6 % - 14.8 % - - -
Operating expenses:
Selling, general and administrative (8,427) 19.2 % (9,423) 23.2 % 996 10.6 %
Legal settlement awards - - (1,890) 4.7 % 1,890 -
Total selling, general and
administrative (8,427) 19.2 % (11,313) 27.9 % 2,886 25.5 %
Total operating costs and expenses (46,304) 105.7 % (45,883) 113.1 % (421) (0.9) %
Operating (loss)/income (2,483) (5.7) % (5,325) (13.1) % 2,842 53.4 %
Other (expense)/income:
Other income: employee retention
credit (ERC) - - 5,622 13.9 % (5,622) -
Other income: Paycheck Protection
Program loan forgiveness - - 4,000 9.9 % (4,000) -
Interest expense (240) (0.5) % (187) (0.5) % (53) (28.3) %
Gain/(loss) on sale of equipment 36 0.1 % (98) (0.2) % 135 137.8 %
Total other (expense)/income (204) (0.4) % 9,337 23.3 % (9,540) (102.2) %
(Loss)/income before income taxes (2,687) (6.1) % 4,012 9.9 % (6,698) (167.0) % Income tax benefit 570 (1.3) % 43 (0.1) % 527 1,225.6 % Net (loss)/ income$ (2,117) (4.8) %$ 4,055 10.0 %$ (6,171) (152.2) % -10- Table of Contents Revenue and Gross Profit Servotronics, Inc. Servotronics, Inc. 2022 Three months ended 2021 Three months ended ($000 's omitted) March 31, June 30, September 30, December 31, Total Year March 31, June 30, September 30, December 31, Total Year Revenues$ 11,168 $ 11,230 $ 10,991 $ 10,432 $ 43,821 $ 9,060 $ 10,028 $ 10,915 $ 10,555 $ 40,558 Cost of goods sold (8,530) (10,062)
9,468 (9,817) (37,877) (8,067) (8,156) (9,143) (9,204) (34,570)
Gross profit 2,638 1,168 1,523 615 5,944 993 1,872 1,772 1,351 5,988
Gross margin % 23.6 % 10.4 % 13.9 % 5.9 % 13.6 % 11.0 % 18.7 % 16.2 % 12.8 % 14.8 %
ATG ATG
2022 Three months ended 2021 Three months ended
March 31, June 30, September 30, December 31, Total Year March 31, June 30, September 30, December 31, Total Year
Revenues $ 9,168 $ 8,748 $ 8,823 $ 8,446 $ 35,185 $ 7,223 $ 7,823 $ 8,449 $ 8,182 $ 31,677
Cost of goods sold (6,815) (8,055) (7,973) (8,212) (31,055) (6,210) (6,242) (6,762) (6,715) 25,929
Gross profit 2,353 693 850 234 4,130 1,013 1,581 1,687 1,467 5,748
Gross margin % 25.7 % 7.9 % 9.6 % 2.8 % 11.7 % 14.0 % 20.2 % 20.0 % 17.9 % 18.1 %
CPG CPG
2022 Three months ended 2021 Three months ended
March 31, June 30, September
30,
Revenues$ 2,000 $ 2,482 $ 2,168$ 1,986 $ 8,636 $ 1,837 $ 2,205 $ 2,466$ 2,373 $ 8,881 Cost of goods sold (1,715) (2,007) (1,495) (1,605) (6,822) (1,857) (1,914) (2,381) (2,489) (8,641) Gross profit (loss) 285 475
673 381 1,814 (20) 291 85 (116) 240 Gross margin % 14.3 % 19.1 % 31.0 % 19.2 % 21.0 % (1.1) % 13.2 % 3.4 % (4.9) % 2.7 % Revenue Consolidated revenues from operations decreased approximately$123,000 or (1.2)% for the three month period endedDecember 31, 2022 when compared to the same period in 2021. This benefited from price increases at the ATG of approximately$569,000 . Although the ATG is experiencing an increase in volume due to the recovery of business within the commercial aircraft market it is partially offset by an unfavorable product mix of product shipped of approximately$305,000 . Additionally, the CPG had an increase in prices of approximately$126,000 offset by by an unfavorable product mix of product shipped and a decrease in the number of units shipped amounting to approximately$513,000 as compared to the same three month period endedDecember 31, 2021 . Consolidated revenues from operations increased approximately$3,263,000 or 8.0% for the twelve month period endedDecember 31, 2022 when compared to the same period in 2021. Although the ATG is experiencing an increase in volume due to the recovery of business within the commercial aircraft market of approximately$3,007,000 it is partially offset by an unfavorable product mix of product shipped of approximately$1,198,000 . The twelve month period benefited from price increases at the ATG of approximately$1,699,000 . Additionally, the CPG had an increase in prices of approximately$300,000 offset by an unfavorable product mix of product shipped and a decrease in the number of units shipped amounting to approximately$545,000 as compared to the same twelve month period endedDecember 31, 2021 . Gross Profit
Consolidated gross profit from operations decreased approximately$736,000 for the three month period endedDecember 31, 2022 when compared to the same period in 2021. The gross profit decreased at the ATG by approximately$1,233,000 offset by an increase at the CPG of approximately$497,000 . Gross profit benefited in the three months period from the recovery of business within the commercial aircraft market with increased volume and price increases offset by an unfavorable product mix shipped at the ATG of a net decrease of approximately$270,000 and increased operating costs of approximately$963,000 . The increase in operating costs is primarily due to increased compensation and benefits of approximately$906,000 and expendable tools and equipment of approximately$124,000 , and a net increase of approximately$9,000 for all other operating expenses, offset by lower warranty expenses of approximately$76,000 as compared to the same period in 2021. The ATG has added staff during this period in anticipation of increasing production in 2023 to satisfy the increasing customer demand. -11- Table of Contents Additionally, gross profit increased in the three month period at the CPG due to an improvement in operating variances of approximately$255,000 , and a decrease in operating costs of approximately$242,000 . The decrease in operating costs is primarily due to an improvement in the utilization of production resources of approximately$235,000 , a decrease in freight of approximately$54,000 , offset by an increase in utilities of approximately$24,000 and a net increase of approximately$23,000 for all other expenses as compared to the same period in 2021. Consolidated gross profit from operations decreased slightly by approximately$44,000 or (0.7)% for the twelve month period endedDecember 31, 2022 when compared to the same period in 2021. The gross profit decreased at the ATG by approximately$1,618,000 and increased at the CPG by approximately$1,574,000 . Gross profit benefited in the twelve months period from the recovery of business within the commercial aircraft market and price increases at the ATG of approximately$1,229,000 . However, this was more than offset by an unfavorable product mix shipped and an increase in operating costs of approximately$2,847,000 . This is primarily due to increased compensation and benefits of approximately$2,234,000 , recruiting costs for the ramp-up of production of approximately$188,000 , expendable tools and equipment of approximately$178,000 , building and production equipment maintenance of approximately$125,000 , travel and lodging of approximately$106,000 and a net increase of approximately$16,000 for all other operating expenses as compared to the same period in 2021. As previously noted, we have added staff during this period in the preparation for increased production in 2023 to satisfy customer demand. At the CPG, gross profit increased in the twelve month period due to price increases of approximately$300,000 , a decrease in operating variances of approximately$348,000 and a decrease in operating costs of approximately$926,000 . The decrease in operating costs is primarily due to an improvement in the utilization of production resources of approximately$417,000 , a decrease in net freight costs of approximately$400,000 , a decrease in compensation and benefits of approximately$58,000 , a decrease in repair and maintenance expenses of approximately$48,000 and a net decrease of approximately$3,000 for all other operating expenses as compared to the same period in 2021. Since mid-2020, both Segments have experienced the challenge of fully utilizing their production resources, increasing the cost per unit produced. In 2022, CPG experienced favorable production costs in the twelve months endedDecember 31, 2022 . Additionally, both Segments have incurred increased costs for raw materials associated with the production of our products. The ATG has incurred the costs of ramping up staffing to support increased production planned for 2023. Despite the challenges, the consolidated gross profit has decreased only slightly from the same period in 2021.
Selling, General and Administrative Expenses and Operating Income (Loss)
Servotronics, Inc. Servotronics, Inc.
($000 's omitted) 2022 Three months ended 2021 Three months ended
March 31, June 30,
September 30, December 31, Total Year
SG&A:
Legal settlement $ - $ - $ - $ - $ - $ - $ - $ (1,890) $ - $ (1,890)
Selling, general & admin (2,182) (2,071) (1,943) (2,231) (8,427) (1,973) (2,209) (2,721) (2,520) (9,423)
Total SG&A $ (2,182) $ (2,071) $ (1,943) $ (2,231) $ (8,427) $ (1,973) $ (2,209) $
(4,611) $ (2,520) $ (11,313)
% SG&A to Revenues 19.5 % 18.4 % 17.7 % 21.4 % 19.2 % 21.8 % 22.0 % 42.2 % 23.9 % 27.9 %
Operating Income/(Loss)$ 456 $ (903) $ (420)$ (1,616) $ (2,483) $ (980) $ (337) $ (2,839) $ (1,169) $ (5,325) Operating Inc/(Loss) % 4.1 % (8.0) % (3.8) % (15.5) % (5.7) % (10.8) % (3.4) % (26.0) % (11.1) % (13.1) % ATG ATG ($000 's omitted) 2022 Three months ended 2021 Three months ended March 31, June 30,
September 30, December 31, Total Year
SG&A:
Legal settlement $ - $ - $ - $ - $ - $ - $ - $ (1,800) $ - $ (1,800)
Selling, general & admin (1,774) (1,575) (1,541) (1,702) (6,592) (1,585) (1,761) (2,240) (2,075) (7,661)
Total SG&A $ (1,774) $ (1,575) $ (1,541) $ (1,702) $ (6,592) $ (1,585) $ (1,761) $
(4,040) $ (2,075) $ (9,461)
% SG&A to Revenues 19.3 % 18.0 % 17.5 % 20.2 % 18.7 % 21.9 % 22.5 % 47.8 % 25.4 % 29.9 %
Operating Income/(Loss)$ 579 $ (882) $ (691)$ (1,468) $ (2,462) $ (572) $ (180) $ (2,353) $ (608) $ (3,713) Operating Inc/(Loss)% 6.3 % (10.7) % (7.8) % (17.4) % (7.0) % (7.9) % (2.3) % (27.8) % (7.4) % (11.7) % -12- Table of Contents CPG CPG ($000 's omitted) 2022 Three months ended 2021 Three months ended March 31, June 30,
September 30, December 31, Total Year
SG&A:
Legal settlement $ - $ - $ - $ - $ - $ - $ - $ (90) $ - $ (90)
Selling, general & admin (408) (496) (402) (529) (1,835) (388) (448) (481) (445) (1,762)
Total SG&A $ (408) $ (496) $
(402)
20.4 % 20.0 % 18.5 % 26.6 % 21.2 % 21.1 % 20.3 % 23.2 % 18.8 % 20.9 %
Operating (Loss)/Income $ (123) $ (21) $
271
(6.2) % (0.8) % 12.5 % (7.5) % (0.2) % (22.2) % (7.1) %
(19.7) % (23.6) % (18.2) %
Selling, General and Administrative Expenses
Selling, general and administrative (SG&A) decreased approximately$289,000 or 11.5% for the three month period endedDecember 31, 2022 when compared to the same period in 2021. Consolidated SG&A improved to 21.4% of revenue for the 2022 quarter compared with 23.9% in the 2021 quarter. SG&A expenses at the ATG decreased approximately$373,000 or 18.0%. The improvement at the ATG is driven by the lower legal fees of approximately$577,000 offset by increased compensation and benefits of approximately$160,000 due to additional headcount, and increased recruiting costs of approximately$44,000 . However, SG&A expenses at the CPG increased approximately$84,000 or 18.9%. The increase is due to an increase in compensation and benefits of approximately$38,000 and outbound freight of approximately$50,000 , offset by a net decrease of all other SG&A expenses of$4,000 as compared to the same period in 2021. Selling, general and administrative (SG&A) decreased approximately$2,886,000 or 25.5% for the twelve month period endedDecember 31, 2022 when compared to the same period in 2021. Consolidated SG&A improved to 19.2% of revenue for 2022 compared with 27.9% in 2021. The improvement is due to a non-recurring legal settlements of approximately$1,890,000 in 2021, as previously disclosed; lower legal fees of approximately$1,255,000 offset by an increase in insurance expenses of approximately$88,000 , Directors' fees of approximately$54,000 , recruiting fees of approximately$40,000 and sales tax expense of approximately$36,000 . Additionally, there was a net increase of all other SG&A expenses of approximately$41,000 as compared to the same period in 2021.
In 2022, the ATG experienced a decrease in SG&A as a percentage of revenues.
Management expects the ATG SG&A percentage to revenue to continue to drop in conjunction with the increase of revenue volume. The CPG SG&A percentage to revenue is not expected to improve significantly.
Operating Losses
Losses from operations increased approximately$447,000 or 38.2% when compared to the same three month period in 2021. Operating losses improved at the CPG by approximately$413,000 as compared to the three month period endedDecember 31, 2021 . However, operating losses for the three months endedDecember 31, 2022 at the ATG increased by approximately$860,000 as compared to the same time period in 2021, for the reasons previously explanined including investments in staffing to support planned production increases in 2023. Losses from operations decreased approximately$2,842,000 or (53.4%) when compared to the same twelve month period in 2021. Operating losses improved significantly at both the ATG and CPG by approximately$1,251,000 and$1,591,000 , respectively, as compared to the twelve month period endedDecember 31, 2021 . The consolidated decrease in operating losses is primarily the result in the increases in revenue and decreases in SG&A expenditures, as discussed above. -13- Table of Contents Other Income/(Expense): Servotronics, Inc. Servotronics, Inc. ($000 's omitted) 2022 Three months ended 2021 Three months endedMarch 31 ,June 30 ,September 30 ,December 31 , Total YearMarch 31 ,June 30 ,September 30 ,December 31 , Total Year Other Income/(Expense): ERC $ - $ - $ - $ - $ -$ 1,730 $ 1,914 $ 1,978 $ -$ 5,622 PPP loan forgiveness - - - - - - - 4,000 - 4,000 Interest expense (70) (74) (50) (46) (240) (61) (66) (5) (55) (187)
Gain/(Loss) sale of equipment 26 - - 10 36 - - - (98) (98)
Total other (expense)/income, net
(50) $ (36)
$ 5,973
Income/(loss) before income tax provision (benefits)$ 412 $ (977) $
(470) $ (1,652) $ (2,687) $ 689 $ 1,511 $ 3,134 $ (1,322) $ 4,012
EBIT% 3.7 % (8.7) % (4.3) % (15.8) % (6.1) % 7.6 % 15.1 % 28.7 % (12.5) % 9.9 %
ATG ATG
($000 's omitted) 2022 Three months ended 2021 Three months ended
March 31, June 30, September 30, December 31, Total Year March 31, June 30, September 30, December 31, Total Year
Other Income/(Expense):
ERC $ - $ - $ - $ - $ - $ 1,413 $ 1,573 $ 1,598 $ - $ 4,584
PPP loan forgiveness - - - - - - - 4,000 - 4,000
Interest expense (70) (74) (50) (45) (239) (60) (65) (5) (55) (185)Gain/(Loss) sale of equip 26 - - 10 36 - - - (98) (98)
Total other (expense)/income, net
(50) $ (35)
8,301
Income/(loss) before income tax
provision (benefits) $ 535 $ (956) $
(741)
4,588
EBIT% 5.8 % (10.9) % (8.4) % (17.8) % (7.6) % 10.8 % 17.0 % 38.3 % (9.3) % 14.5 %
CPG CPG
($000 's omitted) 2022 Three months ended 2021 Three months ended
March 31, June 30,
September 30, December 31, Total Year
Other Income/(Expense):
ERC $ - $ - $ - $ - $ - $ 317 $ 341 $ 380 $ - $ 1,038
PPP loan forgiveness - - - - - - - - - -
Interest expense - - - (1) (1) (1) (1) - - (2)
Gain/(Loss) sale of equip - - - - - - - - - -Total other (expense)/income, net $ - $ - $
- $ (1)
380 $ - $ 1,036
Income/(loss) before income tax
provision (benefits) $ (123) $ (21) $
271 $ (149) $ (22) $ (92) $ 183 $ (106) $ (561) $ (576)
EBIT% (6.2) % (0.8) % 12.5 % (7.5) % (0.3) % (5.0) % 8.3 % (4.3) % (23.6) % (6.5) %
ERC and PPP loan forgiveness
As discussed in our 2021 Annual Report on Form 10-K, the Company qualified for the Employee Retenetion Credit (ERC) for all quarters allowed under the federal government program.The Infrastructure Investment and Jobs Act of 2021, enactedNovember 15, 2021 terminated the employee retention credit for wages paid in the fourth quarter of 2021 for employers that are not recovery startup businesses. As a result, for the three month period endedDecember 31, 2021 andDecember 31, 2022 , there was no recognition of an ERC. For the twelve month period endedDecember 31, 2022 there was no recognition of an ERC as compared to approximately$5,622,000 recognized in the twelve month period endedDecember 31, 2021 . Additionally, as discussed in our 2021 Annual Report on Form 10-K, the Company executed a promissory note under the Paycheck Protection Program (the "PPP" loan) in the amount of$4,000,000 . During the third quarter of 2021, the entire loan in the amount of$4,000,000 and accrued interest of$57,000 was forgiven by theSmall Business Association (SBA) and a gain of$4,057,000 was recorded in "Other (expense)/income" in the Company's consolidated statement of operations.
Interest Expense
Interest expense decreased approximately$9,000 or (16.4%) primarily due to the reimbursement of the line of credit and equipment financing lease obligations at the ATG for the three month period endedDecember 31, 2022 compared to the same period in 2021. For the twelve month period endedDecember 31, 2022 interest expense increased approximately$53,000 or 28.3% primarily due to the increase in interest recognized for postretirement benefits offset by the elimination of the interest resulting from the pay down of our term loans as ofDecember 31, 2021 . See also Note 4, Long-Term Debt, of the accompanying consolidated financial statements for information on long-term debt. -14-
Table of Contents
(Loss)/Income before Income Taxes
Consolidated loss before income taxes for the three month period endedDecember 31, 2022 decreased approximately$330,000 (25.0%) when compare to the same period in 2021. The consolidated decrease is primarily the result of an increase in ATG revenue, improved operating performance at the CPG and lower SG&A expenses at the ATG offset by a decrease in CPG revenue, a decrease in operating performance at the ATG, investments in ATG production staffing to support 2023 volume demand and an increase in SG&A expenses at the CPG as discussed above. The consolidated loss before income taxes for the twelve month period endedDecember 31, 2022 increased approximately$6,699,000 or 167.0% when compared to the same period ended in 2021. The consolidated loss increased primarily due to the elimination of the ERC credit and the one-time event of the PPP loan forgiveness offset by an increase in revenue at the ATG segment, an improvement in operating performance at the CPG, decreases in SG&A expenses at both segments and decreases for 2021 legal awards as discussed above.
Income Taxes
The Company's effective tax rate for operations was 21.2% in 2022 and (1.1)% in 2021. The effective tax rate reflects federal and state income taxes, permanent non-deductible expenditures, 2021 non-taxable PPP loan foregiveness income, the 2021 deduction for foreign-derived intangible income (FDII) , and the federal tax credit for research and development expenditures. The increase in the effective tax rate between 2022 and 2021 is primarily a result of the non-taxable PPP loan forgiveness income recognized in 2021. See also Note 6, Income Taxes, of the accompanying consolidated financial statements for information concerning income taxes.
Liquidity and Capital Resources:
Twelve months ended December 31,
($000 's omitted) 2022 2021
CASH FLOW DATA:
Net Cash Flows from:
Operating Activities $ 264 $ 4,591
Investing Activities $ (1,281) $ 3
Financing Activities $ (4,525) $ (983)
YEAR-END FINANCIAL POSITION:
Working Capital $ 27,045 $ 34,067
Indebtedness $ 501 $ 5,026
CAPITAL EXPENDITURES (1): $ (1,281) $ 3
(1) NET OF PROCEEDS FROM SALE OF EQUIPMENT AND EQUIPMENT FINANCING
Operating Activities:
The Company generated approximately$264,000 in cash from operations during the twelve month period endedDecember 31, 2022 as compared to generating approximately$4,591,000 for the same period in 2021. AtDecember 31, 2022 , the Company had working capital of approximately$27,045,000 ($34,067,000 -December 2021 ) of which approximately$4,004,000 ($9,546,000 -December 2021 ) was comprised of cash. -15- Table of Contents The decrease in cash flow from operating activities of approximately$4,327,000 is primarily attributable to a decrease in net income of approximately$6,172,000 as explained previously. In addition, there was a decrease in cash flow due to an increase in accounts receivable, accrued employee compensation costs, and other accrued liabilities of approximately$4,020,000 and lower generation of cash through changes in inventory of approximately$1,680,000 offset by an increase in cash flow from the adjustments to reconcile net income of approximately$2,790,000 , an increase accounts payable of approximately$3,398,000 and all other operating accounts of approximately$1,357,000 . Our cash flow from operations and available line of credit capacity provides us with the financial resources needed to run our operations and reinvest in our business. Our ability to maintain sufficient liquidity is highly dependent upon achieving expected operating results. Failure to achieve expected operating results could have a material adverse effect on the Company's liquidity, our ability to obtain financing, and our operations in the future.
Investing Activities:
The Company used approximately
Financing Activities:
The Company's primary usage of cash in its financing activities in the twelve-month period endedDecember 31, 2022 includes the repayment of our line of credit of approximately$4,250,000 and the principal payment on equipment financing obligations of approximately$275,000 . OnJanuary 11, 2022 , the Company executed an amendment, which extended the line of credit ("LOC") availability period fromDecember 31, 2022 toDecember 31, 2023 . The amended agreement suspended the Debt Service Coverage Ratio loan covenant up through and including the third quarter of 2022. A Quarterly Minimum Cash Flow measurement loan covenant replaced the Debt Service Coverage Ratio loan covenant. Minimum Cash Flow means net income, plus depreciation, depletion, and amortization expense, plus interest expense, plus non-cash expense related to theServotronics, Inc. Employee Stock Ownership Plan, plus non-cash stock and stock option transactions. Also, the amended agreement required the Company to maintain a minimum liquidity, defined as cash on hand plus LOC availability, of at least$9,000,000 . As disclosed in the filing of our 2022 third quarter 10-Q, at that time we anticipated that we would fail to meet the Debt Service Coverage Ratio loan covenant up through and including the fourth quarter of 2022. As ofDecember 31, 2022 , we were not in compliance with this covenant under our loan agreement and, as a result, the availability of the LOC was temporarily frozen. OnMarch 30, 2023 , we executed an amendment to the loan agreement (the "Amendment"), which provides a waiver of Debt Service Coverage Ratio defaults and other potential defaults atDecember 31, 2022 and throughDecember 31, 2023 , the expiration date of the agreement. The Amendment also provides the following stipulations. The LOC loan was immediately converted to a borrowing base line of credit utilizing eligible accounts receivable (the "Borrowing Base"), with a maximum availability of the lesser of$5,000,000 or the Borrowing Base, which amounted to$6,400,000 as of the amendment date. As ofJune 29, 2023 , the maximum availability under the Borrowing Base LOC will be reduced to the lesser of$3,900,000 or the Borrowing Base; and then as ofAugust 1, 2023 , it will be further reduced to the lesser of$1,000,000 or the Borrowing Base. The amended Borrowing Base LOC loan is secured by all equipment, receivables, inventory and real property of the Company and its wholly owned subsidiary,The Ontario Knife Company , with the exception of certain equipment that was purchased from proceeds of government grants. Interest on the Borrowing Base LOC is the Bloomberg Short-Term Bank Yield ("BSBY") plus 4.00 percentage points, amounting to 8.88% as ofMarch 30, 2023 .
Pursuant to the Amendment, we paid in full the outstanding balance on our
equipment loans, approximately
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We intend to refinance the LOC loan with a different lender byJune 29, 2023 . Failure to deliver a commitment letter to our current lender byJune 1, 2023 and to refinance the LOC loan byJune 29, 2023 will result in the imposition of additional fees to our current lender of up to$300,000 .
Ongoing Liquidity Considerations
We incurred consolidated operating losses from continuing operations for the years endedDecember 31, 2022 and 2021. The losses incurred were predominantly driven by our decision to maintain our experienced and knowledgeable workforce during the pandemic years and hire ahead of the expected increased customer demand at the ATG. During 2021, our operating losses were funded by PPP loans and Employee Retention Credits provided by theU.S. government, which were not available in 2022. Our operating losses decreased year over year by 53%, demonstrating positive momentum. We had total shareholders' equity of approximately$35,112,000 as ofDecember 31, 2022 . Also, as of that date, we had working capital excluding cash of approximately$23,041,000 and only$501,000 of bank financing. The ATG has experienced growing customer demand since the middle of 2022, causing an increase in inventory purchases and the resulting usage of cash. This was further exacerbated by the hiring and training of staff to support increasing production in 2023. The temporary freezing of availability on our LOC raised initial doubt about our ability to continue as a going concern until we amended our loan agreement onMarch 30, 2023 , alleviating that doubt. We believe that our operating cash flow and availability of our amended Borrowing Base LOC provides us with sufficient liquidity in the near term. Additionally, we are actively pursuing an alternate credit facility with a different lender to replace the Borrowing Base LOC loan from our current lender byJune 29, 2023 . We believe that the strength of our asset base and increasing customer demand make our ability to successfully refinance our LOC probable, providing us with sufficient liquidity for at least the next 12 months.
Off Balance Sheet Arrangements
Not applicable.
Critical Accounting Policies
The Company prepares its consolidated financial statements in accordance withU.S. generally accepted accounting principles (GAAP). As such, the Company is required to make certain estimates, judgments and assumptions that the Company believes are reasonable based upon the information available. These estimates and assumptions affect the reported amounts of assets and liabilities as of the date of the consolidated financial statements and the reported amounts of revenues and expenses during the periods presented. Actual results could differ significantly from those estimates under different assumptions and conditions. We have identified our critical accounting estimates. An accounting estimate is considered critical where (a) the nature of the estimates or assumptions is material due to the levels of subjectivity and judgment necessary to account for highly uncertain matters or the susceptibility of such matters to change and (b) the impact of the estimate on financial condition or operating performance
is material. Inventories Inventories are measured at lower of cost or net realizable value. Inventory costing requires complex calculations that include standard labor and material costs, assumptions for overhead absorption, scrap, and the determination of which costs may be capitalized. Analysis of actual labor cost to standard cost is performed and adjusted, if required, quarterly. Material costs are assessed and adjusted on an on-going basis. Daily cycle counts of raw material and finished goods are performed to ensure accuracy and legitimacy of its inventory balances. Quarterly, full physical counts are performed for WIP balances. The valuation of inventory requires us to review inventory each quarter for excess and slow-moving items and establish a reserve. As ofDecember 31, 2022 , we have$19,044 of inventory recorded on our consolidated balance sheet, representing approximately 42% of total assets. -17- Table of Contents Impairment
The Company tests for impairment of long-lived assets annually or whenever events or changes in business circumstances indicate that the carrying amount of the assets may not be fully recoverable based on undiscounted future operating cash flow analyses. These calculations require the use of estimates, in particular in relation to the expected growth of sales, the expected hourly rate for labor, the expected productivity of the production labor and achievable gross margin rates.
Deferred Tax Valuation Allowance
The Company makes estimates and judgments in determining the provision for taxes for financial statement purposes. These estimates and judgments occur in the calculation of tax credits, benefits, and deductions, and in the calculation of certain tax assets and liabilities that arise from differences in the timing of recognition of revenue and expense for tax and financial statement purposes. We must assess the likelihood that we will be able to recover our deferred tax assets. Recovery of a deferred tax asset is based on the ability of the business to generate income. If recovery, is not likely, we must increase our provision for taxes by recording a valuation allowance against the deferred tax assets that we estimate will not ultimately be recoverable. These calculations require the use of estimates, in particular in relation to the expected growth of sales, the expected hourly rate for labor, the expected productivity of the production labor and achievable gross margin rates.
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