10-Q

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D. C. 20549

FORM 10-Q

(Mark One)

xQUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2017

OR

oTRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from            to       

NORTECH SYSTEMS INCORPORATED

Commission file number 0-13257

State of Incorporation: Minnesota

IRS Employer Identification No. 41-1681094

Executive Offices: 7550 Meridian Circle N., Suite # 150, Maple Grove, MN 55369

Telephone number: (952) 345-2244

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes x No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulations S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes x No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer,  smaller reporting company, or an emerging growth company.  See the definitions of “large accelerated filer,” “accelerated filer,”  “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

Large Accelerated Filer o	Accelerated Filer o
Non-accelerated Filer o	Smaller Reporting Company x
Emerging growth company o

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o

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

Number of shares of $.01 par value common stock outstanding at August 5, 2017 was 2,747,831.

TABLE OF CONTENTS

			PAGE
PART I - FINANCIAL INFORMATION
Item 1	-	Financial Statements
		Condensed Consolidated Statements of Operations and Comprehensive Loss	3
		Condensed Consolidated Balance Sheets	4
		Condensed Consolidated Statements of Cash Flows	5
		Notes to Condensed Consolidated Financial Statements	6-15
Item 2	-	Management’s Discussion and Analysis of Financial Condition And Results of Operations	16-22
Item 4	-	Controls and Procedures	22

PART II - OTHER INFORMATION

Item 1	-	Legal Proceedings	23
Item 6	-	Exhibits	23
SIGNATURES			24

2

PART 1

ITEM 1.  FINANCIAL STATEMENTS

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS

(UNAUDITED)

	THREE MONTHS ENDED						SIX MONTHS ENDED
	JUNE 30,						JUNE 30,
	2017			2016			2017			2016
Net Sales	$	30,134,044		$	28,945,135		$	58,451,901		$	57,895,177
Cost of Goods Sold	26,768,983			25,822,428			51,995,253			51,393,909
Gross Profit	3,365,061			3,122,707			6,456,648			6,501,268
Operating Expenses
Selling Expenses	1,327,222			1,310,335			2,532,270			2,613,825
General and Administrative Expenses	1,944,154			1,922,308			4,064,607			3,776,431
Gain on Sale of Property and Equipment	(1,000		)	—			(355,336		)	—
Total Operating Expenses	3,270,376			3,232,643			6,241,541			6,390,256
Income (Loss) From Operations	94,685			(109,936		)	215,107			111,012
Other Expense
Loss on Extinguishment of Debt	(174,834		)	—			(174,834		)	—
Interest Expense	(141,474		)	(139,247		)	(280,996		)	(271,269		)
Loss Before Income Taxes	(221,623		)	(249,183		)	(240,723		)	(160,257		)
Income Tax Benefit	(205,956		)	(69,000		)	(210,404		)	(43,000		)
Net Loss	$	(15,667	)	$	(180,183	)	$	(30,319	)	$	(117,257	)
Loss Per Common Share:
Basic (in dollars per share)	$	(0.01	)	$	(0.07	)	$	(0.01	)	$	(0.04	)
Weighted Average Number of Common Shares Outstanding - Basic (in shares)	2,747,831			2,747,700			2,747,831			2,747,012
Diluted (in dollars per share)	$	(0.01	)	$	(0.07	)	$	(0.01	)	$	(0.04	)
Weighted Average Number of Common Shares Outstanding - Diluted (in shares)	2,747,831			2,747,700			2,747,831			2,747,012
Other Comprehensive Loss
Foreign Currency Translation	$	254		$	—		$	(3,062	)	$	—
Comprehensive Loss, Net of Tax	$	(15,413	)	$	(180,183	)	$	(33,381	)	$	(117,257	)

See Accompanying Notes to the Condensed Consolidated Financial Statements

3

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

	JUNE 30,			DECEMBER 31,
	2017			2016(1)
	(Unaudited)
ASSETS
Current Assets
Cash	$	190,691		$	268,204
Restricted Cash	346,567			—
Accounts Receivable, less allowances of $144,000 and $883,000	17,099,176			17,320,784
Inventories	21,594,380			20,653,841
Prepaid Expenses	1,023,546			1,048,373
Income Taxes Receivable	409,792			198,535
Total Current Assets	40,664,152			39,489,737
Property and Equipment, Net	9,504,549			10,330,834
Other Intangible Assets, Net	1,855,324			1,861,764
Goodwill	3,283,454			3,283,454
Deferred Tax Assets	543,000			543,000
Other Assets	7,726			7,726
Total Assets	$	55,858,205		$	55,516,515
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current Liabilities
Current Maturities of Long-Term Debt	$	1,064,876		$	1,565,347
Accounts Payable	15,316,665			13,825,530
Accrued Payroll and Commissions	3,295,505			3,311,693
Other Accrued Liabilities	1,706,070			1,603,069
Income Taxes Payable	44,068			—
Total Current Liabilities	21,427,184			20,305,639
Long-Term Liabilities
Long-Term Line of Credit	6,642,937			7,315,262
Long-Term Debt, Net of Current Maturities	4,903,764			4,891,631
Other Long-Term Liabilities	594,273			689,195
Total Long-Term Liabilities	12,140,974			12,896,088
Total Liabilities	33,568,158			33,201,727
Commitments and Contingencies
Shareholders’ Equity
Preferred Stock, $1 par value; 1,000,000 Shares Authorized: 250,000 Shares Issued and Outstanding	250,000			250,000
Common Stock - $0.01 par value; 9,000,000 Shares Authorized: 2,747,831 Shares Issued and Outstanding, respectively	27,478			27,478
Additional Paid-In Capital	15,755,305			15,746,665
Accumulated Other Comprehensive Loss	(47,507		)	(44,445		)
Retained Earnings	6,304,771			6,335,090
Total Shareholders’ Equity	22,290,047			22,314,788
Total Liabilities and Shareholders’ Equity	$	55,858,205		$	55,516,515

(1)The balance sheet at December 31, 2016 has been derived from the audited financial statements at that date

See Accompanying Notes to the Condensed Consolidated Financial Statements

4

NORTECH SYSTEMS INCORPORATED AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(UNAUDITED)

	SIX MONTHS ENDED
	JUNE 30,
	2017			2016
Cash Flows From Operating Activities
Net Loss	$	(30,319	)	$	(117,257	)
Adjustments to Reconcile Net Loss to Net Cash Provided by Operating Activities
Depreciation	1,095,839			1,029,106
Amortization	138,186			95,329
Compensation on Stock-Based Awards	8,640			994
Loss on Extinguishment of Debt	16,756			—
Compensation on Equity Appreciation Rights	952			(6,422		)
Change in Contingent Consideration	(86,963		)	33,830
Change in Accounts Receivable Allowance	(739,080		)	51,000
Change in Inventory Reserves	228,845			43,797
Gain on Disposal of Property and Equipment	(355,336		)	—
Changes in Current Operating Items
Accounts Receivable	960,688			278,832
Inventories	(1,169,384		)	(1,378,786		)
Prepaid Expenses	24,827			224,508
Income Taxes Receivable	(211,257		)	(145,458		)
Income Taxes Payable	44,068			46,798
Accounts Payable	1,288,503			1,175,815
Accrued Payroll and Commissions	(16,188		)	57,185
Other Accrued Liabilities	94,090			(330,457		)
Net Cash Provided by Operating Activities	1,292,867			1,058,814
Cash Flows from Investing Activities
Proceeds from Sale of Property and Equipment	668,786			—
Purchase of Intangible Asset	(100,000		)	—
Purchases of Property and Equipment	(358,787		)	(1,389,942		)
Net Cash Provided by (Used in) Investing Activities	209,999			(1,389,942		)
Cash Flows from Financing Activities
Net Change in Line of Credit	(672,325		)	848,757
Proceeds from Long-Term Debt	5,123,000			250,000
Principal Payments on Long-Term Debt	(5,234,320		)	(734,593		)
Loss on Extinguishment of Debt	(158,078		)	—
Debt Issuance Costs	(267,442		)	—
Excess Tax Benefits from Stock-Based Compensation	—			(25,209		)
Proceeds from Issuance of Common Stock	—			4,822
Net Cash Provided by (Used in) Financing Activities	(1,209,165		)	343,777
Effect of Exchange Rate Changes on Cash	(24,647		)	—
Net Change in Cash	269,054			12,649
Cash - Beginning of Period	268,204			887
Cash - Ending of Period	$	537,258		$	13,536
Reconciliation of cash and restricted cash reported within the condensed consolidated balance sheets
Cash	$	190,691		$	13,536
Restricted Cash	346,567			—
Total Cash and restricted cash reported in the condensed consolidated statements of cash flows	$	537,258		$	13,536
Supplemental Disclosure of Cash Flow Information:
Cash Paid During the Period for Interest	$	263,156		$	260,644
Cash Refunded During the Period for Income Taxes	22,745			—
Supplemental Noncash Investing and Financing Activities:
Property and Equipment Purchases in Accounts Payable	243,602			1,740

See Accompanying Notes to the Condensed Consolidated Financial Statements

5

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

NOTE 1.  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation

The accompanying unaudited condensed consolidated financial statements for the interim periods have been prepared in accordance with Generally Accepted Accounting Principles in the United States of America (“GAAP”) for interim financial information and pursuant to the rules and regulations of the Securities and Exchange Commission. Accordingly, they do not include all of the financial information and footnotes required by GAAP for complete financial statements, although we believe the disclosures are adequate to make the information presented not misleading. It is suggested that these condensed consolidated financial statements be read in conjunction with the consolidated financial statements and the notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2016. The operating results for the interim periods presented are not necessarily indicative of the results expected for the full year or for any other interim period. In our opinion, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation have been included.

The preparation of financial statements in conformity with GAAP requires us 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 period. In preparing these condensed consolidated financial statements, we have made our best estimates and judgments of certain amounts included in the condensed consolidated financial statements, giving due consideration to materiality. Changes in the estimates and assumptions used by us could have a significant impact on our financial results, since actual results could differ from those estimates.

Principles of Consolidation

The condensed consolidated financial statements include the accounts of Nortech Systems Incorporated and its wholly-owned subsidiaries, Manufacturing Assembly Solutions of Monterrey, Inc., and Nortech Systems Hong Kong Company, Limited and its subsidiary, Nortech Systems Suzhou Company, Limited. All significant intercompany accounts and transactions have been eliminated.

Reclassifications

Certain reclassifications have been made to the prior year Condensed Consolidated Statement of Cash Flows for the six months ended June 30, 2016 to conform to the current year presentation. In the current year we revised our presentation of non-cash changes in the accounts receivable allowance and changes in inventory reserves on the Condensed Consolidated Statement of Statement of Cash Flows to show these amounts separately. Prior year amounts were reclassified to conform with current year presentation, which decreased cash provided by accounts receivable by $51,000 and increased cash used in inventories by $43,797 for the six months ended June 30, 2016. There was no change in total net cash provided by operating activities for the six months ended June 30, 2016. This change has no impact on the Condensed Consolidated Balance Sheets or the Condensed Consolidated Statements of Operations and Comprehensive Loss.

Revenue Recognition

We recognize manufacturing revenue when we ship goods or the goods are received by our customer, when title has passed, all contractual obligations have been satisfied, the price is fixed or determinable and collection of the resulting receivable is reasonably assured. Generally, there are no formal substantive customer acceptance requirements or further obligations related to manufacturing services. If such requirements or obligations exist, then we recognize the related revenues at the time when such requirements are completed and the obligations are fulfilled. We also provide engineering services separate from the manufacture of a product. Revenue for engineering services is generally recognized on a time and material basis or upon completion of the engineering process. In addition, we have another separate source of revenue that comes from short-term repair services, which are recognized when the repairs are completed and the repaired products are shipped back to the

6

customer. Shipping and handling costs charged to our customers are included in net sales, while the corresponding shipping expenses are included in cost of goods sold.

Stock Options

Following is the status of all stock options as of June 30, 2017:

	Shares	Weighted- Average Exercise Price Per Share		Weighted- Average Remaining Contractual Term (in years)	Aggregate Intrinsic Value
Outstanding - January 1, 2017	37,750	$	4.75
Granted	150,000	3.43
Exercised	—	—
Cancelled	—	—
Outstanding - June 30, 2017	187,750	$	3.70	8.63	$	39,525
Exercisable - June 30, 2017	37,750	$	4.75	3.70	$	6,525

There were no options exercised during the three and six months ended June 30, 2017.  For the three and six months ended June 30, 2016, 1,507 options were exercised.  These exercised options had a total intrinsic value of $964 and resulted in cash proceeds of $4,822 for the three and six months ended June 30, 2016.

Under the 2005 Incentive Compensation Plan, there were no stock options granted during the three and six months ended June 30, 2016.  In May 2017, the shareholders approved the 2017 Stock incentive Plan which authorized the issuance of 350,000 shares. During the three and six months ended June 30, 2017, 150,000 options were granted.

Total compensation expense related to stock options for the three months ended June 30, 2017 and 2016 was $8,640 and $0, respectively.  Total compensation expense related to stock options for the six months ended June 30, 2017 and 2016 was $8,640 and $994, respectively. As of June 30, 2017, there was $198,720 of unrecognized compensation which will vest over the next 2.87 years.

Equity Appreciation Rights Plan

In November 2010, the Board of Directors adopted the Nortech Systems Incorporated Equity Appreciation Rights Plan (“2010 Plan”). The total number of Equity Appreciation Right Units (“Units”) that can be issued under the 2010 Plan shall not exceed an aggregate of 1,000,000 Units as amended and restated on March 11, 2015. The 2010 Plan provides that Units issued shall fully vest three years from the base date as defined in the agreement unless terminated earlier. Units give the holder a right to receive a cash payment equal to the appreciation in book value per share of common stock from the base date, as defined, to the redemption date. Unit redemption payments under the 2010 Plan shall be paid in cash within 90 days after we determine the book value of the Units as of the calendar year immediately preceding the redemption date.  The Units are adjusted to market value for each reporting period.

During the three and six months ended June 30, 2017, a total of 100,000 Units were granted.  During the three and six months ended June 30, 2016, no additional Units were granted.

Total compensation expense (income) related to the vested outstanding Units based on the estimated appreciation over their remaining terms was ($6,391) and $3,300 for the three months ended June 30, 2017 and 2016, respectively and $952 and ($6,422) for the six months ended June 30, 2017 and 2016, respectively. The

7

income for the three months ended June 30, 2017 and six months ended June 30, 2016 was the result of a change in the estimate of the appreciation of book value per share of common stock.

As of June 30, 2017 and December 31, 2016, approximately $23,000 and $45,000 is accrued under this plan, respectively. As of June 30, 2017, approximately $11,000 of this balance was included in other accrued liabilities and approximately $12,000 of this balance was included in other long-term liabilities. As of December 31, 2016, approximately $23,000 of this balance was included in other accrued liabilities and the remaining $22,000 balance was included in other long-term liabilities.

Earnings per Common Share

For the three and six months ended June 30, 2017 and 2016, the effect of all stock options is antidilutive due to the net loss incurred and, therefore, was not included in the computation of earnings per-share amounts.

Segment Reporting Information

All of our operations fall under the contract manufacturing segment within the electronic manufacturing Services industry. We strategically direct production between our various manufacturing facilities based on a number of considerations to best meet our customers’ requirements. We share resources for sales, marketing, engineering, supply chain, information services, human resources, payroll, and all corporate accounting functions. Consolidated financial information is available that is evaluated regularly by the chief operating decision maker in assessing performance and allocating resources.

Restricted Cash

Cash and cash equivalents classified as restricted cash on our condensed consolidated balance sheets are restricted as to withdrawal or use under the terms of certain contractual agreements. The June 30, 2017 balance included cash collateral required to be held against letters of credit and our corporate employee purchasing card program. As of June 30, 2017 we had no outstanding letters of credit. We held no restricted cash as of December 31, 2016.

Accounts Receivable and Allowance for Doubtful Accounts

We grant credit to customers in the normal course of business. Accounts receivable are unsecured and are presented net of an allowance for doubtful accounts. The allowance for doubtful accounts was approximately $144,000 and $883,000 at June 30, 2017 and December 31, 2016, respectively. We determine our allowance by considering a number of factors, including the length of time accounts receivable are past due, our previous loss history, the customers’ current ability to pay their obligations to us, and the condition of the general economy and the industry as a whole. We write-off accounts receivable when they become uncollectible, and payments subsequently received on such receivables are credited to the allowance for uncollectible accounts.

Inventories

Inventories are stated at the lower of cost (first-in, first-out method) or net realizable value. Costs include material, labor, and overhead required in the warehousing and production of our products. Inventory reserves are maintained for the estimated value of the inventories that may have a lower value than stated or quantities in excess of future production needs.

8

Inventories are as follows:

	June 30,			December 31,
	2017			2016
Raw Materials	$	15,323,226		$	14,533,690
Work in Process	4,516,643			4,104,968
Finished Goods	2,656,769			2,688,596
Reserves	(902,258		)	(673,413		)
Total	$	21,594,380		$	20,653,841

Other Intangible Assets

Other intangible assets at June 30, 2017 and December 31, 2016 are as follows:

	June 30, 2017
	Gross
	Carrying		Accumulated		Net Book
	Amount		Amortization		Value
Customer Relationships	$	1,302,000	$	289,331	$	1,012,669
Trade Names		814,000		81,400		732,600
Intellectual Property		100,000		11,111		88,889
Bond Issue Costs		79,373		58,207		21,166
Totals	$	2,295,373	$	440,049	$	1,855,324

	December 31, 2016
	Gross
	Carrying		Accumulated		Net Book
	Amount		Amortization		Value
Customer Relationships	$	1,302,000	$	216,998	$	1,085,002
Trade Names		814,000		61,050		752,950
Bond Issue Costs		79,373		55,561		23,812
Totals	$	2,195,373	$	333,609	$	1,861,764

Amortization expense for the three and six months ended June 30, 2017 was $55,997 and $106,440, respectively. Amortization expense for the three and six months ended June 30, 2016 was $47,666 and $95,329, respectively.

Estimated future amortization expense related to these assets is approximately as follows:

Remainder of 2017	$	112,002
2018	224,004
2019	224,004
2020	196,217
2021	188,020
Thereafter	911,077
Total	$	1,855,324

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Impairment of Goodwill and Other Intangible Assets

In accordance with ASC 350, Goodwill and Other Intangible Assets, goodwill is not amortized but is required to be reviewed for impairment at least annually or when events or circumstances indicate that carrying value may exceed fair value. We test impairment annually as of October 1st. No events were identified during the three and six months ended June 30, 2017 that would require us to test for impairment.

Impairment Analysis

We evaluate long-lived assets, primarily property and equipment, as well as the related depreciation periods, whenever current events or changes in circumstances indicate that the carrying amount of an asset or asset group may not be recoverable. Recoverability for assets to be held and used is based on our projection of the undiscounted future operating cash flows of the underlying assets. To the extent such projections indicate that future undiscounted cash flows are not sufficient to recover the carrying amounts of related assets, a charge might be required to reduce the carrying amount to equal estimated fair value.

In the second quarter of 2017, as a result of changes in the reporting unit’s forecast, goodwill was evaluated for impairment as of June 30, 2017. Based on the impairment analysis performed, it was concluded there was no impairment of goodwill and no impairment expense was recorded during the three and six months ended June 30, 2017 and 2016, respectively.

Recently Issued Accounting Standards

In May 2017, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2017-09, Compensation — Stock Compensation (Topic 718), to reduce the diversity in practice and the cost and complexity for the accounting for a change in terms or conditions of a share-based award. ASU 2017-09 is to be applied on a prospective basis effective for interim and annual periods beginning after December 15, 2017, with early adoption permitted. We are currently evaluating the effect of this update on our consolidated financial statements.

In January 2017, the FASB issued ASU 2017-04, Simplifying the Test for Goodwill Impairment (Topic 350), to simplify the accounting for goodwill impairment. The guidance removes Step 2 of the goodwill impairment test. A goodwill impairment will now be measured as the amount by which a reporting unit’s carrying value exceeds its fair value, limited to the amount of goodwill allocated to that reporting unit. ASU 2017-04 is to be applied on a prospective basis effective for interim and annual periods beginning after December 15, 2019, with early adoption permitted for any impairment tests performed after January 1, 2017. We are currently evaluating the effect of this update on our consolidated financial statements.

In November 2016, the FASB issued ASU 2016-18, Restricted Cash in the Statement of Cash Flows (Topic 230), which prescribes that restricted cash should be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows.  This standard is effective for fiscal years beginning after December 15, 2017, although early adoption is permitted, including adoption in an interim period. We adopted this guidance in 2017. See Note 1, “Summary of Significant Accounting Policies,” of Condensed Notes to the Consolidated Financial Statements for further description of our restricted cash.

In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows — Classification of Certain Cash Receipts and Cash Payments (Topic 230). This guidance will be effective for us beginning in the first quarter of 2018, although early adoption is permitted. We are evaluating the impact, if any, that this new guidance will have on our Consolidated Statements of Cash Flows.

In March 2016, FASB issued ASU 2016-09, Compensation - Stock Compensation: Improvements to Employee Share-Based Payment Accounting, which changes how companies account for certain aspects of share-based payments to employees. The new guidance requires all income tax effects of awards to be recognized in the income statement when the awards vest or are settled, allows an employer to repurchase more of an employee’s

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shares than previously allowed for tax withholding purposes without triggering liability accounting, allows a company to make a policy election to account for forfeitures as they occur, and eliminates the requirement that excess tax benefits be realized before companies can recognize them. The new guidance also requires excess tax benefits and tax shortfalls to be presented on the cash flow statement as an operating activity rather than as a financing activity, and clarifies that cash paid to a tax authority when shares are withheld to satisfy its statutory income tax withholding obligation are to be presented as a financing activity. The standard is effective for our financial statements issued for fiscal years beginning after December 15, 2016, and interim periods within those fiscal years. The Company adopted the guidance in the current year. The adoption of ASU 2016-09 required no retrospective adjustments to the financial statements. In addition, there was no material cumulative-effect adjustment to retained earnings, nor did the adoption impact the tax provision for the current quarter.

During February 2016, the FASB issued ASU 2016-02, Leases. ASU 2016-02 was issued to increase transparency and comparability among organizations by recognizing all lease transactions (with terms in excess of 12 months) on the balance sheet as a lease liability and a right-of-use asset (as defined). ASU 2016-02 is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years, with earlier application permitted. Upon adoption, the lessee will apply the new standard on a modified retrospective basis to all periods presented. We are currently assessing the effect that ASU 2016-02 will have on our consolidated financial statements.

In July 2015, the FASB issued ASU 2015-11, Inventory (Topic 330): Simplifying the Measurement of Inventory. This standard changes the measurement principle for certain inventory methods from the lower of cost or market to the lower of cost and net realizable value. Net realizable value is defined as the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. This standard does not apply to inventory that is measured using Last-in First-out (“LIFO”) or the retail inventory method. The provisions of ASU 2015-11 are effective for fiscal years beginning after December 15, 2016, including interim periods within those fiscal years. The Company adopted this guidance in the current year and there was no impact on the Company’s consolidated financial statements.

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606). This standard outlines a single comprehensive model for companies to use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance, including industry-specific guidance. The core principle of the revenue model is that revenue is recognized when a customer obtains control of a good or service. A customer obtains control when it has the ability to direct the use of and obtain the benefits from the good or service. Transfer of control is not the same as transfer of risks and rewards, as it is considered in current guidance. We will also need to apply new guidance to determine whether revenue should be recognized over time or at a point in time. This standard will be effective for the first interim period within annual reporting periods beginning after December 15, 2017, using either of two methods: (a) retrospective to each prior reporting period presented with the option to elect certain practical expedients as defined within ASU 2014-09; or (b) retrospective with the cumulative effect of initially applying ASU 2014-09 recognized at the date of initial application and providing certain additional disclosures as defined in ASU 2014-09. We plan to adopt the new guidance beginning January 1, 2018.

We have performed a review of the requirements of the new guidance and have initially identified which of our revenue streams will be within the scope of ASU 2014-09.  We are working through an adoption plan which includes a review of customer contracts, applying the five-step model of the new standard to each revenue stream and comparing the results to our current accounting; an evaluation of the method of adoption; and assessing changes that might be necessary to our processes, internal controls and changes in financial reporting. The Company expects to complete the review of contracts and evaluate the impact of the accounting and disclosure changes on its business processes and controls during the fourth quarter of 2017.

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NOTE 2. CONCENTRATION OF CREDIT RISK AND MAJOR CUSTOMERS

Financial instruments that potentially subject us to concentrations of credit risk consist principally of cash and accounts receivable. With regard to cash, we maintain our excess cash balances in checking accounts at two high-credit quality financial institutions. These accounts may at times exceed federally insured limits. We grant credit to customers in the normal course of business and do not require collateral on our accounts receivable.

Our largest customer has two divisions that together accounted for 10% or more of our net sales during the three and six months ended June 30, 2017 and 2016. One division accounted for approximately 25.3% and 24.9% of net sales for the three and six months ended June 30, 2017, respectively, and approximately 19.7% and 18.6% of net sales for the three and six months ended June 30, 2016. The second division accounted for approximately 1.3% and 1.8% of net sales for the three and six months ended June 30, 2017, respectively, and approximately 4.0% and 5.3% of net sales for the three and six months ended June 30, 2016. Together they accounted for approximately 26.7% of net sales for the three and six months ended June 30, 2017 and approximately 23.7% and 23.9% of net sales for the three and six months ended June 30, 2016. Accounts receivable from the customer at June 30, 2017 and December 31, 2016 represented approximately 21.1% and 13.6% of our total accounts receivable, respectively.

Export sales represented approximately 17.0% and 13.2% of net sales for the three months ended June 30, 2017 and 2016, respectively. Export sales represented 15.5% and 12.1% of net sales for the six months ended June 30, 2017 and 2016, respectively.

NOTE 3. FINANCING ARRANGEMENTS

We have a credit agreement with Bank of America which was entered into on June 15, 2017 and provides for a line of credit arrangement of $16,000,000 that expires on June 15, 2022. The credit arrangement also has a $5,000,000 real estate term note outstanding with a maturity date of June 15, 2022. The Bank of America credit agreement replaces our previous credit agreement with Wells Fargo Bank which terminated on June 20, 2017 and resulted in a loss on the extinguishment of debt of $174,834 primarily related to legal and terminations fees. Under the new credit agreement, both the line of credit and real estate term notes are subject to variations in the LIBOR rate. Our line of credit bears interest at one-month LIBOR + 2.00% (approximately 3.25% at June 30, 2017) while our real estate term notes bear interest at one-month LIBOR + 2.25% (approximately 3.50% at June 30, 2017). The combined weighted-average interest rate related to our new line of credit agreement and terminated credit agreement was 3.65% and 3.51% for the three and six months ended June 30, 2017, respectively. We had borrowings on our line of credit of $6,642,937 and $7,315,262 outstanding as of June 30, 2017 and December 31, 2016, respectively. There are no acceleration clauses under the credit agreement that would accelerate the maturity of our outstanding borrowings.

The Bank of America credit agreement provides for, among other things, a fixed charge coverage ratio of not less than (i) 1.00 to 1.00 for the trailing four fiscal quarters most recently ended.  As of June 30, 2017, we were in compliance with this covenant.

The availability under the line is subject to borrowing base requirements, and advances are at the discretion of the lender. At June 30, 2017, we had unused availability under our line of credit of $7,392,337 supported by our borrowing base. The line is secured by substantially all of our assets.

As part of the July 1, 2015 Devicix acquisition we entered into two unsecured subordinated promissory notes payable to the seller in the principal amounts of $1,000,000 and $1,300,000. The $1,000,000 promissory note has a four-year term, bearing interest at 4.0% per annum, requiring monthly principal and interest payments of $22,579 and is subject to offsets if certain revenue levels are not met. The $1,300,000 promissory note has a four-year term and bears interest at 4.0% per annum, requiring monthly principal and interest payments of $29,353 and is not subject to offset.

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Long-term debt at June 30, 2017 and December 31, 2016 consisted of the following:

	June 30,			December 31,
	2017			2016
Term note payable - Bank of America Real estate term note bearing interest at one-month LIBOR + 2.25% maturing June 15, 2022 with monthly payments of approximately $41,000 plus interest secured by substantially all assets.	$	5,000,000		$	—
Term notes payable - Wells Fargo Bank, N.A. Real estate term notes bearing interest at three month LIBOR + 2.75% maturing March 31, 2027, and December 31, 2027 with combined monthly payments of approximately $19,000 plus interest, secured by substantially all assets.	—			2,415,428
Equipment notes bearing interest at three month LIBOR + 2.75% maturing May 2018 with a combined monthly payments of approximately $46,000 plus interest, secured by substantially all assets.	—			2,489,624
Industrial revenue bond payable to the City of Blue Earth, Minnesota which bears a variable interest rate (approx. 0.21% at June 30, 2017), and has a maturity date of June 1, 2021, with principal of $80,000 payable annually on June 1.	120,000			200,000
Devicix Acquistion Note 1 payable to DeLange Holdings bears interest rate of 4.0% per annum, maturing July 1, 2019.	519,956			643,585
Devicix Acquistion Note 2 payable to DeLange Holdings bears interest rate of 4.0% per annum, maturing July 1, 2019.	675,944			836,661
	6,315,900			6,585,298
Discount on Devicix Notes Payable	(82,600		)	(102,424		)
Debt issuance Costs	(264,660		)	(25,896		)
Total long-term debt	5,968,640			6,456,978
Current maturities of long-term debt	(1,064,876		)	(1,565,347		)
Long-term debt - net of current maturities	$	4,903,764		$	4,891,631

NOTE 4.  INCOME TAXES

Historically, the Company estimates the effective tax rate for the full fiscal year and records a quarterly income tax provision based on the anticipated rate and refines our estimates quarterly based on facts and circumstances including discrete events, by each jurisdiction. For the current quarter, the Company is utilizing an estimated year-to-date effective tax rate rather than the estimated annual rate approach as a result of changes in the forecast. Our effective tax rate for the three and six months ended June 30, 2017 was 92.9% and 87.4%, respectively. Our effective tax rate for the three and six months ended June 30, 2016 was 27.7% and 26.8%, respectively. The increase in our current year-to-date effective rate versus prior year is due mainly to the higher level of pretax book loss and the related increase in the foreign tax rate differential benefit.

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The differences between federal income taxes computed at the federal statutory rate and reported income taxes for the three and six months ended June 30, 2017 and 2016 are as follows:

	Three Months Ended						Six Months Ended
	June 30,						June 30,
	2017			2016			2017			2016
Statutory federal tax provision benefit	$	(74,500	)	$	(89,000	)	$	(81,000	)	$	(55,000	)
State income tax expense (benefit)	(6,900		)	13,000			(500		)	16,000
Income tax credits	(25,000		)	(17,000		)	(50,000		)	(40,000		)
Change in uncertain tax positions	2,500			—			5,000			—
Foreign tax benefit	(96,300		)	—			(82,000		)	—
Other	(5,400		)	24,000			(1,500		)	36,000
Income tax benefit	$	(205,600	)	$	(69,000	)	$	(210,000	)	$	(43,000	)

At June 30, 2017, we had $57,000 of net uncertain tax benefit positions remaining in other long-term liabilities related to research and development credits that would increase our effective income tax rate if recognized. At December 31, 2016, we had $52,000 of net uncertain tax benefit positions recorded in other long-term liabilities that would reduce our effective income tax rate if recognized.

NOTE 5.  COMMITMENTS AND CONTINGENCIES

We have various operating leases for production and office equipment, office space, and buildings under non-cancelable lease agreements expiring on various dates through 2022.

Rent expense for the three months ended June 30, 2017 and 2016 amounted to approximately $332,000 and $294,000 respectively. Rent expense for the six months ended June 31, 2017 and 2016 amounted to approximately $649,000 and $593,000 respectively.

Approximate future minimum lease payments under non-cancelable leases subsequent to June 30, 2017 are as follows:

Years Ending
December 31,	Amount
Remainder of 2017	$	439,000
2018	880,000
2019	620,000
2020	374,000
2021	175,000
Thereafter	143,000
Total	$	2,631,000

NOTE 6.  PLANT CLOSURE

On January 31, 2017 the Company closed its manufacturing operations in Augusta, Wisconsin. The Company has operated a facility in Augusta since 1992, serving mainly an industrial customer base and defense overflow production that aligned with their custom cable capabilities. The Company consolidated its Augusta operations with its other facilities, continuing to serve customers without interruption. This consolidation increased the Company’s overall asset utilization and cost leveraging. On March 31, 2017, the Company closed on the sale of the Augusta building and building improvements for $715,000. The Augusta building and building

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improvements had a net book value of $314,000, recognizing a gain on the sale, net of related expenses, of $354,000, and applied the net proceeds of $668,000 towards the outstanding real estate term note.

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ITEM 2.    MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Overview

We are a Maple Grove, Minnesota based full-service electronics manufacturing services (“EMS”) contract manufacturer of medical devices and systems wire and cable assemblies, printed circuit board assemblies and higher-level box builds for a wide range of industries. We provide value added engineering services and technical support including design, testing, prototyping and supply chain management to our customers in the medical, aerospace and defense and industrial equipment markets. We maintain facilities in Minnesota, US; Monterrey, Mexico; and Suzhou, China. All of our facilities are certified to one or more of the ISO/AS standards, including 9001, AS9100 and 13485, with most having additional certifications based on the needs of the customers they serve.

In the second quarter of 2017 revenue grew by 4.1% to $30.1 million lead by our medical and global customers. Our gross margin improvement year over year is attributed to customer mix and our Suzhou, China operation moving into full production mode. Our operating profit in the second quarter was aided by a recovery of $0.3 million from a bad debt bankruptcy settlement in addition to the volume and mix in gross margin. Pretax income was negatively impacted by $0.2 million in debt extinguishment costs related to the change in our banking arrangement to Bank of America.

We had operating cash flows of $1.3 million and paid down debt by $0.9 million in the first six months of 2017. During the quarter our Board of Directors appointed a Chief Operating Officer (COO) to our executive team who will oversee all aspects of global manufacturing, engineering, sourcing and business development. Our COO has an international business background and extensive management experience in manufacturing, technology and finance with a focus on continuous improvement and automation.

2017 Second Quarter Highlights

The second quarter of 2017 revenue was $30.1 million, compared to revenue of $28.9 million in second quarter of 2016. Medical market revenue increased $1.8 million or 14.1% from prior year with our defense revenue down by $0.5 million or 11.2% and industrial revenue down $0.1 million or 0.9%. Heading into the third quarter, our backlog at June 30, 2017 is up 1.1% from the start of the quarter and 4.2% compared to the prior year.

Our second quarter 2017 gross margin of $3.4 million or 11.2% of sales was up $0.3 million and 40 basis points from the prior year primarily due to customer mix and our China operation now in full production mode compared to starting up costs in the prior year.

Operating profit for the second quarter of 2017 was $0.1 million as compared to loss of $0.1 million for the prior year’s second quarter. The $0.2 million increase was due to the higher gross margin and a bad debt recovery of $0.3 million from a bankruptcy settlement.

Net loss for the three months ended June 30, 2017 was $15,667 or $0.01 loss per basic and diluted common share compared to net loss for the three months ended June 30, 2016 of $0.2 million or $0.07 loss per basic and diluted common share. Net loss for the six months ended June 30, 2017 was $30,319 or $0.01 loss per basic and diluted common share compared to net loss for the six months ended June 30, 2016 of $0.1 million or $0.04 loss per basic and diluted common share. The current net loss for the three and six months ended June 30, 2017 was due to approximately $0.2 million for debt extinguishment costs. Excluding this item, we would have had net income for the three and six months ended June 30, 2017 of approximately $0.2 million and $0.1 million, respectively.

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Results of Operations

The following table presents statements of operations data as percentages of total net sales for the periods indicated:

	Three Months Ended				Six Months Ended
	June 30,				June 30,
	2017		2016		2017		2016
Net Sales	100.0	%	100.0	%	100.0	%	100.0	%
Cost of Goods Sold	88.8		89.2		89.0		88.8
Gross Profit	11.2		10.8		11.0		11.2
Selling Expenses	4.4		4.5		4.3		4.5
General and Administrative Expenses	6.5		6.7		7.0		6.5
Gain on Sale of Property and Equipment	0.0		0.0		(0.6	)	0.0
Income (Loss) from Operations	0.3		(0.4	)	0.3		0.2
Other Expenses	(1.0	)	(0.4	)	(0.8	)	(0.5	)
Loss Before Income Taxes	(0.7	)	(0.8	)	(0.5	)	(0.3	)
Income Tax Benefit	(0.7	)	(0.2	)	(0.4	)	(0.1	)
Net Loss	0.0	%	(0.6	)%	(0.1	)%	(0.2	)%

Net Sales

Net sales by our major EMS industry markets for the three and six month periods ended June 30, 2017 and 2016 were as follows:

	Three Months Ended				Six Months Ended
	June 30,				June 30,
	2017	2016	%		2017	2016	%
(in thousands)	$	$	Change		$	$	Change
Aerospace and Defense	3,887	4,376	-11.2	%	7,238	8,396	-13.8	%
Medical	14,397	12,613	14.1	%	28,255	24,209	16.7	%
Industrial	11,850	11,956	-0.9	%	22,959	25,290	-9.2	%
Total Sales	30,134	28,945	4.1	%	58,452	57,895	1.0	%

Net sales were $30.1 million in the second quarter of 2017, as compared to $28.9 million in the second quarter of the prior year, an increase of $1.2 million or 4.1%.  Net sales results were varied by markets, the medical market increased by $1.8 million or 14.1%. The industrial market sector was slightly down $0.1 million in the second quarter of 2017 as compared to the same quarter of 2016, primarily from lower demand levels from our transportation equipment customers. Net sales from the aerospace and defense markets decreased by 11.2% in the second quarter of 2017 as compared to the second quarter of 2016 due to lower customer demands.

Net sales were $58.5 million in the six months ended June 30, 2017, as compared to $57.9 million in the prior year, an increase of $0.6 million or 1.0%. Net sales results were varied by markets, the medical market increased by $4.0 million or 16.7%. The industrial market sector was down $2.3 million in the first six months of 2017 as compared to the same period of 2016, primarily from lower demand levels from our transportation

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equipment customers. Net sales from the aerospace and defense markets decreased $1.2 million or 13.8% in the first six months of 2017 as compared to 2016 due to lower customer demands.

Backlog

90 day backlog by our major EMS industry markets are as follows:

	Backlog as of the Quarter Ended
	June 30,		March 31,		June 30,
(in thousands)	2017		2017		2016
Aerospace and Defense	$	4,252	$	4,122	$	4,791
Medical	12,282		11,917		11,428
Industrial	7,176		7,418		6,526
Total Backlog	$	23,710	$	23,457	$	22,745

Our 90-day order backlog as of June 30, 2017 was $23.7 million, a 1.1% increase from the beginning of the quarter and a 4.2% increase as compared to the prior year. Backlog for our medical customers has increased 7.5% over the prior year and 3.1% over the prior quarter. The aerospace and defense backlog increased 3.2% since the beginning of the quarter and decreased 11.2% from the prior year as past due orders were reduced significantly.  Our industrial customers’ backlog decreased 3.3% since from the beginning of the quarter and increased 10.0% from the prior year, improving our position heading into the third quarter. Our backlog consists of firm purchase orders and we expect a major portion of the current 90 day backlog to be realized as revenue during the following quarter.

Our 90 day backlog varies due to order size, manufacturing delays, contract terms and conditions and timing from customer delivery schedules and releases. These variables cause inconsistencies in comparing the backlog from one period to the next.

Gross Profit

Gross profit as a percent of net sales for the three months ended June 30, 2017 and 2016, was 11.2% and 10.8%, respectively. The increase in gross profit in the second quarter of 2017 as compared to the same period last year was primarily due to customer mix and our China operation now in full production mode compared to starting up costs in the prior year. Gross profit as a percentage of net sales for the six months ended June 30, 2017 and 2016 was 11.0% and 11.2%, respectively.

Selling Expense

Selling expense for the three months ended June 30, 2017 and 2016 was $1.3 million or 4.4% of sales and $1.3 million or 4.5% of sales, respectively. We will continue to fund business development to this level to support activities and marketing initiatives to maintain existing business and stimulate sales growth. Selling expense for the six months ended June 30, 2017 and 2016 was $2.5 million or 4.3% of sales and $2.6 million or 4.5% of sales, respectively.

General and Administrative Expense

General and administrative expenses for the three months ended June 30, 2017 and 2016, were $1.9 million or 6.5% of sales and $1.9 million or 6.7% of sales, respectively. The increase in professional service fees, investments in information systems resources and our new China operations were offset by a bad debt bankruptcy recovery settlement.

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General and administrative expenses for the six months ended June 30, 2017 and 2016 were $4.1 million or 7.0% of sales and $3.8 million or 6.5% of sales, respectively. The increase in professional service fees, investments in information systems resources and our new China operations account for the majority of the increased spending.

Gain from Sale of Property and Equipment

Net gain from sale of property and equipment for the six months ended June 30, 2017 was $0.4 million from the sale of the Augusta building and building improvements (see Note 6). There was no gain from sale of property and equipment recorded in 2016.

Income from Operations

Second quarter 2017 income from operations was $0.1 million as compared to a loss of $0.1 million for the second quarter in 2016.  The increase in income from operations of for the quarter was due to the higher gross margin and a bad debt recovery.

Income from operations for the first six months in 2017 was $0.2 million as compared to $0.1 million for the same comparable period in 2016.  The increase in income from operations for the period was due to a gain on the sale of our Augusta facility and bad debt recovery partially offset by increased general and administrative expenses.

Income Taxes

The differences between federal income taxes computed at the federal statutory rate and reported income taxes for the three months ended June 30, 2017 and 2016 are as follows:

	Three Months Ended						Six Months Ended
	June 30,						June 30,
	2017			2016			2017			2016
Statutory federal tax provision (benefit)	$	(74,500	)	$	(89,000	)	$	(81,000	)	$	(55,000	)
State income tax expense (benefit)	(6,900		)	13,000			(500		)	16,000
Income tax credits	(25,000		)	(17,000		)	(50,000		)	(40,000		)
Change in uncertain tax positions	2,500			—			5,000			—
Foreign tax benefit	(96,300		)	—			(82,000		)	—
Other	(5,400		)	24,000			(1,500		)	36,000
Income tax benefit	$	(205,600	)	$	(69,000	)	$	(210,000	)	$	(43,000	)

Historically, the Company estimates the effective tax rate for the full fiscal year and records a quarterly income tax provision based on the anticipated rate and refines our estimates quarterly based on facts and circumstances including discrete events, by each jurisdiction. For the current quarter, the Company is utilizing an estimated year-to-date effective tax rate rather than the estimated annual rate approach as a result of changes in the forecast. Our effective tax rate for the three and six months ended June 30, 2017 was 92.9% and 87.4%, respectively. Our effective tax rate for the three and six months ended June 30, 2016 was 27.7% and 26.8%, respectively. The increase in our current year-to-date effective rate versus prior year is due mainly to the higher level of pretax book loss and the related increase in the foreign tax rate differential benefit.

Net Income (Loss)

Net loss for the three months ended June 30, 2017 was $15,667 or $0.01 loss per basic and diluted common share compared to net loss for the three months ended June 30, 2016 of $0.2 million or $0.07 loss per basic and diluted common share. Net loss for the six months ended June 30, 2017 was $30,319 or $0.01 loss per basic and

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diluted common share compared to net loss for the six months ended June 30, 2016 of $0.1 million or $0.04 loss per basic and diluted common share. The current net loss for the three and six months ended June 30, 2017 was due to approximately $0.2 million for debt extinguishment costs. Excluding this item, we would have had net income for the three and six months ended June 30, 2017 of approximately $0.2 million and $0.1 million, respectively.

Liquidity and Capital Resources

We had total cash of $0.5 million consisting of unrestricted cash of $0.2 million and restricted cash of $0.3 million.

Net cash provided in operating activities increased by $0.2 million to $1.3 million for the six months ended June 30, 2017 compared to $1.1 million for the six months ended June 30, 2016.  Increases in accounts payable, through the extension of terms and conditions, and the reduction in our overall accounts receivable has positively impacted cash flows.

Net cash provided by investing activities of $0.2 million for the six months ended June 30, 2017, was generated from the proceeds of the sale of the Augusta building (see Note 6), offset by property and equipment purchases to support the business.

We have satisfied our liquidity needs over the past several years with cash flows generated from operations and a bank operating line of credit. We also have a real estate and equipment term loan. We have a credit agreement with Bank of America (BofA) which was entered into on June 15, 2017 and provides for a line of credit arrangement of $16.0 million that expires on June 15, 2022. The credit arrangement also has a $5.0 million real estate term note outstanding with a maturity date of June 15, 2022.

Both the line of credit and real estate term notes are subject to fluctuations in the LIBOR rates. The line of credit and real estate term notes with BofA contain certain covenants which, among other things, require us to adhere to regular reporting requirements, abide by annual shareholder dividend limitations, maintain certain financial performance, and limit the amount of annual capital expenditures. The availability under our line is subject to borrowing base requirements, and advances are at the discretion of the lender. The line of credit is secured by substantially all of our assets.

On June 30, 2017, we had outstanding advances of $6.6 million under the line of credit and unused availability of $7.4 million supported by our borrowing base compared to $5.7 million available on December 31, 2016. We believe our financing arrangements and cash flows to be provided by operations will be sufficient to satisfy our future working capital needs. Our working capital was $19.2 million and $19.2 million as of June 30, 2017 and December 31, 2016, respectively.

We met our credit agreement with BofA which requires us to maintain a minimum fixed charge coverage ratio of not less than 1.00 to 1.00.

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Cash conversion cycle:

	Three Months Ended June 30,				Six Months Ended June 30,
	2017		2016		2017		2016
Days in trade accounts receivable	54		52		52		52
Days in inventory	74		78		76		77
Days in accounts payable	(53	)	(47	)	(52	)	(46	)
Cash conversion cycle	75		83		76		83

We calculate days in accounts receivable as accounts receivable for the respective quarter and year-to-date period divided by annualized sales for the respective quarter and year-to-date period by day. We calculate days in inventory and accounts payable as each balance sheet line item for the respective quarter and year-to-date period divided by annualized cost of sales for the respective quarter and year-to-date period by day. We calculate cash conversion cycle as the sum of days in receivable and inventory less days in accounts payable. Items which may cause the cash conversion cycle in a particular period to differ include, but are not limited to, changes in business mix, changes in payment terms and the timing of revenue recognition and inventory purchases within the period. Days in accounts payable for the three and six months ended June 30, 2017 increased by six days compared to the three and months ended June 30, 2016, as a result of the timing of payments. Days in inventory for the three and six months ended June 30, 2017 improved by four days and one day, respectively compared to the three and months ended June 30, 2016. The improvements were partially offset by a slight increase in days in accounts receivable as a result of timing of collections.

Off-Balance Sheet Arrangements

We have not engaged in any off-balance sheet activities as defined in Item 303(a)(4) of Regulation S-K.

Critical Accounting Policies and Estimates

Our significant accounting policies and estimates are summarized in Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for the year ended December 31, 2016. There have been no significant changes in these critical accounting policies since December 31, 2016. Some of our accounting policies require us to exercise significant judgment in selecting the appropriate assumptions for calculating financial estimates. Such judgments are subject to an inherent degree of uncertainty. These judgments are based on our historical experience, known trends in our industry, terms of existing contracts and other information from outside sources, as appropriate. Actual results could differ from these estimates.

Forward-Looking Statements

Those statements in the foregoing report that are not historical facts are forward-looking statements made pursuant to the safe-harbor provisions of the Private Securities Litigation Reform Act of 1995. Such statements generally will be accompanied by words such as “anticipate,” “believe,” “estimate,” “expect,” “forecast,” “intend,” “possible,” “potential,” “predict,” “project,” or other similar words that convey the uncertainty of future events or outcomes. Although we believe these forward-looking statements are reasonable, they are based upon a number of assumptions concerning future conditions, any or all of which may ultimately prove to be inaccurate. Forward-looking statements involve a number of risks and uncertainties. Important factors that could cause actual results to differ materially from the forward-looking statements include, without limitation:

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·Volatility in the marketplace which may affect market supply and demand for our products;

·Increased competition;

·Changes in the reliability and efficiency of operating facilities or those of third parties;

·Risks related to availability of labor;

·Increase in certain raw material costs such as copper;

·Commodity and energy cost instability;

·Dependence on certain customers;

·Possible customer cancellations of orders, impact of financial difficulty of customers and other factors that could cause losses relating to customer orders;

·General economic, financial and business conditions that could affect our financial condition and results of operations; and

·Availability of raw material components.

The factors identified above are believed to be important factors (but not necessarily all of the important factors) that could cause actual results to differ materially from those expressed in any forward-looking statement made by us. Unpredictable or unknown factors not discussed herein could also have material adverse effects on forward-looking statements. All forward-looking statements included in this Form 10-Q are expressly qualified in their entirety by the forgoing cautionary statements. We undertake no obligations to update publicly any forward-looking statement (or its associated cautionary language) whether as a result of new information or future events.

Please refer to forward-looking statements and risks as previously disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2016.

ITEM 4.   CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

In accordance with Rule 13a-15(b) of the Securities Exchange Act of 1934 (the “Exchange Act”), as of the end of the period covered by this Quarterly Report on Form 10-Q, our management evaluated, with the participation of our Chief Executive Officer and Chief Financial Officer, the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rule 13a-15(e) and Rule 15d-15(e) under the Exchange Act). These controls and procedures are designed to ensure that information required to be disclosed in the Company’s Exchange Act reports is (1) recorded, processed, summarized and reported in a timely manner, and (2) accumulated and communicated to management, including the Company’s Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. Based upon their evaluation of these disclosure controls and procedures as of the date of the evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the disclosure controls and procedures were effective.

Changes in Internal Control Over Financial Reporting

There was no change in our internal control over financial reporting that occurred during the period covered by this Quarterly Report on Form 10-Q that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

22

PART II

ITEM 1.    LEGAL PROCEEDINGS

We are subject to various legal proceedings and claims that arise in the ordinary course of business.

ITEM 6. EXHIBITS

Exhibits
10.1	2017 Stock Incentive Plan approved by shareholders on May 3, 2017. (Incorporated by reference from the Definitive Proxy Statement filed March 22, 2017.)
10.2	Amended and Restated Employment Agreement, effective as of May 15, 2017, by and between the Company and Richard Wasielewski. (Incorporated by reference from the Company’s Current Report on Form 8-K filed on May 19, 2017.)
10.3	Employment Agreement, effective as of May 15, 2017, by and between the Company and Matt Mahmood (Incorporated by reference from the Company’s Current Report on Form 8-K filed on May 19, 2017.)
10.4	Loan and Security Agreement effective as of June 15, 2017 between the Company and Bank of America, N. A. (Incorporated by reference from the Company’s Current Report on Form 8-K filed on June 21, 2017.)
31.1*	Certification of the Chief Executive Officer pursuant to Rule 13a-14(a) and Rule 15d-14(a), promulgated under the Securities Exchange Act of 1934, as amended.
31.2*	Certification of the Chief Financial Officer pursuant to Rule 13a-14(a) and Rule 15d-14(a), promulgated under the Securities Exchange Act of 1934, as amended.
32*	Certification of the Chief Executive Officer and Chief Financial Officer, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101*	Financial statements from the quarterly report on Form 10-Q for the quarter ended June 30, 2017, formatted in XBRL: (i) Condensed Consolidated Balance Sheets, (ii) Condensed Consolidated Statements of Comprehensive Income (Loss), (iii) Condensed Consolidated Statements of Cash Flows, and (iv) the Condensed Notes to Consolidated Financial Statements.

*Filed herewith

23

Signatures

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

Nortech Systems Incorporated and Subsidiaries

Date: August 9, 2017	by	/s/ Richard G. Wasielewski
	Richard G. Wasielewski
	Chief Executive Officer and President
	Nortech Systems Incorporated
Date: August 9, 2017	by	/s/ Paula M. Graff
	Paula M. Graff
	Vice President and Chief Financial Officer
	Nortech Systems Incorporated

24

EX-31.1

Exhibit 31.1

Certification of Chief Executive Officer

Pursuant to Rule 13a-14(a) or 15d-14(a) under the Securities Exchange Act of 1934

I, Richard G. Wasielewski, certify that:

1.I have reviewed this quarterly report on Form 10-Q of Nortech Systems, Inc. and Subsidiary;

2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3.Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4.The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

a)Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

b)Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

c)Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in the report our conclusions about

the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report on such evaluation; and

d)Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5.The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

a)All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

b)Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Date: August 9, 2017	By:	/s/ Richard G. Wasielewski
		Richard G. Wasielewski
		Chief Executive Officer and President
		Nortech Systems Incorporated

EX-31.2

Exhibit 31.2

Certification of Chief Financial Officer

Pursuant to Rule 13a-14(a) or 15d-14(a) under the Securities Exchange Act of 1934

I, Paula M. Graff, certify that:

1.I have reviewed this quarterly report on Form 10-Q of Nortech Systems, Inc. and Subsidiary;

2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3.Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4.The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

a)Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

b)Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

c)Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in the report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report on such evaluation; and

d)Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5.The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

a)All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

b)Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Date: August 9, 2017	By:	/s/ Paula M. Graff
		Paula M. Graff
		Vice President and Chief Financial Officer
		Nortech Systems Incorporated

EX-32

Exhibit 32

Written Statement of the Chief Executive Officer

Pursuant to 18 U.S.C. Section 1350

Solely for the purposes of complying with 18 U.S.C. Section 1350, I, the undersigned Richard G. Wasielewski, hereby certify, based on my knowledge, that the Quarterly Report on Form 10-Q of the Company for the quarter ended June 30, 2017 (the “Report”) fully complies with the requirements of Section 13(a) of the Securities Exchange Act of 1934 and that information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

Date:	August 9, 2017
By:	/s/ Richard G. Wasielewski
	Richard G. Wasielewski
	Chief Executive Officer and President
	Nortech Systems Incorporated

Written Statement of the Chief Financial Officer

Pursuant to 18 U.S.C. Section 1350

Solely for the purposes of complying with 18 U.S.C. Section 1350, I, the undersigned Paula M. Graff, hereby certify, based on my knowledge, that the Quarterly Report on Form 10-Q of the Company for the quarter ended June 30, 2017 (the “Report”) fully complies with the requirements of Section 13(a) of the Securities Exchange Act of 1934 and that information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

Date: August 9, 2017
By:	/s/ Paula M. Graff
	Paula M. Graff
	Vice President and Chief Financial Officer
	Nortech Systems Incorporated

XML

Document and Entity Information - shares	6 Months Ended
	Jun. 30, 2017	Aug. 05, 2017
Document and Entity Information
Entity Registrant Name	NORTECH SYSTEMS INC
Entity Central Index Key	0000722313
Document Type	10-Q
Document Period End Date	Jun. 30, 2017
Amendment Flag	false
Current Fiscal Year End Date	--12-31
Entity Current Reporting Status	Yes
Entity Filer Category	Smaller Reporting Company
Entity Common Stock, Shares Outstanding		2,747,831
Document Fiscal Year Focus	2017
Document Fiscal Period Focus	Q2

XML

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS - USD ($)	3 Months Ended		6 Months Ended
	Jun. 30, 2017	Jun. 30, 2016	Jun. 30, 2017	Jun. 30, 2016
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS (unaudited)
Net Sales	$ 30,134,044	$ 28,945,135	$ 58,451,901	$ 57,895,177
Cost of Goods Sold	26,768,983	25,822,428	51,995,253	51,393,909
Gross Profit	3,365,061	3,122,707	6,456,648	6,501,268
Operating Expenses
Selling Expenses	1,327,222	1,310,335	2,532,270	2,613,825
General and Administrative Expenses	1,944,154	1,922,308	4,064,607	3,776,431
Gain on Sale of Property and Equipment	(1,000)		(355,336)
Total Operating Expenses	3,270,376	3,232,643	6,241,541	6,390,256
Income (Loss) From Operations	94,685	(109,936)	215,107	111,012
Other Expense
Loss on Extinguishment of Debt	(174,834)		(174,834)
Interest Expense	(141,474)	(139,247)	(280,996)	(271,269)
Loss Before Income Taxes	(221,623)	(249,183)	(240,723)	(160,257)
Income Tax Benefit	(205,956)	(69,000)	(210,404)	(43,000)
Net Loss	$ (15,667)	$ (180,183)	$ (30,319)	$ (117,257)
Loss Per Common Share:
Basic (in dollars per share)	$ (0.01)	$ (0.07)	$ (0.01)	$ (0.04)
Weighted Average Number of Common Shares Outstanding - Basic (in shares)	2,747,831	2,747,700	2,747,831	2,747,012
Diluted (in dollars per share)	$ (0.01)	$ (0.07)	$ (0.01)	$ (0.04)
Weighted Average Number of Common Shares Outstanding - Diluted (in shares)	2,747,831	2,747,700	2,747,831	2,747,012
Other Comprehensive Loss
Foreign Currency Translation	$ 254		$ (3,062)
Comprehensive Loss, Net of Tax	$ (15,413)	$ (180,183)	$ (33,381)	$ (117,257)

XML

CONDENSED CONSOLIDATED BALANCE SHEETS - USD ($)	Jun. 30, 2017	Dec. 31, 2016
Current Assets
Cash	$ 190,691	$ 268,204	[1]
Restricted Cash	346,567	0
Accounts Receivable, less allowances of $144,000 and $883,000	17,099,176	17,320,784	[1]
Inventories	21,594,380	20,653,841	[1]
Prepaid Expenses	1,023,546	1,048,373	[1]
Income Taxes Receivable	409,792	198,535	[1]
Total Current Assets	40,664,152	39,489,737	[1]
Property and Equipment, Net	9,504,549	10,330,834	[1]
Other Intangible Assets, Net	1,855,324	1,861,764	[1]
Goodwill	3,283,454	3,283,454	[1]
Deferred Tax Assets	543,000	543,000	[1]
Other Assets	7,726	7,726	[1]
Total Assets	55,858,205	55,516,515	[1]
Current Liabilities
Current Maturities of Long-Term Debt	1,064,876	1,565,347	[1]
Accounts Payable	15,316,665	13,825,530	[1]
Accrued Payroll and Commissions	3,295,505	3,311,693	[1]
Other Accrued Liabilities	1,706,070	1,603,069	[1]
Income Taxes Payable	44,068
Total Current Liabilities	21,427,184	20,305,639	[1]
Long-Term Liabilities
Long-Term Line of Credit	6,642,937	7,315,262	[1]
Long-Term Debt, Net of Current Maturities	4,903,764	4,891,631	[1]
Other Long-Term Liabilities	594,273	689,195	[1]
Total Long-Term Liabilities	12,140,974	12,896,088	[1]
Total Liabilities	33,568,158	33,201,727	[1]
Commitments and Contingencies			[1]
Shareholders' Equity
Preferred Stock, $1 par value; 1,000,000 Shares Authorized: 250,000 Shares Issued and Outstanding	250,000	250,000	[1]
Common Stock - $0.01 par value; 9,000,000 Shares Authorized: 2,747,831 Shares Issued and Outstanding, respectively	27,478	27,478	[1]
Additional Paid-In Capital	15,755,305	15,746,665	[1]
Accumulated Other Comprehensive Loss	(47,507)	(44,445)	[1]
Retained Earnings	6,304,771	6,335,090	[1]
Total Shareholders' Equity	22,290,047	22,314,788	[1]
Total Liabilities and Shareholders' Equity	$ 55,858,205	$ 55,516,515	[1]

[1] The balance sheet at December 31, 2016 has been derived from the audited financial statements at that date

XML

CONDENSED CONSOLIDATED BALANCE SHEETS (Parenthetical) - USD ($)	Jun. 30, 2017	Dec. 31, 2016
CONDENSED CONSOLIDATED BALANCE SHEETS
Accounts Receivable Allowances	$ 144,000	$ 883,000
Preferred Stock, par value (in dollars per share)	$ 1	$ 1
Preferred Stock, Shares Authorized	1,000,000	1,000,000
Preferred Stock, Shares Issued	250,000	250,000
Preferred Stock, Shares Outstanding	250,000	250,000
Common Stock - par value (in dollars per share)	$ 0.01	$ 0.01
Common Stock - Shares Authorized	9,000,000	9,000,000
Common Stock - Shares Issued	2,747,831	2,747,831
Common Stock - Shares Outstanding	2,747,831	2,747,831

XML

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited) - USD ($)	6 Months Ended
	Jun. 30, 2017	Jun. 30, 2016
Cash Flows From Operating Activities
Net Loss	$ (30,319)	$ (117,257)
Adjustments to Reconcile Net Loss to Net Cash Provided by Operating Activities
Depreciation	1,095,839	1,029,106
Amortization	138,186	95,329
Compensation on Stock-Based Awards	8,640	994
Loss on Extinguishment of Debt	16,756
Compensation on Equity Appreciation Rights	952	(6,422)
Change in Contingent Consideration	(86,963)	33,830
Change in Accounts Receivable Allowance	(739,080)	51,000
Change in Inventory Reserves	228,845	43,797
Gain on Disposal of Property and Equipment	(355,336)
Changes in Current Operating Items
Accounts Receivable	960,688	278,832
Inventories	(1,169,384)	(1,378,786)
Prepaid Expenses	24,827	224,508
Income Taxes Receivable	(211,257)	(145,458)
Income Taxes Payable	44,068	46,798
Accounts Payable	1,288,503	1,175,815
Accrued Payroll and Commissions	(16,188)	57,185
Other Accrued Liabilities	94,090	(330,457)
Net Cash Provided by Operating Activities	1,292,867	1,058,814
Cash Flows from Investing Activities
Proceeds from Sale of Property and Equipment	668,786
Purchase of Intangible Asset	(100,000)
Purchases of Property and Equipment	(358,787)	(1,389,942)
Net Cash Provided by (Used in) Investing Activities	209,999	(1,389,942)
Cash Flows from Financing Activities
Net Change in Line of Credit	(672,325)	848,757
Proceeds from Long-Term Debt	5,123,000	250,000
Principal Payments on Long-Term Debt	(5,234,320)	(734,593)
Loss on Extinguishment of Debt	(158,078)
Debt Issuance Costs	(267,442)
Excess Tax Benefits from Stock-Based Compensation		(25,209)
Proceeds from Issuance of Common Stock		4,822
Net Cash Provided by (Used in) Financing Activities	(1,209,165)	343,777
Effect of Exchange Rate Changes on Cash	(24,647)
Net Change in Cash	269,054	12,649
Cash - Beginning of Period	268,204	887
Cash - Ending of Period	537,258	13,536
Reconciliation of cash and restricted cash reported within the condensed consolidated balance sheets
Cash	190,691	13,536
Restricted Cash	346,567
Cash - Ending of Period	537,258	13,536
Supplemental Disclosure of Cash Flow Information:
Cash Paid During the Period for Interest	263,156	260,644
Cash Refunded During the Period for Income Taxes	22,745
Supplemental Noncash Investing and Financing Activities:
Property and Equipment Purchases in Accounts Payable	$ 243,602	$ 1,740

XML

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

6 Months Ended

Jun. 30, 2017

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

NOTE 1.  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation

The accompanying unaudited condensed consolidated financial statements for the interim periods have been prepared in accordance with Generally Accepted Accounting Principles in the United States of America (“GAAP”) for interim financial information and pursuant to the rules and regulations of the Securities and Exchange Commission. Accordingly, they do not include all of the financial information and footnotes required by GAAP for complete financial statements, although we believe the disclosures are adequate to make the information presented not misleading. It is suggested that these condensed consolidated financial statements be read in conjunction with the consolidated financial statements and the notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2016. The operating results for the interim periods presented are not necessarily indicative of the results expected for the full year or for any other interim period. In our opinion, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation have been included.

The preparation of financial statements in conformity with GAAP requires us 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 period. In preparing these condensed consolidated financial statements, we have made our best estimates and judgments of certain amounts included in the condensed consolidated financial statements, giving due consideration to materiality. Changes in the estimates and assumptions used by us could have a significant impact on our financial results, since actual results could differ from those estimates.

Principles of Consolidation

The condensed consolidated financial statements include the accounts of Nortech Systems Incorporated and its wholly-owned subsidiaries, Manufacturing Assembly Solutions of Monterrey, Inc., and Nortech Systems Hong Kong Company, Limited and its subsidiary, Nortech Systems Suzhou Company, Limited. All significant intercompany accounts and transactions have been eliminated.

Reclassifications

Certain reclassifications have been made to the prior year Condensed Consolidated Statement of Cash Flows for the six months ended June 30, 2016 to conform to the current year presentation. In the current year we revised our presentation of non-cash changes in the accounts receivable allowance and changes in inventory reserves on the Condensed Consolidated Statement of Statement of Cash Flows to show these amounts separately. Prior year amounts were reclassified to conform with current year presentation, which decreased cash provided by accounts receivable by $51,000 and increased cash used in inventories by $43,797 for the six months ended June 30, 2016. There was no change in total net cash provided by operating activities for the six months ended June 30, 2016. This change has no impact on the Condensed Consolidated Balance Sheets or the Condensed Consolidated Statements of Operations and Comprehensive Loss.

Revenue Recognition

We recognize manufacturing revenue when we ship goods or the goods are received by our customer, when title has passed, all contractual obligations have been satisfied, the price is fixed or determinable and collection of the resulting receivable is reasonably assured. Generally, there are no formal substantive customer acceptance requirements or further obligations related to manufacturing services. If such requirements or obligations exist, then we recognize the related revenues at the time when such requirements are completed and the obligations are fulfilled. We also provide engineering services separate from the manufacture of a product. Revenue for engineering services is generally recognized on a time and material basis or upon completion of the engineering process. In addition, we have another separate source of revenue that comes from short-term repair services, which are recognized when the repairs are completed and the repaired products are shipped back to the customer. Shipping and handling costs charged to our customers are included in net sales, while the corresponding shipping expenses are included in cost of goods sold.

Stock Options

Following is the status of all stock options as of June 30, 2017:

	Shares	Weighted- Average Exercise Price Per Share		Weighted- Average Remaining Contractual Term (in years)	Aggregate Intrinsic Value
Outstanding - January 1, 2017	37,750	$	4.75
Granted	150,000	3.43
Exercised	—	—
Cancelled	—	—
Outstanding - June 30, 2017	187,750	$	3.70	8.63	$	39,525
Exercisable - June 30, 2017	37,750	$	4.75	3.70	$	6,525

There were no options exercised during the three and six months ended June 30, 2017.  For the three and six months ended June 30, 2016, 1,507 options were exercised.  These exercised options had a total intrinsic value of $964 and resulted in cash proceeds of $4,822 for the three and six months ended June 30, 2016.

Under the 2005 Incentive Compensation Plan, there were no stock options granted during the three and six months ended June 30, 2016.  In May 2017, the shareholders approved the 2017 Stock incentive Plan which authorized the issuance of 350,000 shares. During the three and six months ended June 30, 2017, 150,000 options were granted.

Total compensation expense related to stock options for the three months ended June 30, 2017 and 2016 was $8,640 and $0, respectively.  Total compensation expense related to stock options for the six months ended June 30, 2017 and 2016 was $8,640 and $994, respectively. As of June 30, 2017, there was $198,720 of unrecognized compensation which will vest over the next 2.87 years.

Equity Appreciation Rights Plan

In November 2010, the Board of Directors adopted the Nortech Systems Incorporated Equity Appreciation Rights Plan (“2010 Plan”). The total number of Equity Appreciation Right Units (“Units”) that can be issued under the 2010 Plan shall not exceed an aggregate of 1,000,000 Units as amended and restated on March 11, 2015. The 2010 Plan provides that Units issued shall fully vest three years from the base date as defined in the agreement unless terminated earlier. Units give the holder a right to receive a cash payment equal to the appreciation in book value per share of common stock from the base date, as defined, to the redemption date. Unit redemption payments under the 2010 Plan shall be paid in cash within 90 days after we determine the book value of the Units as of the calendar year immediately preceding the redemption date.  The Units are adjusted to market value for each reporting period.

During the three and six months ended June 30, 2017, a total of 100,000 Units were granted.  During the three and six months ended June 30, 2016, no additional Units were granted.

Total compensation expense (income) related to the vested outstanding Units based on the estimated appreciation over their remaining terms was ($6,391) and $3,300 for the three months ended June 30, 2017 and 2016, respectively and $952 and ($6,422) for the six months ended June 30, 2017 and 2016, respectively. The income for the three months ended June 30, 2017 and six months ended June 30, 2016 was the result of a change in the estimate of the appreciation of book value per share of common stock.

As of June 30, 2017 and December 31, 2016, approximately $23,000 and $45,000 is accrued under this plan, respectively. As of June 30, 2017, approximately $11,000 of this balance was included in other accrued liabilities and approximately $12,000 of this balance was included in other long-term liabilities. As of December 31, 2016, approximately $23,000 of this balance was included in other accrued liabilities and the remaining $22,000 balance was included in other long-term liabilities.

Earnings per Common Share

For the three and six months ended June 30, 2017 and 2016, the effect of all stock options is antidilutive due to the net loss incurred and, therefore, was not included in the computation of earnings per-share amounts.

Segment Reporting Information

All of our operations fall under the contract manufacturing segment within the electronic manufacturing Services industry. We strategically direct production between our various manufacturing facilities based on a number of considerations to best meet our customers’ requirements. We share resources for sales, marketing, engineering, supply chain, information services, human resources, payroll, and all corporate accounting functions. Consolidated financial information is available that is evaluated regularly by the chief operating decision maker in assessing performance and allocating resources.

Restricted Cash

Cash and cash equivalents classified as restricted cash on our condensed consolidated balance sheets are restricted as to withdrawal or use under the terms of certain contractual agreements. The June 30, 2017 balance included cash collateral required to be held against letters of credit and our corporate employee purchasing card program. As of June 30, 2017 we had no outstanding letters of credit. We held no restricted cash as of December 31, 2016.

Accounts Receivable and Allowance for Doubtful Accounts

We grant credit to customers in the normal course of business. Accounts receivable are unsecured and are presented net of an allowance for doubtful accounts. The allowance for doubtful accounts was approximately $144,000 and $883,000 at June 30, 2017 and December 31, 2016, respectively. We determine our allowance by considering a number of factors, including the length of time accounts receivable are past due, our previous loss history, the customers’ current ability to pay their obligations to us, and the condition of the general economy and the industry as a whole. We write-off accounts receivable when they become uncollectible, and payments subsequently received on such receivables are credited to the allowance for uncollectible accounts.

Inventories

Inventories are stated at the lower of cost (first-in, first-out method) or net realizable value. Costs include material, labor, and overhead required in the warehousing and production of our products. Inventory reserves are maintained for the estimated value of the inventories that may have a lower value than stated or quantities in excess of future production needs.

Inventories are as follows:

	June 30,			December 31,
	2017			2016
Raw Materials	$	15,323,226		$	14,533,690
Work in Process	4,516,643			4,104,968
Finished Goods	2,656,769			2,688,596
Reserves	(902,258		)	(673,413		)
Total	$	21,594,380		$	20,653,841

Other Intangible Assets

Other intangible assets at June 30, 2017 and December 31, 2016 are as follows:

	June 30, 2017
	Gross
	Carrying		Accumulated		Net Book
	Amount		Amortization		Value
Customer Relationships	$	1,302,000	$	289,331	$	1,012,669
Trade Names		814,000		81,400		732,600
Intellectual Property		100,000		11,111		88,889
Bond Issue Costs		79,373		58,207		21,166
Totals	$	2,295,373	$	440,049	$	1,855,324

	December 31, 2016
	Gross
	Carrying		Accumulated		Net Book
	Amount		Amortization		Value
Customer Relationships	$	1,302,000	$	216,998	$	1,085,002
Trade Names		814,000		61,050		752,950
Bond Issue Costs		79,373		55,561		23,812
Totals	$	2,195,373	$	333,609	$	1,861,764

Amortization expense for the three and six months ended June 30, 2017 was $55,997 and $106,440, respectively. Amortization expense for the three and six months ended June 30, 2016 was $47,666 and $95,329, respectively.

Estimated future amortization expense related to these assets is approximately as follows:

Remainder of 2017	$	112,002
2018	224,004
2019	224,004
2020	196,217
2021	188,020
Thereafter	911,077
Total	$	1,855,324

Impairment of Goodwill and Other Intangible Assets

In accordance with ASC 350, Goodwill and Other Intangible Assets, goodwill is not amortized but is required to be reviewed for impairment at least annually or when events or circumstances indicate that carrying value may exceed fair value. We test impairment annually as of October 1st. No events were identified during the three and six months ended June 30, 2017 that would require us to test for impairment.

Impairment Analysis

We evaluate long-lived assets, primarily property and equipment, as well as the related depreciation periods, whenever current events or changes in circumstances indicate that the carrying amount of an asset or asset group may not be recoverable. Recoverability for assets to be held and used is based on our projection of the undiscounted future operating cash flows of the underlying assets. To the extent such projections indicate that future undiscounted cash flows are not sufficient to recover the carrying amounts of related assets, a charge might be required to reduce the carrying amount to equal estimated fair value.

In the second quarter of 2017, as a result of changes in the reporting unit’s forecast, goodwill was evaluated for impairment as of June 30, 2017. Based on the impairment analysis performed, it was concluded there was no impairment of goodwill and no impairment expense was recorded during the three and six months ended June 30, 2017 and 2016, respectively.

Recently Issued Accounting Standards

In May 2017, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2017-09, Compensation — Stock Compensation (Topic 718), to reduce the diversity in practice and the cost and complexity for the accounting for a change in terms or conditions of a share-based award. ASU 2017-09 is to be applied on a prospective basis effective for interim and annual periods beginning after December 15, 2017, with early adoption permitted. We are currently evaluating the effect of this update on our consolidated financial statements.

In January 2017, the FASB issued ASU 2017-04, Simplifying the Test for Goodwill Impairment (Topic 350), to simplify the accounting for goodwill impairment. The guidance removes Step 2 of the goodwill impairment test. A goodwill impairment will now be measured as the amount by which a reporting unit’s carrying value exceeds its fair value, limited to the amount of goodwill allocated to that reporting unit. ASU 2017-04 is to be applied on a prospective basis effective for interim and annual periods beginning after December 15, 2019, with early adoption permitted for any impairment tests performed after January 1, 2017. We are currently evaluating the effect of this update on our consolidated financial statements.

In November 2016, the FASB issued ASU 2016-18, Restricted Cash in the Statement of Cash Flows (Topic 230), which prescribes that restricted cash should be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows.  This standard is effective for fiscal years beginning after December 15, 2017, although early adoption is permitted, including adoption in an interim period. We adopted this guidance in 2017. See Note 1, “Summary of Significant Accounting Policies,” of Condensed Notes to the Consolidated Financial Statements for further description of our restricted cash.

In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows — Classification of Certain Cash Receipts and Cash Payments (Topic 230). This guidance will be effective for us beginning in the first quarter of 2018, although early adoption is permitted. We are evaluating the impact, if any, that this new guidance will have on our Consolidated Statements of Cash Flows.

In March 2016, FASB issued ASU 2016-09, Compensation - Stock Compensation: Improvements to Employee Share-Based Payment Accounting, which changes how companies account for certain aspects of share-based payments to employees. The new guidance requires all income tax effects of awards to be recognized in the income statement when the awards vest or are settled, allows an employer to repurchase more of an employee’s shares than previously allowed for tax withholding purposes without triggering liability accounting, allows a company to make a policy election to account for forfeitures as they occur, and eliminates the requirement that excess tax benefits be realized before companies can recognize them. The new guidance also requires excess tax benefits and tax shortfalls to be presented on the cash flow statement as an operating activity rather than as a financing activity, and clarifies that cash paid to a tax authority when shares are withheld to satisfy its statutory income tax withholding obligation are to be presented as a financing activity. The standard is effective for our financial statements issued for fiscal years beginning after December 15, 2016, and interim periods within those fiscal years. The Company adopted the guidance in the current year. The adoption of ASU 2016-09 required no retrospective adjustments to the financial statements. In addition, there was no material cumulative-effect adjustment to retained earnings, nor did the adoption impact the tax provision for the current quarter.

During February 2016, the FASB issued ASU 2016-02, Leases. ASU 2016-02 was issued to increase transparency and comparability among organizations by recognizing all lease transactions (with terms in excess of 12 months) on the balance sheet as a lease liability and a right-of-use asset (as defined). ASU 2016-02 is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years, with earlier application permitted. Upon adoption, the lessee will apply the new standard on a modified retrospective basis to all periods presented. We are currently assessing the effect that ASU 2016-02 will have on our consolidated financial statements.

In July 2015, the FASB issued ASU 2015-11, Inventory (Topic 330): Simplifying the Measurement of Inventory. This standard changes the measurement principle for certain inventory methods from the lower of cost or market to the lower of cost and net realizable value. Net realizable value is defined as the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. This standard does not apply to inventory that is measured using Last-in First-out (“LIFO”) or the retail inventory method. The provisions of ASU 2015-11 are effective for fiscal years beginning after December 15, 2016, including interim periods within those fiscal years. The Company adopted this guidance in the current year and there was no impact on the Company’s consolidated financial statements.

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606). This standard outlines a single comprehensive model for companies to use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance, including industry-specific guidance. The core principle of the revenue model is that revenue is recognized when a customer obtains control of a good or service. A customer obtains control when it has the ability to direct the use of and obtain the benefits from the good or service. Transfer of control is not the same as transfer of risks and rewards, as it is considered in current guidance. We will also need to apply new guidance to determine whether revenue should be recognized over time or at a point in time. This standard will be effective for the first interim period within annual reporting periods beginning after December 15, 2017, using either of two methods: (a) retrospective to each prior reporting period presented with the option to elect certain practical expedients as defined within ASU 2014-09; or (b) retrospective with the cumulative effect of initially applying ASU 2014-09 recognized at the date of initial application and providing certain additional disclosures as defined in ASU 2014-09. We plan to adopt the new guidance beginning January 1, 2018.

We have performed a review of the requirements of the new guidance and have initially identified which of our revenue streams will be within the scope of ASU 2014-09.  We are working through an adoption plan which includes a review of customer contracts, applying the five-step model of the new standard to each revenue stream and comparing the results to our current accounting; an evaluation of the method of adoption; and assessing changes that might be necessary to our processes, internal controls and changes in financial reporting. The Company expects to complete the review of contracts and evaluate the impact of the accounting and disclosure changes on its business processes and controls during the fourth quarter of 2017.

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CONCENTRATION OF CREDIT RISK AND MAJOR CUSTOMERS

6 Months Ended

Jun. 30, 2017

CONCENTRATION OF CREDIT RISK AND MAJOR CUSTOMERS

CONCENTRATION OF CREDIT RISK AND MAJOR CUSTOMERS

NOTE 2. CONCENTRATION OF CREDIT RISK AND MAJOR CUSTOMERS

Financial instruments that potentially subject us to concentrations of credit risk consist principally of cash and accounts receivable. With regard to cash, we maintain our excess cash balances in checking accounts at two high-credit quality financial institutions. These accounts may at times exceed federally insured limits. We grant credit to customers in the normal course of business and do not require collateral on our accounts receivable.

Our largest customer has two divisions that together accounted for 10% or more of our net sales during the three and six months ended June 30, 2017 and 2016. One division accounted for approximately 25.3% and 24.9% of net sales for the three and six months ended June 30, 2017, respectively, and approximately 19.7% and 18.6% of net sales for the three and six months ended June 30, 2016. The second division accounted for approximately 1.3% and 1.8% of net sales for the three and six months ended June 30, 2017, respectively, and approximately 4.0% and 5.3% of net sales for the three and six months ended June 30, 2016. Together they accounted for approximately 26.7% of net sales for the three and six months ended June 30, 2017 and approximately 23.7% and 23.9% of net sales for the three and six months ended June 30, 2016. Accounts receivable from the customer at June 30, 2017 and December 31, 2016 represented approximately 21.1% and 13.6% of our total accounts receivable, respectively.

Export sales represented approximately 17.0% and 13.2% of net sales for the three months ended June 30, 2017 and 2016, respectively. Export sales represented 15.5% and 12.1% of net sales for the six months ended June 30, 2017 and 2016, respectively.

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FINANCING ARRANGEMENTS

6 Months Ended

Jun. 30, 2017

FINANCING ARRANGEMENTS

FINANCING ARRANGEMENTS

NOTE 3. FINANCING ARRANGEMENTS

We have a credit agreement with Bank of America which was entered into on June 15, 2017 and provides for a line of credit arrangement of $16,000,000 that expires on June 15, 2022. The credit arrangement also has a $5,000,000 real estate term note outstanding with a maturity date of June 15, 2022. The Bank of America credit agreement replaces our previous credit agreement with Wells Fargo Bank which terminated on June 20, 2017 and resulted in a loss on the extinguishment of debt of $174,834 primarily related to legal and terminations fees. Under the new credit agreement, both the line of credit and real estate term notes are subject to variations in the LIBOR rate. Our line of credit bears interest at one-month LIBOR + 2.00% (approximately 3.25% at June 30, 2017) while our real estate term notes bear interest at one-month LIBOR + 2.25% (approximately 3.50% at June 30, 2017). The combined weighted-average interest rate related to our new line of credit agreement and terminated credit agreement was 3.65% and 3.51% for the three and six months ended June 30, 2017, respectively. We had borrowings on our line of credit of $6,642,937 and $7,315,262 outstanding as of June 30, 2017 and December 31, 2016, respectively. There are no acceleration clauses under the credit agreement that would accelerate the maturity of our outstanding borrowings.

The Bank of America credit agreement provides for, among other things, a fixed charge coverage ratio of not less than (i) 1.00 to 1.00 for the trailing four fiscal quarters most recently ended.  As of June 30, 2017, we were in compliance with this covenant.

The availability under the line is subject to borrowing base requirements, and advances are at the discretion of the lender. At June 30, 2017, we had unused availability under our line of credit of $7,392,337 supported by our borrowing base. The line is secured by substantially all of our assets.

As part of the July 1, 2015 Devicix acquisition we entered into two unsecured subordinated promissory notes payable to the seller in the principal amounts of $1,000,000 and $1,300,000. The $1,000,000 promissory note has a four-year term, bearing interest at 4.0% per annum, requiring monthly principal and interest payments of $22,579 and is subject to offsets if certain revenue levels are not met. The $1,300,000 promissory note has a four-year term and bears interest at 4.0% per annum, requiring monthly principal and interest payments of $29,353 and is not subject to offset.

Long-term debt at June 30, 2017 and December 31, 2016 consisted of the following:

	June 30,			December 31,
	2017			2016
Term note payable - Bank of America Real estate term note bearing interest at one-month LIBOR + 2.25% maturing June 15, 2022 with monthly payments of approximately $41,000 plus interest secured by substantially all assets.	$	5,000,000		$	—
Term notes payable - Wells Fargo Bank, N.A. Real estate term notes bearing interest at three month LIBOR + 2.75% maturing March 31, 2027, and December 31, 2027 with combined monthly payments of approximately $19,000 plus interest, secured by substantially all assets.	—			2,415,428
Equipment notes bearing interest at three month LIBOR + 2.75% maturing May 2018 with a combined monthly payments of approximately $46,000 plus interest, secured by substantially all assets.	—			2,489,624
Industrial revenue bond payable to the City of Blue Earth, Minnesota which bears a variable interest rate (approx. 0.21% at June 30, 2017), and has a maturity date of June 1, 2021, with principal of $80,000 payable annually on June 1.	120,000			200,000
Devicix Acquistion Note 1 payable to DeLange Holdings bears interest rate of 4.0% per annum, maturing July 1, 2019.	519,956			643,585
Devicix Acquistion Note 2 payable to DeLange Holdings bears interest rate of 4.0% per annum, maturing July 1, 2019.	675,944			836,661
	6,315,900			6,585,298
Discount on Devicix Notes Payable	(82,600		)	(102,424		)
Debt issuance Costs	(264,660		)	(25,896		)
Total long-term debt	5,968,640			6,456,978
Current maturities of long-term debt	(1,064,876		)	(1,565,347		)
Long-term debt - net of current maturities	$	4,903,764		$	4,891,631

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INCOME TAXES

6 Months Ended

Jun. 30, 2017

INCOME TAXES

INCOME TAXES

NOTE 4.  INCOME TAXES

Historically, the Company estimates the effective tax rate for the full fiscal year and records a quarterly income tax provision based on the anticipated rate and refines our estimates quarterly based on facts and circumstances including discrete events, by each jurisdiction. For the current quarter, the Company is utilizing an estimated year-to-date effective tax rate rather than the estimated annual rate approach as a result of changes in the forecast. Our effective tax rate for the three and six months ended June 30, 2017 was 92.9% and 87.4%, respectively. Our effective tax rate for the three and six months ended June 30, 2016 was 27.7% and 26.8%, respectively. The increase in our current year-to-date effective rate versus prior year is due mainly to the higher level of pretax book loss and the related increase in the foreign tax rate differential benefit.

The differences between federal income taxes computed at the federal statutory rate and reported income taxes for the three and six months ended June 30, 2017 and 2016 are as follows:

	Three Months Ended						Six Months Ended
	June 30,						June 30,
	2017			2016			2017			2016
Statutory federal tax provision benefit	$	(74,500	)	$	(89,000	)	$	(81,000	)	$	(55,000	)
State income tax expense (benefit)	(6,900		)	13,000			(500		)	16,000
Income tax credits	(25,000		)	(17,000		)	(50,000		)	(40,000		)
Change in uncertain tax positions	2,500			—			5,000			—
Foreign tax benefit	(96,300		)	—			(82,000		)	—
Other	(5,400		)	24,000			(1,500		)	36,000
Income tax benefit	$	(205,600	)	$	(69,000	)	$	(210,000	)	$	(43,000	)

At June 30, 2017, we had $57,000 of net uncertain tax benefit positions remaining in other long-term liabilities related to research and development credits that would increase our effective income tax rate if recognized. At December 31, 2016, we had $52,000 of net uncertain tax benefit positions recorded in other long-term liabilities that would reduce our effective income tax rate if recognized.

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COMMITMENTS AND CONTINGENCIES

6 Months Ended

Jun. 30, 2017

COMMITMENTS AND CONTINGENCIES

COMMITMENTS AND CONTINGENCIES

NOTE 5.  COMMITMENTS AND CONTINGENCIES

We have various operating leases for production and office equipment, office space, and buildings under non-cancelable lease agreements expiring on various dates through 2022.

Rent expense for the three months ended June 30, 2017 and 2016 amounted to approximately $332,000 and $294,000 respectively. Rent expense for the six months ended June 31, 2017 and 2016 amounted to approximately $649,000 and $593,000 respectively.

Approximate future minimum lease payments under non-cancelable leases subsequent to June 30, 2017 are as follows:

Years Ending
December 31,	Amount
Remainder of 2017	$	439,000
2018	880,000
2019	620,000
2020	374,000
2021	175,000
Thereafter	143,000
Total	$	2,631,000

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PLANT CLOSURE

6 Months Ended

Jun. 30, 2017

PLANT CLOSURE

PLANT CLOSURE

NOTE 6.  PLANT CLOSURE

On January 31, 2017 the Company closed its manufacturing operations in Augusta, Wisconsin. The Company has operated a facility in Augusta since 1992, serving mainly an industrial customer base and defense overflow production that aligned with their custom cable capabilities. The Company consolidated its Augusta operations with its other facilities, continuing to serve customers without interruption. This consolidation increased the Company’s overall asset utilization and cost leveraging. On March 31, 2017, the Company closed on the sale of the Augusta building and building improvements for $715,000. The Augusta building and building improvements had a net book value of $314,000, recognizing a gain on the sale, net of related expenses, of $354,000, and applied the net proceeds of $668,000 towards the outstanding real estate term note.

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SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Policies)

6 Months Ended

Jun. 30, 2017

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation

Basis of Presentation

The accompanying unaudited condensed consolidated financial statements for the interim periods have been prepared in accordance with Generally Accepted Accounting Principles in the United States of America (“GAAP”) for interim financial information and pursuant to the rules and regulations of the Securities and Exchange Commission. Accordingly, they do not include all of the financial information and footnotes required by GAAP for complete financial statements, although we believe the disclosures are adequate to make the information presented not misleading. It is suggested that these condensed consolidated financial statements be read in conjunction with the consolidated financial statements and the notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2016. The operating results for the interim periods presented are not necessarily indicative of the results expected for the full year or for any other interim period. In our opinion, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation have been included.

The preparation of financial statements in conformity with GAAP requires us 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 period. In preparing these condensed consolidated financial statements, we have made our best estimates and judgments of certain amounts included in the condensed consolidated financial statements, giving due consideration to materiality. Changes in the estimates and assumptions used by us could have a significant impact on our financial results, since actual results could differ from those estimates.

Principles of Consolidation

Principles of Consolidation

The condensed consolidated financial statements include the accounts of Nortech Systems Incorporated and its wholly-owned subsidiaries, Manufacturing Assembly Solutions of Monterrey, Inc., and Nortech Systems Hong Kong Company, Limited and its subsidiary, Nortech Systems Suzhou Company, Limited. All significant intercompany accounts and transactions have been eliminated.

Reclassifications

Reclassifications

Certain reclassifications have been made to the prior year Condensed Consolidated Statement of Cash Flows for the six months ended June 30, 2016 to conform to the current year presentation. In the current year we revised our presentation of non-cash changes in the accounts receivable allowance and changes in inventory reserves on the Condensed Consolidated Statement of Statement of Cash Flows to show these amounts separately. Prior year amounts were reclassified to conform with current year presentation, which decreased cash provided by accounts receivable by $51,000 and increased cash used in inventories by $43,797 for the six months ended June 30, 2016. There was no change in total net cash provided by operating activities for the six months ended June 30, 2016. This change has no impact on the Condensed Consolidated Balance Sheets or the Condensed Consolidated Statements of Operations and Comprehensive Loss.

Revenue Recognition

Revenue Recognition

We recognize manufacturing revenue when we ship goods or the goods are received by our customer, when title has passed, all contractual obligations have been satisfied, the price is fixed or determinable and collection of the resulting receivable is reasonably assured. Generally, there are no formal substantive customer acceptance requirements or further obligations related to manufacturing services. If such requirements or obligations exist, then we recognize the related revenues at the time when such requirements are completed and the obligations are fulfilled. We also provide engineering services separate from the manufacture of a product. Revenue for engineering services is generally recognized on a time and material basis or upon completion of the engineering process. In addition, we have another separate source of revenue that comes from short-term repair services, which are recognized when the repairs are completed and the repaired products are shipped back to the customer. Shipping and handling costs charged to our customers are included in net sales, while the corresponding shipping expenses are included in cost of goods sold.

Stock Options

Stock Options

Following is the status of all stock options as of June 30, 2017:

	Shares	Weighted- Average Exercise Price Per Share		Weighted- Average Remaining Contractual Term (in years)	Aggregate Intrinsic Value
Outstanding - January 1, 2017	37,750	$	4.75
Granted	150,000	3.43
Exercised	—	—
Cancelled	—	—
Outstanding - June 30, 2017	187,750	$	3.70	8.63	$	39,525
Exercisable - June 30, 2017	37,750	$	4.75	3.70	$	6,525

There were no options exercised during the three and six months ended June 30, 2017.  For the three and six months ended June 30, 2016, 1,507 options were exercised.  These exercised options had a total intrinsic value of $964 and resulted in cash proceeds of $4,822 for the three and six months ended June 30, 2016.

Under the 2005 Incentive Compensation Plan, there were no stock options granted during the three and six months ended June 30, 2016.  In May 2017, the shareholders approved the 2017 Stock incentive Plan which authorized the issuance of 350,000 shares. During the three and six months ended June 30, 2017, 150,000 options were granted.

Total compensation expense related to stock options for the three months ended June 30, 2017 and 2016 was $8,640 and $0, respectively.  Total compensation expense related to stock options for the six months ended June 30, 2017 and 2016 was $8,640 and $994, respectively. As of June 30, 2017, there was $198,720 of unrecognized compensation which will vest over the next 2.87 years.

Equity Appreciation Rights Plan

Equity Appreciation Rights Plan

In November 2010, the Board of Directors adopted the Nortech Systems Incorporated Equity Appreciation Rights Plan (“2010 Plan”). The total number of Equity Appreciation Right Units (“Units”) that can be issued under the 2010 Plan shall not exceed an aggregate of 1,000,000 Units as amended and restated on March 11, 2015. The 2010 Plan provides that Units issued shall fully vest three years from the base date as defined in the agreement unless terminated earlier. Units give the holder a right to receive a cash payment equal to the appreciation in book value per share of common stock from the base date, as defined, to the redemption date. Unit redemption payments under the 2010 Plan shall be paid in cash within 90 days after we determine the book value of the Units as of the calendar year immediately preceding the redemption date.  The Units are adjusted to market value for each reporting period.

During the three and six months ended June 30, 2017, a total of 100,000 Units were granted.  During the three and six months ended June 30, 2016, no additional Units were granted.

Total compensation expense (income) related to the vested outstanding Units based on the estimated appreciation over their remaining terms was ($6,391) and $3,300 for the three months ended June 30, 2017 and 2016, respectively and $952 and ($6,422) for the six months ended June 30, 2017 and 2016, respectively. The income for the three months ended June 30, 2017 and six months ended June 30, 2016 was the result of a change in the estimate of the appreciation of book value per share of common stock.

As of June 30, 2017 and December 31, 2016, approximately $23,000 and $45,000 is accrued under this plan, respectively. As of June 30, 2017, approximately $11,000 of this balance was included in other accrued liabilities and approximately $12,000 of this balance was included in other long-term liabilities. As of December 31, 2016, approximately $23,000 of this balance was included in other accrued liabilities and the remaining $22,000 balance was included in other long-term liabilities.

Earnings per Common Share

Earnings per Common Share

For the three and six months ended June 30, 2017 and 2016, the effect of all stock options is antidilutive due to the net loss incurred and, therefore, was not included in the computation of earnings per-share amounts.

Segment Reporting Information

Segment Reporting Information

All of our operations fall under the contract manufacturing segment within the electronic manufacturing Services industry. We strategically direct production between our various manufacturing facilities based on a number of considerations to best meet our customers’ requirements. We share resources for sales, marketing, engineering, supply chain, information services, human resources, payroll, and all corporate accounting functions. Consolidated financial information is available that is evaluated regularly by the chief operating decision maker in assessing performance and allocating resources.

Restricted cash

Restricted Cash

Cash and cash equivalents classified as restricted cash on our condensed consolidated balance sheets are restricted as to withdrawal or use under the terms of certain contractual agreements. The June 30, 2017 balance included cash collateral required to be held against letters of credit and our corporate employee purchasing card program. As of June 30, 2017 we had no outstanding letters of credit. We held no restricted cash as of December 31, 2016.

Accounts Receivable and Allowance for Doubtful Accounts

Accounts Receivable and Allowance for Doubtful Accounts

We grant credit to customers in the normal course of business. Accounts receivable are unsecured and are presented net of an allowance for doubtful accounts. The allowance for doubtful accounts was approximately $144,000 and $883,000 at June 30, 2017 and December 31, 2016, respectively. We determine our allowance by considering a number of factors, including the length of time accounts receivable are past due, our previous loss history, the customers’ current ability to pay their obligations to us, and the condition of the general economy and the industry as a whole. We write-off accounts receivable when they become uncollectible, and payments subsequently received on such receivables are credited to the allowance for uncollectible accounts.

Inventories

Inventories

Inventories are stated at the lower of cost (first-in, first-out method) or net realizable value. Costs include material, labor, and overhead required in the warehousing and production of our products. Inventory reserves are maintained for the estimated value of the inventories that may have a lower value than stated or quantities in excess of future production needs.

Inventories are as follows:

	June 30,			December 31,
	2017			2016
Raw Materials	$	15,323,226		$	14,533,690
Work in Process	4,516,643			4,104,968
Finished Goods	2,656,769			2,688,596
Reserves	(902,258		)	(673,413		)
Total	$	21,594,380		$	20,653,841

Other Intangible Assets

Other Intangible Assets

Other intangible assets at June 30, 2017 and December 31, 2016 are as follows:

	June 30, 2017
	Gross
	Carrying		Accumulated		Net Book
	Amount		Amortization		Value
Customer Relationships	$	1,302,000	$	289,331	$	1,012,669
Trade Names		814,000		81,400		732,600
Intellectual Property		100,000		11,111		88,889
Bond Issue Costs		79,373		58,207		21,166
Totals	$	2,295,373	$	440,049	$	1,855,324

	December 31, 2016
	Gross
	Carrying		Accumulated		Net Book
	Amount		Amortization		Value
Customer Relationships	$	1,302,000	$	216,998	$	1,085,002
Trade Names		814,000		61,050		752,950
Bond Issue Costs		79,373		55,561		23,812
Totals	$	2,195,373	$	333,609	$	1,861,764

Amortization expense for the three and six months ended June 30, 2017 was $55,997 and $106,440, respectively. Amortization expense for the three and six months ended June 30, 2016 was $47,666 and $95,329, respectively.

Estimated future amortization expense related to these assets is approximately as follows:

Remainder of 2017	$	112,002
2018	224,004
2019	224,004
2020	196,217
2021	188,020
Thereafter	911,077
Total	$	1,855,324

Impairment of Goodwill and Other Intangible Assets

Impairment of Goodwill and Other Intangible Assets

In accordance with ASC 350, Goodwill and Other Intangible Assets, goodwill is not amortized but is required to be reviewed for impairment at least annually or when events or circumstances indicate that carrying value may exceed fair value. We test impairment annually as of October 1st. No events were identified during the three and six months ended June 30, 2017 that would require us to test for impairment.

Impairment Analysis

Impairment Analysis

We evaluate long-lived assets, primarily property and equipment, as well as the related depreciation periods, whenever current events or changes in circumstances indicate that the carrying amount of an asset or asset group may not be recoverable. Recoverability for assets to be held and used is based on our projection of the undiscounted future operating cash flows of the underlying assets. To the extent such projections indicate that future undiscounted cash flows are not sufficient to recover the carrying amounts of related assets, a charge might be required to reduce the carrying amount to equal estimated fair value.

In the second quarter of 2017, as a result of changes in the reporting unit’s forecast, goodwill was evaluated for impairment as of June 30, 2017. Based on the impairment analysis performed, it was concluded there was no impairment of goodwill and no impairment expense was recorded during the three and six months ended June 30, 2017 and 2016, respectively.

Recently Issued Accounting Standards

Recently Issued Accounting Standards

In May 2017, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2017-09, Compensation — Stock Compensation (Topic 718), to reduce the diversity in practice and the cost and complexity for the accounting for a change in terms or conditions of a share-based award. ASU 2017-09 is to be applied on a prospective basis effective for interim and annual periods beginning after December 15, 2017, with early adoption permitted. We are currently evaluating the effect of this update on our consolidated financial statements.

In January 2017, the FASB issued ASU 2017-04, Simplifying the Test for Goodwill Impairment (Topic 350), to simplify the accounting for goodwill impairment. The guidance removes Step 2 of the goodwill impairment test. A goodwill impairment will now be measured as the amount by which a reporting unit’s carrying value exceeds its fair value, limited to the amount of goodwill allocated to that reporting unit. ASU 2017-04 is to be applied on a prospective basis effective for interim and annual periods beginning after December 15, 2019, with early adoption permitted for any impairment tests performed after January 1, 2017. We are currently evaluating the effect of this update on our consolidated financial statements.

In November 2016, the FASB issued ASU 2016-18, Restricted Cash in the Statement of Cash Flows (Topic 230), which prescribes that restricted cash should be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows.  This standard is effective for fiscal years beginning after December 15, 2017, although early adoption is permitted, including adoption in an interim period. We adopted this guidance in 2017. See Note 1, “Summary of Significant Accounting Policies,” of Condensed Notes to the Consolidated Financial Statements for further description of our restricted cash.

In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows — Classification of Certain Cash Receipts and Cash Payments (Topic 230). This guidance will be effective for us beginning in the first quarter of 2018, although early adoption is permitted. We are evaluating the impact, if any, that this new guidance will have on our Consolidated Statements of Cash Flows.

In March 2016, FASB issued ASU 2016-09, Compensation - Stock Compensation: Improvements to Employee Share-Based Payment Accounting, which changes how companies account for certain aspects of share-based payments to employees. The new guidance requires all income tax effects of awards to be recognized in the income statement when the awards vest or are settled, allows an employer to repurchase more of an employee’s shares than previously allowed for tax withholding purposes without triggering liability accounting, allows a company to make a policy election to account for forfeitures as they occur, and eliminates the requirement that excess tax benefits be realized before companies can recognize them. The new guidance also requires excess tax benefits and tax shortfalls to be presented on the cash flow statement as an operating activity rather than as a financing activity, and clarifies that cash paid to a tax authority when shares are withheld to satisfy its statutory income tax withholding obligation are to be presented as a financing activity. The standard is effective for our financial statements issued for fiscal years beginning after December 15, 2016, and interim periods within those fiscal years. The Company adopted the guidance in the current year. The adoption of ASU 2016-09 required no retrospective adjustments to the financial statements. In addition, there was no material cumulative-effect adjustment to retained earnings, nor did the adoption impact the tax provision for the current quarter.

During February 2016, the FASB issued ASU 2016-02, Leases. ASU 2016-02 was issued to increase transparency and comparability among organizations by recognizing all lease transactions (with terms in excess of 12 months) on the balance sheet as a lease liability and a right-of-use asset (as defined). ASU 2016-02 is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years, with earlier application permitted. Upon adoption, the lessee will apply the new standard on a modified retrospective basis to all periods presented. We are currently assessing the effect that ASU 2016-02 will have on our consolidated financial statements.

In July 2015, the FASB issued ASU 2015-11, Inventory (Topic 330): Simplifying the Measurement of Inventory. This standard changes the measurement principle for certain inventory methods from the lower of cost or market to the lower of cost and net realizable value. Net realizable value is defined as the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. This standard does not apply to inventory that is measured using Last-in First-out (“LIFO”) or the retail inventory method. The provisions of ASU 2015-11 are effective for fiscal years beginning after December 15, 2016, including interim periods within those fiscal years. The Company adopted this guidance in the current year and there was no impact on the Company’s consolidated financial statements.

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606). This standard outlines a single comprehensive model for companies to use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance, including industry-specific guidance. The core principle of the revenue model is that revenue is recognized when a customer obtains control of a good or service. A customer obtains control when it has the ability to direct the use of and obtain the benefits from the good or service. Transfer of control is not the same as transfer of risks and rewards, as it is considered in current guidance. We will also need to apply new guidance to determine whether revenue should be recognized over time or at a point in time. This standard will be effective for the first interim period within annual reporting periods beginning after December 15, 2017, using either of two methods: (a) retrospective to each prior reporting period presented with the option to elect certain practical expedients as defined within ASU 2014-09; or (b) retrospective with the cumulative effect of initially applying ASU 2014-09 recognized at the date of initial application and providing certain additional disclosures as defined in ASU 2014-09. We plan to adopt the new guidance beginning January 1, 2018.

We have performed a review of the requirements of the new guidance and have initially identified which of our revenue streams will be within the scope of ASU 2014-09.  We are working through an adoption plan which includes a review of customer contracts, applying the five-step model of the new standard to each revenue stream and comparing the results to our current accounting; an evaluation of the method of adoption; and assessing changes that might be necessary to our processes, internal controls and changes in financial reporting. The Company expects to complete the review of contracts and evaluate the impact of the accounting and disclosure changes on its business processes and controls during the fourth quarter of 2017.

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SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Tables)

6 Months Ended

Jun. 30, 2017

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Summary of stock option activity

	Shares	Weighted- Average Exercise Price Per Share		Weighted- Average Remaining Contractual Term (in years)	Aggregate Intrinsic Value
Outstanding - January 1, 2017	37,750	$	4.75
Granted	150,000	3.43
Exercised	—	—
Cancelled	—	—
Outstanding - June 30, 2017	187,750	$	3.70	8.63	$	39,525
Exercisable - June 30, 2017	37,750	$	4.75	3.70	$	6,525

Schedule of inventories

	June 30,			December 31,
	2017			2016
Raw Materials	$	15,323,226		$	14,533,690
Work in Process	4,516,643			4,104,968
Finished Goods	2,656,769			2,688,596
Reserves	(902,258		)	(673,413		)
Total	$	21,594,380		$	20,653,841

Schedule of other intangible assets

	June 30, 2017
	Gross
	Carrying		Accumulated		Net Book
	Amount		Amortization		Value
Customer Relationships	$	1,302,000	$	289,331	$	1,012,669
Trade Names		814,000		81,400		732,600
Intellectual Property		100,000		11,111		88,889
Bond Issue Costs		79,373		58,207		21,166
Totals	$	2,295,373	$	440,049	$	1,855,324

	December 31, 2016
	Gross
	Carrying		Accumulated		Net Book
	Amount		Amortization		Value
Customer Relationships	$	1,302,000	$	216,998	$	1,085,002
Trade Names		814,000		61,050		752,950
Bond Issue Costs		79,373		55,561		23,812
Totals	$	2,195,373	$	333,609	$	1,861,764

Schedule of estimated future amortization expense

Remainder of 2017	$	112,002
2018	224,004
2019	224,004
2020	196,217
2021	188,020
Thereafter	911,077
Total	$	1,855,324

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FINANCING ARRANGEMENTS (Tables)

6 Months Ended

Jun. 30, 2017

FINANCING ARRANGEMENTS

Summary of long-term debt balances

	June 30,			December 31,
	2017			2016
Term note payable - Bank of America Real estate term note bearing interest at one-month LIBOR + 2.25% maturing June 15, 2022 with monthly payments of approximately $41,000 plus interest secured by substantially all assets.	$	5,000,000		$	—
Term notes payable - Wells Fargo Bank, N.A. Real estate term notes bearing interest at three month LIBOR + 2.75% maturing March 31, 2027, and December 31, 2027 with combined monthly payments of approximately $19,000 plus interest, secured by substantially all assets.	—			2,415,428
Equipment notes bearing interest at three month LIBOR + 2.75% maturing May 2018 with a combined monthly payments of approximately $46,000 plus interest, secured by substantially all assets.	—			2,489,624
Industrial revenue bond payable to the City of Blue Earth, Minnesota which bears a variable interest rate (approx. 0.21% at June 30, 2017), and has a maturity date of June 1, 2021, with principal of $80,000 payable annually on June 1.	120,000			200,000
Devicix Acquistion Note 1 payable to DeLange Holdings bears interest rate of 4.0% per annum, maturing July 1, 2019.	519,956			643,585
Devicix Acquistion Note 2 payable to DeLange Holdings bears interest rate of 4.0% per annum, maturing July 1, 2019.	675,944			836,661
	6,315,900			6,585,298
Discount on Devicix Notes Payable	(82,600		)	(102,424		)
Debt issuance Costs	(264,660		)	(25,896		)
Total long-term debt	5,968,640			6,456,978
Current maturities of long-term debt	(1,064,876		)	(1,565,347		)
Long-term debt - net of current maturities	$	4,903,764		$	4,891,631

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INCOME TAXES (Tables)

6 Months Ended

Jun. 30, 2017

INCOME TAXES

Schedule of federal statutory rate and reported income taxes

	Three Months Ended						Six Months Ended
	June 30,						June 30,
	2017			2016			2017			2016
Statutory federal tax provision benefit	$	(74,500	)	$	(89,000	)	$	(81,000	)	$	(55,000	)
State income tax expense (benefit)	(6,900		)	13,000			(500		)	16,000
Income tax credits	(25,000		)	(17,000		)	(50,000		)	(40,000		)
Change in uncertain tax positions	2,500			—			5,000			—
Foreign tax benefit	(96,300		)	—			(82,000		)	—
Other	(5,400		)	24,000			(1,500		)	36,000
Income tax benefit	$	(205,600	)	$	(69,000	)	$	(210,000	)	$	(43,000	)

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COMMITMENTS AND CONTINGENCIES (Tables)

6 Months Ended

Jun. 30, 2017

COMMITMENTS AND CONTINGENCIES

Schedule of future minimum lease payments under non-cancelable leases

Years Ending
December 31,	Amount
Remainder of 2017	$	439,000
2018	880,000
2019	620,000
2020	374,000
2021	175,000
Thereafter	143,000
Total	$	2,631,000

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SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - Restricted Cash, Reclassifications & Share based Comp (Details) - USD ($)	3 Months Ended			6 Months Ended
	Jun. 30, 2017	Jun. 30, 2016	Mar. 31, 2016	Jun. 30, 2017	Jun. 30, 2016	May 31, 2017	Dec. 31, 2016	Nov. 30, 2010
Reclassifications
Decrease in cash provided by accounts receivable					$ 51,000
Increase in cash used in inventories					$ 43,797
Restricted Cash
Restricted Cash	$ 346,567			$ 346,567			$ 0
Outstanding letters of credit	$ 0			$ 0
Stock Options
Options
Balance at the beginning of the period(in shares)				37,750
Granted (in shares)	150,000			150,000
Exercised (in shares)	0	1,507		0	1,507
Balance at the end of the period (in shares)	187,750			187,750
Exercisable at the end of the period (in shares)	37,750			37,750
Weighted-Average Exercise Price Per Share
Outstanding at the beginning of the period (in dollars per share)				$ 4.75
Granted (in dollars per share)				3.43
Outstanding at the end of the period (in dollars per share)	$ 3.70			3.70
Exercisable at the end of the period (in dollars per share)	$ 4.75			$ 4.75
Weighted-Average Remaining Contractual Term
Outstanding at the end of the period				8 years 7 months 17 days
Exercisable at the end of the period				3 years 8 months 12 days
Aggregate Intrinsic Value
Outstanding at the end of the period	$ 39,525			$ 39,525
Exercisable at the end of the period	6,525			6,525
Additional disclosures
Intrinsic value of options exercised			$ 964		$ 964
Cash received from options exercised			$ 4,822		4,822
Compensation expense (income)	8,640	$ 0		8,640	994
Unrecognized compensation related to unvested awards	198,720			$ 198,720
Weighted-average period over which unrecognized compensation costs expected to be recognized				2 years 10 months 13 days
2010 Plan | Equity Appreciation Rights Plan
Additional disclosures
Compensation expense (income)	$ (6,391)	$ 3,300		$ 952	$ (6,422)
Equity Appreciation Rights Plan
Vesting period from the base date				3 years
Shares granted (in units)	100,000	0		100,000	0
Accrued compensation	$ 23,000			$ 23,000			45,000
2010 Plan | Equity Appreciation Rights Plan | other accrued liabilities
Equity Appreciation Rights Plan
Accrued compensation	11,000			11,000			23,000
2010 Plan | Equity Appreciation Rights Plan | Other long-term liabilities
Equity Appreciation Rights Plan
Accrued compensation	$ 12,000			$ 12,000			$ 22,000
2010 Plan | Equity Appreciation Rights Plan | Maximum
Additional disclosures
Authorized shares								1,000,000
Equity Appreciation Rights Plan
Redemption cash payment period				90 days
2005 Plan | Stock Options
Options
Granted (in shares)		0			0
2017 Plan | Stock Options
Additional disclosures
Authorized shares						350,000

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SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - A/R, Inventories, and Intangibles (Details) - USD ($)	3 Months Ended		6 Months Ended
	Jun. 30, 2017	Jun. 30, 2016	Jun. 30, 2017	Jun. 30, 2016	Dec. 31, 2016
Accounts Receivable and Allowance for Doubtful Accounts
Accounts Receivable Allowances	$ 144,000		$ 144,000		$ 883,000
Inventories
Raw Materials	15,323,226		15,323,226		14,533,690
Work in Process	4,516,643		4,516,643		4,104,968
Finished Goods	2,656,769		2,656,769		2,688,596
Reserves	(902,258)		(902,258)		(673,413)
Total	21,594,380		21,594,380		20,653,841	[1]
Impairment Analysis
Impairment of goodwill	0	$ 0	0	$ 0
Impairment charges recognized	0	0	0	0
Finite-Lived Intangible Assets
Gross Carrying Amount	2,295,373		2,295,373		2,195,373
Accumulated Amortization	440,049		440,049		333,609
Net Book Value	1,855,324		1,855,324		1,861,764	[1]
Amortization expense	55,997	$ 47,666	106,440	$ 95,329
Estimated future amortization expense
Remainder of 2017	112,002		112,002
2018	224,004		224,004
2019	224,004		224,004
2020	196,217		196,217
2021	188,020		188,020
Thereafter	911,077		911,077
Total	1,855,324		1,855,324		1,861,764	[1]
Customer Relationships
Finite-Lived Intangible Assets
Gross Carrying Amount	1,302,000		1,302,000		1,302,000
Accumulated Amortization	289,331		289,331		216,998
Net Book Value	1,012,669		1,012,669		1,085,002
Estimated future amortization expense
Total	1,012,669		1,012,669		1,085,002
Trade Names
Finite-Lived Intangible Assets
Gross Carrying Amount	814,000		814,000		814,000
Accumulated Amortization	81,400		81,400		61,050
Net Book Value	732,600		732,600		752,950
Estimated future amortization expense
Total	732,600		732,600		752,950
Intellectual Property
Finite-Lived Intangible Assets
Gross Carrying Amount	100,000		100,000
Accumulated Amortization	11,111		11,111
Net Book Value	88,889		88,889
Estimated future amortization expense
Total	88,889		88,889
Bond Issue Costs
Finite-Lived Intangible Assets
Gross Carrying Amount	79,373		79,373		79,373
Accumulated Amortization	58,207		58,207		55,561
Net Book Value	21,166		21,166		23,812
Estimated future amortization expense
Total	$ 21,166		$ 21,166		$ 23,812

[1] The balance sheet at December 31, 2016 has been derived from the audited financial statements at that date

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CONCENTRATION OF CREDIT RISK AND MAJOR CUSTOMERS (Details) - item	3 Months Ended		6 Months Ended		12 Months Ended
	Jun. 30, 2017	Jun. 30, 2016	Jun. 30, 2017	Jun. 30, 2016	Dec. 31, 2016
Largest customer
Major customers and concentration of credit risk
Number of divisions	2	2	2	2
Credit concentration risk
Major customers and concentration of credit risk
Excess cash balance, number of high credit quality financial institution			2
Net sales | Customer concentration risk
Major customers and concentration of credit risk
Percentage of export sales to consolidated net sales	17.00%	13.20%	15.50%	12.10%
Net sales | Customer concentration risk | Largest customer
Major customers and concentration of credit risk
Percentage of concentration risk (as a percent)	10.00%	10.00%	10.00%	10.00%
Net sales | Customer concentration risk | Division one of largest customer
Major customers and concentration of credit risk
Percentage of concentration risk (as a percent)	25.30%	19.70%	24.90%	18.60%
Net sales | Customer concentration risk | Division two of largest customer
Major customers and concentration of credit risk
Percentage of concentration risk (as a percent)	1.30%	4.00%	1.80%	5.30%
Net sales | Customer concentration risk | Divisions one & two
Major customers and concentration of credit risk
Percentage of concentration risk (as a percent)	26.70%	23.70%	26.70%	23.90%
Accounts receivable | Customer concentration risk | Largest customer
Major customers and concentration of credit risk
Percentage of concentration risk (as a percent)			21.10%		13.60%

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FINANCING ARRANGEMENTS (Details)		3 Months Ended	6 Months Ended
	Jul. 01, 2015 USD ($) item	Jun. 30, 2017 USD ($)	Jun. 30, 2017 USD ($)	Jun. 15, 2017 USD ($)	Dec. 31, 2016 USD ($)
Financing arrangements
Loss on Extinguishment of Debt		$ 174,834	$ 174,834
Total long-term debt		6,315,900	6,315,900		$ 6,585,298
Discount on Devicix Notes Payable		(82,600)	(82,600)		(102,424)
Debt Issuance Costs		(264,660)	(264,660)		(25,896)
Long-term Debt		5,968,640	5,968,640		6,456,978
Current maturities of long-term debt		(1,064,876)	(1,064,876)		(1,565,347)	[1]
Long-term debt - net of current maturities		$ 4,903,764	$ 4,903,764		4,891,631	[1]
Devicix LLC
Financing arrangements
Number of promissory notes | item	2
Line of credit
Financing arrangements
Weighted-average interest rate (as a percent)		3.65%	3.51%
Outstanding balance		$ 6,642,937	$ 6,642,937		7,315,262
Unused availability supported by entity's borrowing base		$ 7,392,337	$ 7,392,337
Industrial revenue bond payable to the City of Blue Earth, Minnesota
Financing arrangements
Interest rate (as a percent)		0.21%	0.21%
Amount of annual principal payments		$ 80,000	$ 80,000
Long-term Debt		$ 120,000	$ 120,000		200,000
Equipment notes maturing in May 2018
Financing arrangements
Variable rate basis			three month LIBOR
Interest rate margin on variable rate basis (as a percent)			2.75%
Long-term Debt					2,489,624
Principal and interest payments			$ 46,000
Devicix Acq Note 1, subordinate debt, due July 1, 2019
Financing arrangements
Interest rate (as a percent)		4.00%	4.00%
Long-term Debt		$ 519,956	$ 519,956		643,585
Devicix Acq Note 2, subordinate debt, due July 1, 2019
Financing arrangements
Interest rate (as a percent)		4.00%	4.00%
Long-term Debt		$ 675,944	$ 675,944		836,661
Promissory note subject to offsets | Devicix LLC
Financing arrangements
Promissory note liability	$ 1,000,000
Term of promissory note	4 years
Interest rate per annum	4.00%
Principal and interest payments	$ 22,579
Promissory note not subject to offsets | Devicix LLC
Financing arrangements
Promissory note liability	$ 1,300,000
Term of promissory note	4 years
Interest rate per annum	4.00%
Principal and interest payments	$ 29,353
Bank of America | Line of credit
Financing arrangements
Maximum borrowing capacity				$ 16,000,000
Variable rate basis			one-month LIBOR
Interest rate margin on variable rate basis (as a percent)			2.00%
Interest rate (as a percent)		3.25%	3.25%
Bank of America | Real estate term notes
Financing arrangements
Debt instrument, face amount				$ 5,000,000
Variable rate basis			one-month LIBOR
Interest rate margin on variable rate basis (as a percent)			2.25%
Interest rate (as a percent)		3.50%	3.50%
Long-term Debt		$ 5,000,000	$ 5,000,000
Principal and interest payments			$ 41,000
Bank of America | Credit Agreement
Financing arrangements
Minimum fixed charge coverage ratio		1.00	1.00
Wells Fargo Bank, N.A
Financing arrangements
Loss on Extinguishment of Debt		$ 174,834	$ 174,834
Wells Fargo Bank, N.A | Real estate term notes
Financing arrangements
Variable rate basis			three-month LIBOR
Interest rate margin on variable rate basis (as a percent)			2.75%
Long-term Debt					$ 2,415,428
Principal and interest payments			$ 19,000

[1] The balance sheet at December 31, 2016 has been derived from the audited financial statements at that date

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INCOME TAXES (Details) - USD ($)	3 Months Ended		6 Months Ended
	Jun. 30, 2017	Jun. 30, 2016	Jun. 30, 2017	Jun. 30, 2016	Dec. 31, 2016
INCOME TAXES
Effective income tax rate (as a percent)	92.90%	27.70%	87.40%	26.80%
Reconciliation of federal income taxes and reported income taxes
Statutory federal tax provision benefit	$ (74,500)	$ (89,000)	$ (81,000)	$ (55,000)
State income tax expense (benefit)	(6,900)	13,000	(500)	16,000
Income tax credits	(25,000)	(17,000)	(50,000)	(40,000)
Change in uncertain tax positions	2,500		5,000
Foreign tax benefit	(96,300)		(82,000)
Other	(5,400)	24,000	(1,500)	36,000
Income tax benefit	(205,956)	$ (69,000)	(210,404)	$ (43,000)
Unrecognized tax benefits
Net uncertain tax benefit positions that would increase (reduce) effective income tax rate, if recognized	$ 57,000		$ 57,000		$ 52,000

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COMMITMENTS AND CONTINGENCIES - Lease payments (Details) - USD ($)	3 Months Ended		6 Months Ended
	Jun. 30, 2017	Jun. 30, 2016	Jun. 30, 2017	Jun. 30, 2016
COMMITMENTS AND CONTINGENCIES
Rent expense	$ 332,000	$ 294,000	$ 649,000	$ 593,000
Operating Leases
Remainder of 2017	439,000		439,000
2018	880,000		880,000
2019	620,000		620,000
2020	374,000		374,000
2021	175,000		175,000
Thereafter	143,000		143,000
Total	$ 2,631,000		$ 2,631,000

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PLANT CLOSURE (Details) - Building and Building Improvements - Augusta - Discontinued Operations, Disposed of by Sale - Plant closing	Mar. 31, 2017 USD ($)
PLANT CLOSURE
Sale of property	$ 715,000
Net book value	314,000
Gain on the sale, net of related expenses	354,000
Net proceeds used to pay outstanding real estate term note	$ 668,000