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See Notes to Financial Statements.

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ELECTRONIC SYSTEMS TECHNOLOGY, INC.

NOTES TO FINANCIAL STATEMENTS

(Unaudited)

NOTE 1 - BASIS OF PRESENTATION

The financial statements, including notes, of Electronic Systems Technology, Inc. (the "Company") are representations of the Company’s management, which is responsible for their integrity and objectivity. The accompanying unaudited financial statements have been prepared by the Company in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim financial information, as well as the instructions to Form 10-Q. Accordingly, the financial statements do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. In the opinion of management, the accompanying unaudited financial statements contain all adjustments, consisting of only normal recurring adjustments, necessary for a fair statement of its financial position as of March 31, 2020, and its results of operations, cash flows, and changes in stockholders’ equity for the three months ended March 31, 2020 and 2019.  The balance sheet at December 31, 2019 was derived from audited annual financial statements but does not contain all of the footnote disclosures from the annual financial statements. All amounts presented are in U.S. dollars. For further information, refer to the financial statements and footnotes thereto in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019.  

The results of operations for the three-month period ended March 31, 2020 are not necessarily indicative of the results expected for the full fiscal year or for any other fiscal period. The Company estimates that for 2020 the anticipated effective annual federal income tax rate will be 0%.

In August 2018, the FASB issued ASU No. 2018-13 Fair Value Measurement (Topic 820):  Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurement.  The update removes, modifies and makes additions to the disclosure requirements on fair value measurements.  The update is effective for fiscal years beginning after December 15, 2019, with early adoption permitted.  The adoption of this update on January 1, 2020 had no impact on the financial statements.  

Other accounting standards that have been issued or proposed by FASB that do not require adoption until a future date are not expected to have a material impact on the financial statements upon adoption.

NOTE 2 - INVENTORIES

Inventories are stated at lower of direct cost or net realizable value with cost determined using the FIFO (first in, first out) method.  Inventories consist of the following:

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ELECTRONIC SYSTEMS TECHNOLOGY, INC.

NOTES TO FINANCIAL STATEMENTS

(Unaudited)

NOTE 3 - EARNINGS (LOSS) PER SHARE

NOTE 4 - STOCK OPTIONS

As of March 31, 2020, the Company had outstanding stock options which have been granted periodically to individual employees and directors with no less than three years of continuous tenure with the Company.  On March 13, 2020, the Board of Directors canceled all 120,000 outstanding stock options that were granted on August 7, 2017 and due to expire on August 6, 2020.    In addition, the Board of Directors granted 180,000 options to employees. The new options have an exercise price of $0.40, a term of 5 years, and vest immediately.    The fair value of the options was determined using the Black-Scholes model using the following variables:   stock price of $0.40, volatility of 79.27%, expected term of 5 years with a forfeiture rate of 95%, and a discount factor of 0.72%. Share based compensation of $2,282 was recognized during the three month period ended March 31, 2020.

A summary of option activity during the three ended March 31, 2020 is as follows:

There were no stock option transactions in 2019.

NOTE 5 – REVENUE

The Company product revenue includes industrial wireless products and accessories such as antennas, power supplies and cable assemblies. The Company also provides direct site support and engineering services to customers, such as repair and upgrade of its products.  During the three month period ended March 31, 2020 and 2019, the Company’s revenue from products sales was $252,968 and $369,389, respectively.  Revenue from site support and engineering services was $21,000 and $4,777 respectively, over the same periods.

The Company’s customers, to which trade credit terms are extended, consist of United States and local governments and foreign and domestic companies.  Domestic sales for the three month period ended March 31, 2020 were $241,975 compared to $292,193 in 2019.  Sales to foreign customers for the three month period ended March 31, 2020 were $31,993 compared to $81,973 in 2019.

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ELECTRONIC SYSTEMS TECHNOLOGY, INC.

NOTES TO FINANCIAL STATEMENTS

(Unaudited)

NOTE 5 – REVENUE (Cont.)

For the three month period ended March 31, 2020, sales to three customers represented more than 10% of total revenue, three customers represented more than 10% of total revenue for the same period in 2019.

As of March 31, 2020 and 2019, the Company had a sales order backlog of $5,028 and $11,538, respectively.

NOTE 6 - LEASES

The Company leases its facilities from a port authority for $5,639 per month for three years, expiring in September 2020, with annual increases based upon the Consumer Price Index.

The original lease was effective October 1, 2014 and contained a three-year renewal option and a provision for an annual increase of 2% per year, plus Leasehold Tax of 12.84%.  On September 5, 2017, the Company exercised the three year option. The first year of this option was not subject to the 2% increase. The current lease does not contain the option to extend the lease.  However, the Company believes that a new lease agreement will be signed prior to the expiration of the current lease. At March 31, 2020, the remaining lease term is 6 months.

For the three month periods ended March 31, 2020 and 2019, lease expense of $16,918 and $16,627, respectively, are included in the following expense classifications on the statements of operations:

As of March 31, 2020, total future lease payments are as follows:

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ELECTRONIC SYSTEMS TECHNOLOGY, INC.

NOTES TO FINANCIAL STATEMENTS

(Unaudited)

NOTE 7 – STOCK REPURCHASE

On January 13, 2016, the Company’s Board of Directors approved a resolution authorizing the repurchase of up to $100,000 of the Company’s common stock at the price of $0.38 per share (the “Stock Repurchase Plan”). The Company’s share repurchase program does not obligate it to acquire any specific number of shares. On March 2, 2016, the Company’s Board of Directors approved a resolution authorizing the repurchase of an additional $150,000 of the Company’s common stock at the price of $0.38 per share. Under the Stock Repurchase Plan, shares may be repurchased in open market transactions, complying with Rule 10b5-1 and Rule 10b-18 under the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Shares repurchased are retired. During the three-month period ended March 31, 2020, no shares were repurchased; 39,246 shares for $14,920 were repurchased in the three-month period ended March 31, 2019.     Since inception of the Stock Repurchase Plan, the Company has repurchased 212,165 shares for a total of $80,622 through March 31, 2020 and $169,378 of the original $250,000 approved by the board remains.

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Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operations.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL

CONDITION AND RESULTS OF OPERATION

Management's discussion and analysis is intended to be read in conjunction with the Company's unaudited financial statements and the integral notes thereto for the quarter ended March 31, 2019.  The following statements may be forward looking in nature and actual results may differ materially.

A.RESULTS OF OPERATIONS 

REVENUES: Total revenues from sales decreased to $273,968 for the first quarter of 2020 as compared to $374,166 in the first quarter of 2019, reflecting a decrease of 26.8%.  Management believes the decrease in sales revenues is due to decreased product demand from both the Domestic and Foreign markets first quarter of 2020 when compared with the same quarter of 2019.

The Company's revenues have historically fluctuated from quarter to quarter due to timing factors such as product shipments to customers, customer order placement, customer buying trends, and changes in the general economic environment.  The procurement process regarding plant and project automation, or project development, which usually surrounds the decision to purchase ESTeem products, can be lengthy.  This procurement process may involve bid activities unrelated to the ESTeem products, such as additional systems and subcontract work, as well as capital budget considerations on the part of the customer.  Because of the complexity of this procurement process, forecasts with regard to the Company's revenues are difficult to predict.

Although the COVID-19 situation represents a significant disruption to operations in at least the first half of 2020, we have taken steps intended to keep our staff safe. Staff, whose jobs allow, are telecommuting.  Those whose jobs require specialized equipment continue to work on site and are keeping safe distances to minimize the potential to spread or contract the virus. We are experiencing some disruptions in the supply chain, but at this point do not see it having a material impact on sales.

A percentage breakdown of the Company’s market segments of Domestic and Foreign Export sales, for the first quarter of 2020 and 2019 are as follows:

BACKLOG:

As of March 31, 2020, the Company had a sales order backlog of $5,028.   The Company’s customers generally place orders on an "as needed basis".  Shipment for most of the Company’s products is generally made within 1 to 5 working days after receipt of customer orders, with the exception of ongoing, scheduled projects, and custom designed equipment.  

COST OF SALES:

Cost of sales percentages for the first quarters of 2020 and 2019 were 53% and 47% of respective net sales and are calculated excluding site support expenses of $15,080 and $3,526 respectively. The cost of sales percentage increase in the first quarter of 2020 is the result of the product mix sold during the same quarter of 2019.

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OPERATING EXPENSES:

Operating expenses for the first quarter of 2020 decreased $20,458 from first quarter of 2019 levels.  The following is a delineation of operating expenses:

General and administrative:  For the first quarter of 2020, general and administrative expenses increased $2,207 to $95,713, due to increased wages, taxes and benefits when compared with the same quarter of 2019.

Research and development:  Research and development expenses decreased $10,577 to $54,897 during the first quarter of 2020 due to decreased expenses related to prototype build costs when compared with the same quarter of 2019.

Marketing and sales: During the first quarter of 2020, marketing and sales expenses decreased $12,088 to $87,896 when compared with the same period of 2019, due to decreased travel and trade show expenses during the first quarter of 2020.

INTEREST INCOME:

The Company earned $3,463 in interest income during the quarter ended March 31, 2020 compared to $5,887 during the same period in 2019.  Sources of this income were money market accounts and certificates of deposit.

NET LOSS:

The Company had a net loss of $110,306 for the first quarter of 2020 compared to a net loss of $54,826 for the same quarter of 2019.  The increase in net loss during 2020 is the result of decreased sales revenues and gross margins.

B.FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES 

The Corporation's current asset to current liabilities ratio at March 31, 2020 was 24.8 compared to 11.8 at December 31, 2019.  The increase in current ratio is due to the reduction in accounts payable liability at March 31, 2020 as compared to December 31, 2019.

At March 31, 2020, the Company had cash and cash equivalents of $297,906 as compared to cash and cash equivalent of $274,936 at December 31, 2019, primarily reflecting redemption of certificates of deposits that were held at December 31, 2019.  The certificates of deposit were redeemed to offset the cash used in operation.    

Cash used in operating activities decreased by $5,338 for the three-month period ended March 31, 2020 when compared to the same period in 2019. During that period, inventory decreased by $52,272. Accounts payable decreased $88,990 compared to the same period of 2019.

Cash provided from investing was $150,001 due to the redemption of a CD during the first quarter of 2020 which is similar to the redemption of $150,000 from the prior year.

In management's opinion, the Company's cash and cash equivalents and other working capital at March 31, 2020 is sufficient to satisfy requirements for operations, capital expenditures, and other expenditures as may arise during 2020.

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FORWARD LOOKING STATEMENTS:  The above discussion may contain forward looking statements that involve a number of risks and uncertainties.  In addition to the factors discussed above, among other factors that could cause actual results to differ materially are the following: competitive factors such as rival wireless architectures and price pressures; availability of third party component products at reasonable prices; inventory risks due to shifts in market demand and/or price erosion of purchased components; change in product mix, and risk factors that are listed in the Company's reports and registration statements filed with the Securities and Exchange Commission.  

Item 3.  Quantitative and Qualitative Disclosures About Market Risk.

There is no established market for trading the common stock of the Company. The market for the Company’s common stock is limited, and as such shareholders may have difficulty reselling their shares when desired or at attractive market prices.  The Common Stock is not regularly quoted in the automated quotation system of a registered securities system or association.  Our common stock, par value $0.001 per share, is quoted on the OTC Markets Group QB (OTCQB) under the symbol “ELST”.  The OTCQB is a network of security dealers who buy and sell stock. The dealers are connected by a computer network which provides information on current “bids” and “asks” as well as volume information. The OTCQB is not considered a “national exchange”.  The “over-the-counter” quotations do not reflect inter-dealer prices, retail mark-ups commissions or actual transactions.  The Company’s common stock has continued to trade in low volumes and at low prices. Some investors view low-priced stocks as unduly speculative and therefore not appropriate candidates for investment. Many institutional investors have internal policies prohibiting the purchase or maintenance of positions in low-priced stocks.

An evaluation has been performed under the supervision and with the participation of our management, including our Chief Executive Officer and Principal Accounting Officer, of the effectiveness of the design and the operation of our "disclosure controls and procedures" (as such term is defined in Rules 13a-15(e) under the Securities Exchange Act of 1934) as of March 31, 2020.  Based on this evaluation, our Chief Executive Officer and Chief Financial Officer have determined that there was a material weakness affecting our internal control over financial reporting and, as a result of that weakness, our disclosure controls and procedures were not effective as of March 31, 2020.  

The material weakness is as follows:

We did not maintain effective controls to ensure appropriate segregation of duties as the same officer and employee was responsible for the initiating and recording of transactions, thereby creating segregation of duties weaknesses. Due to the (1) significance of segregation of duties to the preparation of reliable financial statements; (2) the significance of potential misstatement that could have resulted due to the deficient controls; and, (3) the absence of sufficient other mitigating controls; we determined that this control deficiency resulted in more than a remote likelihood that a material misstatement or lack of disclosure within the annual or interim financial statements will not be prevented or detected.

Changes in Internal Control Over Financial Reporting

There have not been any changes in our internal control over financial reporting (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) during the most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

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PART II—OTHER INFORMATION

Item 5.  Other Information

None

Item 6.  Exhibits

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SIGNATURES

In accordance with the requirements of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

ELECTRONIC SYSTEMS TECHNOLOGY, INC.

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