# EVI INDUSTRIES, INC. (EVI) FY 2024 MD&A

Verbatim Item 7 Management's Discussion and Analysis from EVI INDUSTRIES, INC.'s 10-K for fiscal year 2024.

SEC filing source: https://www.sec.gov/Archives/edgar/data/65312/000117494724001056/ea0212437-10k_eviindus.htm
Accession: 0001174947-24-001056
Filing date: 2024-09-12
Report date: 2024-06-30
Extracted from Item 7 to the first post-MD&A boundary after HTML sanitization.
Confidence: high

Company profile: /company/EVI/
All MD&A years: /company/EVI/mda/
Previous year: /company/EVI/mda/fy2023/ (FY 2023)
Next year: /company/EVI/mda/fy2025/ (FY 2025)

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

General

The following discussion
should be read in conjunction with the Company’s Consolidated Financial Statements and notes thereto contained in Item 8 of this
Report. See also “Cautionary Note Regarding Forward Looking Statements” preceding Part I, Item 1 of this Report.

Overview

The Company, through its
wholly-owned subsidiaries, is a value-added distributor, and provides advisory and technical services. Through its vast sales organization,
the Company provides its customers with planning, designing, and consulting services related to their commercial laundry operations.
The Company sells and/or leases its customers commercial laundry equipment, specializing in washing, drying, finishing, material handling,
water heating, power generation, and water reuse applications. In support of the suite of products it offers, the Company sells related
parts and accessories. Additionally, through the Company’s robust network of commercial laundry technicians, the Company provides
its customers with installation, maintenance, and repair services.

The Company’s customers
include government, institutional, industrial, commercial and retail customers. Product purchases made by customers range from parts
and accessories, to single or multiple units of equipment, to large complex systems. The Company also provides its customers with the
services described above.

Beginning in 2015, the Company
implemented a “buy-and-build” growth strategy which includes (i) the consideration and pursuit of acquisitions and other
strategic transactions which management believes may complement the Company’s existing business or otherwise offer growth opportunities
for, or benefit, the Company and (ii) the implementation of a growth culture at acquired businesses based on the exchange of ideas and
business concepts among the management teams of the Company and the acquired businesses as well as through certain additional initiatives,
which may include investments in additional sales and service personnel, new product lines, enhanced service operations and capabilities,
new and improved facilities, and advanced technologies. See “Buy-and-Build Growth Strategy” below for information regarding
business acquisitions consummated during the fiscal year ended June 30, 2023 (“fiscal 2023”) and the fiscal year ended June
30, 2024 (“fiscal 2024”).

The Company reports its results
of operations through a single operating and reportable segment.

Total revenues for fiscal
2024 decreased by less than 1% compared to fiscal 2023. The decrease in revenues during fiscal 2024 is due primarily to the timing of
receipt and delivery of products to customers due to construction or other delays which impacted the ability of certain customers to
receive products. Additionally, there were large industrial jobs completed during fiscal 2023 which generated significant revenues. These
decreases were offset in part by price increases established throughout the Company’s product lines and service offerings aimed
at maintaining or increasing margins to cover incremental product and operating cost increases, and revenues generated by businesses
acquired by the Company during fiscal 2024 as well as businesses acquired by the Company during fiscal 2023 whose results were consolidated
in the Company’s financial statements for all of fiscal 2024 as compared to just the period of fiscal 2023 from the respective
closing date of the acquisition through the end of fiscal 2023.

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Net income for fiscal 2024
decreased by 42% from fiscal 2023. The decrease in net income was attributable primarily to increases in selling, general, and administrative
expenses.

The Company’s operating
expenses consist primarily of (a) selling, general and administrative expenses, primarily salaries, and commissions and marketing expenses
that are variable and correlate to changes in sales, (b) expenses related to the operation of warehouse facilities, including a fleet
of installation and service vehicles, and facility rent, which are payable mostly under non-cancelable operating leases, and (c) operating
expenses at the parent company, including compensation expenses, fees for professional services, expenses associated with being a public
company, including increased expenses attributable to the Company’s investments for future growth, and expenses in furtherance
of the Company’s “buy-and-build” growth strategy.

Buy-and Build Growth Strategy

The Company’s acquisitions
under its “buy-and-build” growth strategy described above during fiscal 2023 and fiscal 2024 were as follows:

During fiscal 2023, the Company
acquired Massachusetts-based Aldrich Clean-Tech Equipment Corp., North Carolina-based K&B Laundry Service, LLC, Alabama-based Wholesale
Commercial Laundry Equipment Company SE, LLC, and Maryland-based Gluno, Inc. (d/b/a Express Parts and Services). The total consideration
for these transactions consisted of $2.4 million in cash and the issuance of 24,243 shares of the Company’s common stock.

During fiscal 2024, the Company
acquired Pennsylvania-based ALVF, Inc. (d/b/a ALCO Washer Center) and Texas-based Signature Services Corporation (d/b/a Ed Brown Distributors).
The total consideration for these transactions consisted of $1.9 million in cash and the issuance of 8,621 shares of the Company’s
common stock.

The acquired companies generally
distribute commercial, industrial, and vended laundry products and provide installation and maintenance services to the new and replacement
segments of the commercial, industrial and vended laundry industry. Acquisitions are generally effected by the Company through a separate
wholly-owned subsidiary formed by the Company for the purpose of effecting the transaction, whether by an asset purchase or merger, and
operating the acquired business following the transaction. The Company, indirectly through its applicable wholly-owned subsidiary, also
assumes certain of the liabilities of the acquired business. The financial position, including assets and liabilities, and results of
operations of the acquired businesses following the respective closing dates of the acquisitions are included in the Company’s
consolidated financial statements.

In addition to the foregoing,
on July 1, 2024, the Company acquired Florida-based Laundry Pro of Florida, Inc. for total consideration of $5.9 million in cash. The
financial position, including assets and liabilities, and results of operations of Laundry Pro of Florida, Inc. following the July 1,
2024 closing date of the acquisition will be included in the Company’s consolidated financial statements commencing in the quarter
ending September 30, 2024.

See Note 3 to the Consolidated
Financial Statements included in Item 8 of this Report for additional information about the acquisitions completed by the Company during
fiscal 2023 and fiscal 2024, as well as the subsequent acquisition of Laundry Pro of Florida, Inc.

Consolidated Financial Condition

The Company’s total
assets decreased from $253.8 million at June 30, 2023 to $230.7 million at June 30, 2024. The decrease in total assets was primarily
attributable to a decrease in current assets, as

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described below under “Liquidity
and Capital Resources.” The Company’s total liabilities decreased from $122.9 million at June 30, 2023 to $94.1 million at
June 30, 2024, primarily due to decreases in accounts payable and long-term debt.

Liquidity and Capital Resources

The Company had approximately
$4.6 million of cash at June 30, 2024 compared to $5.9 million of cash at June 30, 2023. The decrease in cash was primarily due to optional
debt repayments in excess of borrowings under the Company’s credit facility, cash consideration paid in connection with the Company’s
business acquisitions during fiscal 2024 and capital expenditures, offset in part by increases to cash generated from operations. The
Company’s primary sources of cash are sales of products and services, and borrowings under its credit facility. The Company’s
primary uses of cash are purchases of the products sold by the Company, employee related costs, and the cash consideration paid in connection
with business acquisitions.

The following table summarizes
the Company’s Consolidated Statements of Cash Flows (in thousands):

[[GREPCENT_TABLE]]
[["","","Fiscal Year Ended June 30,"],["Net cash provided (used) by:","","2024","","","2023"],["Operating activities","","$","32,652","","","$","940"],["Investing activities","","$","(6,816",")","","$","(5,986",")"],["Financing activities","","$","(27,199",")","","$","6,993"]]
[[/GREPCENT_TABLE]]

For fiscal 2024, operating
activities provided cash of approximately $32.7 million compared to cash provided by operating activities of approximately $0.9 million
in fiscal 2023. The $31.8 million increase in cash provided by operating activities was primarily attributable to decreases in accounts
receivable as a result of improved collections and decreases in inventory as result of a tightening supply chain and reduced lead times,
offset by decreases in net income and operating liabilities.

Investing activities used
cash of approximately $6.8 million during fiscal 2024 compared to approximately $6.0 million in fiscal 2023. The $0.8 million increase
in cash used by investing activities is due primarily to a greater amount of cash consideration paid for capital expenditures in fiscal
2024 as compared to fiscal 2023.

Financing activities
used cash of approximately $27.2 million in fiscal 2024 compared to cash provided by financing activities of approximately $7.0
million in fiscal 2023. The $34.2 million increase in cash used by financing activities was attributable primarily to optional
repayments of borrowings under the Company’s credit facility and a cash dividend paid during fiscal 2024.

The Company is a party, as
borrower, to a syndicated credit agreement (the “Credit Agreement”) in the maximum aggregate principal amount of up to $100
million, with an accordion feature to increase the revolving credit facility by up to $40 million for a total of $140 million. A portion
of the revolving credit facility is available for swingline loans of up to a sublimit of $5 million and for the issuance of standby letters
of credit of up to a sublimit of $10 million. As of June 30, 2024, $66.0 million was available to borrow under the revolving credit facility.

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Borrowings (other than swingline
loans) under the Credit Agreement bear interest at a rate, at the Company’s election at the time of borrowing, equal to (a) the
Bloomberg Short-Term Bank Yield Index rate (the “BSBY rate”) plus a margin that ranges from 1.25% to 1.75% depending on the
Company’s consolidated leverage ratio, which is a ratio of consolidated funded indebtedness to consolidated earnings before interest,
taxes, depreciation and amortization (EBITDA) (the “Consolidated Leverage Ratio”) or (b) the highest of (i) prime, (ii) the
federal funds rate plus 50 basis points, and (iii) the BSBY rate plus 100 basis points (such highest rate, the “Base Rate”),
plus a margin that ranges from 0.25% to 0.75% depending on the Consolidated Leverage Ratio. Swingline loans bear interest calculated
at the Base Rate plus a margin that ranges from 0.25% to 0.75% depending on the Consolidated Leverage Ratio. During November 2023, Bloomberg
Index Services Limited announced it will discontinue the BSBY rate on November 15, 2024. Pursuant to the terms of the Credit Agreement,
in connection with the discontinuation of the BSBY rate, when determined by the administrative agent under the Credit Agreement, the
BSBY rate will be replaced with the Secured Overnight Financing Rate (“SOFR”) plus a SOFR adjustment ranging from a minimum
of 0.11% to a maximum of 0.43%.

The Credit Agreement contains
certain covenants, including financial covenants requiring the Company to comply with maximum leverage ratios and minimum interest coverage
ratios. The Credit Agreement also contains other provisions which may restrict the Company’s ability to, among other things, dispose
of or acquire assets or businesses, incur additional indebtedness, make certain investments and capital expenditures, pay dividends,
repurchase shares and enter into transactions with affiliates. As of June 30, 2024, the Company was in compliance with its covenants
under the Credit Agreement.

The obligations of the Company
under the Credit Agreement are collateralized by substantially all of the assets of the Company and certain of its subsidiaries, and
are guaranteed, jointly and severally, by certain of the Company’s subsidiaries.

The Company believes that
its existing cash, anticipated cash from operations and funds available under the Company’s Credit Agreement will be sufficient
to fund its operations and anticipated capital expenditures for at least the next twelve months from the filing of this Report, and thereafter.
The Company may also seek to raise funds through the issuance of equity and/or debt securities or the incurrence of additional secured
or unsecured indebtedness, including in connection with acquisitions or other transactions pursued by the Company as part of its “buy-and-build”
growth strategy.

Off-Balance Sheet Financing

As of June 30, 2024, the
Company had no off-balance sheet financing arrangements within the meaning of Item 303(a)(4) of Regulation S-K.

Results of Operations

Revenues

Revenues for fiscal 2024
decreased by approximately $0.6 million (less than 1%) from fiscal 2023. The decrease in revenues during fiscal 2024 is due primarily
to the timing of receipt and delivery of products to the Company’s customers due to construction or other delays which impacted
the ability of certain customers to receive products. Additionally, there were large industrial jobs completed during the fiscal 2023
which generated significant revenues. These decreases were offset in part by price increases established throughout the Company’s
product lines and service offerings aimed at maintaining or

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increasing margins to cover
incremental product and operating cost increases, and revenues generated by businesses acquired by the Company during fiscal 2024 as
well as businesses acquired by the Company during fiscal 2023 whose results were consolidated in the Company’s financial statements
for all of fiscal 2024 as compared to just the period of fiscal 2023 from the respective closing date of the acquisition through the
end of fiscal 2023.

Cost of Sales and Selling,
General and Administrative Expenses

[[GREPCENT_TABLE]]
[["","","Fiscal Year Ended June 30,"],["","","2024","","","2023"],["As a percentage of revenues:"],["Cost of sales, net","","","70.2","%","","","70.7","%"],["As a percentage of revenues:"],["Selling, general and administrative expenses","","","26.5","%","","","24.6","%"]]
[[/GREPCENT_TABLE]]

Cost of sales, expressed
as a percentage of revenues, decreased to 70.2% in fiscal 2024 from 70.7% in fiscal 2023, representing gross margins of 29.8% in fiscal
2024 and 29.3% in fiscal 2023. The decrease in cost of sales, as a percentage of revenues, and increase in gross margin were primarily
attributable to favorable changes in product and customer mix. The increase in gross margin is also attributable to the Company’s
efforts to drive higher quality sales opportunities from promoting solution selling as a value-added distributor. Longer-term federal
government contracts entered into during fiscal 2024 lowered gross margins by 30 basis points.

Selling, general and administrative
expenses increased by approximately $6.4 million (7%) in fiscal 2024 compared to fiscal 2023, primarily due to (a) operating expenses
of acquired businesses, including additional operating expenses at the acquired businesses in pursuit of future growth and in connection
with the Company’s optimization initiatives, (b) increases in salary, rent, technology costs, professional fees, and insurance
costs to support the Company’s growth, and (c) stock compensation, including an increase from the acceleration of the vesting of
certain restricted stock awards and restricted stock units in accordance with their terms during fiscal 2024. As a percentage of revenues,
selling, general and administrative expenses increased to 26.5% in fiscal 2024 from 24.6% in fiscal 2023.

Interest Expense

Interest expense,
net increased by approximately $0.2 million (9%) in fiscal 2024 compared to fiscal 2023. The increase is due primarily to increases in
the average outstanding debt balance.

Provision for Income
Taxes

The Company’s effective
income tax rate was 36.4% for fiscal 2024 compared to 30.6% in fiscal 2023. The increase in the effective income tax rate in fiscal 2024
is attributable to an increase in the net impact of permanent book-tax differences resulting primarily from nondeductible compensation
and lower net income.

Inflation

Inflation did not have a
significant effect on the Company’s results during fiscal 2024 or fiscal 2023. However, the Company faces risks relating to inflation,
including the current inflationary trend,

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which may have an adverse
impact on the market for the Company’s products and services, including that there is no assurance that the Company will be able
to effectively increase the price of its products and services to offset increased costs.

Transactions with Related Parties

Certain of the Company’s
subsidiaries lease warehouse and office space from one or more of the principals (or former principals) of the Company or its subsidiaries.
These leases include the following:

On October 10, 2016, the
Company’s wholly-owned subsidiary, Western State Design, entered into a lease agreement pursuant to which it leases 17,600 square
feet of warehouse and office space from an affiliate of Dennis Mack, a director and employee of the Company, and Tom Marks, Executive
Vice President, Business Development and President of the West Region of the Company. The lease had an initial term of five years and
provides for two successive three-year renewal terms at the option of the Company. Monthly base rental payments were $12,000 during the
initial term of the lease. The Company exercised its option to renew the lease for the first three-year renewal term, which commenced
in October 2021. Base rent for the first renewal term is $19,000 per month. In addition to base rent, Western State Design is responsible
under the lease for costs related to real estate taxes, utilities, maintenance, repairs and insurance. Payments under this lease totaled
approximately $252,000 and $228,000 during fiscal 2024 and fiscal 2023, respectively.

On October 31, 2017, the
Company’s wholly-owned subsidiary, Tri-State Technical Services, entered into lease agreements pursuant to which it leases a total
of 81,000 square feet of warehouse and office space from an affiliate of Matt Stephenson, former President of Tri-State. Monthly base
rental payments totaled $21,000 during the initial terms of the leases. Each lease had an initial term of five years and provides for
two successive three-year renewal terms at the option of the Company. The Company exercised its option to renew the leases for the first
three-year renewal term, which commenced in October 2022. Base rent for the first renewal term is $25,000. In addition to base rent,
Tri-State is responsible under the leases for costs related to real estate taxes, utilities, maintenance, repairs and insurance. From
May 1, 2023 through May 31, 2024, Tri-State Technical Services also leased an additional 50,000 square feet of space from Mr. Stephenson
for a base rental payment of $15,000 per month. Payments under these leases totaled approximately $493,000 and $306,000 during fiscal
2024 and fiscal 2023, respectively.

On November 1, 2018, the
Company’s wholly-owned subsidiary, AAdvantage Laundry Systems, entered into a lease agreement pursuant to which it leases warehouse
and office space from an affiliate of Mike Zuffinetti, former Chief Executive Officer of AAdvantage. Monthly base rental payments under
this lease were $26,000 initially. Pursuant to the lease agreement, on January 1, 2019, the lease expanded to cover additional warehouse
space and, in connection therewith, monthly base rental payments under this lease increased to $36,000. In addition to base rent, AAdvantage
is responsible under the lease for costs related to real estate taxes, utilities, maintenance, repairs and insurance. The lease had an
initial term of five years and provides for two successive three-year renewal terms at the option of the Company. The Company exercised
its option to renew the lease for the first three-year renewal term. Base rent for the first renewal term is $40,000 per month. Payments
under this lease totaled approximately $464,000 and $432,000 during fiscal 2024 and fiscal 2023, respectively.

On November 3, 2020, the
Company’s wholly-owned subsidiary, Yankee Equipment Systems, entered into a lease agreement pursuant to which it leases a total
of 12,500 square feet of warehouse and office space from an affiliate of Peter Limoncelli, President of Yankee Equipment Systems. Monthly
base

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rental payments were $11,000
during the initial term of the lease. In addition to base rent, Yankee Equipment Systems is responsible under the lease for costs related
to real estate taxes, utilities, maintenance, repairs and insurance. The lease had an initial term of three years and provides for three
successive three-year renewal terms at the option of the Company. The Company exercised its option to renew this lease for the first
three-year renewal term. Base rent for the first year of the renewal term is $12,500 per month. Payments under this lease totaled approximately
$150,000 and $146,000 during fiscal 2024 and fiscal 2023, respectively.

Critical Accounting Estimates

Use of Estimates

In
connection with the preparation of its financial statements in accordance with generally accepted accounting principles in the United
States of America (“GAAP”), the Company makes estimates and assumptions, including those that affect the reported amounts
of assets and liabilities, contingent assets and liabilities, and the reported amounts of revenues and expenses during the reported periods.
Estimates and assumptions made may not prove to be correct, and actual results may differ from the estimates. The accounting estimates
that the Company has identified as critical to its business operations and to an understanding of the Company’s financial statements
are set forth below. The critical accounting estimates discussed below are not intended to be a comprehensive list of all of the Company’s
accounting policies. In many cases, the accounting treatment of a particular transaction is specifically dictated by GAAP, with no need
for management’s judgment in their application. There are also areas in which management’s judgment in selecting any available
alternative would not produce a materially different result.

Revenue Recognition

Performance Obligations and Revenue Over Time

Revenue primarily consists
of revenues from the sale or leasing of commercial and industrial laundry and dry cleaning equipment and steam and hot water boilers
manufactured by others; the sale of related replacement parts and accessories; and the provision of installation and maintenance services.
The Company generates revenue primarily from the sale of equipment and parts to customers. Therefore, the majority of the Company’s
contracts are short-term in nature and have a single performance obligation (to deliver products), and the Company’s performance
obligation is satisfied when control of the product is transferred to the customer. Other contracts contain a combination of equipment
sales and services expected to be performed in the near-term, which services are distinct and accounted for as separate performance obligations.
Judgment may be required by management to identify the distinct performance obligations within each contract. Revenue is recognized on
these contracts when control transfers to the Company’s customers via shipment of products or provision of services and the Company
has the right to receive consideration for these products and services. Additionally, from time to time, the Company enters into longer-termed
contracts which provide for the sale of equipment by the Company and the provision by the Company of related installation and construction
services. The installation on these types of contracts is usually completed within six to twelve months. The Company recognizes a portion
of its revenue over time using the cost-to-cost measure of progress, which measures a contract’s progress toward completion based
on the ratio of actual contract costs incurred to date to the Company’s estimated costs at completion adjusted for uninstalled
materials, as necessary.  Significant judgment may be required by management in the cost estimation process for these contracts,
which is based on the knowledge and experience of the Company’s

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project managers, subcontractors
and financial professionals. Changes in job performance and job conditions are factors that influence estimates of the total contract
transaction price, total costs to complete those contracts and the Company’s revenue recognition.  The
determination of the total estimated cost and progress toward completion requires management to make significant estimates and assumptions.
Total estimated costs to complete projects include various costs such as direct labor, material and subcontract costs. Changes in these
estimates can have a significant impact on the revenue recognized each period. From time to time, the Company also enters into maintenance
and service contracts. These longer-term contracts, maintenance and service contracts have a single performance obligation where revenue
is recognized over time using the cost-to-cost measure of progress, which best depicts the continuous transfer of control of goods or
services to the customer.

The Company measures revenue,
including shipping and handling fees charged to customers, as the amount of consideration it expects to be entitled to receive in exchange
for its products or services, net of any taxes collected from customers and subsequently remitted to governmental authorities. Costs
associated with shipping and handling activities performed after the customer obtains control are accounted for as fulfillment costs.

Revenue from products transferred
to customers at a point in time is recognized when obligations under the terms of the contract with the Company’s customer are
satisfied, which generally occurs with the transfer of control upon shipment.

Revenues that are recognized
over time include (i) longer-termed contracts that include an equipment purchase with installation and construction services, (ii) maintenance
contracts, and (iii) service contracts.

Contract Assets and Liabilities

Contract assets and liabilities
are presented in the Company’s condensed consolidated balance sheets. Contract assets consist of unbilled amounts resulting from
sales under longer-term contracts when the cost-to-cost method of revenue recognition is utilized and revenue recognized exceeds the
amount billed to the customer. As noted above, the cost estimation process for these contracts may require significant judgment by management.
The Company typically receives progress payments on sales under longer-term contracts as work progresses, although for some contracts
the Company may be entitled to receive an advance payment. Contract assets also include retainage. Retainage represents a portion of
the contract amount that has been billed, but for which the contract allows the customer to retain a portion of the billed amount (generally,
from 5% to 20% of contract billings) until final contract settlement. Retainage amounts are generally classified as current assets within
the Company’s consolidated balance sheets. Retainage that has been billed, but is not due until completion of performance and acceptance
by customers, is generally expected to be collected within one year. Contract liabilities consist of advanced payments, billings in excess
of costs incurred and deferred revenue.

Goodwill

The Company evaluates goodwill
for impairment annually or more frequently when an event occurs or circumstances change that indicate that the carrying value may not
be recoverable. Goodwill is tested for impairment at the reporting unit level by first performing a qualitative assessment to determine
whether it is more likely than not that the fair value of the reporting unit is less than its carrying value. If the

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reporting unit does not pass
the qualitative assessment, then the reporting unit's carrying value is compared to its fair value. If the fair value is determined to
be less than the carrying value, a second step is performed to measure the amount of impairment loss. This step compares the current
implied goodwill in the reporting unit to its carrying amount. If the carrying amount of the goodwill exceeds the implied goodwill, an
impairment is recorded for the excess. The identification and measurement of goodwill impairment involves the estimation of the fair
value of the reporting unit and involves uncertainty because management must use judgment in determining appropriate assumptions to be
used in the measurement of fair value. The Company performed its annual impairment test on April 1, 2024 and determined there was no
impairment.

Customer Relationships, Tradenames and Other Intangible Assets

Customer relationships, tradenames,
non-competes, and other intangible assets are stated at cost less accumulated amortization. These assets with a finite-life are amortized
on a straight-line basis over the estimated future periods to be benefited (5-10 years). The estimates of fair value of the Company’s
indefinite-lived intangibles are based on information available as of the date of the assessment and take into account management’s
assumptions about expected future cash flows and other valuation techniques. The Company reviews the recoverability of intangible assets
that are amortized based primarily upon an analysis of undiscounted cash flows from the intangible assets. In the event the expected
future cash flows become less than the carrying amount of the assets, an impairment loss would be recorded in the period the determination
is made based on the fair value of the related assets.

Income Taxes

The Company follows Financial
Accounting Standards Board (“FASB”) ASC Topic 740, “Income Taxes” (“ASC 740”). Under the asset and
liability method of ASC 740, deferred tax assets and liabilities are recognized for the future tax consequences attributed to differences
between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets
and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences
are expected to be recovered or settled. Under ASC 740, the effect on deferred tax assets and liabilities of a change in tax rates is
recognized in income in the period that includes the enactment date. If it is determined that it is more likely than not that some portion
of a deferred tax asset will not be realized, a valuation allowance is recognized.

Significant judgment is required
in developing the Company’s provision for income taxes, deferred tax assets and liabilities, and any valuation allowances that
might be required against the deferred tax assets. Management evaluates the Company’s ability to realize its deferred tax assets
on a quarterly basis and adjusts its valuation allowance when it believes that it is more likely than not that the asset will not be
realized.

See Note 10 to the Consolidated
Financial Statements included in Item 8 of this Report for additional information regarding income taxes.

Recently Issued Accounting Guidance

See Note 2 to the Consolidated
Financial Statements included in Item 8 of this Report for a description of Recently Issued Accounting Guidance.

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