UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

For the quarterly period ended March 31, 2018

OR2019

For the transition period from _______________________________ to _______________________________

Commission file number: 001-38420

VirTra, Inc.VIRTRA, INC.

(Exact name of registrant as specified in its charter)

(480) 968-1488

(Registrant’s telephone number, including area code)code:(480) 968-1488

N/A

(Former name, former address and former fiscal year, if changed since last report)

Indicate by check mark whether the registrant: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 [  ]

Indicate by a 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 Regulation 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 [  ]

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a 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.

If an emerging growth company, indicate by checkmarkcheck 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. [  ]

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

Securities registered pursuant to Section 12(b) of the Act:

As of May 15, 2018,13, 2019, the registrant had 7,904,3077,734,255 shares of common stock outstanding.

VIRTRA, Inc.INC.

FORM 10-Q

TABLE OF CONTENTS

PartPART I: FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

Item 1. Financial StatementsVIRTRA, INC.

CONDENSED BALANCE SHEETS

VIRTRA, INC.

CONDENSED BALANCE SHEETS

(Unaudited)

See accompanying notes to unaudited condensed financial statements.

VIRTRA, INC.

CONDENSED STATEMENTS OF OPERATIONS

(Unaudited)

See accompanying notes to unaudited condensed financial statements.

VIRTRA, INC.

CONDENSED STATEMENTSTATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY

(Unaudited)

For the Three Months Ended March 31, 2019

CONDENSED STATEMENTS OF CASH FLOWS

(Unaudited)

See accompanying notes to unaudited condensed financial statements.

VIRTRA, INC.

Notes ToNOTES TO CONDENSED Financial StatementsFINANCIAL STATEMENTS

((Unaudited)

Unaudited)Note 1. Organization and Significant Accounting Policies

NOTE 1.ORGANIZATION, BUSINESS OPERATIONSOrganization and significant accounting policiesBusiness Operations

VirTra, Inc. (the “Company” or “VirTra”), located in Tempe, Arizona, is engaged in the sale and development of judgmental use of force training simulators and firearms training simulators for law enforcement, military and commercial uses. The Company sells simulators and related products worldwide through a direct sales force and international distribution partners. The original business started in 1993 as Ferris Productions, Inc. In September 2001, Ferris Productions, Inc. merged with GameCom, Inc. to ultimately become VirTra, Systems, Inc., a Texas corporation.Nevada Corporation.

Effective as of October 1, 2016 (the “Effective Date”), the Company completed a conversion from a Texas corporation to a Nevada corporation pursuant to a Redomestication Plan of Conversion (the “Plan of Conversion”) that was approved by the Company’s Board of Directors on June 23, 2016 and by its shareholders on September 16, 2016. On the Effective Date, 7,927,774   shares of common stock of VirTra Systems, Inc., a Texas corporation, were converted into 7,927,774 shares of common stock of VirTra Systems, Inc., a Nevada corporation. No shareholders exercised appraisal rights or dissenters’ rights for such shares in accordance with the Texas Business Organization Code.

As part of the Plan of Conversion, the Company filed Articles of Incorporation in Nevada whereby it changed its name from VirTra Systems, Inc. to VirTra, Inc. and revised its capitalization. The Company’s Articles of Incorporation filed in Nevada authorized the Company to issue 62,500,000 shares, of which (1) 60,000,000 shares are common stock, par value $0.0001 per share (the “common stock”), of which (a) 50,000,000 shares are common stock, par value $0.0001, (b) 2,500,000 shares are Class A common stock, par value $0.0001 per share (the “Class A common stock”), and (c) 7,500,000 shares are Class B common stock, par value $0.0001 per share (the “Class B common stock”) and (2) 2,500,000 shares are preferred stock, par value $0.0001 per share, which may, at the sole discretion of the Board of Directors, be issued in one or more series (the “Preferred Stock”). The Company also adopted new bylaws as part of the Plan of Conversion.

Effective October 20, 2016,March 2, 2018, the Company effected a 1-for-101 for 2 reverse stock split of its issued and outstanding common stock and effective February 12, 2018, the Company effected a 1-for-2 reverse stock split of its issued and outstanding common stock (together, theCommon Stock (the “Reverse Stock Splits”Split”). All references to shares of the Company’s common stock in this report refer to the number of shares of common stock after giving effect to the Reverse Stock Splits.Split.

Basis of Presentation

The accompanying unaudited condensed financial statements included herein have been prepared by us without audit pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and should be read in conjunction with our audited financial statements for the year ended December 31, 2018. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information. Certain information and note disclosures normally included in complete annual financial statements prepared in accordance with GAAP have been condensed or omitted. However,omitted as permitted by the Company believes thatSEC, although we believe the disclosures included in these unaudited condensed financial statementsthat are made are adequate to make the information presented herein not misleading. In the opinion of management, the

The accompanying unaudited condensed financial statements reflect, in our opinion, all adjustments, which include normal recurring adjustments considered necessary to present fairly our financial position at March 31, 2019 and the results of our operations and cash flows for a fair presentationthe periods presented. We derived the December 31, 2018 condensed balance sheet data from audited financial statements; however, we did not include all disclosures required by GAAP.

Interim results are subject to seasonal variations, and the results of such interim results. The resultsoperations for the three months ended March 31, 20182019 are not necessarily indicative of the results for any subsequent period. These unaudited condensed financial statements shouldto be read in conjunction with the audited financial statements and notesexpected for the year ended December 31, 2017 included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2017, as filed with the Securities and Exchange Commission (the “SEC”) on March 30, 2018.full year.

Use of Estimates

The preparation of financial statements in conformity with GAAP requires management to make estimates that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities atas of the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ significantly from those estimates. Significant accounting estimates in these financial statements include valuation assumptions for share-based payments, allowance for doubtful accounts and notes receivable, inventory reserves, accrual for warranty reserves, the carrying value of long-lived assets and intangible assets, income tax valuation allowances, the carrying value of cost basis investments, and the allocation of the transaction price to the performance obligations in our contracts with customers.

Reclassifications

Certain reclassifications have been made to the 20172018 financial statements to conform to the 20182019 financial statement presentation. These reclassifications had no effect on net earnings or cash flows as previously reported.

Significant Accounting Policies

Aside from the adoption of ASU Topic 606, as described below, there have been no other material changes to the significant accounting policies or recent accounting pronouncements previously disclosed in the annual financial statements in the Company’s Form 10-K for the fiscal year ended December 31, 2017.

Revenue Recognition

The Company records revenue from contract with customers in accordance withadopted Accounting Standards Codification (ASU) Topic 606, “RevenueRevenue from ContractsContract with Customers.” Under ASUCustomer (Topic 606) (“ASC 606”) on January 1, 2018 and the Company elected to use the modified retrospective transition which requires application of ASC 606 to uncompleted contracts at the date of adoption. The adoption of ASC 606 did not have a material impact on the financial statements.

Under ASC 606, the Company must identify the contract with a customer, identify the performance obligations in the contract, determine the transaction price, allocate the transaction price to the performance obligations in the contract, and recognize revenue when (or as) the Company satisfies a performance obligation.

Significant judgment is necessary when making these determinations.

The Company’s primary sources of revenue are derived from simulator and accessories sales, training and installation, the sale of customizedcustomizable software and the sale of extended service-type warranties. Sales discounts and bad debt allowance are presented in the Financial Statementsfinancial statements as reductions in determining net revenues. Credit sales are recorded as current assets.assets (accounts receivable). Prepaid deposits received at the time of sale and extended warranties purchased are recorded as current and long-term liabilities (deferred revenue) until earned. The following briefly summarizes the nature of our significant provisions:performance obligations and method of revenue recognition:

The Company recognizes revenue upon transfer of control or upon completion of the services for the simulator and accessories; for the installation and training and customized software performance obligations as the customer has the right and ability to direct the use of these products and services and the customer obtains substantially all of the remaining benefit from these products and services at that time. For the sales-based royalty exchanged for license of intellectual property, the Company recognized revenue as the sales occur over time.

The Company recognizes revenue on a straight-line basis over the period of services being rendered for the extended service-type warranties as these warranties represent a performance obligation to “stand ready to perform” over the duration of the warranties. As such, the warranty service is performed continuously over the warranty period.

Each contract states the transaction price. The contracts do not include variable consideration, significant financing components or noncash consideration. The Company has elected to exclude sales and similar taxes from the measurement of the transaction price. The contract’s transaction price is allocated to the performance obligations based upon their stand-alone selling prices. Discounts to the stand-alone selling prices, if any, are allocated proportionately to each performance obligation.

Disaggregation of Revenue

Under ASUASC 606, disaggregated revenue from contracts with customers depicts the nature, amount, timing, and uncertainty of revenue and cash flows affected by economic factors. The Company has evaluated revenues contract assets and liabilities associated with the revenue recognized and the following table illustrates the disaggregation disclosure by customer’s location and performance obligation.

Customer Deposits

Customer deposits are recorded as a current liability under deferred revenue on the accompanying balance sheets and totaled $312,354 and $186,450 as of March 31, 2019 and December 31, 2018, respectively. Changes in deferred revenue amounts related to customer deposits will fluctuate from year to year based upon the mix of customers for the year and the Company’s backlog of open contracts. Customer deposits are considered a deferred liability until completion of the customer’s contract performance obligations. When revenue is recognized, the deposit is applied to the customer’s receivable balance.

Warranty

The Company warranties its products from manufacturing defects on a limited basis for a period of one year after purchase, and also sells separately priced extended service-type warranties for periods of up to four years after the expiration of the standard one-year warranty. During the term of the initial one-year warranty, if the device fails to operate properly from defects in materials and workmanship, the Company will fix or replace the defective product. Deferred revenue for separately priced extended warranties one year or less totaled $1,645,632 and $1,604,637 as of March 31, 2019 and December 31, 2018, respectively. Deferred revenue for separately priced extended warranties longer than one year totaled $963,019 and $962,356 as of March 31, 2019 and December 31, 2018, respectively. The accrual for the one-year manufacturer’s warranty liability totaled $200,505 as of March 31, 2019 and December 31, 2018. During the three months ended March 31, 2019 and 2018, the Company recognized revenue of $510,474 and $486,509, respectively, related to the extended service-type warranties that was amortized from the deferred revenue balance. Changes in deferred revenue amounts related to extended service-type warranties will fluctuate from year to year based upon the average remaining life of the warranties at the beginning of the period and new extended service-type warranties sold during the period.

Customer Retainage

Customer retainage is recorded as a current liability under deferred revenue on the accompanying balance sheet and totaled $133,220 as of March 31, 2019 and December 31, 2018. Changes in deferred revenue amounts related to customer retainage will fluctuate from year to year based upon the customer’s contract completion date allowing the Company to invoice and recover the retainage.

Licensing and Royalties with Related Party

As discussed further in Note 8. Collaboration Agreement with Related Party, the Company licenses intellectual property to Modern Round, LLC (“MR”), a wholly-owned subsidiary of That’s Eatertainment Corp. (“TEC”), a related party, in exchange for sales-based royalties. Revenues from this agreement are recognized in accordance with the terms of the contract as the sales occur. The Company receives additional immaterial sales-based royalties from strategic partners.

Adoption of New Accounting Standards

Between May 2014 and December 2016, the Financial Accounting Standards Board (the “FASB”) issued several Accounting Standards Updates (each, an “ASU” and collectively, “ASUs”) on Revenue from Contracts with Customers (Topic 606). These ASUs supersede nearly all existing revenue recognition guidance under current GAAP and requires an entity to recognize revenues when promised goods or services are transferred to customers in an amount that reflects the consideration to which an entity expects to be entitled for those goods or services. The standards are effective for annual periods beginning after December 15, 2017, and interim periods therein, and permit the use of either the full retrospective or modified retrospective transition method. This standard was adopted on January 1, 2018 and the Company elected to use the modified retrospective transition method which requires application of ASU 2014-09 to uncompleted contracts at the date of adoption. The adoption of the ASUs under 2014-09 did not have a material impact on financial statements.

In January 2016, the FASB issued ASU 2016-01, Financial Instruments - Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities (“ASU 2016-01”), which requires that equity investments, except for those accounted for under the equity method or those that result in consolidation of the investee, be measured at fair value, with subsequent changes in fair value recognized in net income. However, an entity may choose to measure equity investments that do not have readily determinable fair values at cost minus impairment, if any, plus or minus changes resulting from observable price changes in orderly transactions for the identical or a similar investment of the same issuer. ASU 2016-01 also impacts the presentation and disclosure requirements for financial instruments. The Company wrote-down its Investment in Modern Round to fair value in 2017, the adoption of ASU 2016-01 did not have a material impact on its financial statements. Upon adoption, the Company has elected to utilize the cost minus impairment approach as the investment in Modern Round does not have a readily determinable fair value as of the reporting date.

In November 2016, the FASB issued ASU No. 2016-18, “Statement of Cash Flows (Topic 230): Restricted Cash (a consensus of the FASB Emerging Issues Task Force),” to provide guidance on the presentation of restricted cash or restricted cash equivalents in the statement of cash flow. The amendments should be applied using a retrospective transition method, and are effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. The adoption of this statement did not have a material impact on the Company’s financial statement presentation.

In February 2017, the FASB issued ASU No. 2017-05, “Other Income—Gains and Losses from the Derecognition of Nonfinancial Assets (Subtopic 610-20): Clarifying the Scope of Asset Derecognition Guidance and Accounting for Partial Sales of Nonfinancial Assets,” to clarify the scope of Subtopic 610-20, “Other Income—Gains and Losses from the Derecognition of Nonfinancial Assets,” and to add guidance for partial sales of nonfinancial assets. Subtopic 610-20, which was issued in May 2014 as a part of ASU No. 2014-09, “Revenue from Contracts with Customers (Topic 606),” provides guidance for recognizing gains and losses from the transfer of nonfinancial assets in contracts with noncustomers. The amendments are effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years, which is the same time as the amendments in ASU No. 2014-09, and early adoption is permitted. The adoption did not have a material impact on the financial statements.

In May 2017, the FASB issued ASU No. 2017-09, “Compensation—Stock Compensation (Topic 718): Scope of Modification Accounting,” to provide clarity and reduce both (1) diversity in practice and (2) cost and complexity when applying the guidance in Topic 718, “Compensation—Stock Compensation,” to a change to the terms or conditions of a share-based payment award. The ASU provides guidance about which changes to the terms or conditions of a share-based payment award require an entity to apply modification accounting in Accounting Standards Codification (“ASC”) 718. The amendments are effective for fiscal years beginning after December 15, 2017 and should be applied prospectively to an award modified on or after the adoption date. The Company does not expect this amendment to have a material impact on its financial statements.

Recent AccountingPronouncements

In February 2016, the FASB issued ASU No. 2016-02, – “Leases (Topic 842)”, which and subsequent amendments to the initial guidance: ASU 2018-10, ASU 2018-11, ASU 2018-20 and ASU 2019-01 (collectively, Topic 842). ASU 2016-02 requires lesseesan entity to put most leases on their balance sheets by recognizing lease assetsrecognize a right-of-use asset (“ROU”) and lease liabilitiesliability for thoseall leases classifiedand provide enhanced disclosures. Recognition, measurement, and presentation of expenses depends on classification as a finance lease or an operating leases under previous guidance. This ASU will be effective for the Company onlease. On January 1, 2019, with early adoption permitted.the Company adopted Topic 842 using the modified retrospective approach. Results for reporting periods after January 1, 2019 are presented under Topic 842, while prior periods have not been adjusted. The Company is currently inelected the processpackage of assessingpractical expedients permitted under the impact of this ASU on its financial statements.transition guidance within the new standard, which among other things, allowed the Company to carry forward the historical lease classification. Refer to Note 6 - Leases.

In July 2017, the FASB issued ASU No. 2017-11 – “Earnings Per Share (Topic 260); Distinguishing Liabilities from Equity (Topic 480); Derivatives and Hedging (Topic 815)” Part I. Accounting for Certain Financial Instruments with Down Round Features and II. ReplacementI of the Indefinite Deferral for Mandatorily Redeemable Financial Instruments of Certain Nonpublic Entities and Certain Mandatorily Redeemable Noncontrolling Interests with a Scope Exception. Part IASU No. 2017-11 applies to entities that issue financial instruments such as warrants, convertible debt or convertible preferred stock that contain down round features. Part II. SimplyII simply replaces the indefinite deferral for certain mandatorily redeemable noncontrolling interests and mandatorily redeemable financial instruments of nonpublic entities contained within ASCAccounting Standards Codification (ASC) Topic 480 with a scope exception and does not impact the accounting for these mandatorily redeemable instruments. This ASU is effective for public companies for the annual reporting periods beginning after December 15, 2018, and interim periods within those annual periods. Early adoption is permitted. ASU No. 2017-11 did not have a material impact on the Company’s financial statements.

In June 2018, the FASB issued ASU No. 2018-07, “Compensation–Stock Compensation (Topic 718): Improvements to Nonemployee Share-Based Payment Accounting” to simplify the accounting for nonemployee share-based payment transactions resulting from expanding the scope of Topic 718, Compensation-Stock Compensation, to include share-based payment transactions for acquiring goods and services from nonemployees. The amendments also clarify that Topic 718 does not apply to share-based payments used to effectively provide (1) financing to the issuer or (2) awards granted in conjunction with selling goods or services to customers as part of a contract accounted for under Topic 606, Revenue from Contract with Customers. The amendments are effective for public business entities for fiscal years beginning after December 15, 2018, including interim periods within that fiscal year, with early adoption permitted. ASU No. 2018-07 did not have a material impact on the Company’s financial statements.

Fair Value Measurements

ASC Topic 820,Fair Value Measurements, defines fair value as the price that would be received in the sale of an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Topic 820 also specifies a fair value hierarchy that requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value as follows:

Level 1: Quoted prices in active markets for identical assets or liabilities;

Level 2: Observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities; and

Level 3: Valuation is generated from model-based techniques that use significant assumptions not observable in the market. These unobservable assumptions reflect our own estimate of assumptions that market participants would use in pricing the asset or liability.

Fair Value of Financial Instruments

The Company’s financial instruments consist of cash and cash equivalents, certificates of deposit, accounts receivable, notes and interest receivables, accounts payable, and accrued liabilities. The fair value of financial instruments, except for long-term notes receivable, approximates their carrying values, using level 3 inputs, at March 31, 2019 and December 31, 2018 due to their short maturities. The fair value of the long-term notes receivable approximates its carrying value, using level 3 inputs, at March 31, 2019 and December 31, 2018 based on borrowing rates currently available for loans with similar terms and maturities.

Cash and Cash Equivalents

The Company considers all highly liquid investments with a maturity of 90 days or less at the time of purchase to be cash equivalents.

Certificates of Deposit and Mutual Funds

The Company invests its excess cash in certificates of deposit and money market mutual funds issued by financial institutions with high credit ratings. The certificates of deposit generally have average maturities of approximately six months and are subject to penalties for early withdrawal. The money market mutual funds are open ended and can be withdrawn at any time without penalty.

Accounts and Notes Receivable and Allowance for Doubtful Accounts

The Company recognizes an allowance for losses on accounts receivable based on an analysis of historical bad debt experience, current receivables aging, and expected future write-offs, as well as an assessment of specific identifiable customer accounts considered at risk or uncollectible. Accounts receivable do not bear interest and are charged off after all reasonable collection efforts have been taken. As of March 31, 2019 and December 31, 2018, the Company maintained an allowance for doubtful accounts of $24,511 and $23,044, respectively.

Notes receivable are carried at their estimated collectible amounts. Interest income on notes receivable is recognized using the effective interest method. Notes receivable are periodically evaluated for collectability based on the credit history and the current financial condition of the counter party, and the known and inherent risks in the notes. Notes receivable are placed on nonaccrual status when they become 90 days past due and the customer has not made a payment in over 60 days. Upon suspension of the accrual of interest, interest income is subsequently recognized to the extent cash payments are received. Accrual of interest is resumed when notes are removed from non-accrual status. Notes receivable are charged against the allowance for credit losses when they are deemed to be uncollectible. As of March 31, 2019 and December 31, 2018, the allowance for uncollectible notes receivable was $266,813.

Inventory

Inventory is stated at the lower of cost or net realizable value with cost being determined on the average cost method. Work in progress and finished goods inventory includes an allocation for capitalized labor and overhead. The Company routinely evaluates the carrying value of inventory for slow moving and potentially obsolete inventory and, when appropriate, will record an adjustment to reduce inventory to its estimated net realizable value. As of March 31, 2019 and December 31, 2018, inventory reserves were $105,031.

Investments in Other Companies

Minority investments in other companies are accounted for under the cost method of accounting because the Company does not expect this amendmenthave the ability to exercise significant influence over the other companies’ operations. Under the cost method of accounting, investments in private companies are carried at cost and are only adjusted for other-than-temporary declines in fair value and distribution of earnings. For investments in public companies that have readily determinable fair values, the Company classifies its investments as available-for-sale, and accordingly records these investments at their fair values with unrealized gains and losses included as a separate component of stockholders’ equity and in total comprehensive income (loss). Upon sale or liquidation, realized gains and losses are included in the statements of operations.

The adoption of ASU 2016-01 requires investments in other companies that do not have readily determinable fair value be accounted for at cost minus impairment, if any, plus or minus changes resulting from observable price changes in orderly transactions for the identical or a similar investment of the same issuer. This standard was adopted on January 1, 2018, including all interim reporting periods within the fiscal year. The adoption of ASU 2016-01 did not have a material impact on the financial statements. Upon adoption, the Company has elected to utilize the cost minus impairment approach because the investment in TEC does not have a readily determinable fair value as of the reporting date. See Note 8. Collaboration Agreement with Related Party.

Management regularly evaluates the recoverability of its investment based on the investee company’s performance and financial position. During the three months ended March 31, 2019 and 2018, the Company did not recognize any impairment loss. Management regularly assesses the classification of its investments.

Property and Equipment

Property and equipment are carried at cost, net of depreciation. Gains or losses related to retirements or disposition of fixed assets are recognized in operations in the period incurred. Costs of normal repairs and maintenance are charged to expense as incurred, while betterments or renewals are capitalized. Depreciation commences at the time the assets are placed in service. Depreciation is provided using the straight-line method over the estimated economic lives of the assets or for leasehold improvements, over the shorter of the estimated useful life or the remaining lease term, which are summarized as follows:

Intangible assets

Intangible assets at March 31, 2019 are comprised of various patents. We compute amortization expense on the intangible assets using the straight-line method over the estimate remaining useful lives of 18 years.

Cost of Products Sold

Cost of products sold represents manufacturing costs, consisting of materials, labor and overhead related to finished goods and components. Cost of products sold does not include depreciation of fixed assets. Shipping costs incurred related to product delivery are included in cost of products sold.

Advertising Costs

Costs associated with advertising are expensed as incurred. Advertising expense was $119,403 and $139,381 for the three months ended March 31, 2019 and 2018, respectively. These costs include domestic and international tradeshows, website, and sales promotional materials.

Research and Development Costs

Research and development costs are expensed as incurred. Research and development costs primarily include expenses, including labor, directly related to research and development support. Research and development costs were $355,641 and $367,544 for the three months ended March 31, 2019 and 2018, respectively.

Legal Costs

Legal costs relating to loss contingencies are expensed as incurred. See Note 10.

Concentration of Credit Risk and Major Customers and Suppliers

Financial instruments that potentially subject the Company to concentrations of credit risk consist of cash and cash equivalents, certificates of deposit, accounts receivable and notes receivable.

The Company’s cash, cash equivalents and certificates of deposit are maintained with financial institutions with high credit standings and are FDIC insured deposits. The FDIC insures deposits according to the ownership category in which the funds are insured and how the accounts are titled. The standard deposit insurance coverage limit is $250,000 per depositor, per FDIC-insured bank, per ownership category. The Company had uninsured cash and cash equivalents of $1,138,137 and $2,014,987 as of March 31, 2019 and December 31, 2018, respectively.

Sales are typically made on credit and the Company generally does not require collateral. Management performs ongoing credit evaluations of its customers’ financial condition and maintains an allowance for estimated losses. Historically, the Company has experienced minimal charges relative to doubtful accounts.

The Company’s notes receivable are due from two counter parties and are unsecured. Management performs ongoing evaluations of the collectability of its notes receivable and maintains an allowance for estimated losses.

Historically, the Company primarily sells its products to United States federal and state agencies. For the three months ended March 31, 2019, one federal agency comprised 12% of total net sales. By comparison, for the three months ended March 31, 2018, one federal agency comprised 15%, and one commercial customer comprised 41% of total net sales, respectively.

As of March 31, 2019, one federal agency comprised 40% and one state agency comprised 14% of total accounts receivables. By comparison, as of December 31, 2018, one federal agency comprised 26% and one state agency comprised 20% of total accounts receivables.

Income Taxes

Deferred tax assets and liabilities are recorded based on the difference between the financial statement and the tax basis of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. The Company calculates a provision for income taxes using the asset and liability method, under which deferred tax assets and liabilities are recognized by identifying the temporary differences arising from the different treatment of items for tax and accounting purposes. In determining the future tax consequences of events that have been recognized in the financial statements or tax returns, judgment and interpretation of statutes are required.

In assessing realizable deferred tax assets, management assesses the likelihood that deferred tax assets will be recovered from future taxable income, and to the extent that recovery is not likely or there is insufficient operating history, a valuation allowance is established. The Company adjusts the valuation allowance in the period management determines it is more likely than not that net deferred tax assets will or will not be realized. After review of the deferred tax asset and valuation allowance in accordance with ASC 740, management determined that it is more likely than not that the Company will fully realize all of its deferred tax asset and no valuation allowance was needed as of March 31, 2019 and December 31, 2018.

As of March 31, 2019 and December 31, 2018, the Company did not recognize any assets or liabilities relative to uncertain tax positions. Interest or penalties, if any, will be recognized in income tax expense. Since there are no significant unrecognized tax benefits as a result of tax positions taken, there are no accrued penalties or interest. Tax positions are positions taken in a previously filed tax return or positions expected to be taken in a future tax return that are reflected in measuring current or deferred income tax assets and liabilities reported in the financial statements.

The Company reflects tax benefits, only if it is more likely than not that the Company will be able to sustain the tax return position, based on its technical merits. If a tax benefit meets this criterion, it is measured and recognized based on the largest amount of benefit that is cumulatively greater than 50% likely to be realized. Management does not believe that there are any uncertain tax positions at March 31, 2019 and December 31, 2018.

The Company is potentially subject to tax audits for its United States federal and Arizona, California, Florida, Georgia, Hawaii, Illinois, Massachusetts, Maryland, Michigan, North Dakota, New Hampshire, New Jersey, New York, Ohio, Idaho, South Carolina, Tennessee, Texas, Virginia, Washington, and West Virginia state income and excise tax returns for tax years between 2014 and 2019; however, earlier years may be subject to audit under certain circumstances. Tax audits by their very nature are often complex and can require several years to complete.

Impairment of Long-Lived Assets and Intangible Assets

Long lived assets, such as equipment, and intangible assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to estimated undiscounted future cash flows expected to be generated by the asset. If the carrying amount of an asset exceeds its estimated future cash flows, an impairment charge is recognized by the amount by which the carrying amount of the asset exceeds the fair value of the asset. Fair value is determined based on discounted cash flows or appraised values, depending on the nature of the asset. At March 31, 2019 and December 31, 2018, the Company concluded that there has been no indication of impairment to the carrying value of its long-lived assets. As such, no impairment has been recorded.

Stock Based Compensation

The Company measures the cost of awards of equity instruments based on the grant date fair value of the awards. The Company calculates the fair value of stock-based awards using the Black-Scholes-Merton option pricing valuation model, which incorporates various assumptions including volatility, expected term and risk-free interest rates. There were no grants of stock-based awards during the three months ended March 31, 2019 and 2018.

The expected term of the options is the estimated period of time until exercise and was determined using the SEC’s safe harbor rules, using an average of vesting and contractual terms, as we did not have sufficient historical experience of similar awards. The risk-free interest rate is based on the implied yield available on United States Treasury zero-coupon issues with an equivalent remaining term. The Company has not paid dividends in the past and does not plan to pay any dividends in the near future. The estimated fair value of stock-based compensation awards and other options is amortized to expense on a straight-line basis over the relevant vesting period. As share-based compensation expense recognized is based on awards ultimately expected to vest, it is reduced for estimated forfeitures. The Company has elected to recognize forfeitures as they occur rather than estimating them at the time of grant.

New Accounting Pronouncements

In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments – Credit Losses (Topic 326), which provides guidance on measuring credit losses on financial instruments. The amended guidance replaces current incurred loss impairment methodology of recognizing credit losses when a loss is probable with a methodology that reflects expected credit losses and requires a broader range of reasonable and supportable information to assess credit loss estimates. ASU 2016-13 is effective for us on January 1, 2020, with early adoption permitted on January 1, 2019. The Company is assessing what effect the provisions of 2016-13 will have on the financial statements.

In November 2018, the FASB issued ASU No. 2018-18, Collaborative Arrangements (Topic 808): Clarifying the Interaction between Topic 808 and Topic 606, which clarifies that certain transactions between participants in a collaborative arrangement should be accounted for under ASC 606 when the counterparty is a customer. In addition, Topic 808 precludes an entity from presenting consideration from a transaction in a collaborative arrangement as revenue from contracts with customers if the counterparty is not a customer for that transaction. This guidance will be effective for the Company beginning January 1, 2020. The Company is currently evaluating the impact of the adoption of 2018-18 on its financial statements.

NOTENote 2. NOTE RECEIVABLENotes Receivable

An unsecured promissory note was executed on March 23, 2018 by a customer converting theirits past-due trade receivable from the sale of goods and services in the amount of $400,906. This unsecured promissory note is due in full on or before February 2020. The note bears interest at the rate of ten percent (10%) per annum and requires installment payments of $20,000 principal and interest. Payments are due monthly and include late fees. The principal and accrued interest due monthly, including late fees.as of March 31, 2019 and December 31, 2018 was $369,286 and $374,034, respectively. At March 31, 2019 and December 31, 2018, the Company recorded an allowance against the note receivable balance in the amount of $266,813. The current portion of the remaining note receivable, isnet of allowance, collectible in one year or less with the remainderwas $40,598. The remaining portion of the note, separately classified as long-term.long-term was $61,875.

The Company accepted an unsecured convertible promissory note (the “Convertible Note”) from TEC, a related party, in the amount of $292,138 for a portion of their minimum royalty payment due as of May 31, 2018. The note bears interest at the rate of five percent (5%) per annum and contains a provision requiring remittance of not less than 20% of the net proceeds of any private or public offering of its securities in reduction of the Convertible Note. The note has a conversion right, at the sole discretion of the Company, to convert the outstanding balance of principal and accrued interest at any time for shares of common stock of TEC. Prior to the due date, the Company may elect to convert the Convertible Note for shares of common stock in TEC at a twenty-five percent (25%) discount to the price of shares sold to the public in a public offering in connection with a go-public transaction. The issuance of common stock upon conversion shall be made without charge to the Company. No allowancesfractional shares shall be issued upon conversion and in lieu of fractional shares, TEC will pay the Company the amount of any obligation that is not converted. Any unpaid balance of principal and accrued interest becomes due and collectible on the earlier of (i) August 1, 2019 (maturity date), or (ii) if declared due and payable in the event of Default. The note principal and accrued interest due as of March 31, 2019 and December 31, 2018 was $301,876 and $298,224, respectively. No reserve for doubtful accountscollectability has been recorded as of March 31, 2019 and December 31, 2018. See Note 8.

NOTENote 3. INVENTORYInventory

Inventory consisted of the following as of:

During 2018, the Company evaluated the useful life of its spare parts inventory. As a result of this evaluation, the Company classified $348,461 and $292,298 of spare parts as Other Assets, long-term on the Balance Sheet at March 31, 2019 and December 31, 2018, respectively.

NOTENote 4.Property and Equipment

Property and equipment consisted of the following as of:

Depreciation expense was $68,619$70,312 and $68,385$68,619 for the three months ended March 31, 2019 and 2018, respectively.

Note 5. Intangible Asset

Intangible asset consisted of the following as of:

Amortization expense was $1,481 and 2017,$0 for the three months ended March 31, 2019 and 2018, respectively.

Note 6. Leases

We lease approximately 37,729 rentable square feet of office and warehouse space from an unaffiliated third party for our corporate office, manufacturing, assembly, warehouse and shipping facility located at 7970 South Kyrene Road, Tempe, Arizona 85284. In addition, we lease approximately 4,529 rentable square feet of office and industrial space from an unaffiliated third party for our machine shop at 2169 East 5th St., Tempe, Arizona 85284 through March 2019. In April 2019 the Company relocated the machine shop from the Fifth St. location to 7910 South Kyrene Road, within the same business complex as our main office. The Company executed a lease amendment to add an additional 5,131 rentable square feet for the machine shop and extended its existing office lease through April 2024. The Company’s lease agreements do not contain any residual value guarantees, restrictive covenants or variable lease payments. The Company has not entered into any financing leases.

In addition to base rent, the Company’s lease generally provides for additional payments for other charges, such as rental tax. The lease includes fixed rent escalations. The Company’s lease does not include an option to renew.

The Company determines if an arrangement is a lease at inception. Operating leases are recorded in operating lease right of use assets, net, operating lease liability – short term, and operating lease liability – long-term on its condensed balance sheet.

Operating lease assets represent the Company’s right to use an underlying asset for the lease term and lease liabilities represent its obligation to make lease payments arising from the lease. Operating lease assets and liabilities are recognized at the commencement date based on the present value of lease payments over the lease term. As the Company’s leases do not provide an implicit rate, the Company uses its incremental borrowing rate based on the information available at commencement date in determining the present value of lease payments. The incremental borrowing rate used at adoption was 4.5%. Significant judgement is required when determining the Company’s incremental borrowing rate. The Company uses the implicit rate when readily determinable. Lease expense for lease payments are recognized on a straight-line basis over the lease term.

Effective January 1, 2019, the Company obtained a right-of-use asset in exchange for a new operating lease liability in the amount of $1,721,380 and derecognized $46,523 deferred rent for an adjusted operating lease right-of-use asset in the net amount of $1,674,857.

The balance sheet classification of lease assets and liabilities was as follows:

Future minimum lease payments as of March 31, 2019 under non-cancelable operating leases are as follows:

The Company had a deferred rent liability of $0 and $46,523 as of March 31, 2019 and December 31, 2018, respectively, relative to the increasing future minimum lease payments. Rent expense for the three months ended March 31, 2019 and 2018 was $89,139 and $87,345, respectively.

NOTE 5.Note 7. Accrued Expenses

Accrued compensation and related costs consisted of the following as of:

Accrued expenses and other current liabilities consisted of the following as of:

NOTE 6.Note 8. Collaboration Agreement with Related Party

On January 16, 2015, the Company entered into a Co-Venture Agreement (the “Co-Venture Agreement”) with Modern Round, LLC (“Modern Round”MR”), a wholly ownedwholly-owned subsidiary of Modern Round Entertainment Corporation (“MREC”),TEC, a related party. MREC is a restaurant and entertainment concept centered on its indoor virtual reality shooting experience. The Co-Venture Agreement provides Modern Round access to certain software and equipment relating to the Company’s products in exchange for royalties.

The Company received 1,365,789 units, representing a 5% ownership interest in Modern Round on the date of the Co-Venture Agreement. The Company recorded the investment at the estimated fair value of the units and which were valued at $0.10 per unit based on Modern Round’s other membership unit sales.The Co-Venture Agreement also provides the Company with conditional warrants to purchase an additional 5% of Modern Round as of the date of that agreement, at an exercise price of $0.25.

On April 14, 2015, Modern Round issued the Company an option to purchase 125,000 units of Modern Round. The option fully vested and became exercisable on the date of grant at an exercise price equal to $0.50 per unit and terminates on the tenth anniversary of the date of grant, if not earlier pursuant to the terms of the option.

On December 31, 2015, Modern Round merged with a subsidiary of MREC pursuant to a Plan of Merger (the “Merger Agreement”) andeach unit of Modern Round issued and outstanding as of the effective time of the merger automatically converted into the right to receive approximately 1.2277 shares of MREC common stock. As a result of the Merger Agreement, the Company held 1,676,748 shares of MREC common stock, options to purchase 153,459 shares of MREC common stock at an exercise price of $0.41 per share, and conditional warrants to purchase 1,676,747 shares of MREC common stock at an exercise price of $0.20 per share.

On October 25, 2016, the Company exercised the conditional warrant and purchased 1,676,747 shares of MREC common stock for $335,349, resulting in the Company’s aggregate holdings of MREC increasing to3,353,495 common shares representing approximately 8.9% of the issued and outstanding common shares of MREC. The MREC equity securities have been recorded as a cost method investment as the Company does not have the ability to exercise significant influence over MREC.

As part of the Co-Venture Agreement, the Company granted 459,691 conditional warrants to affiliates of MREC to purchase 5% of the Company’s capital stock on a fully diluted basis as of the date of the Co-Venture Agreement. The conditional warrants are exercisable commencing at the earlier of the first anniversary of MREC opening its first range facility utilizing VirTra technology or after MREC opening its first range facility utilizing VirTra technology and the payment to the Company of all required U.S./Canada minimum royalty payments during the first 12-month period. MREC opened its first location on June 1, 2016.

The Company also granted 459,691 of additional conditional warrants to affiliates of MREC to purchase another 5% of the Company’s capital stock on a fully diluted basis as of the Agreement date. These conditional warrants are exercisable any time subsequent to MREC’s payment of $2.0 million in cumulative license fees (royalty). Both conditional warrant issuances are for a period of five years with an exercise price of $2.72.

These conditional warrants were considered contingent consideration for the equity investment as they did not meet the definition of a derivative under ASC 815. Thus, the contingent consideration was not included in the cost of the equity investment until the contingency was resolved and the warrant became exercisable.

On June 1, 2017, the warrants related to the opening of the facility vested and became exercisable at an exercise price equal to $2.72 per unit. On June 1, 2017, these warrants were recorded at the Black-Scholes Merton fair value using annual volatility of 91.5%, an annual risk-free rate of 1.76%, expected term of five years and a fair value of $4.28 a share for a fair value of $1,516,246 as an additional investment in MREC. As of June 1, 2017, the total investment in MREC approximated $1,988,800. During the year ended December 31, 2017, the Company recognized an impairment loss of $613,241 and is accounting for the investment utilizing the cost minus impairment approach.

On July 28, 2017, the Company received Notices of Exercise for all 459,691 warrants then exercisable (the “Tranche 1 Warrants”) from all the MREC affiliate holders electing to purchase warrants pursuant to the terms of the net exercise provision set forth in the Warrant Agreement. Mr. Saltz (a member of our Board of Directors who is also Chairman of the Board of Directors of MREC, as well as a majority stockholder of MREC) held 398,122 of the Tranche 1 Warrants prior to the assignment of the warrants to MREC on August 11, 2017. Under the net exercise provision, in lieu of exercising the warrant for cash, the holder may elect to receive shares equal to the value of the warrant (or the portion thereof being exercised) by surrender of the warrant and the Company issuing to holder the number of computed shares. Using the July 28, 2017 OTCQX closing price at $4.36 as fair value and the $2.72 warrant exercise price, upon conversion the 459,691 warrants entitled the holders to receive 172,912 shares of the Company’s Common Stock without payment of any additional consideration pursuant to the net exercise terms of the Tranche 1 Warrants that are currently exercisable.

Effective August 16, 2017, the Company and the MREC affiliate holders entered into an agreement (the “Warrant Buyout Agreement”) whereby the Company acknowledged that the affiliates of MREC had assigned the Tranche 1 Warrants to MREC and the Company agreed to repurchase them at a price of $3.924 per share of Common Stock issuable by the Company pursuant to the net exercise terms of the Warrants for a total of $678,505.

In addition, the Company agreed to repurchase from MREC an additional 459,691 warrants held by MREC that are not currently exercisable (the “Tranche 2 Warrants”). Mr. Saltz held 364,122 of the Tranche 2 Warrants prior to their assignment to MREC on August 11, 2017. The Warrant Buyout Agreement amended the Tranche 2 Warrants to provide for the immediate exercise on a net exercise basis of 24,208 shares of the Company’s Common Stock. The aggregate purchase price for the Tranche 2 Warrants is $94,990 based on a price of $3.924 per share of Common Stock issuable on a net exercise basis and based on 24,208 shares of the Company’s Common Stock. The aggregate purchase price of the Tranche 1 Warrants and the Tranche 2 Warrants was $773,495.

In addition, on August 16, 2017, we entered into an amendment to the Co-Venture Agreement to permit MREC to sublicense the VirTra Technology to third party operators of stand-alone location-based entertainment companies. MREC agreed to pay us royalties for any such sublicenses in an amount equal to 10% of the revenue paid to MREC in cases where MREC pays for the cost of the equipment for such location or 14% of the revenue paid to MREC in cases where it does not pay for the cost of the equipment.

The Co-Venture Agreement grants MRECTEC an exclusive non-transferrable license to use the Company’s technology and certain equipment solely for use at locations to operate the concept, as defined in the Co-Venture Agreement. The license would become non-exclusive if the first U.S. location is not opened within 24 months of the effective date and at least one location is opened outside the U.S. and Canada within five years of the Co-Venture Agreement date, the respective milestone dates. Throughout the duration of the Co-Venture Agreement, MRECTEC will pay the Company a royalty based on gross revenue, as defined and subject to certain minimum royalties commencing with the first twelve-month period subsequent to the respective milestone date of June 1, 2017. IfUnder the terms of the original agreement, if the total royalty payments for locations in the United States and Canada together do not total at least the minimum royalty amount specified in the agreement, MRECTEC may pay to VirTra the difference between the amount of total royalty payments and the minimum specified in the agreement to maintain exclusivity.

On August 16, 2017, the Company entered into the first amendment to the Co-Venture Agreement to permit TEC to sublicense the VirTra Technology to third party operators of stand-alone location-based entertainment companies. TEC agreed to pay the Company royalties for any such sublicenses in an amount equal to 10% of the revenue paid to TEC in cases where TEC pays for the cost of the equipment for such location or 14% of the revenue paid to TEC in cases where it does not pay for the cost of the equipment.

In April 2018, Modern Round effected a 1 for 12,000 reverse stock split, followed by a 2,000 for 1 forward stock split completed in November 2018. As a result, the Company holds, as of March 31, 2019 and December 31, 2018, 560,000 shares of TEC common stock representing approximately 5.9% of the issued and outstanding common shares of TEC. The Company recognized $45,968recorded its investment at cost minus impairment as of March 31, 2019 and $43,812December 31, 2018, at $1,120,000.

On July 23, 2018, the Company entered into the second amendment to the Co-Venture Agreement with TEC to (i) confirm the minimum royalty deficiency benefit due for license fee income (royalties)the royalty period ended May 31, 2018; (ii) establish payment terms for the minimum royalty deficiency benefit due, to include both cash and promissory note payment; (iii) clarify the exclusivity provisions of the Agreement; and (iv) amend the minimum royalty calculations to only TEC branded facilities. For the three months ended March 31, 2019 and 2018, respectively, the Company recognized license fee income (royalties) from TEC of $39,637 and 2017, respectively.$43,788.

In addition, at March 31, 2019, the Company holds a warrant to purchase 25,577 shares of TEC common stock, adjusted for the 1 for 12,000 reverse stock split and the 2,000 for 1 forward stock split, at an exercise price of $2.4436 per share, as adjusted. This warrant became exercisable on the date of grant of April 14, 2015 and expires on the tenth anniversary of the date of grant, if not earlier pursuant to the terms of the option.

Note 7.9. Related Party Transactions

During the three months ended March 31 2017, the Company issued 13,750 stock options to the CEO, COO and members of the Board of Directors to purchase shares of common stock at a weighted average purchase price of $5.03. All options are exercisable within seven years of grant date. No stock options were granted during the three months ended March 31, 2018.

During the three months ended March 31, 2017, the Company redeemed stock options from the CEO and COO that had previously been awarded. No such redemptions occurred during the three months ended March 31, 2018. The Company recorded additional compensation expense as follows:

Mr. Mitch Saltz, who is a member of the Company’sour Board of Directors, is also Chairman of the Board of Directors andof TEC, as well as, a majority stockholder of MREC.TEC. The Company has entered into the Co-Venturea Co-venture Agreement with MRECTEC as disclosed in Note 5. Through the terms of that agreement,8. In addition, the Company owns 3,353,495560,000 shares of MRECTEC common stock representing approximately 9.3%5.9% of the issued and outstanding shares of MRECTEC common stock. The Company recognized $39,637 and $43,788 for license fees (royalties) for the three months ended March 31, 2019 and 2018, respectively, pursuant to the terms of the Co-Venture Agreement. As of March 31, 2019 and December 31, 2018, TEC had accounts receivable balances outstanding of $14,190 and $16,743, respectively.

Mr. Saltz hasRichardson, who is a beneficial ownershipmember of our Board of Directors, is also acting CEO of Natural Point, Inc., a vendor of the Company. For the three months ended March 31, 2019 and 2018, the Company purchased specialized equipment from Natural Point in the amount of $38,352 and $52,328, respectively. As of March 31, 2019, the Company had accounts payable balance outstanding with Natural Point of less than 1%$2,467, and MREC has 0% ownership inas of December 31, 2018, the Company.Company had a prepaid balance outstanding with Natural Point of $1,020.

Note 8.10. Commitments and Contingencies

The Company’s operating lease obligations relate to the leasing of the Company’s corporate office space located at 7970 South Kyrene Road, Tempe, Arizona 85284, which expires in April 2019, unless renewed and the leasing of the machine shop building located at 2169 East Fifth St., Tempe, Arizona 85284, which expires in September 2018, unless renewed.

Future minimum lease payments under non-cancelable operating leases are as follows:

The Company has a deferred rent liability of $63,028 and $75,444 as of March 31, 2018 and December 31, 2017, respectively, relative to the increasing future minimum lease payments. Rent expense was $87,345 and $97,391  for the three months ended March 31, 2018 and 2017, respectively.

General or Threatened Litigation

From time to time, the Company is notified of threatened litigation or that a claim is being made against it. AsThe Company evaluates contingencies on an on-going basis and has established loss provisions for matters in which losses are probable and the amount of loss can be reasonably estimated. In June 2018, the Company has initiated a declaratory judgment action in the Superior Court of the State of Arizona. A former customer has raised allegations of breach of contract and breach of warranty and the Company seeks relief and clarification from the Superior Court regarding the allegations and the Company’s obligations under the contract with the former customer. Management believes that the declaratory judgment action will not have a material adverse effect on our results of operations and the Company will vigorously defend against any allegations raised by the former customer. The Company has established a probable and estimated loss contingency of $76,250 and $40,000 as of March 31, 2019 and December 31, 2018, respectively (also see Note 12 Subsequent Events).

Employment Agreements

On April 2, 2012, the Company entered into three-year Employment Agreements with its Chief Executive Officer and Chief Operating Officer that call for base annual salaries of $195,000 and $175,000, respectively, subject to cost of living adjustments, and contain automatic one-year extension provisions. These contracts have been renewed annually and have been adjusted based on the same percentage increase approved for Company-wide cost-of-living adjustments.

Profit Sharing

VirTra provides a discretionary profit-sharing program that pays out a percentage of company profits each year as a cash bonus to active and eligible employees. The cash payment is typically split into two equal payments and distributed pro-rata to employees in April and October of the following year after the completion of the annual financial statement issuance date, there were no claims or pending litigation.audit. For the three months ended March 31, 2019 and 2018, the amount charged to operations was $0 due to net loss in the respective periods.

Note 9.11. Stockholders’ Equity

Authorized Capital

Common Stock.

Authorized Shares. The Company is authorized to issue 60,000,000 shares of Common Stock, par value $0.0001 per share (the “Common Stock”), of which (a) 50,000,000 shares shall be Common Stock, par value $0.0001, (b) 2,500,000 shares shall be Class A Common Stock, par value $0.0001 per share (the “Class A Common Stock”), and (c) 7,500,000 shares shall be Class B Common Stock, par value $0.0001 per share (the “Class B Common Stock”). No Class A or Class B Common Stock has been issued.

Rights and Preferences. Voting Rights. Except as otherwise required by the Nevada Revised Statues or as provided by or pursuant to the provisions of the Articles of Incorporation:

(i) Each holder of Common Stock shall be entitled to one (1) vote for each share of Common Stock held of record by such holder. The holders of shares of Common Stock shall not have cumulative voting rights.

(ii) Each holder of Class A Common Stock shall be entitled to ten (10) votes for each share of Class A Common Stock held of record by such holder. The holders of shares of Class A Common Stock shall not have cumulative voting rights.

(iii) The holders of Common Stock and Class A Common Stock shall vote together as a single class on all matters on which stockholders are generally entitled to vote.

(iv) The holders of Class B Common Stock shall not be entitled to vote on any matter, except that the holders of Class B Common Stock shall be entitled to vote separately as a class with respect to amendments to the Articles of Incorporation that increase or decrease the aggregate number of authorized shares of such class, increase or decrease the par value of the shares of such class, or alter or change the powers, preferences, or special rights of the shares of such class so as to affect them adversely.

Preferred Stock

Authorized Shares. The Company is authorized to issue 2,500,000 shares of preferred stock, par value $0.0001 per share (the “Preferred Stock”).

Rights and Preferences. The Board of Directors is authorized at any time, and from time to time, to provide for the issuance of shares of Preferred Stock in one or more series, and to determine the designations, preferences, limitations and relative or other rights of the Preferred Stock or any series thereof.

Stock Repurchase

On October 25, 2016 the Company’s Board of Directors authorized the repurchase of up to $1,000,000 of its common stock under the U.S. Securities and Exchange Commission (“SEC”) rule 10b-18. Purchases made pursuant to this authorization will be made in the open market, in privately negotiated transactions, or pursuant to any trading plan that may be adopted in accordance with the Rule 10b-18. The timing, manner, price and amount of any repurchases will be determined by the Company in its discretion and will be subject to economic and market conditions, stock price, applicable legal requirements and other factors. On January 9, 2019, VirTra’s Board of Directors authorized an additional $1 million be allocated for the repurchase of VirTra’s stock under the existing 10b-18 plan.

Treasury Stock

During the three months ended March 31, 2019, the Company purchased 68,239 additional treasury shares at an average cost of $3.82 per share. As of December 31, 2018, the Company held 10,707 treasury shares at an average cost of $3.48 per share. As of March 31, 2019, all 78,946 treasury shares outstanding had been cancelled and returned to shares authorized.

Non-qualified Stock Options

The Company has periodically issuesissued non-qualified incentive stock options to key employees, officers and directors under a Stock Option Compensationstock option compensation plan approved by the Board of Directors in 2009. Terms of the option grants are at the discretion of the Board of Directors but historically have beenand are generally seven years. DuringUpon the three months endedexercise of these options, the Company expects to issue new authorized shares of its common stock. The following table summarizes all non-qualified stock options as of:

The Company did not have any non-vested stock options outstanding as of March 31, 2017, the Company issued 13,7502019. There were 10,000 non-vested stock options with aas of March 31, 2018 that vested in October 2018. The weighted average exercise price of $5.20 per share. No stockcontractual term for options were granted during the three months endedoutstanding and exercisable at March 31, 2018.2019 and 2018 was 7 years.

2017 Equity Incentive Plan

On August 23, 2017, andour board approved, subject to stockholder approval at the annual meeting of stockholders on October 6, 2017, respectively, the board of directors and shareholders approved the 2017 Equity Incentive Plan (the “Equity Plan”). The Equity Plan is intended to make available incentives that will assist us to attract, retain and motivate employees, including officers, consultants and directors. We may provide these incentives through the grant of stock options, stock appreciation rights, restricted stock, restricted stock units, performance shares and units and other cash-based or stock-based awards.

A total of 1,187,500 shares of our common stock was initially authorized and reserved for issuance under the Equity Plan. This reserve will automatically increaseincreased on January 1, 2018, and will increase each subsequent anniversary through 2027, by an amount equal to the smaller of (a) 3% of the number of shares of common stock issued and outstanding on the immediately preceding December 31, or (b) an amount determined by the board. On January 1, 2018, the amount authorized and reserved increased to 1,424,630 shares.

Awards may be granted under the Equity Plan to our employees, including officers, directors or consultants or those of any present or future parent or subsidiary corporation or other affiliated entity. All awards will be evidenced by a written agreement between us and the holder of the award and may include any of the following: stock options, stock appreciation rights, restricted stock, restricted stock units, performance shares and performance units and cash-based awards and other stock-based awards. To date,

As of March 31, 2019 and December 31, 2018, there have beenwere no awardsoptions issued under this plan.

The assumptions used for the periods ended March 31, 2018 and 2017, and the resulting estimates of weighted-average fair value per share of options granted during those periods, are as follows:

Note 12. Subsequent Events

In April, 2019, the Company entered into settlement discussions with a former customer pertaining to ongoing legal proceedings (see Note 10 General or Threatened Litigation). On April 30, 2019 the Company’s settlement offer of $76,250 was verbally accepted and a formal settlement agreement is in process. The following table summarizes all compensation plan stock optionsagreement does not constitute an admission of any unlawful conduct or wrongdoing. The Company had established a probable and estimated loss contingency of $40,000 as of March 31:

Stock compensation expense was $69,163 for the three months ended March 31, 2017. No such expense occurred during the three months ended MarchDecember 31, 2018. There are 10,000 non-vested stock optionsThe Company accrued the full amount of the settlement liability as of March 31, 2018 that will vest in October 2018.2019.

In April, 2019, the Company purchased 14,450 shares of treasury stock at an average cost of $3.97 per share.

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

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our unaudited financial statements and related notes included in this Quarterly Report on Form 10-Q and the audited financial statements and notes thereto as of and for the year ended December 31, 20172018 and the related Management’s Discussion and Analysis of Financial Condition and Results of Operations, both of which are contained in the Company’s Annual Report on Form 10-K for the year ended December 31, 2018, filed with the Securities and Exchange Commission (the “SEC”) on March 30, 2018.April 1, 2019.

Forward-Looking Statements

Forward-Looking Statements

The information in this discussion contains forward-looking statements and information within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, (the “Exchange Act”), which are subject to the “safe harbor” created by those sections. The words “anticipates,” “believes,” “estimates,” “expects,” “intends,” “may,” “plans,” “projects,” “will,” “should,” “could,” “predicts,” “potential,” “continue,” “would” and similar expressions are intended to identify forward-looking statements, although not all forward-looking statements contain these identifying words. We may not actually achieve the plans, intentions or expectations disclosed in our forward-looking statements and you should not place undue reliance on our forward-looking statements. Actual results or events could differ materially from the plans, intentions and expectations disclosed in the forward-looking statements that we make. The forward-looking statements are applicable only as of the date on which they are made, and we do not assume any obligation to update any forward-looking statements. All forward-looking statements in this Form 10-Q are made based on our current expectations, forecasts, estimates and assumptions, and involve risks, uncertainties and other factors that could cause results or events to differ materially from those expressed in the forward-looking statements. In evaluating these statements, you should specifically consider various factors, uncertainties and risks that could affect our future results or operations. These factors, uncertainties and risks may cause our actual results to differ materially from any forward-looking statement set forth in this quarterly report on Form 10-Q. You should carefully consider these risk and uncertainties described and other information contained in the reports we file with or furnish to the SEC before making any investment decision with respect to our securities. All forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by this cautionary statement.

OVERVIEWBusiness Overview

We develop, sell and support use of force training and marksmanship firearms training systems and accessories for law enforcement, military, educational or civilian use. Our simulators use software, hardware and content to create uniquely effective and realistic training that does not require live ammunition or less-than-lethal munitions, which can both save money and provide certain training capabilities unavailable to live fire exercises. We have developed a higher standard in simulation training including capabilities such as: multi-screen, video-based scenarios, unique scenario authoring ability, superior training scenarios, the patented Threat-Fire™ shoot-back system, powerful gas-powered simulated recoil weapons, and more.

The VirTra simulator allows marksmanship and realistic scenario-based training to take place on a daily basis without the need for a shooting range, protective equipment, role players, safety officers, or a scenario-based training site. The simulator also allows students to receive immediate feedback from the instructor without the potential for sustaining injuries by the instructor or the students. The instructor is able to teach and re-mediate critical issues, while placing realistic stress on the students due to the realism and safe training environment created by the VirTra simulator.

We also are engaged in licensing our technology to Modern Round Entertainment CorporationThat’s Eatertainment Corp. (“MREC”TEC”), a developer and operator of a combined dining and entertainment concept centered on an indoor shooting experience.

Simulator Business Strategy

We have four main customer groups, namely, law enforcement, military, educational (includes colleges and police academies) and civilian. These are very different markets and require different sales and marketing programs as well as personnel. Our focus is to expand the market share and scope of our training simulators sales to these identified customer groups by pursuing the following key growth strategies:

Product Offerings

Our simulator products include the following:

RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED MARCH 31, 2018 versus 2017

Revenues.Revenues were $3,244,190Results of operations for the three months ended March 31, 2019 and March 31, 2018

Revenues.Revenues were $3,051,338 for the three months ended March 31, 2019 compared to $4,209,288$3,288,792 for the same period in 2017,2018, a decrease of $965,098 net of discounts and allowance for bad debt. The decrease in revenue was primarily$237,454, or 7%, due to lower deliverydecreases in recognized revenue of simulator productsales and accessories, of which simulator revenue decreased by $715,310 and accessories revenue decreased by $379,131, partially offset by increases in recurring extended warranty and other revenue of $129,343 for scenarios, warranties and licensing fees, net of discounts and bad debt.revenues.

Cost of Sales.Cost of sales was $1,026,156were $1,250,869 for the three months ended March 31, 20182019 compared to $1,778,945$1,026,156 for the same period in 2017. A proportional decrease was2018, an increase of $224,713, or 22%, primarily due to increased direct material costs resulting from the reduction in revenue resulting in reduced direct materials, direct travel,type and direct production supplies. A non-proportional reduction inquantity of systems sold. The cost of sales also resulted in reduced costson a dollar basis varies from the Company’s increased use of its own machine shop for the manufacturing of systemquarter-to-quarter primarily due to sales volume and product components, and reduction in materials costs duemix but tends to favorable supplier pricingremain consistent as a percentage of both raw materials and systems components in 2018total revenue, when compared to the same period in 2017.annually.

Gross Profit.Gross profit was $2,218,034$1,800,469 for the three months ended March 31, 20182019 compared to $2,430,343$2,262,636 for the same period in 2017 with2018, a decrease of $462,167, or 20%. The gross profit margin of 68%was 56.3% for the three months ended March 31, 2018 compared to 58%2019 and 68.7% for the same period in 2017.2018. The decrease in gross profit improvement was a result of a reductionprimarily due to differences in the costcustomer-type, product mix and quantity of sales expense, as well as, the revenue of higher margin product mix.systems, accessories and services sold.

Operating Expenses. OperatingNet operating expense was $2,376,247$2,257,572 for the three months ended March 31, 20182019 compared to $1,956,688$2,420,849 for the same period in 2017, an increase2018, a decrease of $419,559.$163,277, or 7%. The decrease was due to reduced SG&A increases resulted from 1) expanding staffing levels and increases in payroll and benefit costs; and 2)costs for labor, benefits, professional services, increases in annual audit, accounting and legal fees, public company expense, R&D expenditures, and other fees, licenses, subscriptions and professional services. The year-over-year increase in professional services included approximately $132,000 of non-recurring legal and public company expense directly related to the Company’s qualification and completion of its Regulation A+ offering, completion of SEC registration, and Nasdaq listing.bad debt expense.

Income Tax Expense.The amount of income tax expense is a function of our pre-tax income. Deferred tax assets reflect current statutory income tax rates in effect for the period in which the deferred tax assets are expected to be realized. As changes in tax laws or statutory tax rates are enacted, deferred tax assets and liabilities are adjusted through the provision of income taxes. As of March 31, 2018, the Company does not believe that there are any uncertain tax positions and does not believe a valuation allowance was necessary. For the three months ended March 31, 2018 the Company recognized an income tax benefit of $29,194 compared to income tax expense of $78,000 for the same period in 2017, a decrease of $107,194. This decrease was primarily due to the net loss in the current period compared to net income in the prior period. 

Net Income/Operating Loss.NetOperating loss was $85,787$457,103 for the three months ended March 31, 20182019 compared to net income of $401,888$158,213 for the same period in 2017.2018, an increase of $298,890, or 189%, resulting from decreased sales, increased cost of sales and increased operating expenses.

Provision for Income Tax Benefit.Provision for income tax benefit was $107,000 for the three months ended March 31, 2019 compared to $29,194 for the same period in 2018, an increase of $77,806, or 267%. The increase resulted from the federal tax rate being applied to the increased net operating loss, resulting in additional deferred tax asset.

Other Income.Other income net of other expense was $37,201 for the three months ended March 31, 2019 as compared to $43,232 for the same period in 2018, a decrease of $6,031, or 14%, resulting from a decrease in netnon-recurring miscellaneous income resulted from decreases in revenue, partially offset by a similar increase in interest income.

Net Loss.Net loss was $312,902 for the three months ended March 31, 2019 compared to $85,787 for the same period in 2018, an increase in the gross margin and increases in operating expenses as notedof $227,115, or 265%, related to each respective section discussed above.

Adjusted Earnings Before Interest, Taxes, Depreciation and AmortizationAmortization.

Explanation and Use of Non-GAAP Financial Measures:

Adjusted earningsEarnings before interest, income taxes, depreciation and amortization and before other non-operating costs and income (“Adjusted EBITDA”) is aand adjusted EBITDA are non-GAAP financial measure.measures. Adjusted EBITDA also includes non-cash stock option expense. Other companies may calculate Adjustedadjusted EBITDA differently. The Company calculates its Adjustedadjusted EBITDA to eliminate the impact of certain items it does not consider to be indicative of its performance and its ongoing operations. Adjusted EBITDA is presented herein because management believes the presentation of Adjustedadjusted EBITDA provides useful information to the Company’s investors regarding the Company’s financial condition and results of operations and because Adjustedadjusted EBITDA is frequently used by securities analysts, investors and other interested parties in the evaluation of companies in the Company’s industry, several of which present EBITDA and a form of Adjustedadjusted EBITDA when reporting their results. Adjusted EBITDA has limitations as an analytical tool and should not be considered in isolation or as a substitute for analysis of the Company’s results as reported under U.S. GAAP. Adjusted EBITDA should not be considered as an alternative for net (loss) income, cash flows from operating activities and other consolidated income or cash flowsflow statement data prepared in accordance with U.S. GAAP or as a measure of profitability or liquidity. A reconciliation of net incomeloss to Adjustedadjusted EBITDA is provided in the following table:

Liquidity and Capital Resources

Resources.Liquidity is the ability of an enterprise to generate adequate amounts of cash to meet its needs for cash requirements. The Company had $4,517,620$1,286,578 and $5,080,445 in$2,500,381 cash and cash equivalents as of March 31, 20182019 and December 31, 2017,2018, respectively. The working capital was $5,292,016Company also held certificates of deposits with maturities of less than six months, which are recorded as short-term investments, totaling $3,290,000 and $5,710,483$3,490,000 as of March 31, 20182019 and December 31, 2017,2018, respectively. Working capital was $5,546,819 and $6,769,068 as of March 31, 2019 and December 31, 2018, respectively.

Net cash used by operating activities was $900,598 and $395,335 for the three months ended March 31, 2019 and 2018, and net cash provided by operating activities was $955,017 for the three months ended March 31, 2017,respectively, resulting from a decreasean increase in net income and significantloss partially offset by changes in accounts receivable, unbilled revenue, inventory, prepaid expense and other current assets, accounts payable and other accrued expenses.working capital.

Net cash used in investing activities was $167,490$52,363 and $46,775$167,490 for the three months ended March 31, 2019 and 2018, respectively. Investing activities in 2019 consisted of purchases and 2017, respectively, resulting from an increaseredemptions of certificates of deposits, purchase of intangible asset, purchases and sales of property and equipment, compared to investing activities in 2018 consisted entirely of purchases of property and equipment.

Net cash used in financing activities was $48,500$260,842 and $0 for the three months ended March 31, 2017,2019 and 2018, respectively. Financing activities in 2019 consisted of repurchases of treasury stock.

Backlog

The Company defines backlog as the accumulation of bookings for product and services from contracts that have been signed but remain undelivered, or for which delivery is scheduled in a future quarter, resulting fromin revenues that have not been earned and will be realized in a future period. Backlog also includes extended warranty agreements that will generally be realized as revenue on a straight-line basis over the cancellationterm of stock options  . No cash was used in financing activities duringthe agreement.

The Company received new signed bookings totaling $5.3 million for the three months ended March 31, 2018.2019, and ended the quarter with backlog of approximately $9.0 million. For the three months ended March 31, 2018, the Company received booking totaling $8.6 million and ended the quarter with a backlog of approximately $8.3 million.

Management estimates the majority of the new bookings received in the first quarter of 2019 will be converted to revenue in 2019. Management’s estimates on the conversion of backlog are based on current contract delivery dates but contract terms and conditions are subject to modification and are routinely changed at the request of the customer.

Cash Requirements

Our management believes that our current capital resources will be adequate to continue operating ourthe company and maintaining our current business strategy for more than 12 months.

Backlog

The Company’s backlog consistsmonths from the filing of bookings for whichthis Annual Report. We are, however, open to raising additional funds from the capital markets, at a signed contract is in place but delivery is scheduled for a future date or has not yet been scheduled and revenue has not been earned or recognized. Backlog includes all productsfair valuation, to expand our product and services including extended warranties. In the quarter ended March 31, 2018 the Company received new signed bookings totaling $8.6 millionoffered, to enhance our sales and marketing efforts and effectiveness, and to aggressively take advantage of which $247,000 was for extended warranties. Management estimates the majority (over 50%) of the bookings received in the first quartermarket opportunities. There can be no assurance, however, that additional financing will be convertedavailable to revenue overus when needed or, if available, that it can be obtained on commercially reasonable terms. If we are not able to obtain the next six-month timeframe, while the balance may take longer to convert, such as extended warranties, which will convert to revenueadditional financing on a straight-linetimely basis, over the term of the warranty period ranging between 1-4 years. Management estimates are based on the current contract delivery dates however, contract termsif and conditions are subjectwhen it is needed, we will be forced to modificationscale down our plans for expanded marketing and are routinely changed at the request of customers. Revenue recognized in the current period is $3.2 million. As of March 31, 2018, the Company’s backlog was approximately $8.3 million.sales efforts.

CRITICAL ACCOUNTING POLICIES

We have identified the following policies below as critical to our business and results of operations. Our reported results are impacted by the application of the following accounting policies, certain of which require management to make subjective or complex judgments. These judgments involve making estimates about the effect of matters that are inherently uncertain and may significantly impact quarterly or annual results of operations. For all of these policies, management cautions that future events rarely develop exactly as expected, and the best estimates routinely require adjustment. Specific risks associated with these critical accounting policies are described in the following paragraphs.

Basis of Presentation and Use of EstimatesCritical Accounting Policies

Our discussion and analysis of our financial condition and results of operations are based on our condensed financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”), unless otherwise noted.GAAP. The preparation of our condensed financial statements in conformity with GAAP requires managementus to make estimates and assumptionsjudgments that affect the reported amounts of assets, liabilities, revenue, expenses, and liabilities andrelated disclosure of contingent assets and liabilities asliabilities. On an ongoing basis, we evaluate our estimates, including those related to areas that require a significant level of the datejudgment or are otherwise subject to an inherent degree of the financial statements and the reported amounts of revenues and expenses during the reporting period.uncertainty. Significant accounting estimates in these financial statements include valuation assumptions for share-based payments, allowance for doubtful accounts and notes receivable, inventory reserves, accrual for warranty reserves, the carrying value of long-lived assets, income tax valuation allowances, and the carrying value of cost basis investments.investments, and the allocation of the transaction price to the performance obligations in our contracts with customers. We base our estimates on historical experience, our observance of trends in particular areas, and information or valuations and various other assumptions that we believe to be reasonable under the circumstances and which form the basis for making judgments about the carrying value of assets and liabilities that may not be readily apparent from other sources. Actual resultsamounts could differ significantly from those estimates.

Fair Valueamounts previously estimated. For a discussion of our critical accounting policies, refer to Part I, Item 7, “Management’s Discussion and Analysis of Financial Instruments

The fair valueCondition and Results of financial instruments approximates their carrying values at March 31, 2018 and December 31, 2017 due to their short maturities. These financial instruments consist of cash and cash equivalents, accounts receivable, accounts payable, and accrued liabilities.

Cash and Cash Equivalents

We consider all highly liquid investments with a maturity of 90 days or less at the time of purchase to be cash equivalents.

Accounts Receivable and AllowanceOperations” in our annual report on Form 10-K for Doubtful Accounts

We recognize an allowance for losses on accounts receivable based on an analysis of historical bad debt experience, current receivables aging, and expected future write-offs, as well as an assessment of specific identifiable customer accounts considered at risk or uncollectible. Accounts receivable are charged off after all reasonable collection efforts have been taken. As of March 31, 2018, and December 31, 2017, we maintained an allowance for doubtful accounts of $18,249 and $12,290, respectively.

Inventories

Inventories are stated at the lower of cost or market with cost being determined on the average cost method. Work in progress and finished goods inventory includes an allocation for capitalized labor and overhead. The Company routinely evaluates the carrying value of inventory and provides reserves when appropriate to reduce inventory to the lower of cost or market to reflect estimated net realizable value. As of March 31, 2018, and December 31, 2017, the Company maintained reserves of $105,031.

Investments in Other Companies

Minority investments in other companies are accounted for under the cost method of accounting because we do not have the ability to exercise significant influence over the companies’ operations. Under the cost method of accounting, investments in private companies are carried at cost and are only adjusted for other-than-temporary declines in fair value and distribution of earnings. Management regularly evaluates the recoverability of its investment. During the year ended December 31, 2017, we recognized an impairment loss of $613,241. During2018. Management believes that there have been no changes in our critical accounting policies during the periodthree months ended March 31, 2018, the Company did not recognize any additional losses due to other-than-temporary declines of the value of the investments.

Property and Equipment

Property and equipment are carried at cost, net of depreciation. Gains or losses related to retirements or disposition of fixed assets are recognized in operations in the period incurred. Costs of normal repairs and maintenance are charged to expense as incurred, while betterments or renewals are capitalized. Depreciation commences at the time the assets are placed in service. Depreciation is provided using the straight-line method over the estimated economic lives of the assets or for leasehold improvements, over the shorter of the estimated useful life or the remaining lease term, which are summarized as follows:

Revenue Recognition and Deferred Revenue

Revenues include sales of products and services and are net of discounts. Product sales consist of simulators, upgrade components, scenarios, scenario software, recoil kits, Threat-Fire^® and other accessories. Services include installation, training, limited warranties, service agreements and related support. Certain components of our sales include multiple elements comprising of both products and services. Our revenue recognition falls under Accounting Standards Codification (Topic 606) Revenue from Contracts with Customers beginning after December 15, 2017. The new GAAP guidance is used for:

Products

Revenue from the sale of products is recognized when title and risk of loss passes to the customer. Delivery is considered complete when products have been shipped to the customer and title and risk of loss has transferred to the customer. The standard warranty included in the price of the simulator is an assurance-type warranty, required by law for a period not to exceed one year, and the nature of tasks under the one-year warranty only remedying defective product. For customers other than United States governmental agencies, the Company generally requires advance deposits prior to shipment. Customer deposits are recorded as a current liability under deferred revenue on the accompanying balance sheet and totaled $114,844 and $709,676 as of March 31, 2018 and December 31, 2017, respectively.

Services

Services include installation of product, separately priced extended limited service-type warranties on parts and labor and technical support. Revenue is recognized for service contracts as earned which is generally upon completion of installation or, if extended warranties, on a straight-line basis over the term of the contract. The Company offers a standard warranty on its products from manufacturing defects on a limited basis for a period of one year after purchase and also offers separately priced extended warranties for periods of up to four years beginning after the expiration of the standard one-year warranty. After the standard warranty expires but during the term of the extended warranty, if the device fails to operate properly from defects in materials and workmanship, the Company will repair or replace the defective product at no additional charge. The Company records a gross to net revenue adjustment for the one-year standard warranty and accrues annually the estimated cost of complying with the warranty agreements for all extended warranty years. Deferred revenue for separately priced extended warranties longer than one year totaled $1,914,365 and $2,156,950 as of March 31, 2018 and December 31, 2017, respectively.

Stock Based Compensation

The Company calculates the cost of awards of equity instruments based on the grant date fair value of the awards using the Black-Scholes-Merton option pricing valuation model, which incorporates various assumptions including volatility, expected term and risk-free interest rates.

The expected term of the options is the estimated period of time until exercise and is based on historical experience of similar awards giving consideration to the contractual terms, vesting schedules and expectations of future employee behavior. Expected stock price volatility is based on historical volatility of the Company’s stock. The risk-free interest rate is based on the implied yield available on United States Treasury zero-coupon issues with an equivalent remaining term. The estimated fair value of stock-based compensation awards and other options is amortized on a straight-line basis over the relevant vesting period. Share-based compensation expense is recognized based on awards ultimately expected to vest. Forfeitures are recorded in subsequent periods when they occur.2019.

Recent Accounting Pronouncements

In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842)See Note 1 to our condensed financial statements, included in Part I, Item 1., which requires lessees to put most leases on their balance sheets by recognizing lease assets and lease liabilities for those leases classified as operating leases under previous guidance. This ASU will be effective for the Company on January 1, 2019, with early adoption permitted. The Company is currently in the process of assessing the impactFinancial Information of this ASUquarterly report on its financial statements.Form 10-Q.

In January 2016, the FASB issued ASU 2016-01, Financial Instruments - Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities (“ASU 2016-01”), which requires that equity investments, except for those accounted for under the equity method or those that result in consolidation of the investee, be measured at fair value, with subsequent changes in fair value recognized in net income. However, an entity may choose to measure equity investments that do not have readily determinable fair values at cost minus impairment, if any, plus or minus changes resulting from observable price changes in orderly transactions for the identical or a similar investment of the same issuer. ASU 2016-01 also impacts the presentation and disclosure requirements for financial instruments. ASU 2016-01 is effective for public business entities for annual periods, and interim periods within those annual periods, beginning after December 15, 2017. Early adoption is permitted only for certain provisions. As the Company wrote-down its investment in Modern Round to fair value in 2017, the Company believes that the adoption of ASU 2016-01 will not have a material impact on its financial statements and will change from the cost method of accounting.

We implemented all new accounting standards that are in effect and that may impact our financial statements.

OFF-BALANCE SHEET ARRANGEMENTSOff-Balance Sheet Arrangements

As of March 31, 2018,2019, we did not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that are material to investors. The term “off-balance sheet arrangement” generally means any transaction, agreement or other contractual arrangement to which an entity unconsolidated with us is a party, under which we have any obligation arising under a guarantee contract, derivative instrument or variable interest or a retained or contingent interest in assets transferred to such entity or similar arrangement that serves as credit, liquidity or market risk support for such assets.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKRISK.

Not required for smaller reporting companies.

ITEM 4. CONTROLS AND PROCEDURESPROCEDURES.

Evaluation of Disclosure Controls and Procedures

Our management, under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer, has reviewed and evaluated the effectiveness of the Company’s disclosure controls and procedures as of March 31, 2018. Based on such review and evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that, as of March 31, 2018, the disclosure

We maintain “disclosure controls and procedures, were effective” as that term is defined in Rule 13a-15(e), promulgated by the SEC pursuant to the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Disclosure controls and procedures include controls and procedures designed to ensure that information required to be disclosed by the Company in theour company’s reports that it files or submitsfiled under the Securities Exchange Act of 1934, as amended, (a) is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and (b)that such information is accumulated and communicated to the Company’sour management, including itsour principal executive officer and principal financial officers, as appropriateofficer, to allow timely decisions regarding required disclosure.

Our management, with the participation of our principal executive officer and principal financial officer, evaluated our company’s disclosure controls and procedures as of the end of the period covered by this report on Form 10-Q. Based on this evaluation, our principal executive officer and principal financial officer concluded that as of March 31, 2019, our disclosure controls and procedures were not effective. The ineffectiveness of our disclosure controls and procedures was due to material weaknesses, which we identified, in our report on internal control over financial reporting contained in our annual report on Form 10-K for the year ended December 31, 2018, filed with the SEC on April 1, 2019.

Change in Internal Controlinternal control over Financial Reportingfinancial reporting

There washas been no change in our internal control over financial reporting that occurred during the quarterly period ended March 31, 20182019 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

We believe that a control system, no matter how well designed and operated, cannot provide absolute assurance that the objectives of the control system are met, and no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within any company have been detected.

PART IIII: OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

We are not a partySee Note 10 and Note 12 to any material litigation, nor, to the knowledgeour unaudited condensed financial statements, included in Part I, Item 1., Financial Information of management,this quarterly report on Form 10-Q, which information is any litigation threatened against us that may materially affect us. From time to time we are involved in legal proceedings occurring in the ordinary course of business.incorporated herein by reference.

ITEM 1A. RISK FACTORS

Not required for smaller reporting companies.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

None.

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

None.None

ITEM 4. MINE SAFETY DISCLOSURES

Not applicable.

ITEM 5. OTHER INFORMATION

(a) None.

(b) There have been no material changes to the procedures by which security holders may recommend nominees to the Company’s Board of Directors since the filing with the SEC of the Company’s annual report on Form 10-K for the fiscal year ended December 31, 2017.