Northern Technologies International Corporation
NORTHERN TECHNOLOGIES INTERNATIONAL CORP (Form: 10-Q, Received: 07/13/2011 10:00:57)
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C.  20549
______________________________
 
FORM 10-Q

(Mark one)
 [ x ]
  QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended May 31, 2011
 
  [  ]
  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
 
For the transition period from ________________ to __________________.
 
Commission File Number:  001-11038
____________________
 
NORTHERN TECHNOLOGIES INTERNATIONAL CORPORATION
(Exact name of registrant as specified in its charter)

Delaware
(State or other jurisdiction of incorporation or organization)
41-0857886
(IRS Employer Identification No.)
 
4201 Woodland Rd
Circle Pines, Minnesota    55014
(Address of principal executive offices) (Zip code)
 
(763) 225-6600
(Registrant’s telephone number including area code)
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. 
YES [ x ]  NO [  ]
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  YES [  ]   NO [  ]
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer [ ]
Accelerated filer [ ]
Non-accelerated filer (Do not check if a smaller reporting company) [ ]
Smaller reporting company [x]
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    YES [ ]   NO [x]
 
As of July 13, 2011, there were 4,345,758 shares of common stock of the registrant outstanding.
 
 
 

 
NORTHERN TECHNOLOGIES INTERNATIONAL CORPORATION
FORM 10-Q
May 31, 2011

TABLE OF CONTENTS
 
Description
  Page
     
PART I.
FINANCIAL INFORMATION
     
 
     
  Consolidated Balance Sheets as of May 31, 2011 (unaudited) and August 31, 2010 2
     
  Consolidated Statements of Operations (unaudited) for the Three and Nine Months Ended May 31, 2011 and 2010 3
     
  Consolidated Statements of Cash Flows (unaudited) for the Nine Months Ended May 31, 2011 and 2010 4
     
  5-14
     
Item 2.
     
     
     
PART II.
OTHER INFORMATION
   
     
     
     
     
     
     
     
31
     
32

________________

This quarterly report on Form 10-Q contains certain forward-looking statements 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, and are subject to the safe harbor created by those sections.  For more information, see “Part I. Financial Information – Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operations– Forward-Looking Statements.”
 
As used in this report, references to “NTIC,” the “Company,” “we,” “our” or “us,” unless the context otherwise requires, refer to Northern Technologies International Corporation, its wholly owned subsidiaries – NTI Facilities, Inc., and Northern Technologies Holding Company, LLC, and its majority owned subsidiary in Brazil, Zerust Prevenção de Corrosão S.A., all of which are consolidated on NTIC’s financial statements.
 
All trademarks, trade names or service marks referred to in this report are the property of their respective owners.
 
 
 

 
PART I - FINANCIAL INFORMATION
 
FINANCIAL STATEMENTS
 
NORTHERN TECHNOLOGIES INTERNATIONAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS AS OF MAY 31, 2011 (UNAUDITED)
AND AUGUST 31, 2010 (AUDITED)
 
   
May 31, 2011
   
August 31, 2010
 
ASSETS
           
   CURRENT ASSETS:
           
Cash and cash equivalents
  $ 2,676,921     $ 1,776,162  
Receivables:
               
Trade excluding joint ventures, less allowance for doubtful accounts
               
       of $20,000 at May 31, 2011 and August 31, 2010
    2,329,635       2,227,769  
Trade joint ventures
    989,812       1,216,081  
Fees for services provided to joint ventures
    1,967,621       1,300,814  
Inventories
    4,403,003       3,639,169  
Prepaid expenses
    263,860       143,980  
Deferred income taxes
    448,600       448,600  
Total current assets
    13,079,452       10,752,575  
                 
   PROPERTY AND EQUIPMENT, net
    3,592,492       3,452,530  
                 
   OTHER ASSETS:
               
Investments in joint ventures
    19,595,596       16,055,943  
Deferred income taxes
    1,505,300       1,505,300  
Patents and trademarks, net
    898,610       912,718  
Other
    31,233       18,234  
            Total other assets
    22,030,739       18,492,195  
            Total assets
  $ 38,702,683     $ 32,697,300  
                 
LIABILITIES AND STOCKHOLDERS’ EQUITY
               
   CURRENT LIABILITIES:
               
Current portion of note payable
    14,829       1,144,922  
Accounts payable
    1,628,735       1,721,237  
Income tax payable
    376,814       174,502  
Accrued liabilities:
               
Payroll and related benefits
    1,605,137       1,155,277  
Deferred joint venture royalties
    288,000       288,000  
Other
    260,720       349,714  
Total current liabilities
    4,174,235       4,833,652  
                 
   NOTE PAYABLE, NET OF CURRENT PORTION (Note 7)
    1,089,853        
                 
   COMMITMENTS AND CONTINGENCIES (Note 14)
               
                 
   STOCKHOLDERS’ EQUITY:
               
Preferred stock, no par value; authorized 10,000 shares; none issued and
    outstanding
           
Common stock, $0.02 par value per share; authorized 10,000,000
               
shares; issued and outstanding 4,345,758 and 4,259,321, respectively
    86,915       85,186  
Additional paid-in capital
    10,052,122       9,140,936  
Retained earnings
    20,784,087       17,911,718  
Accumulated other comprehensive income
    2,439,612       704,473  
           Total stockholders’ equity
    33,362,736       27,842,313  
Non-controlling interest
    75,859       21,335  
           Total equity
    33,483,595       27,863,648  
           Total liabilities and stockholders’ equity
  $ 38,702,683     $ 32,697,300  
 
See notes to consolidated financial statements.
 
 

 
NORTHERN TECHNOLOGIES INTERNATIONAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
FOR THE THREE AND NINE MONTHS ENDED MAY 31, 2011 AND 2010
 
   
Three Months Ended
   
Nine Months Ended
 
   
May 31, 2011
   
May 31, 2010
   
May 31, 2011
   
May 31, 2010
 
NET SALES:
                       
   Net sales, excluding joint ventures
  $ 4,367,589     $ 2,559,467     $ 11,906,999     $ 7,164,784  
       Net sales, to joint ventures
    733,189       677,731       2,070,338       1,660,294  
             Total net sales
    5,100,778       3,237,198       13,977,337       8,825,078  
                                 
Cost of goods sold
    3,458,851       2,172,902       9,155,788       5,771,045  
     Gross profit
    1,641,927       1,064,296       4,821,549       3,054,033  
                                 
JOINT VENTURE OPERATIONS:
                               
      Equity in income of joint ventures
    1,724,477       1,511,534       4,549,267       2,909,120  
      Fees for services provided to joint ventures
    1,623,585       1,140,295       4,477,514       3,441,563  
         Total joint venture operations
    3,348,062       2,651,829       9,026,781       6,350,683  
                                 
OPERATING EXPENSES:
                               
      Selling expenses
    1,167,630       819,572       3,088,237       2,004,094  
      General and administrative expenses
    1,126,823       869,183       3,300,626       2,628,447  
      Expenses incurred in support of joint ventures
    244,959       208,444       722,955       682,828  
      Research and development expenses
    1,207,889       960,780       3,308,515       2,526,478  
             Total operating expenses
    3,747,301       2,857,979       10,420,333       7,841,847  
                                 
OPERATING INCOME
    1,242,688       858,146       3,427,997       1,562,869  
                                 
INTEREST INCOME
    8,522       864       13,131       5,607  
INTEREST EXPENSE
    (7,880 )     (23,867 )     (53,355 )     (73,637 )
OTHER INCOME
    6,825       6,825       20,475       20,475  
                                 
INCOME BEFORE INCOME TAX EXPENSE (BENEFIT)
    1,250,155       841,968       3,408,248       1,515,314  
                                 
INCOME TAX EXPENSE (BENEFIT)
    228,000       (110,000 )     490,000       (219,000 )
                                 
NET INCOME
    1,022,155       951,968       2,918,248       1,734,314  
                                 
NET INCOME ATTRIBUTABLE TO NON CONTROLLING INTEREST
    (1,394 )           45,879        
                                 
NET INCOME ATTRIBUTABLE TO NTIC
  $ 1,023,549     $ 951,968     $ 2,872,369     $ 1,734,314  
                                 
NET INCOME ATTRIBUTABLE TO NTIC PER COMMON SHARE:
                               
Basic
  $ 0.24     $ 0.22     $ 0.67     $ 0.41  
Diluted
  $ 0.23     $ 0.22     $ 0.66     $ 0.41  
                                 
WEIGHTED AVERAGE COMMON SHARES
                               
ASSUMED OUTSTANDING:
                               
Basic
    4,343,601       4,244,086       4,303,892       4,213,465  
Diluted
    4,427,097       4,299,855       4,378,242       4,252,735  
 
See notes to consolidated financial statements

 
3

 
NORTHERN TECHNOLOGIES INTERNATIONAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
NINE MONTHS ENDED MAY 31, 2011 AND 2010

   
Nine Months Ended
 
   
May 31, 2011
   
May 31, 2010
 
CASH FLOWS FROM OPERATING ACTIVITIES:
           
Net income
  $ 2,918,248     $ 1,734,314  
Adjustments to reconcile net income to net cash used in operating activities:
               
Expensing of fair value of stock options vested
    150,109       141,315  
Depreciation expense
    250,076       284,041  
Amortization expense
    118,670       116,128  
Equity in income from joint ventures
    (4,549,267 )     (2,909,120 )
    Gain on sale of property and equipment
    (52,425 )      
Changes in current assets and liabilities:
               
Receivables:
               
Trade, excluding joint ventures
    (101,866 )     (358,134 )
Trade, joint ventures
    226,269       (569,824 )
Fees for services receivables, joint ventures
    (666,807 )     448,663  
Income taxes
          (228,954 )
    Inventories
    (763,834 )     (952,422 )
    Prepaid expenses and other
    (132,879 )     (45,986 )
    Accounts payable
    (92,502 )     459,589  
    Income tax payable
    202,312        
    Accrued liabilities
    680,515       626,784  
Net cash used in operating activities
    (1,813,381 )     (1,253,606 )
                 
CASH FLOWS FROM INVESTING ACTIVITIES:
               
Investment in joint ventures
    (38,217 )     (30,101 )
Dividends received from joint ventures
    2,767,977       441,548  
Additions to property and equipment
    (437,613 )     (225,922 )
Proceeds from sale of property and equipment
    100,000        
Additions to patents
    (104,562 )     (160,486 )
Net cash provided by investing activities
    2,287,585       25,059  
                 
CASH FLOWS FROM FINANCING ACTIVITIES:
               
Repayment of note payable
    (40,240 )     (26,020 )
Net repayments made on line of credit
          (1,077,000 )
Proceeds from the issuance of common stock
          3,195,613  
Proceeds from employee stock purchase plan
    36,726       36,925  
Proceeds from exercise of stock options
    406,431       63,765  
           Net cash provided by financing activities
    402,917       2,193,283  
                 
EFFECT OF EXCHANGE RATE CHANGES ON CASH:
    23,638        
                 
                 
NET  INCREASE IN CASH AND CASH EQUIVALENTS
    900,759       964,735  
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD
    1,776,162       138,885  
                 
CASH AND CASH EQUIVALENTS AT END OF PERIOD
  $ 2,676,921     $ 1,103,620  
 
See notes to consolidated financial statements.

 
4

 
NORTHERN TECHNOLOGIES INTERNATIONAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
 
1.           INTERIM FINANCIAL INFORMATION
 
In the opinion of management, the accompanying unaudited consolidated financial statements contain all necessary adjustments, which are of a normal recurring nature, and present fairly the consolidated financial position of Northern Technologies International Corporation and its subsidiaries (the “Company”) as of May 31, 2011 and the results of their operations for the three and nine months ended May 31, 2011 and May 31, 2010 and their cash flows for the nine months ended May 31, 2011 and May 31, 2010, in conformity with accounting principles generally accepted in the United States of America (“U.S. GAAP”).
 
Certain amounts reported in the consolidated financial statements for the previous reporting periods have been reclassified to conform to the current period presentation.  These reclassifications did not have a material impact on the Company’s previously reported consolidated balance sheets or statements of cash flows. The Company has reclassified various line items in the consolidated statements of operations to better provide the results of its joint ventures, as well as its North American operations.  These reclassifications changed the Company’s operating income, but did not impact its net income or net income per common share.
 
These consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes contained in the Company’s annual report on Form 10-K for the fiscal year ended August 31, 2010.  These consolidated financial statements also should be read in conjunction with the “Management’s Discussion and Analysis of Financial Condition and Results of Operations” section appearing in this report.
 
Operating results for the three and nine months ended May 31, 2011 are not necessarily indicative of the results that may be expected for the full fiscal year ending August 31, 2011.
 
The Company evaluates events occurring after the date of the consolidated financial statements requiring recording or disclosure in the financial statements.
 
2.           CONSOLIDATION OF ZERUST BRAZIL
 
Beginning in the fourth quarter of fiscal 2010, the Company consolidated the results of Zerust Prevenção de Corrosão S.A., the Company’s subsidiary in Brazil (“Zerust Brazil”).  The Company holds 85% of the equity and 85% of the voting rights of Zerust Brazil.  Prior to the fourth quarter of fiscal 2010 and as of May 31, 2010, the Company accounted for its Zerust Brazil investment under the equity method.  The Company owned only 50%, which it considered to be less than a majority, of the equity and voting rights of Zerust Brazil prior to September 2006.  The Company acquired an additional 35% ownership interest in Zerust Brazil in September 2006 and held 85% of the equity and voting rights thereafter.  Prior to the fourth quarter of fiscal 2010, the Company held the additional 35% ownership interest in Zerust Brazil with the intent of finding an acquiring party, believing its majority control of Zerust Brazil would be temporary and determined not to consolidate Zerust Brazil because the impact on the Company’s consolidated financial statements was immaterial.  During the fourth quarter of fiscal 2010, the Company stopped pursuing a buyer of the 35% ownership interest and decided to consolidate the financial results of Zerust Brazil as of and for the fiscal year ended August 31, 2010.  The Company believes that the impact of not consolidating Zerust Brazil on the Company’s consolidated financial statements for periods prior to the fourth quarter of fiscal 2010 was immaterial to the Company’s consolidated financial statements.
 
5

 
The following is a summary of certain line items of the Company’s consolidated statements of operations for the three months ended May 31, 2010 as reported and on a pro forma basis, assuming the consolidation of Zerust Brazil on the Company’s consolidated financial statements as of the beginning of such period:
 
         
Zerust
   
Eliminated in
       
   
As Reported
   
Brazil
   
Consolidation
   
Pro Forma
 
Net sales
  $ 3,237,198     $ 706,888     $ (52,092 )   $ 3,891,994  
Cost of goods sold
    2,172,902       364,225       (52,092 )     2,485,035  
Gross profit
    1,064,296       342,663             1,406,959  
Joint venture operations
    2,651,829             (88,158 )     2,563,671  
Operating expenses
    2,857,979       230,198             3,088,177  
Operating income
    858,146       112,465       (88,158 )     882,453  
Income before income tax expense
    841,968       103,716       (88,158 )     857,526  
Net income
    951,968       103,716       (88,158 )     967,526  
Net income attributable to non-controlling interest
          15,557             15,557  
Net income attributable to controlling interest
    951,968       88,158       (88,158 )     951,968  
Net income per common diluted share
  $ 0.22     $ 0.02     $ (0.02 )   $ 0.22  

The following is a summary of certain line items of the Company’s consolidated statements of operations for the nine months ended May 31, 2010 as reported and on a pro forma basis, assuming the consolidation of Zerust Brazil on the Company’s consolidated financial statements as of the beginning of such period:
 
         
Zerust
   
Eliminated in
       
   
As Reported
   
Brazil
   
Consolidation
   
Pro Forma
 
Net sales
  $ 8,825,078     $ 1,668,220     $ (83,964 )   $ 10,409,334  
Cost of goods sold
    5,771,045       891,214       (83,964 )     6,578,295  
Gross profit
    3,054,033       777,006             3,831,039  
Joint venture operations
    6,350,683             (45,062 )     6,305,621  
Operating expenses
    7,841,847       716,250             8,558,097  
Operating income
    1,562,869       60,756       (45,062 )     1,578,563  
Income before income tax expense
    1,515,314       53,014       (45,062 )     1,523,266  
Net income
    1,734,314       53,014       (45,062 )     1,742,266  
Net income attributable to non-controlling interest
          7,952             7,952  
Net income attributable to controlling interest
    1,734,314       45,062       (45,062 )     1,734,314  
Net income per common diluted share
  $ 0.41     $ 0.01     $ (0.01 )   $ 0.41  

3.           INVENTORIES
 
Inventories consisted of the following:
 
   
May 31, 2011
   
August 31, 2010
 
Production materials
  $ 1,167,876     $ 1,184,988  
Finished goods
    3,235,127       2,449,181  
    $ 4,403,003     $ 3,639,169  

 
6

 
4.           PROPERTY AND EQUIPMENT, NET
 
Property and equipment, net consisted of the following:
 
   
May 31, 2011
   
August 31, 2010
 
Land
  $ 310,365     $ 310,365  
Buildings and improvements
    3,110,867       3,099,186  
Machinery and equipment
    2,083,625       1,717,625  
      5,504,857       5,127,176  
Less accumulated depreciation
    (1,912,365 )     (1,674,646 )
    $ 3,592,492     $ 3,452,530  

5.           PATENTS AND TRADEMARKS, NET
 
Patents and trademarks, net consisted of the following:
 
   
May 31, 2011
   
August 31, 2010
 
Patents and trademarks
  $ 1,715,236     $ 1,610,674  
Less accumulated amortization
    (816,626 )     (697,956 )
    $ 898,610     $ 912,718  

Patent and trademark costs are amortized over seven years.  Costs incurred related to patents and trademarks are capitalized until filed and approved, at which time the amounts capitalized to date are amortized and any further costs, including maintenance costs, are expensed as incurred.  Amortization expense is estimated to approximate $160,000 in each of the next five fiscal years.
 
6.           INVESTMENTS IN JOINT VENTURES
 
The financial statements of the Company’s foreign joint ventures are initially prepared using the accounting principles accepted in the respective joint ventures’ countries of domicile.   Amounts related to foreign joint ventures reported in the below tables and the accompanying financial statements have subsequently been adjusted to approximate U.S. GAAP in all material respects.  All material profits recorded on sales from the Company to its joint ventures have been eliminated for financial reporting purposes.
 
Financial information from the audited and unaudited financial statements of the Company’s joint venture in Germany, Excor Korrosionsschutz – Technologien und Produkte GmbH (“Germany”), the Company’s joint venture holding company in the Association of Southeast Asian Nations, or ASEAN, region, NTI ASEAN, LLC (“ASEAN”), and all of the Company’s other joint ventures, are summarized as follows:
 
   
May 31, 2011
 
   
TOTAL
   
Germany
   
ASEAN
   
All Other
 
Current assets
  $ 66,020,912     $ 21,785,071     $ 15,108,649     $ 29,127,192  
Total assets
    72,298,700       24,525,769       15,330,146       32,442,785  
Current liabilities
    25,373,400       4,066,108       7,119,287       14,188,005  
Noncurrent liabilities
    4,778,410             931,328       3,847,082  
Joint ventures’ equity
    42,146,890       20,459,661       7,279,531       14,407,698  
Northern Technologies International Corporation’s share of  joint ventures’ equity
  $ 19,595,596     $ 10,229,833     $ 2,476,738     $ 6,889,025  
 
 
7

 
   
August 31, 2010
 
   
TOTAL
   
Germany
   
ASEAN
   
All Other
 
Current assets
  $ 50,031,107     $ 16,567,240     $ 12,637,967     $ 20,825,900  
Total assets
    55,918,090       18,967,090       12,901,522       24,049,478  
Current liabilities
    16,478,696       3,089,590       4,721,652       8,667,454  
Noncurrent liabilities
    4,454,280             868,902       3,585,378  
Joint ventures’ equity
    34,985,114       15,877,500       7,310,968       11,796,646  
Northern Technologies International Corporation’s share of
   joint ventures’ equity
  $ 16,055,943     $ 7,938,751     $ 2,467,412     $ 5,649,780  
 
   
Nine Months Ended May 31, 2011
 
   
TOTAL
   
Germany
   
ASEAN
   
All Other
 
Net sales
  $ 86,744,626     $ 28,036,295     $ 13,549,082     $ 45,159,249  
Gross profit
    40,134,048       14,027,762       6,477,234       19,629,052  
Net income
    8,781,500       5,311,273       1,160,579       2,309,648  
Northern Technologies International Corporation’s share of
   equity in income of joint ventures
  $ 4,549,267     $ 2,550,188     $ 912,449     $ 1,086,630  
 
   
Nine Months Ended May 31, 2010
 
   
TOTAL
   
Germany
   
ASEAN
   
All Other
 
Net sales
  $ 62,294,519     $ 18,042,624     $ 10,350,856     $ 33,901,039  
Gross profit
    30,852,119       9,981,373       5,307,801       15,562,945  
Net income
    5,664,630       3,029,361       1,113,340       1,521,928  
Northern Technologies International Corporation’s share of equity in income of joint ventures
  $ 2,909,120     $ 1,505,024     $ 677,175     $ 726,921  

The Company records expenses that are directly attributable to the joint ventures on the consolidated statements of operations on the line “Expenses incurred in support of joint ventures”.  The expenses include items such as employee compensation and benefit expenses, travel expense and consulting expense.
 
In December 2010, the Company invested $38,217 and in January 2010, the Company invested $30,101, in a new joint venture in Russia to specifically engage in the oil and gas industry.  The Company has a 50% ownership interest in the new Russian joint venture.
 
7.           NOTE PAYABLE AND LINE OF CREDIT
 
In connection with the purchase of its corporate headquarters, in September 2006, Northern Technologies Holding Company, LLC (“NTI LLC”) obtained a term loan from PNC Bank, National Association (“PNC Bank”) with a principal amount of $1,275,000 that was to mature on May 1, 2011.  On January 10, 2011, NTI LLC refinanced its term loan in the then principal amount of approximately $1,141,788.  The term loan matures on January 10, 2016, bears interest at an annual rate based on the daily LIBOR rate plus 2.15% and is payable in 59 consecutive monthly installments equal to approximately $6,343 (inclusive of principal but exclusive of interest) commencing in February 2011.  The term loan is secured by a first lien on the real estate and building owned by NTI LLC and all of the assets of the Company and is guaranteed by the Company.
 
As of May 31, 2011, the Company had a revolving line of credit with PNC Bank of $3,000,000 with no amounts outstanding as of such date.  As of August 31, 2010, the Company had a demand line of credit of $2,300,000 with PNC Bank with no amounts outstanding as of such date.  Any advances made under the revolving line of credit are due and payable on January 10, 2012.  At the option of the Company, outstanding advances under the line of credit bear interest at either (a) an annual rate based on LIBOR plus 2.15% for the applicable LIBOR interest period selected by the Company or (b) at the rate publicly announced by PNC Bank from time to time as its prime rate.
 
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Interest is payable in arrears (a) for the portion of advances bearing interest under the prime rate on the last day of each month during the term thereof and (b) for the portion of advances bearing interest under the LIBOR option on the last day of the respective LIBOR interest period selected for such advance.  Any unpaid interest is payable on the maturity date. Outstanding amounts under the prior demand line of credit bore interest at an annual rate based on LIBOR plus 2.25%.  As of May 31, 2011, the interest rate was 2.50% and the weighted average rate was 2.43% for the nine months ended May 31, 2011.  As of May 31, 2010, the interest rate was 3.33% and the weighted average rate was 3.31% for the nine months ended May 31, 2010.
 
Both the term loan and the line of credit are governed under two separate loan agreements (collectively, the “Loan Agreements”).  The Loan Agreements contain standard covenants, including affirmative financial covenants, such as the maintenance of a minimum fixed charge coverage ratio, and negative covenants, which, among other things, limit the incurrence of additional indebtedness, loans and equity investments, disposition of assets, mergers and consolidations and other matters customarily restricted in such agreements. Under the Loan Agreements, the Company is subject to a minimum fixed charge coverage ratio of 1.10:1.00.

8.           STOCKHOLDERS’ EQUITY
 
During the nine months ended May 31, 2011, the Company did not purchase or retire any shares of its common stock.  The following stock options to purchase shares of common stock were exercised during the nine months ended May 31, 2011:
 
Options Exercised
 
Exercise Price
40,000
    $ 5.38  
2,000
      7.65  
666
      7.75  
2,000
      8.01  
4,000
      8.57  
1,334
      9.75  
4,000
      9.76  
5,333
      12.84  

The Company granted stock options under the Northern Technologies International Corporation Amended and Restated 2007 Stock Incentive Plan to purchase an aggregate of 30,000 shares of its common stock to various employees and directors during the nine months ended May 31, 2011.
 
During the nine months ended May 31, 2011, the Company granted stock bonuses under the Northern Technologies International Corporation Amended and Restated 2007 Stock Incentive Plan for an aggregate of 22,686 shares of its common stock to various employees.  The fair value of the shares of the Company’s common stock as of the date of grant of the stock bonuses was $319,649, based on the closing sale price of a share of the Company’s common stock on the date of grant. The fair value of common stock granted during the nine months ended May 31, 2011 was based on fiscal 2010 performance and was included in accrued liabilities at August 31, 2010.
 
During the nine months ended May 31, 2010, the Company did not purchase or retire any shares of its common stock.  The following stock options to purchase shares of common stock were exercised during the nine months ended May 31, 2010:
 
Options Exercised
 
Exercise Price
1,500
    $ 6.15  
8,000
      5.38  
2,000
      5.75  
 
 
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The Company granted stock options under the Northern Technologies International Corporation 2007 Stock Incentive Plan to purchase an aggregate of 128,333 shares of its common stock to various employees and directors during the nine months ended May 31, 2010.
 
In September 2009, the Company completed a $3,552,000 registered direct offering in which it sold an aggregate of 480,000 shares of its common stock to institutional investors at a purchase price of $7.40 per share, resulting in net proceeds of $3,195,613, after deducting placement agent fees and expenses and the Company’s offering expenses.
 
9.           TOTAL COMPREHENSIVE INCOME
 
The Company’s total comprehensive income (loss) was as follows:
 
   
Three Months Ended
   
Nine Months Ended
 
   
May 31, 2011
   
May 31, 2010
   
May 31, 2011
   
May 31, 2010
 
Net income
  $ 1,023,549     $ 951,968     $ 2,872,369     $ 1,734,314  
Other comprehensive income (loss) –  foreign currency translation  adjustment
    576,937       (1,379,530 )     1,735,139       (1,483,466 )
Total comprehensive income (loss)
  $ 1,600,486     $ (427,562 )   $ 4,607,508     $ 250,848  

10.           NET INCOME PER COMMON SHARE
 
Basic net income per common share is computed by dividing net income by the weighted average number of common shares outstanding.  Diluted net income per share assumes the exercise of stock options using the treasury stock method, if dilutive.
 
No options to purchase shares of common stock were excluded from the computation of common share equivalents for both the three and nine months ended May 31, 2011. Options to purchase shares of common stock of 39,000 were excluded from the computation of common share equivalents for both the three and nine months ended May 31, 2010, as stock option exercise prices were greater than the market price of a share of common stock.
 
11.           STOCK-BASED COMPENSATION
 
The Company has several stock-based compensation plans under which stock options and other stock-based awards have been granted, including the Northern Technologies International Corporation Amended and Restated 2007 Stock Incentive Plan (the “2007 Plan”), the Northern Technologies International Corporation 2000 Stock Incentive Plan (the “2000 Plan”) and the Northern Technologies International Corporation Employee Stock Purchase Plan (the “ESPP”).  The Compensation Committee of the Board of Directors and the Board of Directors administers all of these plans.
 
The 2007 Plan replaced the 2000 Plan, which was terminated with respect to future grants, but continues to govern grants outstanding under such plan.  The 2007 Plan provides for the grant of incentive stock options, non-statutory stock options, stock appreciation rights, restricted stock, stock unit awards, performance awards and stock bonuses to eligible recipients to enable the Company and its subsidiaries to attract and retain qualified individuals through opportunities for equity participation in the Company, and to reward those individuals who contribute to the achievement of the Company’s economic objectives.  Subject to adjustment as provided in the 2007 Plan, up to a maximum of 800,000 shares of the Company’s common stock plus the number of shares subject to awards outstanding under the prior 2000 Plan as of January 20, 2011 but only to the extent that such outstanding awards are forfeited, expire or otherwise terminate without the issuance of such shares, are available for issuance under the 2007 Plan.  Options granted under the 2007 Plan generally have a term of five years and become exercisable over a three- or four-year period beginning on the one-year anniversary of the date of grant.  Options are granted at per share exercise prices equal to the market value of the Company’s common stock on the date of grant.  To date, only stock options and stock bonuses have been granted under the 2007 Plan.
 
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The maximum number of shares of common stock of the Company available for issuance under the ESPP is 100,000 shares, subject to adjustment as provided in the ESPP.  The ESPP provides for six-month offering periods beginning on September 1 and March 1 of each year.  The purchase price of the shares is 90% of the lower of the fair market value of common stock at the beginning or end of the offering period.  This discount may not exceed the maximum discount rate permitted for plans of this type under Section 423 of the Internal Revenue Code of 1986, as amended.  The ESPP is compensatory for financial reporting purposes.
 
The Company granted options to purchase 30,000 and 128,333 shares of its common stock during the nine months ended May 31, 2011 and 2010, respectively.  The fair value of option grants is determined at date of grant, using the Black-Scholes option pricing model with the assumptions listed below.  Based on these valuations, the Company recognized compensation expense of $150,109 and $141,315 during the nine months ended May 31, 2011 and 2010, respectively, related to the options that vested during such time period.  The stock-based expense recorded reduced after-tax net income per share by $0.02 for each of the nine months ended May 31, 2011 and 2010.  As of May 31, 2011, the total compensation cost for non-vested options not yet recognized in the Company’s consolidated statements of operations was $193,334 net of estimated forfeitures.  Additional stock-based compensation expense of $39,366 is expected through the remainder of fiscal year 2011, and expense of $125,891 and $28,076 is expected to be recognized during fiscal 2012 and fiscal 2013, respectively.  Future option grants will impact the compensation expense recognized.
 
The Company currently estimates a ten percent forfeiture rate for stock options and continually reviews this estimate for future periods.
 
The fair value of each option grant is estimated on the grant date using the Black-Scholes option-pricing model with the following assumptions and results for the grants:
 
   
May 31,
 
   
2011
   
2010
 
Dividend yield
    0.00 %     0.00 %
Expected volatility
    49.2 %     48.3 %
Expected life of option
 
5 years
   
5 years
 
Average risk-free interest rate
    1.31 %     2.34 %

The weighted average per share fair value of options granted during the nine months ended May 31, 2011 and 2010 was $3.60 and $2.98, respectively.  The weighted average remaining contractual life of the options outstanding as of May 31, 2011 and 2010 was 2.94 years and 2.71 years, respectively.
 
12.           GEOGRAPHIC AND SEGMENT INFORMATION
 
Net sales by geographic location as a percentage of total consolidated net sales for the three and nine months ended May 31, 2011 and May 31, 2010 were as follows:
 
   
Three Months Ended
   
Nine Months Ended
 
   
May 31, 2011
   
May 31, 2010
   
May 31, 2011
   
May 31, 2010
 
Inside the U.S.A. to unaffiliated customers
    66.8 %     71.6 %     63.4 %     73.4 %
Outside the U.S.A. to:
                               
Joint ventures in which the Company is a shareholder directly and indirectly
    15.2       20.6       15.6       18.8  
Unaffiliated customers
    18.0       7.8       21.0       7.8  
      100.0 %     100.0 %     100.0 %     100.0 %

Net sales by geographic location are based on the location of the customer.
 
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Fees for services provided to joint ventures by geographic location as a percentage of total fees for services provided to joint ventures during the three and nine months ended May 31, 2011 and 2010 were as follows:
 
   
Three Months Ended May 31,
 
   
2011
   
% of Total Fees
f or Services
Provided to
Joint Ventures
   
2010
   
% of Total Fees
for Services
Provided to
Joint Ventures
 
Japan
  $ 324,185       20.0 %   $ 219,783       19.3 %
Germany
    279,125       17.2 %     240,624       21.1 %
India
    250,116       15.4 %     141,137       12.4 %
France
    181,764       11.2 %     126,702       11.1 %
Finland
    147,791       9.1 %     97,747       8.6 %
Sweden
    131,450       8.1 %     102,437       9.0 %
United Kingdom
    84,573       5.2 %     72,736       6.4 %
Other
    224,581       13.8 %     139,129       12.2 %
    $ 1,623,585       100.0 %   $ 1,140,295       100.0 %

   
Nine Months Ended May 31,
 
   
2011
   
% of Total Fees
for Services
Provided to
Joint Ventures
   
2010
   
% of Total Fees
for Services
Provided to
Joint Ventures
 
Japan
  $ 833,354       18.6 %   $ 662,195       19.2 %
Germany
    800,877       17.9 %     761,723       22.1 %
India
    611,985       13.7 %     441,945       12.9 %
France
    505,354       11.3 %     363,095       10.6 %
Finland
    414,567       9.3 %     299,905       8.7 %
Sweden
    425,561       9.5 %     288,510       8.4 %
United Kingdom
    243,917       5.4 %     211,092       6.1 %
Other
    641,899       14.3 %     413,098       12.0 %
    $ 4,477,514       100.0 %   $ 3,441,563       100.0 %

The following table sets forth the Company’s net sales for the three and nine months ended May 31, 2011 and 2010 by segment:
 
   
Three Months Ended
   
Nine Months Ended
 
   
May 31, 2011
   
May 31, 2010
   
May 31, 2011
   
May 31, 2010
 
ZERUST® sales
  $ 4,855,535     $ 3,072,037     $ 13,307,276     $ 8,485,046  
Natur-Tec™ sales
    245,243       165,161       670,061       340,032  
Total net sales
  $ 5,100,778     $ 3,237,198     $ 13,977,337     $ 8,825,078  

The following table sets forth the Company’s cost of sales for the three and nine months ended May 31, 2011 and 2010 by segment:
 
         
Three Months Ended
               
Nine Months Ended
       
   
May 31, 2011
   
% of
Product
Sales*
   
May 31, 2010
   
% of
Product
Sales*
   
May 31, 2011
   
% of Product Sales*
   
May 31, 2010
   
% of
Product
Sales*
 
Direct cost of sales
                                               
ZERUST® cost of sales
  $ 2,758,270       56.8 %   $ 1,682,812       54.8 %   $ 7,288,098       54.8 %   $ 4,585,073       54.0 %
Natur-Tec™ cost of sales
    216,880       88.4 %     111,541       67.5 %     574,315       85.7 %     230,488       67.8 %
Indirect cost of sales
    483,701             378,549             1,293,375             955,484        
      Total net cost of goods sold
  $ 3,458,851             $ 2,172,902             $ 9,155,788             $ 5,771,045          

 
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* The percent of product sales is calculated by dividing the direct cost of sales for each individual segment category by the net sales for each segment category.

The Company’s management utilizes product net sales and direct and indirect cost of goods sold for each product in reviewing the financial performance of a product type.  Further allocation of Company expenses or assets, aside from amounts presented in the tables above, is not utilized in evaluating product performance, nor does such allocation occur for internal financial reporting.

Sales to the Company’s joint ventures are included in the foregoing geographic and segment information, however, sales by the Company’s joint ventures to other parties are not included.  The foregoing geographic and segment information represents only sales and cost of goods sold recognized directly by the Company.

The geographical distribution of long-lived assets is set forth as follows:
 
   
May 31,
 
   
2011
   
2010
 
United States
  $ 3,466,634     $ 3,452,530  
Brazil
    125,858        
Consolidated
  $ 3,592,492     $ 3,452,530  

Long-lived assets consist primarily of property and equipment. These assets are periodically reviewed to assure the net realizable value from the estimated future production based on forecasted sales exceeds the carrying value of the assets.
 
13.           RESEARCH AND DEVELOPMENT
 
During the year ended August 31, 2009, the Company was awarded multiple research and development contracts.  The Company accrues proceeds received under the grants and offsets research and development expenses incurred in equal installments over the timelines associated with completion of the grants specific objectives and milestones. At May 31, 2011 and August 31, 2010, the Company deferred amounts received of $0 and $186,365, respectively, in other accrued liabilities, as the Company had not yet performed under the obligations of the contracts. 
 
The Company expenses all costs related to product research and development as incurred.  The Company incurred $3,308,515 and $2,526,478 of expense during the nine months ended May 31, 2011 and 2010, respectively, in connection with its research and development activities.  These costs related to product research and development are the net amount after being reduced by reimbursements related to the awarding of the multiple research and development contracts of $219,175 and $400,094 for the nine months ended May 31, 2011 and 2010, respectively.  The net fees are accounted for in the “Research and Development Expenses” section of the consolidated statements of operations.
 
14.           COMMITMENTS AND CONTINGENCIES
 
On August 27, 2010, the Company’s Board of Directors, upon recommendation of the Compensation Committee, approved the material terms of an annual bonus plan for the Company’s executive officers and certain employees for the fiscal year ending August 31, 2011, the purpose of which is to align the interests of the Company, its executive officers and stockholders by providing an incentive for the achievement of key corporate and individual performance measures that are critical to the success of the Company and linking a significant portion of each executive officer’s annual compensation to the achievement of such measures.  The following is a brief summary of the material terms approved by the Board:
 
·  
The total amount available under the bonus plan will be up to 25% of the Company’s pre-bonus earnings before interest, taxes and other income (“EBITOI”);
 
 
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·  
The total amount available under the bonus plan will be $0 if EBITOI, as adjusted to take into account amounts to be paid under the bonus plan, fall below 70% of target EBITOI; and
 
·  
The payment of bonuses under the plan will be purely discretionary and will be paid to executive officer participants in both cash and stock, the exact amount and percentages of which will be determined by the Company’s Board of Directors, upon recommendation of the Compensation Committee.
 
There was $1,186,705 for management bonuses accrued for nine months ended May 31, 2011 compared to a management bonus accrual of $571,044 for the nine months ended May 31, 2010.
 
The Company leases property located at 23205 Mercantile Road, Beachwood, Ohio for research and development purposes. Total rent expense for the nine months ended May 31, 2011 and 2010 was $180,264 and $91,220 respectively. Remaining rentals payable under such leases are as follows: fiscal 2011 - $59,845; fiscal 2012 - $238,500; fiscal 2013 - $238,500; fiscal 2014 - $59,500 and thereafter - $0. 
 
One customer accounted for 10.6% of the Company’s trade receivables, excluding joint ventures at August 31, 2010. One joint venture accounted for 49.4% of the Company’s trade joint venture receivables at May 31, 2011. One joint venture accounted for 36.4% of the Company’s trade joint venture receivables at August 31, 2010.
 
From time to time, the Company is involved in various legal actions arising in the normal course of business.  Management is of the opinion that any judgment or settlement resulting from any currently pending or threatened actions would not have a material adverse effect on the Company’s financial position or consolidated results of operations.
 
14

 
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
This Management’s Discussion and Analysis provides material historical and prospective disclosures intended to enable investors and other users to assess NTIC’s financial condition and results of operations.  Statements that are not historical are forward-looking and involve risks and uncertainties discussed under the heading “Part I. Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operations—Forward-Looking Statements.” The following discussion of the results of the operations and financial condition of NTIC should be read in conjunction with NTIC’s consolidated financial statements and the related notes thereto included under the heading “Part I. Item 1.  Financial Statements.”
 
Business Overview
 
NTIC develops and markets proprietary environmentally beneficial products and technical services in over 55 countries either directly or via a network of joint ventures and independent distributors.  NTIC’s primary business is corrosion prevention.  From this base, NTIC has expanded into three new business areas that have started recently to generate revenue (1) corrosion prevention technologies specifically designed for the oil and gas industry, which NTIC sells both directly as well as through joint ventures and independent agents; (2) a proprietary portfolio of bio-plastic compounds and finished products marketed under the Natur-Tec® brand, which NTIC sells directly as well as through distributors and independent agents; and (3) technology and equipment that converts waste plastic into diesel, gasoline and heavy fractions, which is exclusively licensed and sold in North America and Asia through NTIC’s joint venture Polymer Energy, LLC.
 
NTIC has been selling its proprietary ZERUST® brand rust and corrosion inhibiting products and services to the automotive, electronics, electrical, mechanical, military and retail consumer markets for over 35 years.  NTIC also offers worldwide on-site technical consulting for rust and corrosion prevention issues.  In North America, NTIC markets its technical services and products principally to industrial users by a direct sales force as well as a network of independent distributors and agents.  NTIC’s technical service consultants work directly with the end users of NTIC’s products to analyze their specific needs and develop systems to meet their technical requirements.
 
NTIC has developed proprietary corrosion inhibiting technologies for use in the mitigation of corrosion on capital assets used in the petroleum and chemical process industries and is initially targeting the sale of these new ZERUST® products to the oil and gas industry sector.  During fiscal 2009, NTIC announced the signing of a multi-year contract between NTIC’s Brazilian subsidiary (Zerust Prevenção de Corrosão S.A.) and Petroleo Brasileiro S.A. (Petrobras) to install and service proprietary corrosion protection technologies on the roofs of an initial set of aboveground oil storage tanks at the Petrobras REDUC refinery in Rio de Janeiro, Brazil.  Also during fiscal 2009, NTIC signed multiple joint research and development contracts with Petrobras’s research and development group at the Leopoldo Américo Miguez de Mello Research & Development Center (CENPES) pursuant to which the parties will undertake a 20-month Petrobras funded effort to explore, understand and resolve bottom plate corrosion issues in aboveground storage tanks.  A second 12-month Petrobras sponsored project has also started aimed at field trials of certain pipeline protection technologies.  All of these projects continued during fiscal 2010 and the first nine months of fiscal 2011.  During fiscal 2011, NTIC’s Brazilian subsidiary signed a Phase 2 expanded contract with Petrobras to supply an additional $2.6 million (BRL$ 4.21 million) in ZERUST® FlangeSaver™ products to help protect several more of Petrobras’ off-shore oil production rigs from corrosion damage.  It is anticipated that the majority of this contract will be fulfilled during fiscal 2012.
 
NTIC also is pursuing opportunities to market its ZERUST® corrosion prevention technology to other potential customers in the oil and gas industry across several countries through NTIC’s joint venture partners and other strategic partners.  During fiscal 2010, NTIC entered into agreements with Iromad VZ, LLC and GF Consulting Services LLC to provide sales and marketing services for NTIC’s oil and gas industry specific corrosion prevention technologies with a particular focus on the markets in the United States, Venezuela, Mexico and Spain.  NTIC
 
 
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believes the sale of its ZERUST® products to customers in the oil and gas industry will involve a long sales cycle, likely including a one- to two-year trial period with each customer and a slow integration process thereafter.
 
In addition to ZERUST® products and services, NTIC develops and markets a portfolio of bio-based and/or biodegradable (compostable) polymer resin compounds and finished products under the Natur-Tec® brand.  The Natur-Tec® bioplastics portfolio includes flexible film, foam, rigid injection molded materials and engineered plastics. Natur-Tec® biodegradable and compostable finished products include shopping and grocery bags, lawn and leaf bags, can liners, pet waste collection bags, cutlery, packaging foam and coated paper products and are engineered to be fully biodegradable in a composting environment.  During fiscal 2010 and the first nine months of fiscal 2011, NTIC focused on adding additional distributors and generating initial sales with these distributors.  During third quarter of fiscal 2011, NTIC signed a memorandum of understanding with the Indian conglomerate ITC Limited to jointly develop and commercialize biopolymer-paper products targeted at the consumer goods packaging market in India. The two companies will jointly develop solutions in the Indian market towards providing biodegradable/compostable products such as food service ware, food packaging, personal care product packaging and other fast-moving consumer goods packaging. The biopolymer materials will be manufactured by Harita-NTI, NTIC’s Indian joint venture, for integration with paper manufactured by ITC’s Paperboards and Specialty Papers Division (PSPD). Both companies also collaboratively will develop and promote joint branding and messaging for these products.  In addition, during third quarter of fiscal 2011, NTIC entered into an agreement with Italy based Naturfuels S.r.l. to distribute its Natur-Tec® bioplastic materials and products in the Italian market.  Under the terms of the distribution agreement, NTIC will supply Naturfuels with its patented high-strength Natur-Tec® BF703BX compostable film grade resin to be used for the production of bio-plastic shopping and garbage bags on conventional plastic film production equipment. BF703BX resin based film has been previously certified to be fully compostable in strict accordance to the European standard of EN13432 for compostable plastics by AIB-Vincotte, a respected Belgian third-party certification provider.
 
NTIC’s Polymer Energy LLC joint venture develops and promotes a system that uses catalytic pyrolysis to convert waste plastic (primarily polyolefins) into hydrocarbons (primarily a mix of diesels, gasoline and heavy fractions) resulting in an economically viable and environmentally responsible alternative to current methods of recycling and disposal of waste plastic.  Each unit can process up to ten tons of waste plastic per day, and the modular design allows for easily scalable capacity.  The crude output is high-grade and can be further processed in a refinery or used as an input for co-generation of electricity.  During fiscal 2010 and the first nine months of fiscal 2011, NTIC’s Polymer Energy LLC joint venture focused on making design improvements to the Polymer Energy™ equipment and generating initial interest from potential customers in India, Thailand and Indonesia.
 
NTIC’s Joint Venture Network
 
NTIC participates in 26 active joint venture arrangements in North America, South America, Europe, Asia and the Middle East.   Each of these joint ventures generally manufactures and markets finished products in the geographic territory to which it is assigned.  While most of NTIC’s joint ventures exclusively sell rust and corrosion inhibiting packaging and products to industrial customers, NTIC also has joint ventures that manufacture, market and sell corrosion prevention solutions for the oil and gas industry and Polymer Energy™ equipment that converts waste plastic into diesel, gasoline and heavy fractions.  NTIC historically has funded its joint venture investments with cash generated from operations.
 
NTIC’s receipt of funds from its joint ventures is dependent upon fees for services that NTIC provides to its joint ventures based primarily on the revenues of the joint ventures and NTIC’s receipt of dividend distributions from the joint ventures.  NTIC receives fees for services provided to its joint ventures based primarily on the net sales of the individual joint ventures.  The fees for services provided to joint ventures are determined based on either a flat fee or a percentage of sales depending on local laws and tax regulations.  With respect to its German joint venture, NTIC recognizes an agreed upon quarterly fee for such services.  With respect to its ASEAN joint venture holding company, NTIC does not receive a fee for such services, but rather receives a bi-annual dividend based on available
 
16

 
cash.  NTIC recognizes equity income from its joint ventures based on the overall profitability of the entity.  The profits of NTIC’s joint ventures are shared by the respective joint venture owners in accordance with their respective ownership percentages.  NTIC typically owns only 50% or less of its joint venture entities and thus does not control the decisions of these entities regarding whether to pay dividends and, if paid, how much they should be in a given year.  The payment of a dividend by an entity is determined by a joint vote of the owners and is not at the sole discretion of NTIC.
 
NTIC does not consolidate the results of its joint ventures, other than commencing in the fourth quarter of 2010, Zerust Prevenção de Corrosão S.A., NTIC’s subsidiary in Brazil (“Zerust Brazil”).  NTIC holds 85% of the equity and 85% of the voting rights of Zerust Brazil.  Prior to the fourth quarter of fiscal 2010 and the preparation of NTIC’s fiscal 2010 financial statements, NTIC accounted for its Zerust Brazil investment under the equity method.  NTIC owned only 50%, which it considered to be less than a majority, of the equity and voting rights of Zerust Brazil prior to September 2006.  NTIC acquired an additional 35% ownership interest in Zerust Brazil in September 2006 and held 85% of the equity and voting rights thereafter.  Prior to the fourth quarter of fiscal 2010, NTIC held the additional 35% ownership interest in Zerust Brazil with the intent of finding an acquiring party, believing its majority control of Zerust Brazil would be temporary and determined not to consolidate Zerust Brazil because the impact on NTIC’s consolidated financial statements was immaterial.  During the fourth quarter of fiscal 2010, NTIC stopped pursuing a buyer of the 35% ownership interest and decided to consolidate the financial results of Zerust Brazil as of and for the fiscal year ended August 31, 2010.  NTIC believes that the impact of not consolidating Zerust Brazil on NTIC’s consolidated financial statements for periods prior to the fourth quarter of fiscal 2010 was immaterial to NTIC’s consolidated financial statements.
 
The following is a summary of certain line items of NTIC’s consolidated statements of operations for the three months ended May 31, 2010 as reported and on a pro forma basis, assuming the consolidation of Zerust Brazil on NTIC’s consolidated financial statements as of the beginning of such period:
 
         
Zerust
   
Eliminated in
       
   
As Reported
   
Brazil
   
Consolidation
   
Pro Forma
 
Net sales
  $ 3,237,198     $ 706,888     $ (52,092 )   $ 3,891,994  
Cost of goods sold
    2,172,902       364,225       (52,092 )     2,485,035  
Gross profit
    1,064,296       342,663             1,406,959  
Joint venture operations
    2,651,829             (88,158 )     2,563,671  
Operating expenses
    2,857,979       230,198             3,088,177  
Operating income
    858,146       112,465       (88,158 )     882,453  
Income before income tax expense
    841,968       103,716       (88,158 )     857,526  
Net income
    951,968       103,716       (88,158 )     967,526  
Net income attributable to non-controlling interest
          15,557             15,557  
Net income attributable to controlling interest
    951,968       88,158       (88,158 )     951,968  
Net income per common diluted share
  $ 0.22     $ 0.02     $ (0.02 )   $ 0.22  

The following is a summary of certain line items of NTIC’s consolidated statements of operations for the nine months ended May 31, 2010 as reported and on a pro forma basis, assuming the consolidation of Zerust Brazil on NTIC’s consolidated financial statements as of the beginning of such period:
 
         
Zerust
   
Eliminated in
       
   
As Reported
   
Brazil
   
Consolidation
   
Pro Forma
 
Net sales
  $ 8,825,078     $ 1,668,220     $ (83,964 )   $ 10,409,334  
Cost of goods sold
    5,771,045       891,214       (83,964 )     6,578,295  
Gross profit
    3,054,033       777,006             3,831,039  
Joint venture operations
    6,350,683             (45,062 )     6,305,621  
Operating expenses
    7,841,847       716,250             8,558,097  
Operating income
    1,562,869       60,756       (45,062 )     1,578,563  
Income before income tax expense
    1,515,314       53,014       (45,062 )     1,523,266  
 
 
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Zerust
     
Eliminated in
         
     
As Reported
     
Brazil
     
Consolidation
     
Pro Forma
 
Net income
    1,734,314       53,014       (45,062 )     1,742,266  
Net income attributable to non-controlling interest
          7,952             7,952  
Net income attributable to controlling interest
    1,734,314       45,062       (45,062 )     1,734,314  
Net income per common diluted share
  $ 0.41     $ 0.01     $ (0.01 )   $ 0.41  

NTIC has not consolidated the Polymer Energy LLC joint venture in NTIC’s consolidated financial statements for the nine months ended May 31, 2011 or 2010 or any prior period since Polymer Energy LLC has had limited activity since its inception in 2003 and NTIC believes that the impact of not consolidating this entity on NTIC’s consolidated financial statement has been immaterial.  Prior to fiscal 2010, Polymer Energy LLC did not have any financial activity including assets, liabilities, capital contributions, revenues or expenses.  During fiscal 2010, the only financial activity of Polymer Energy LLC was the receipt of license fees which were distributed to its owners in proportion to their respective ownership percentages.  Since NTIC owns a 62.5% ownership interest in Polymer Energy LLC, NTIC received and recorded a portion of these fees for services provided to joint ventures in its fiscal 2010 consolidated financial statements.  No license fees were received by Polymer Energy LLC and no other financial activity took place during the nine months ended May 31, 2011.  Accordingly, during the nine months ended May 31, 2011, NTIC received and recorded no fees for services provided to joint ventures in its consolidated financial statements attributable to its ownership interest in Polymer Energy LLC.
 
NTIC considers its German joint venture and ASEAN joint venture holding company to be individually significant to NTIC’s consolidated assets and income; and therefore, provides certain additional information regarding these joint ventures in the notes to NTIC’s consolidated financial statements and in this section of this report.
 
Financial Overview
 
NTIC’s management, including its chief executive officer who is NTIC’s chief operating decision maker, reports and manages NTIC’s operations in two reportable business segments based on products sold, customer base and distribution center:  ZERUST® products and services and Natur-Tec® products.
 
NTIC’s consolidated net sales increased 57.6% and 58.4% during the three and nine months ended May 31, 2011, respectively, compared to the three and nine months ended May 31, 2010.  These increases were primarily a result of increased sales of ZERUST® rust and corrosion inhibiting packaging products and services and sales to NTIC’s joint ventures and the consolidation of Zerust Brazil on NTIC’s consolidated financial statements.  During the three and nine months ended May 31, 2011, 95.2% of NTIC’s consolidated net sales were derived from sales of ZERUST® products and services, which increased 58.1% and 56.8%  to $4,855,535 and $13,307,276 during the three and nine months ended May 31, 2011, respectively, compared to $3,072,037 and $8,485,046 during the three and nine months ended May 31, 2010, respectively, due to increased demand primarily as a result of the economic recovery of the domestic manufacturing sector, the addition of new customers and the consolidation of Zerust Brazil, partially offset by decreased pricing due to increased competition.  During the three and nine months ended May 31, 2011, 4.8%  of NTIC’s consolidated net sales were derived from sales of Natur-Tec® products compared to 5.1% and 3.9% during the three and nine months ended May 31, 2010, respectively.  Net sales of Natur-Tec® products increased 48.5% and 97.1% during the three and nine months ended May 31, 2011, respectively, compared to the three and nine months ended May 31, 2010.  These increases were primarily due to the addition of new Natur-Tec® distributors on the West Coast of the United States.

Cost of goods sold as a percentage of net sales increased slightly to 67.8% and 65.5% for the three and nine months ended May 31, 2011, respectively, compared to 67.1% and 65.4% for the three and nine months ended May 31, 2010, respectively, primarily as a result of slightly reduced margins resulting from a slight increase in raw material prices, partially offset by increased net sales.
 
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NTIC’s equity in income of joint ventures increased 14.1% and 56.4% during the three and nine months ended May 31, 2011, respectively.  Equity in income of joint ventures was $1,724,477 and $4,549,267 during the three and nine months ended May 31, 2011, respectively, compared to $1,511,534 and $2,909,120 during the three and nine months ended May 31, 2010, respectively.  NTIC recognized a 42.4% and 30.1% increase in fees for services provided to joint ventures during the three and nine months ended May 31, 2011, respectively, compared to the three and nine months ended May 31, 2010.  Both of these increases were primarily a result of a 39.3% increase in total net sales of NTIC’s joint ventures during the nine months ended May 31, 2011 compared to the nine months ended May 31, 2010.  This increase in total net sales of NTIC’s joint ventures was primarily a result of the targeting of new business opportunities and the economic recovery, to some extent, of the international manufacturing sector that the NTIC joint venture network serves.
 
NTIC’s total operating expenses increased 32.9% during the nine months ended May 31, 2011 compared to the nine months ended May 31, 2010 primarily as a result of the consolidation of Zerust Brazil on NTIC’s consolidated financial statements, an increase in personnel expenses and an increase in the accrual of the management bonus.  NTIC expenses all costs related to product research and development as incurred.  NTIC incurred $3,308,515 and $2,526,478 of expense during the nine months ended May 31, 2011 and 2010, respectively, in connection with its research and development activities.  These costs related to product research and development are the net amount after being reduced by reimbursements related to the awarding of the multiple research and development contracts of $219,175 and $400,094 for the nine months ended May 31, 2011 and 2010, respectively. NTIC anticipates that it will spend between $4,000,000 and $4,500,000 in total during fiscal 2011 on research and development activities related to its core and new technologies.  This estimate is a net range after being reduced by reimbursements related to the awarding of multiple research and development contracts.
 
Net income attributable to NTIC increased 7.5% to $1,023,549, or $0.23 per diluted common share, for the three months ended May 31, 2011 compared to $951,968, or $0.22 per diluted common share, for the three months ended May 31, 2010.  Net income attributable to NTIC increased 65.6%, to $2,872,369, or $0.66 per diluted common share, for the nine months ended May 31, 2011 compared to $1,734,314, or $0.41 per diluted common share, for the nine months ended May 31, 2010.  These increases were primarily the result of increased income from NTIC’s joint ventures and gross profit, partially offset by an increase in operating expenses.  NTIC anticipates that its quarterly net income will remain subject to significant volatility primarily due to the financial performance of its joint ventures and sales of its ZERUST® products and services into the oil and gas industry and Natur-Tec® bioplastics products, which sales fluctuate more on a quarterly basis than the traditional ZERUST® business.
 
NTIC’s working capital was $8,905,217 at May 31, 2011, including $2,676,921 in cash and cash equivalents compared to $5,918,923 at August 31, 2010, including $1,776,162 in cash and cash equivalents.
 
Results of Operations
 
The following table sets forth NTIC’s results of operations for the three months ended May 31, 2011 and May 31, 2010.
 
   
Three Months Ended
May 31, 2011
   
% of
Net Sales
   
Three Months
Ended
May 31, 2010
   
% of
Net Sales
   
$
Change
   
%
Change
 
Net sales, excluding joint ventures
  $ 4,367,589       85.6 %   $ 2,559467       79.1 %   $ 1,808,122       70.6 %
Net sales, to joint ventures
    733,189       14.4 %     677,731       20.9 %     55,458       8.2 %
Cost of goods sold
    3,458,851       67.8 %     2,172,902       67.1 %     1,285,949       59.2 %
Equity in income of joint ventures
    1,724,477       33.8 %     1,511,534       46.7 %     212,943       14.1 %
Fees for services provided to joint ventures
    1,623,585       31.8 %     1,140,295       35.2 %     483,290       42.4 %
Selling expenses
    1,167,630       22.9 %     819,572       25.3 %     348,058       42.5 %
General and administrative expenses
    1,126,823       22.1 %     869,183       26.9 %     257,640       29.6 %
Expenses incurred in support of joint ventures
    244,959       4.8 %     208,444       6.4 %     36,515       17.5 %
Research and development expenses
  $ 1,207,889       23.7 %   $ 960,780       29.7 %   $ 247,109       25.7 %

 
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The following table sets forth NTIC’s results of operations for the nine months ended May 31, 2011 and May 31, 2010.
 
   
Nine Months Ended
May 31, 2011
   
% of
Net Sales
   
Nine Months
Ended
May 31, 2010
   
% of
Net Sales
   
$
Change
   
%
Change
 
Net sales, excluding joint ventures
  $ 11,906,999       85.2 %   $ 7,164,784       81.2 %   $ 4,742,215       66.2 %
Net sales, to joint ventures
    2,070,338       14.8 %     1,660,294       18.8 %     410,044       24.7 %
Cost of goods sold
    9,155,788       65.5 %     5,771,045       65.4 %     3,384,743       58.7 %
Equity in income of joint ventures
    4,549,267       32.6 %     2,909,120       33.0 %     1,640,147       56.4 %
Fees for services provided to joint ventures
    4,477,514       32.0 %     3,441,563       39.0 %     1,035,951       30.1 %
Selling expenses
    3,088,237       22.1 %     2,004,094       22.7 %     1,084,143       54.1 %
General and administrative expenses
    3,300,626       23.61 %     2,628,447       29.8 %     672,179       25.6 %
Expenses incurred in support of joint ventures
    722,955       5.2 %     682,828       7.7 %     40,127       5.9 %
Research and development expenses
  $ 3,308,515       23.7 %   $ 2,526,478       28.6 %   $ 782,037       31.0 %

Net Sales . NTIC’s consolidated net sales increased 57.6% and 58.4% to $5,100,778 and $13,977,337, respectively during the three and nine months ended May 31, 2011 compared to the three and nine months ended May 31, 2010.  NTIC’s consolidated net sales to unaffiliated customers excluding NTIC’s joint ventures increased 70.6% and 66.2% to $4,367,589 and $11,906,999, respectively, during the three and nine months ended May 31, 2011 compared to the same respective prior year periods.  These increases were primarily a result of increased sales of ZERUST® rust and corrosion inhibiting packaging products and services and the consolidation of Zerust Brazil on NTIC’s consolidated financial statements.  Net sales to joint ventures decreased 8.2% to $733,189 during the three months ended May 31, 2011 compared to the same prior year period and increased 24.7% to $2,070,338 during the nine months ended May 31, 2011 compared to the same prior year period.  These increases were due to increases in demand primarily as a result of the economic recovery of the international manufacturing sector, partially offset by decreased pricing due to increased competition.
 
The following table sets forth NTIC’s net sales by product category for the three and nine months ended May 28, 2011 and 2010 by segment:
 
   
Three Months Ended
   
Nine Months Ended
 
   
May 31, 2011
   
May 31, 2010
   
May 31, 2011
   
May 31, 2010
 
ZERUST® sales
  $ 4,855,535     $ 3,072,037     $ 13,307,276     $ 8,485,046  
Natur-Tec™ sales
    245,243       165,161       670,061       340,032  
Total North American net sales
  $ 5,100,778     $ 3,237,198     $ 13,977,337     $ 8,825,078  

During the three and nine months ended May 31, 2011, 95.2% of NTIC’s consolidated net sales were derived from sales of ZERUST® products and services, which increased 58.1% and 56.8% to $4,855,535 and $13,307,276 during the three and nine months ended May 31, 2011, respectively, compared to $3,072,037 and $8,485,046 during the three and nine months ended May 31, 2010, respectively, due to increased demand primarily as a result of the economic recovery of the domestic manufacturing sector, the addition of new customers and the consolidation of Zerust Brazil, partially offset by decreased pricing due to increased competition. Overall demand for ZERUST® products and services depends heavily on the overall health of the industrial markets in which NTIC sells its products, including in particular the automotive market. NTIC has focused its sales efforts of ZERUST® products and services by strategically targeting customers with specific corrosion issues in new market areas, including the oil and gas industry and other industrial sectors that offer sizable growth opportunities. NTIC’s consolidated net sales during the three and nine months ended May 31, 2011 included $831,290 and $2,382,913, respectively, of sales made by Zerust Brazil, and of those sales, $114,545 and $741,567, respectively, in sales were made to the oil and gas industry sector in Brazil.  As previously disclosed, during the fourth quarter of fiscal 2010, Zerust Brazil received purchase orders for ZERUST® FlangeSaver™ products from Petrobras representing an aggregate of $1.4 million.  During third quarter of fiscal 2011, NTIC fulfilled the remaining product from this first contract and subsequently entered into a second contract for ZERUST® FlangeSaver™ products representing an aggregate of

 
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$2.6 million.  NTIC anticipates sales to Petrobras under this second contract mostly during fiscal 2012 as Petrobras continues to roll this product out to more of its platforms.  NTIC also anticipates that its sales of ZERUST® products and services into the oil and gas industry will remain subject to significant volatility from quarter to quarter as sales are converted and purchase orders are filled.

Net sales of Natur-Tec® products increased 48.5% and 97.1% to $245,243 and $670,061 during the three and nine months ended May 31, 2011, respectively, compared to the three and nine months ended May 31, 2010.  These increases were primarily due to the addition of new Natur-Tec® distributors on the West Coast of the United States.  NTIC anticipates additional revenue in future periods from anticipated sales of film-grade resin to customers in both the North American and European markets, primarily to meet anticipated demand for biodegradable plastic bags that comply with various regulations. Additionally, NTIC is continuing to strengthen and expand its West Coast distribution network in California, while expanding its industrial distribution reach to geographical “green” hotspots such as Oregon, Washington, Minnesota and New England.  NTIC is also targeting key national and regional retailers utilizing independent sales agents.  Demand for the Natur-Tec® products depends primarily on market acceptance of the products and the extent of NTIC’s distribution network, which as of May 31, 2011 consisted of approximately 16 distributors and independent manufacturer’s sales representatives.

Cost of Goods Sold .  Cost of goods sold increased 59.2% and 58.7% for the three and nine months ended May 31, 2011, respectively, compared to the three and nine months ended May 31, 2010 primarily as a result of increased net sales as described above.  Cost of goods sold as a percentage of net sales increased slightly to 67.8% and 65.5% for the three and nine months ended May 31, 2011, respectively, compared to 67.1% and 65.4% for the three and nine months ended May 31, 2010, respectively, primarily as a result of slightly reduced margins resulting from a slight increase in raw material prices, partially offset by increased net sales.
 
Equity in Income of Joint Ventures. NTIC had equity in income of joint ventures of $1,724,477 and $4,549,267 during the three and nine months ended May 31, 2011, respectively, compared to equity in income of joint ventures of $1,511,534 and $2,909,120 during the three and nine months ended May 31, 2010, respectively.  The increase in equity in income was due to increased profitability of NTIC’s joint ventures primarily resulting from increased sales. Of the total equity in income of joint ventures, NTIC had equity in income of joint ventures of $2,550,188 attributable to its joint venture in Germany during the nine months ended May 31, 2011 compared to $1,505,024 attributable to its joint venture in Germany during the nine months ended May 31, 2010.  Of the total equity in income of joint ventures, NTIC had equity in income of joint ventures of $912,449 attributable to its ASEAN joint venture holding company during the nine months ended May 31, 2011 compared to $677,175 attributable to its ASEAN joint venture holding company during the nine months ended May 31, 2010.  NTIC had equity in income of all other joint ventures of $1,086,630 during the nine months ended May 31, 2011 compared to $726,921 during the nine months ended May 31, 2011.
 
Fees for Services Provided to Joint Ventures.   NTIC recognized fee income for services provided to joint ventures of $1,623,585 and $4,477,514 during the three and nine months ended May 31, 2011, respectively, compared to $1,140,295 and $3,441,563 during the three and nine months ended May 31, 2010, respectively, representing an increase of 42.4% and 30.1%, respectively.  These increases in fees for services provided to joint ventures were due primarily to increases in net sales of NTIC’s joint ventures, which increased to $86,744,626 in the nine months ended May 31, 2011 compared to $62,294,519 in the nine months ended May 31, 2010, representing an increase of 39.2%.  Sales of NTIC’s joint ventures are not included in NTIC’s product sales and are not combined with NTIC’s sales in NTIC’s consolidated financial statements or in any description of NTIC’s sales.
 
Of the total fee income for services provided to its joint ventures, fees of $800,877 were attributable to NTIC’s joint venture in Germany during the nine months ended May 31, 2011 compared to $761,722 attributable to its joint venture in Germany during the nine months ended May 31, 2010.  This slight increase was the result of foreign currency exchange rate fluctuations.   NTIC does not receive fees attributable to its ASEAN joint venture holding company.  NTIC receives dividend payments based on fees paid from the joint ventures that comprise the ASEAN investments.
 
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NTIC sponsors a worldwide joint venture conference approximately every three to four years in which all of NTIC’s joint ventures and subsidiaries are invited to participate.  NTIC defers a portion of its fees for services provided to joint ventures in each accounting period leading up to the next conference, reflecting that NTIC has not fully earned the payments received during that period.  The next joint venture conference is scheduled to be held in the summer of 2012.  There was no additional deferred income recorded within other accrued liabilities during the nine months ended May 31, 2011 related to this future conference since $288,000 had been accrued over the past three fiscal years, which represents the amount that NTIC expects to spend every three years to hold the conference.  This amount is based on the historical experience of NTIC, current conditions and the intentions of NTIC’s management.  NTIC does not anticipate deferring any additional fees for services provided to joint ventures until after the next conference.  The costs associated with these joint venture conferences are offset against the deferral as incurred, generally in the period in which the conference is held and immediately before .
 
Selling Expenses .  NTIC’s selling expenses increased 42.5% for the three months ended May 31, 2011 compared to the same period in fiscal 2010 due to increases in compensation and employee benefits, lab testing related expenses, commission expenses, travel and related expenses, consulting expenses and selling expenses incurred at Zerust Brazil.  NTIC’s selling expenses increased 54.1% for the nine months ended May 31, 2011 compared to the same period in fiscal 2010 due to increases in compensation and employee benefits, lab testing related expenses, commission expenses, travel and related expenses and selling expenses incurred at Zerust Brazil. As a percentage of net sales, selling expenses decreased to 22.9% and 22.1% during the three and nine months ended May 31, 2011, respectively, from 25.3% and 22.7% during the three and nine months ended May 31, 2010, respectively, due to smaller proportional increases in selling expenses, compared to the increases in net sales.
 
General and Administrative Expenses .  NTIC’s general and administrative expenses increased 29.6% for the three months ended May 31, 2011 compared to the same period in fiscal 2010 due to increases in compensation and related benefits, and general and administrative expenses incurred at Zerust Brazil, partially offset by decreases in consulting expenses, loan write-off and auditing and tax expense.  NTIC’s general and administrative expenses increased 25.6% for the nine months ended May 31, 2011compared to the same period in fiscal 2010 due to increases in compensation and related benefits and general and administrative expenses incurred at Zerust Brazil which were not consolidated in the nine months ended May 31, 2010, partially offset by decreases in consulting expenses and loan write-off.  As a percentage of net sales, general and administrative expenses decreased to 22.1% and 23.6% for the three and nine months ended May 31, 2011, respectively, from 26.9% and 29.8% for the three and nine months ended May 31, 2010, respectively, primarily as a result of fixed general and administrative expenses spread over increased net sales.
 
Expenses Incurred in Support of Joint Ventures.   Expenses incurred in support of NTIC’s joint ventures were $244,959 and $722,955 during the three and nine months ended May 31, 2011, respectively, compared to $208,444 and $682,828 during the three and nine months ended May 31, 2010, representing an increase of 8.6% and 0.8%, respectively.
 
Research and Development Expense .  NTIC’s research and development expenses increased 25.7% and 31.0% for the three and nine months ended May 31, 2011, respectively, compared to the same respective periods in fiscal 2010 due to increases in salary and benefits and lab testing related expenses, partially offset by a decrease in consulting expenses.
 
Interest Income .  NTIC’s interest income increased to $8,522 and $13,131 during the three and nine months ended May 31, 2011, respectively, compared to $864 and $5,607 during the three and nine months ended May 31, 2010, respectively, primarily due to increased cash balances earning interest.
 
Interest Expense .  NTIC’s interest expense decreased to $7,880 and $53,355 during the three and nine months ended May 31, 2011, respectively, compared to $23,867 and $73,637 during the three and nine months ended May 31, 2010, respectively, primarily due to the refinancing of NTIC’s term loan and its decreased term loan balance during the most recent periods.
 
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Income Before Income Tax Expense (Benefit) .  Income before income tax expense (benefit) increased to $1,250,155 and $3,408,248 for the three and nine months ended May 31, 2011, respectively, compared to $841,968 and $1,515,314 for the three and nine months ended May 31, 2010, respectively.
 
Income Tax Expense (Benefit) .  Income tax expense was $228,000 and $490,000 during the three and nine months ended May 31, 2011, respectively, compared to income tax benefit of $(110,000) and $(219,000) during the three and nine months ended May 31, 2010, respectively.  Income tax expense was calculated based on management’s estimate of NTIC’s annual effective income tax rate.  NTIC’s annual effective income tax rate during the nine months ended May 31, 2011 and 2010 was lower than the statutory rate primarily due to NTIC’s equity in income of joint ventures being recognized based on after-tax earnings of these entities.  To the extent undistributed earnings of NTIC’s joint ventures are distributed to NTIC, it is not expected to result in any material additional income tax liability after the application of foreign tax credits. NTIC determined based on all available evidence, including historical data and projections of future results, that it is more likely than not that all of its deferred tax assets, except for its foreign tax credit carryforwards and Minnesota state research and development credit carryforwards, will be fully realized and that NTIC’s deferred tax asset related to foreign tax credit carryforwards will not be realized due to insufficient federal taxable income within the carryforward period and the fact that for ordering purposes the foreign tax credit carryforwards are not allowed to be used until after any current year foreign tax credits are utilized. 
 
Liquidity and Capital Resources
 
Sources of Cash and Working Capital .  As of May 31, 2011, NTIC’s working capital was $8,905,217, including $2,676,921 in cash and cash equivalents, compared to working capital of $5,918,923, including $1,776,162 in cash and cash equivalents, as of August 31, 2010.
 
In connection with the purchase of its corporate headquarters, in September 2006, Northern Technologies Holding Company, LLC (“NTI LLC”) obtained a term loan from PNC Bank, National Association (“PNC Bank”) with a principal amount of $1,275,000 that was to mature on May 1, 2011.  On January 10, 2011, NTI LLC refinanced its term loan in the then principal amount of approximately $1,141,788.  The term loan matures on January 10, 2016, bears interest at an annual rate based on the daily LIBOR rate plus 2.15% and is payable in 59 consecutive monthly installments equal to approximately $6,343 (inclusive of principal but exclusive of interest) commencing in February 2011.  The term loan is secured by a first lien on the real estate and building owned by NTI LLC and all of the assets of NTIC and is guaranteed by NTIC.
 
As of May 31, 2011, NTIC had a revolving line of credit with PNC Bank of $3,000,000 with no amounts outstanding as of such date.  The line of credit is evidenced by an amended and restated committed line of credit note in the principal amount of up to $3,000,000.  The line of credit has a $1,200,000 standby letter of credit subfacility, with any standby letters of credit issued thereunder being at the sole discretion of PNC Bank.  Any standby letters of credit issued under the subfacility are subject to customary fees and charges payable by NTIC.  Advances made under the line of credit are due and payable on January 10, 2012.  At the option of NTIC, outstanding advances under the line of credit bear interest at either (a) an annual rate based on LIBOR plus 2.15% for the applicable LIBOR interest period selected by NTIC or (b) at the rate publicly announced by PNC Bank from time to time as its prime rate.  Interest is payable in arrears (a) for the portion of advances bearing interest under the prime rate on the last day of each month during the term thereof and (b) for the portion of advances bearing interest under the LIBOR option on the last day of the respective LIBOR interest period selected for such advance.  Any unpaid interest is payable on the maturity date.
 
Both the term loan and the line of credit are governed under two separate loan agreements.  The loan agreements contain standard covenants, including affirmative financial covenants, such as the maintenance of a minimum fixed charge coverage ratio, and negative covenants, which, among other things, limit the incurrence of additional indebtedness, loans and equity investments, disposition of assets, mergers and consolidations and other matters
 
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customarily restricted in such agreements. Under the loan agreements, NTIC is subject to a minimum fixed charge coverage ratio of 1.10:1.00.
 
NTIC believes that a combination of its existing cash and cash equivalents, forecasted cash flows from future operations, anticipated distributions of earnings, anticipated fees to NTIC for services provided to its joint ventures, and funds available through existing or anticipated financing arrangements, will be adequate to fund its existing operations, investments in new or existing joint ventures, capital expenditures, debt repayments and any stock repurchases for at least the next 12 months.  During the remainder of fiscal 2011, NTIC expects to continue to invest in research and development and in marketing efforts and resources into its new businesses, product lines and markets, including in particular the application of its corrosion prevention technology into the oil and gas industry.  In order to take advantage of such new product and market opportunities to expand its business and increase its revenues, NTIC may decide to finance such opportunities by borrowing under its revolving line of credit or raising additional financing through the issuance of debt or equity securities.  There is no assurance that any financing transaction will be available on terms acceptable to NTIC or at all, or that any financing transaction will not be dilutive to NTIC’s current stockholders.
 
NTIC traditionally has used the cash generated from its operations, distributions of earnings and fees for services provided to its joint ventures to fund NTIC’s new technology investments and capital contributions to new and existing joint ventures.  NTIC’s joint ventures traditionally have operated with little or no debt and have been self-financed with minimal initial capital investment and minimal additional capital investment from their respective owners.  Therefore, NTIC believes it is not likely that there exists any exposure to debt by NTIC’s joint ventures that could materially impact their respective operations and/or liquidity.
 
Uses of Cash and Cash Flows .  Net cash used in operating activities during the nine months ended May 31, 2011 was $1,813,381 which resulted principally from NTIC’s equity in income from joint ventures and increases in receivables, inventories and prepaid expenses and a decrease in accounts payables, partially offset by NTIC’s net income and increases in income taxes payable and accrued liabilities.  Net cash used in operating activities for the nine months ended May 31, 2010 was $1,253,606, which resulted principally from NTIC’s equity in loss from joint ventures and decreases in inventories and trade receivables, partially offset by NTIC’s net income, expensing of stock options vested, depreciation and amortization expense, and increases in fees for services provided to joint ventures and accrued liabilities.
 
NTIC’s cash flows from operations are impacted by significant changes in certain components of NTIC’s working capital, including inventory turnover and changes in receivables.  NTIC considers internal and external factors when assessing the use of its available working capital, specifically when determining inventory levels and credit terms of customers.  Key internal factors include existing inventory levels, stock reorder points, customer forecasts and customer requested payment terms, and key external factors include the availability of primary raw materials and sub-contractor production lead times.  NTIC’s typical contractual terms for trade receivables excluding joint ventures are traditionally 30 days and for trade receivables from its joint ventures is 90 days.  Before extending unsecured credit to customers, excluding NTIC’s joint ventures, NTIC reviews customers’ credit histories and will establish an allowance for uncollectible accounts based upon factors surrounding the credit risk of specific customers and other information.  Accounts receivable over 30 days are considered past due for most customers.  NTIC does not accrue interest on past due accounts receivable.  If accounts receivables in excess of the provided allowance are determined uncollectible, they are charged to selling expense in the period that determination is made.  Accounts receivable are deemed uncollectible based on NTIC exhausting reasonable efforts to collect. NTIC’s typical contractual terms for receivables for services provided to its joint ventures are 90 days.  NTIC records receivables for services provided to its joint ventures on an accrual basis, unless circumstances exist that make the collection of the balance uncertain in which case the fee income will be recorded on a cash basis until there is consistency in payments.  This determination is handled on a case by case basis.
 
 
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NTIC experienced an increase in inventory as of May 31, 2011 compared to August 31, 2010 due to the increase in net sales during the most recent period and requests from customers to stock more products to shorten lead times and meet customer demand.  
 
Outstanding trade receivables excluding joint ventures balances as of May 31, 2011 increased 9 days to an average of 49 days from balances outstanding from these customers as of August 31, 2010.
 
Outstanding trade receivables from joint ventures as of May 31, 2011 decreased $226,269 compared to August 31, 2010, primarily due to an increase in collection efforts on net sales to joint ventures, which also resulted in an decrease of outstanding balances from trade receivables from joint ventures as of May 31, 2011 of 114 days to an average of 124 days from balances outstanding from these customers as of August 31, 2010.  The significant average days outstanding of trade receivables from joint ventures as of May 31, 2011 were primarily due to the current receivable balance at NTIC’s joint venture in India.  NTIC has made separate arrangements for payments on product that NTIC’s joint venture in India has purchased from NTIC until the product is sold.
 
Outstanding fees for services provided to joint ventures as of May 31, 2011 increased $648,851 as compared to August 31, 2010, primarily resulting from increased joint venture sales.  The higher fees for the nine months ended May 31, 2011 resulted in an increase of 16 days of fees receivable outstanding as of May 31, 2011 to an average of 112 days as compared to August 31, 2010.
 
Net cash provided by investing activities for the nine months ended May 31, 2011 was $2,287,585 which was comprised of dividends received from joint ventures and proceeds from sale of property and equipment partially offset by additions to property and equipment, additions to patents and investments in joint ventures.  Net cash provided by i nvesting activities for the nine months ended May 31, 2010 was $25,059 which was comprised of dividends received from joint ventures, partially offset by investments in joint ventures, patents and additions to property and equipment.
 
Net cash provided by financing activities for the nine months ended May 31, 2011 was $402,917, which resulted from proceeds from option exercises and NTIC’s employee stock purchase plan, partially offset by principal payments on the bank loan for NTIC’s corporate headquarters buildings.  Net cash provided by financing activities for the nine months ended May 31, 2010 was $2,193,283, which resulted primarily from the issuance of common stock and, to a lesser extent, proceeds from NTIC’s employee stock purchase plan and option exercises, partially offset by repayments to the demand line of credit and principal payments on the bank loan for NTIC’s corporate headquarters buildings.
 
Capital Expenditures and Commitments .  NTIC had no material lease or other material capital commitments as of May 31, 2011, except a lease agreement for approximately 16,994 square feet of office, manufacturing, laboratory and warehouse space in Beachwood, Ohio, requiring monthly payments of $17,500, which are adjusted annually according to the annual consumer price index, through November 2014.  In January 2011, NTI Facilities, Inc. sold its membership interest in Omni-Northern Ltd., which owned the building, for $100,000. This resulted in a net gain of $47,575 after the write-off of various leasehold improvements.
 
Off-Balance Sheet Arrangements
 
NTIC does not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet financial arrangements.  As such, NTIC is not materially exposed to any financing, liquidity, market or credit risk that could arise if NTIC had engaged in such arrangements.
 
Inflation and Seasonality
 
 
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Inflation in the U.S. and abroad historically has had little effect on NTIC.  NTIC’s business has not historically been seasonal.
 
Market Risk
 
NTIC is exposed to some market risk stemming from changes in foreign currency exchange rates, commodity prices and interest rates.
 
Because the functional currency of NTIC’s foreign operations and investments in its foreign joint ventures is the applicable local currency, NTIC is exposed to foreign currency exchange rate risk arising from transactions in the normal course of business.  NTIC’s principal exchange rate exposure is with the Euro, the Japanese yen, Indian Rupee, Chinese yuan, Korean won and the English pound against the U.S. dollar.  NTIC’s fees for services provided to joint ventures and dividend distributions from these foreign entities are paid in foreign currencies and thus fluctuations in foreign currency exchange rates could result in declines in NTIC’s reported net income.  Since NTIC’s investments in its joint ventures are accounted for using the equity method, any changes in foreign currency exchange rates would be reflected as a foreign currency translation adjustment and would not change NTIC’s equity in income of joint ventures reflected in its consolidated statements of income.  NTIC does not hedge against its foreign currency exchange rate risk.
 
Some raw materials used in NTIC’s products are exposed to commodity price changes.  The primary commodity price exposures are with a variety of plastic resins.
 
At the option of NTIC, outstanding advances under NTIC’s $3,000,000 revolving line of credit with PNC Bank bear interest at either (a) an annual rate based on LIBOR plus 2.15% for the applicable LIBOR interest period selected by NTIC or (b) at the rate publicly announced by PNC Bank from time to time as its prime rate, and thus may subject NTIC to some market risk on interest rates.  As of May 31, 2011, NTIC had no borrowings under the line of credit.
 
Critical Accounting Policies and Estimates
 
There have been no material changes to NTIC’s critical accounting policies and estimates from the information provided in “Part II. Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations—Critical Accounting Policies”, included in NTIC’s annual report on Form 10-K for the fiscal year ended August 31, 2010.
 
Forward-Looking Statements
 
This quarterly report on Form 10-Q contains not only historical information, but also forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934 and are subject to the safe harbor created by those sections. In addition, NTIC or others on NTIC’s behalf may make forward-looking statements from time to time in oral presentations, including telephone conferences and/or web casts open to the public, in press releases or reports, on NTIC’s Internet web site or otherwise. All statements other than statements of historical facts included in this report or expressed by NTIC orally from time to time that address activities, events or developments that NTIC expects, believes or anticipates will or may occur in the future are forward-looking statements including, in particular, the statements about NTIC’s plans, objectives, strategies, the outcome of contingencies such as legal proceedings, and prospects regarding, among other things, NTIC’s financial condition, results of operations and business. NTIC has identified some of these forward-looking statements in this report with words like “believe,” “may,” “could,” “would,” “might,” “forecast,” “possible,” “potential,” “project,” “will,” “should,” “expect,” “intend,” “plan,” “predict,” “anticipate,” “estimate,” “approximate” “outlook” or “continue” or the negative of these words or other words and terms of similar meaning.  The use of future dates is also an indication of a forward-looking statement.  Forward-looking statements may be
 
 
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contained in the notes to NTIC’s consolidated financial statements and elsewhere in this report, including under the heading “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”